e- NEWSLETTER

January/February 2005

Cameron R. Monti
Editor-in-Chief

Taxation Law

IT’S IN YOUR BEST “INTEREST” TO VOLUNTARILY REPORT
ADDITIONAL TAXES OWED TO THE IRS
Cameron R. Monti
 

The Internal Revenue Service (IRS) announced a relaxation of the rule for interest owed on additional taxes that are voluntarily reported by taxpayers.
Internal Revenue Code § 6404(g) effectively suspends interest accrual for individuals on taxes due if the IRS does not notify a taxpayer of the potential liability within eighteen (18) months after the filing of the taxpayer’s return. Such interest suspension then continues until twenty-one (21) days after the IRS notifies the taxpayer of additional taxes due.
 

                    In the past, this rule was applied only in cases where the additional taxes were found by the IRS. Now, however, Revenue Ruling 2005-4 extends the scope of § 6404(g) to additional taxes voluntarily reported by taxpayers on amended returns or in correspondence to the IRS. Furthermore, in the interest of allowing taxpayers to benefit from these expanded rules for prior years, the the IRS has applied Revenue Ruling to amended returns or correspondence submitted for tax years ending after July 22, 1998 - i.e., the date § 6404(g) was enacted.
 

                    According to the IRS, taxpayers who are due an interest adjustment under the new rule need not take any action, as the IRS has indicated that they will automatically identify them. If the taxpayer’s account is paid in full, the IRS will issue a refund to the taxpayer for the interest. If the account shows a balance due, the IRS shall reduce the amount due by the interest adjustment. If you have any questions about this tax article, please contact cmonti@lavellelaw.com.
 

Taxation Law

IRS to follow Ninth Circuit decision in Snyder

By Timothy M. Hughes

                        U.S. v. Snyder (CA9 9/15/2003), 92 AFTR 2d 2003-6090 , acquiescence 2004-41 IRB, 10/8/2004) IRS has announced that it is acquiescing in Snyder, a Ninth Circuit case holding that IRS's tax lien against a debtor's property didn't rise to a secured bankruptcy claim against the debtor's interest in an ERISA-qualified plan. Thus, IRS will follow the Snyder holding in disposing of cases with the same controlling facts. RIA observation: The acquiescence is consistent with IRS's announcement in Chief Counsel Notice 2004-033 that it will no longer argue that it may include, in its secured claim against a debtor in bankruptcy, the value of the debtor's interest in a pension plan that is otherwise excluded from the debtor's bankruptcy estate. However, the Chief Counsel Notice says that IRS will enforce its lien and levy against a debtor's plan interest outside the bankruptcy process (see RIA Weekly Alert Newsletter 9/30/2004).

                        Principle at issue in Snyder. In U.S. v. Snyder (CA9 9/15/2003), 92 AFTR 2d 2003-6090, IRS argued that whether a debtor's property interests are excluded from his bankruptcy estate should be analyzed by looking at the specific creditor seeking secured status, rather than whether property generally would be excluded from the bankruptcy estate.
 

                        Ordinarily, a debtor's interest in an ERISA-qualified plan is excludable from his bankruptcy estate, because Bankruptcy Code §541(c)(2) provides a bankruptcy exclusion for a debtor's beneficial interest in a trust that is subject to restrictions that are enforceable under applicable nonbankruptcy law, including ERISA. Because pension plans must include an anti-alienation provision that is enforceable under ERISA, a debtor's interest in an ERISA-qualified plan generally is excluded from the debtor's bankruptcy estate.
But an ERISA-qualified plan's anti-alienation provision is not enforceable against IRS, because ERISA doesn't supersede other federal law, including federal tax law. ( ERISA § 514(d) ) Under Code Sec. 6321, IRS has a tax lien on all property and rights to property belonging to any person liable to pay any tax that is not paid upon demand. Under Code Sec. 6331, IRS is authorized to levy upon all of that person's property or rights to property in order to execute the lien.
 

                        In Snyder, IRS maintained that because ERISA's anti-alienation provision in an ERISA-qualified plan is not enforceable against IRS, a debtor's plan interest shouldn't be treated as excluded from the debtor's bankruptcy estate-at least, for purposes of determining IRS's rights in the plan. Courts have held differently as to whether IRS has a secure claim against a bankrupt debtor's property interest in an ERISA-qualified plan where the interest is otherwise excludable from the debtor's bankruptcy estate. (e.g., see In re Lyons, 148 B.R. 88 (Bankr. D. D.C. 9/14/1992).
 

                        The Ninth Circuit in Snyder rejected IRS's secured claim in bankruptcy. According to the Ninth Circuit, the rights of secured creditors, under Bankruptcy Code §506(a), are established only in property that is included in the bankruptcy estate. Thus, any bankruptcy exclusion under Bankruptcy Code §541(c)(2) is determined before the rights of secured creditors. However the Court did acknowledge, though, that bankruptcy does not extinguish IRS's secured claim in the debtor's property. The Court emphasized that outside bankruptcy, IRS is still free to pursue its claim and enforce its levy. According to the Court, the denial of secured status in bankruptcy for IRS's claim prevents IRS from using the debtor's bankruptcy to accelerate the payment of liens that wouldn't have been paid until the plan interest was in pay status, and increases the chances that the bankruptcy court would approve the debtor's bankruptcy plan, which could reduce or eliminate the debtor's non-lien debt.
 

