Tax Lawyer Minneapolis | Common Tax Penalties and Interest: The Basics

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Penalties and interest may be impose

d by the IRS relating to various tax underpayments. Taxpayers should understand some of the basic tax penalties detailed in this article (many of which can be quite sever) in order to avoid such penalties if possible, and to perhaps mitigate any imposed penalties.

Accuracy-Related Penalties

An accuracy-related penalty of 20% of a tax underpayment may be imposed by the IRS if the underpayment is attributable to one or more of the following: (1) negligence or disregard of the rules and regulations; (2) any substantial understatement of income tax; (3) any substantial valuation overstatement; (4) any substantial overstatement of pension liabilities; and/or
(5) any substantial gift or estate tax valuation understatement.

Late-Filing Penalty

If a taxpayer files a late tax return, unless he/she can demonstrate “reasonable cause” to the IRS for not filing on time, a late filing penalty of 5% of the net tax due for each month the return is due, up to five months (25% maximum) can be imposed. In addition, there is a minimum
penalty, equal to the lesser of $135 or the net amount required to be shown on the tax return, for returns that are more than 60 days late (including extensions).

The late filing penalty does not apply if a return is filed late but no taxes are owed.

Failure to Pay Penalty

In general, if a taxpayer is late in paying taxes owed, the IRS can impose a failure to pay penalty of 0.5% (0.5 of 1%) upon the net amount of tax due and unpaid by the due date. The penalty begins on April 16th, and stops accruing when the IRS receives the payment amount. The maximum penalty that can be imposed is 25%.

Combined Penalties

Taxpayers may also be subject to combined penalties, with special rules. For example, if both late-filing and late-payment penalties are imposed on a taxpayer, a combined penalty of 5% per month will be applied for the duration in which both penalties apply at the same time (maximum penalty of 25%). The combined penalty is made up of a reduced late-filing penalty (4.5% instead of the standard 5%) added to the 0.5% late-payment penalty. After the maximum 25% penalty is met, the late-filing portion of the penalty ends, but the late-payment portion will continue at 0.5% up to a maximum of 22.5%.

Other penalties may also be imposed in addition to the combined penalty.

Civil Fraud Penalties

If the IRS can establish by clear and convincing evidence that a taxpayer has fraudulently underreported income, it can impose a penalty equal to 75% of the entire amount underreported. After such determination, the burden of proof rests upon the taxpayer to establish that fraud did not constitute the entire underreported amount. Fraud is defined to be an intentional wrongdoing by the taxpayer with the specific intent to evade a tax known or believed to be owing.

Furthermore, if the IRS determines that a taxpayer fraudulently failed to file a tax return, a penalty equal to 15% of the net tax due for every month that a return is due and not filed, up to five months (for a maximum of 75%) can be imposed.

Interest on Tax Underpayments

In addition to the various penalties, interest on tax underpayments may also be imposed. For individual taxpayers, the interest rate is equal to the short-term Federal rate plus 3%. Interest is compounded daily in most cases, and begins to accrue from the due date of the return.

Minnesota LLC Formation I: Essential Documents

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It is conventional wisdom that forming a Limited Liability Company (“LLC”) in Minnesota is not hard. Furthermore, a lot of people believe that, in order to form an LLC, the only (and the easiest) thing to do is to file the Articles of Organizations – a one-page fill-in form prepared by the Secretary of State – and that is it. I have seen dozens of examples where entrepreneurs would file the Article of Organization believing they are completely protected and they do not to pursue anything further, saving money on a legal advice.

In fact, however, the issue is much more complex. Even assuming that the LLC is the correct entity form for the business in question (a discussion which requires substantial legal analysis and is a topic for another article), organizing an LLC is process which has its owns legal complexities and requires proper documentation in order to achieve the results that most organizers are striving for – limited liability and protection of one’s business interests. A business owner who is negligent in organizing an LLC is likely to pay a hefty penalty in the future, including a possibility of losing his business altogether.

