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IRS constrained in tax shelter case by statute of limitations

Tax controversies reach the courts all the time, but last week the nation's highest court decided a high-profile tax case that has significant consequences for the Internal Revenue Service. The case involved the IRS's investigation into the "Son of BOSS" tax shelters, so called because they appeared similar to earlier shelters that simply bore the acronym "BOSS," which stands for "bond and option sales strategy."

The central issue for decision in the case was the length of time the IRS had to pursue the taxpayers who were allegedly using the shelters to engage in tax evasion. To answer such a question requires a detailed examination of tax law to determine which statute of limitations applies to the particular activity conducted by the tax shelters.

Under most circumstances, the IRS has three years to go after taxpayers it believes have not complied with the tax laws. But the law raises that limit or eliminates it altogether in certain cases. The Son of BOSS tax shelters used creative means to raise the purchase price of a capital asset, so that when it came time to sell the asset, the realized gain would be less. By reducing gain, people could lower or eliminate their capital gains taxes.

The IRS considered this activity an "omission of income," which would allow it to apply a six-year statute of limitations. Some taxpayers disagreed and took the issue to court, where the Supreme Court eventually ruled, by a 5-4 margin, that the IRS improperly used the six-year statute of limitations, and would instead have to abide by the standard three-year limit.

Many of the Son of BOSS cases lie outside the three-year statutory period, however, which means the IRS cannot pursue them. While some estimate that the Court's ruling could cost the IRS upwards of $1 billion in revenue, the decision emphasizes that the IRS must follow the rules outlined in the Tax Code's statutes of limitations.

Source: The Wall Street Journal, "IRS Loses Tax-Shelter Case," John D. McKinnon, April 25, 2012.

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