                        IRS now agrees that its tax liens don't create a secured claim. In Snyder, acquiescence 2004-41 IRB, 10/8/2004), IRS announced that it will follow the Ninth Circuit's decision in Snyder and now agrees that its tax lien against a debtor's property doesn't give it a secured bankruptcy claim against the debtor's interest in an ERISA-qualified plan
 

                        RIA Research References: For the anti-alienation rules for qualified plans, see FTC 2d/FIN ¶ H-8201; United States Tax Reporter ¶ 4014.13; TG ¶ 8713. For the enforcement of IRS tax levies and court judgments against a plan participant's benefits, see FTC 2d/FIN ¶ H-8203 et seq.; United States Tax Reporter ¶ 4014.14.

Business Law

Improper Shut Down of Company May Lead to Personal Liability
By: Theodore M. McGinn
 

An overwhelming majority of businesses created in the United States ultimately fail. How you go about terminating the existence of your business is crucial in preventing any unwanted and unexpected personal liability. The proper way to terminate a business would be to follow the procedures set forth in the Illinois Business Corporation Act or filing a Chapter 7 Bankruptcy Petition in Federal Court.

                    As an officer of a corporation, you have a fiduciary duty not only to the shareholders of the company but also to the creditors. When shutting down a business, it is your obligation as an officer of the company to cause the assets to be liquidated and distributed to the creditors of the corporation in accordance with their respective priorities. Failure to comply with that obligation will result in personal liability to the extent of the damages you cause to the creditor. For example, if when shutting down a business, you simply let the Secretary of State involuntarily dissolve your corporation and begin using the assets of the company in another venture, such action would be a violation of the Illinois Business Act. Such conduct would constitute an improper distribution to Shareholders. In that situation, a creditor could obtain a judgment against you individually in an amount equal to the value of the assets.

                    The proper way to terminate the business pursuant to the Illinois Business Corporation Act would be to first file Articles of Dissolution with the Secretary of State. Once the Articles of Dissolution have been processed by the Secretary of State, send notice to all the creditors of the corporation advising them of the dissolution. The creditors then have the opportunity to file a proof of claim. At the same time, you should convert the assets of the corporation into cash by conducting a liquidation sale. The sale must be conducted in a reasonable manner with an objective towards maximizing the proceeds from the sale. After the claims period has concluded and the assets have been converted to cash, the cash would then have to be distributed to the creditors in accordance with respective priorities (as set forth in the Federal Bankruptcy Code). Only after all of the creditors have been satisfied in full would you be able to make any distribution to the shareholders of the company.

                    Instead of conducting a dissolution pursuant to the Illinois Business Corporation Act, another option is a Chapter 7 bankruptcy. A Chapter 7 bankruptcy accomplishes essentially the same steps as a dissolution, however, those steps are taken by a Chapter 7 trustee appointed by the bankruptcy court. A Chapter 7 bankruptcy would be beneficial as opposed to the dissolution if you anticipate problematic creditors challenging the dissolution proceedings. However, the disadvantage of a bankruptcy would be that a trustee would have the right to recover certain “preferential payments”.

                    Regardless of which manner is in the best interest of a company, it is crucial that the proper steps mandated by law are followed. One desiring to shut down a business who fails to follow those requirements would expose themselves to unwanted personal liability.

Real Estate

WHAT TO EXPECT AT YOUR REAL ESTATE CLOSING
By Lauren E. Schaaf

After the weeks of looking at homes, contract negotiations, walk-through and inspections, you are finally ready for the closing. You show up at the title company or attorney’s office and wonder when will it finally be over. Some people will tell you that you will be out of there in an hour. Well, unless you are only bringing cash to the table, I am here to tell you the days of the one-hour closing are over. The only thing you can count on is that it will probably not go smoothly. But not to worry, the closing will happen, just not as quickly as everyone would like.
 

        If you only have one loan package you may get through the loan documents within an hour, but then there’s waiting for the title company to review the closing documents, making sure clear title is being passed and most importantly, waiting for the lender to “send the wire.” This last part can be the most frustrating because you must sit and wait while someone in (quite possibly) a different state reviews your loan documents. Just hope that person is not out to lunch once you’ve signed the papers, thus adding an extra hour on to your waiting time. Ultimately, you need to realistically budget at least two hours for your closing.
 

        First you will begin by signing the loan documents. Your attorney should explain the documents as you go through them. Ask questions if you do not understand something. Make sure the title agent at the title company gives you a copy of everything you just signed. Included in that packet should be a couple of payment coupons for your first mortgage payments. If you do not receive the coupons remember you must make your mortgage payment on time anyway! Any good attorney should explain when the payments must be made, how much you should pay and where to send them.
 