This article begins a series of articles that I am writing on the topic of LLC formation in Minnesota. It is important to point out this series merely provides a general educational background on this topic and you should consult a Minnesota business lawyer regarding your specific legal situation.

In this essay, I would like to outline the minimum essential documentation one needs for the purposes of organizing an LLC. This is a suggestive list of documents that most Twin Cities business lawyers adopt. Notice, this article does not discuss the process of LLC formation (which is the topic of another article, later in this series).

1. Articles of Organization

The LLC is formed by filing the Articles of Organization with the Minnesota Secretary of State. The Articles become effective on filing and payment of the $160 (current as of the year 2010) filing fee. The Office of the Secretary of State would then issue a Certificate of Organization to the LLC.

It is important to understand that the one-page, fill-in form provided by the Secretary of State Office is not the only possible form. In fact, this form merely incorporates the minimum required provisions in order to form the LLC. The Articles may incorporate a lot more information, stating the rules on various issues such as cumulative voting, preemptive rights, a governor’s liability, et cetera. It is important to consult your business attorney in deciding what the Articles of Organization should include.

2. Bylaws (or Operating Agreement)

In most cases, it is important for the LLC to adopt Bylaws (also known as “Operating Agreement”). Bylaws may contain provisions relating to the management of the LLC, as long as these provisions are not inconsistent with Minnesota law and/or the Articles of Organization.

3. Member Control Agreement
As long as specific requirements are satisfied, Minnesota law allows the organizers of the LLC to adopt a Member Control Agreement. The most crucial aspects of this Agreement are that it permits the organizers to adopt a different governance structure for the LLC and over-rule many default provisions of the Minnesota Limited Liability Company Act, including on such crucial issues as: terms and conditions for transfer of membership interests, voting quorum, valuation of membership interests, and so on.

The recent trend among Minneapolis business lawyers and St. Paul business lawyers is to combine the Bylaws and the Member Control Agreement into one “Member Control and Operating Agreement”.

Conclusion

LLC formation can be a complex process, which deserves a lot more consideration than merely filling out a simple form with minimum formation requirements. Your specific situation may require filing an expended Articles of Organization. Then, in order for the new LLC to operate, you need to describe how it will be managed in the Bylaws. Moreover, the Minnesota Limited Liability Company Act contains many default provisions which may interfere with proper functioning of your business. Therefore, a Member Control Agreement may be necessary for greater flexibility in and proper management of your business.

It is crucially important to consult a Minnesota business lawyer while forming the LLC. Only a business attorney will be able to properly analyze your situation, help you file correct Articles of Organization, and draft the necessary Bylaws and/or Member Control Agreement.

Sherayzen Law Office can help you navigate these complex issues of entity choice and LLC formation as well as draft all of the necessary paperwork, including customized Bylaws and Member Control Agreements.

Call Sherayzen Law Office NOW to discuss your business formation issues with an experienced business lawyer!

IRS Announces 2011 Standard Mileage Rates

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On December 3, 2010, Internal Revenue Service issued the 2011 optional standard mileage rates used to calculate the deductible costs of operating an automobile for business, charitable, medical or moving purposes.

Beginning on January 1, 2011, the standard mileage rates for the use of a car (also vans, pickups or panel trucks) will be:

a) 51 cents per mile for business miles driven
b) 19 cents per mile driven for medical or moving purposes
c) 14 cents per mile driven in service of charitable organizations

A taxpayer may not use the business standard mileage rate for a vehicle after using any depreciation method under the Modified Accelerated Cost Recovery System (MACRS) or after claiming a Section 179 deduction for that vehicle. In addition, the business standard mileage rate cannot be used for any vehicle used for hire or for more than four vehicles used simultaneously. Taxpayers also have the option of calculating the actual costs of using their vehicle rather than using the standard mileage rates.

Minneapolis Tax Lawyer | Tax Consequences of Selling a Structured Settlement

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Are your structured settlement payments taxable?

For federal income tax purposes, it is not relevant whether a plaintiff receives proceeds from a judgment or settlement. No matter how the result is reached, amounts received are characterized either as income, or are specifically excluded from income. Section 104 of the Internal Revenue Code generally excludes from gross income: amounts received as personal injury damage awards (to the extent that the damages are compensatory and not punitive); amounts received through accident or health insurance for personal injury or sickness; and amounts received as pension, annuity, or for personal injuries or sickness resulting from active service in the armed forces of any country. Punitive damages are almost always included in gross income. Essentially, judgments resulting from personal injury lawsuits and the like are meant to make a plaintiff whole and compensate them for something that they lost that was not income (e.g. loss of an arm), therefore any amount received in compensation of such an injury also must not be income.

If your settlement payments are not covered by Section 104, you need to determine if your structured settlement payments must be included in your income by considering the item that the settlement replaces. Business injury or non-personal injury judgments are generally regarded as gross income. Here are a few examples of judgments usually included in gross income: interest on any award; compensation for lost wages or lost profits in most cases; punitive damages (in most cases); pension rights (if you did not contribute to the plan); damages for patent or copyright infringement, breach of contract, or interference with business operations; and back pay and damages for emotional distress received to satisfy a claim under Title VII of the Civil Rights Act of 1964.

Structured periodic payments for business injury judgments or settlements should generally be included as income to the extent that the payments fit under the definition above. With respect to the personal injury plaintiffs, Section 104 explicitly excludes from gross income periodic payments that are otherwise excluded from gross income. Portions of periodic payments specifically labeled as interest may not be excluded from gross income. If properly structured, personal injury settlement payments can be tax free generally irrespective of the number of years the payments continue.

A note of caution, the analysis above is very general and simplistic, even with respect to the examples provided above. You should consult your tax attorney to determine whether your settlement should be included in gross income pursuant to Section 104.

What happens if you sell your right to structured settlement payments for a lump sum?

The information above is very important to an original beneficiary of a structured settlement who may be interested in selling their right to receive structured settlement payments. This is because Section 104 still controls characterization of any lump sum payment received in return for transferring the right to structured settlement payments. The end result is that any lump sum payment you receive from selling your structured settlement payments is likely to have the same tax treatment as the payments under the structured settlement.

Therefore, if the current structured settlement payments you receive are tax free, then the money you receive from selling your payments are likely to be tax free. Conversely, if the current structured settlement payments you receive are are likely to be included in your income, then the money you receive from selling your right to payments are also likely to be included in your income.

Again, the exact determination of whether the proceeds from the sale of a structured settlement need to be included in the gross income should be made by a tax attorney. Only a tax professional is likely to have the expertise necessary to take into account all factors of your particular tax situation and conduct correct legal analysis.

Are there tax consequences for the company purchasing the right to your structured settlement payments?

Section 5891 of the Internal Revenue Code was added in 2002 to protect structured settlement payees/recipients that decide to sell the right to their structured settlement payments. Section 5891 requires the sale of structured settlement payments must be approved by a qualified court order in accordance with the relevant state statute. In Minnesota, the applicable state statute is Minn. Stat. §549.31 (2010).

Section 549.31 requires among other things that: the transfer is not unlawful; the transferee discloses certain facts to the payee in writing; the payee has established that the transfer is in the best interests of the payee and the payee’s dependents; the payee has received independent professional advice regarding the legal, tax, and financial implications of the transfer; the transferee has given written notice of the transferee’s name, address, and taxpayer identification number to the annuity issuer and the structured settlement obligor and has filed a copy of the notice with the court or responsible administrative authority; and that the transfer agreement provides that any disputes between the parties will be governed, interpreted, construed, and enforced in accordance with the laws of Minnesota and that the domicile state of the payee is the proper place of venue to bring any cause of action arising out of a breach of the agreement. The transfer agreement must also provide that the parties agree to the jurisdiction of any court of competent jurisdiction located in Minnesota.