        Next, your attorney should review with you the closing statement or HUD-1 Statement. You should review all the calculations including credits for taxes, escrow deposit, and any other credits your attorney may have negotiated for you during contract negotiations. Review all the lender, title, survey, escrow and attorney fees, making sure they are the same as those to which you previously agreed. In order to avoid any surprises at the closing, your lender should send you an estimate of costs early on in the loan process. In general, costs can range as high as 6% of the loan amount (without considering discount points or broker's commission). Closing costs vary depending on your state of residency, the closing date, financing arrangements, and the lender's requirements. Your attorney should give you exact costs a day or two before closing so that you know how much extra to bring via certified check in case your loan doesn’t cover the total costs.

        After reviewing the HUD you should carefully review the title report for your title insurance, making sure any liens showing on Schedule B are waived. Your attorney should also verify that the legal description on the title report matches exactly the legal description shown on the transfer documents. Your transfer documents will consist of the Warranty Deed, Bill of Sale, and Affidavit of Title. You should walk out of the closing with the original signed Bill of Sale, Affidavit of Title and a copy of the signed Warranty Deed. Make sure the signature on these documents matches exactly the seller’s name on the title report. After the closing the title agent will send the Warranty Deed to the county recorder’s office for recording. Once recorded, you will receive the original signed and recorded Warranty Deed. This serves as your evidence of title.

        Finally, make sure you get copies of all your loan documents. Prior to the closing your realtor should have gotten you any information regarding garage door openers, security systems and appliance warranties or instructions. If your realtor is unhelpful in this matter then ask you attorney to send a letter to the seller’s attorney requesting this information. You must get all information and documentation regarding these matters before or at the closing because once you sign the loan documents and receive the deed the house is yours. Before you leave the closing don’t forget the keys!
 

        Are you thinking about buying or selling a house, condo or commercial property? Are you a first time buyer and in need of extra counseling on the matter? Are you in need of an experienced real estate attorney to handle your closing? If you answered yes to any of these questions contact me at lschaaf@lavellelaw.com.
 

Corporate Planning
 

"No Sell" - Buy Sell

By: Kerry M. Lavelle

Sometimes, the best buy-sell agreement between shareholders is an agreement that does not force a departing or deceased shareholder’s estate to sell his or her shares of the company at all.

        As practitioners in this area of the law, sometimes we find it difficult to have buy-sell arrangements finalized because of the multitude of issues. For example, owners may not ever be able to agree on valuation formulas for the business nor do they want to take the risk of terminating their family's rights to future growth potential of the business. A typical buy-sell arrangement requires the family to dispose of the stock of the company upon the death of the shareholder. Often times, the stock is the most valuable asset the owner has ever acquired.

        Here is how it works.

        Instead of buying life insurance on the other shareholders (like a typical cross purchase agreement) or having a corporation buy life insurance on its shareholders (a redemption agreement) a shareholder could decide, on his or her own methodology, what the business is worth and buy life insurance for approximately that amount. Because the owner is deciding the value of his or her interest in the business, expensive appraisals are not needed (although they may still be advisable for estate tax purposes).

        Then, when the owner dies, his or her interest in the business passes through his or her will to the family. The proceeds of the life insurance go to the trust. The trust can either use the money to buy the stock or, the owner's will could direct that the interest in the business be transferred to the trust. Either way, the family ends up with the cash, while the trust gets the business interest. Here is where it gets difficult.
 

        The trustee (typically the spouse or child) controls the trust for the family’s benefit, but a special trustee is named to vote the stock (typically the company surviving owners) and thereby retaining control of the business without the deceased owner's family intervention. Since the special trustees also have fiduciary duties to the trust’s beneficiaries, they must vote their stock interest, vis-a-vis the trust, to maximize value for the trust and the deceased family.

        Of course this is difficult to do, but with the appropriate language drafted in the no sell/buy sell, the surviving owners should be limited on salaries they may be able to pay themselves, and retirement benefits, and still maintain the overall continuity of the business.

        Similarly, rules should be drafted in the no sell/buy sell agreement, where the family and the trust will be able to receive certain dividends and those issues should be somewhat prearranged. Remember, do not always assume that the business is better off without the surviving family members.

        If you have any further questions on these issues, do not hesitate to contact Kerry at klavelle@lavellelaw.com on how these type of no sell/buy sells can affect your business.
 

For past e-newsletter articles of interest, please visit the Lavelle Legal Services, Ltd. website at:         http://www.lavellelaw.com/newsletters/newsletter.htm.

 

This newsletter is a publication of Lavelle Legal Services, Ltd. We attempt to highlight and discuss areas of general legal interest that may lead to planning opportunities. Nothing contained in this Newsletter should be construed as legal advice or a legal opinion. Consultation with a professional is recommended before implementing any of the ideas discussed herein.