If a sale of the right to payment under a structured settlement does not comply with Section 5891, then Section 5891 imposes on any person who acquires directly or indirectly structured settlement payment rights in a structured settlement factoring transaction a 40-percent excise tax.

Conclusion

Tax consequences of selling a structured settlement should be analyzed by a tax professional who will be able to conduct proper legal analysis based on the particular facts of your case. Sherayzen Law Office can help you analyze your case and provide an independent advice on the legal and tax consequences of the sale.  Call us to discuss your case with an experienced Minneapolis tax lawyer!

Business Tax Lawyers | Certain End-of-Year Tax Deadlines and Reminders (2010)

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The following are some upcoming tax deadlines and reminders for the December of 2010. (This list may not include all applicable tax deadlines for your situation, and does not constitute tax advice; please, consult Sherayzen Law Office for more information and assistance with your tax planning needs.)

Selected General Deadline Reminders for Individuals: December 31, 2010

Traditional IRA to Roth IRA Conversion. Last date for taxpayers to convert a traditional IRA to a Roth IRA for the tax year 2010 (provided a taxpayer meets the other applicable criteria).

Keogh plan deadline. Keogh plans must be established by the last date of the year (December 31, for calendar year basis taxpayers) in order for contributions to be deductible for the tax year 2010.

Capital Gains and Losses. Capital gains and losses for individual taxpayers are determined by the last trading date of the tax year. This is the case even though the settlement date (the date the shares-sold are actually exchanged and cash is received by the broker) may be several days later. Thus, even though the settlement date may occur in early 2011 for shares sold on the last trading date of 2010, the capital gains and/or losses will be established in 2010.

Short Sale Gains (But not Losses). Gains on shares sold short are also determined by trading date because of an IRS ruling treating the transaction as a constructive sale. Thus, shares sold short for gain on the last trading date of 2010 will be treated as capital gains for the tax year 2010, even though actual delivery of the shares may occur in 2011. Note, however, that for losses on shares sold short, the losses are not deductible until the shares are actually delivered to a broker. Taxpayers should plan accordingly if a loss is anticipated.

Marital Status. Taxpayers should note in general that marital status as of the last date of the year will determine the status for the entire tax year 2010.

General Tax Calendar Deadlines and Information (From IRS Publication 509)

December 10: Employees who work for tips. If you received $20 or more in tips during November, report them to your employer. You can use Form 4070.

December 15: Corporations. Deposit the fourth installment of estimated income tax for 2010. A worksheet, Form 1120-W, is available to help you estimate your tax for the year.

Selected Tax Deadlines for Employers Based on Monthly Deposit Rule

Social security, Medicare, and withheld income tax. If the monthly deposit rule applies, deposit the tax for payments in November by December 15, 2010.

Non-payroll withholding. If the monthly deposit rule applies, deposit the tax for payments in November by December 15, 2010.

Employer’s Tax Deadlines: Payroll Due Dates for Deposit of Taxes for 2010 Under the Semiweekly Rule

Nov 24-26: Dec 1
Nov 27-30: Dec 3
Dec 1-3: Dec 8
Dec 4-7: Dec 10
Dec 8-10: Dec 15
Dec 11-14: Dec 17
Dec 15-17: Dec 22
Dec 18-21: Dec 27
Dec 22-24: Dec 29
Dec 25-28: Jan 3
Dec 29-31: Jan 5

Excise Tax Deadlines

December 10: Communications and air transportation taxes under the alternative method. Deposit the tax included in amounts billed or tickets sold during the first 15 days of November.

December 14: Regular method taxes. Deposit the tax for the last 15 days of November.

December 28: Communications and air transportation taxes under the alternative method. Deposit the tax included in amounts billed or tickets sold during the last 15 days of November.

December 29: Regular method taxes. Deposit the tax for the first 15 days of December.

Have more questions about tax deadlines, or need help in planning for your year-end tax decisions? Call Sherayzen Law Office to discuss your tax situation with an experienced tax lawyer!