24th Annual Health Sciences Tax Conference Evolving model of IRS examination December 8, 2014 Disclaimer ► EY refers to the global organization, and may refer to one or more, of the member firms of Ernst & Young Global Limited, each of which is a separate legal entity. Ernst & Young LLP is a client-serving member firm of Ernst & Young Global Limited operating in the U.S. ► This presentation is © 2014 Ernst & Young LLP. All rights reserved. No part of this document may be reproduced, transmitted or otherwise distributed in any form or by any means, electronic or mechanical, including by photocopying, facsimile transmission, recording, rekeying, or using any information storage and retrieval system, without written permission from Ernst & Young LLP. Any reproduction, transmission or distribution of this form or any of the material herein is prohibited and is in violation of U.S. and international law. Ernst & Young LLP expressly disclaims any liability in connection with use of this presentation or its contents by any third party. ► Views expressed in this presentation are those of the speakers and do not necessarily represent the views of Ernst & Young LLP. ► This presentation is provided solely for the purpose of enhancing knowledge on tax matters. It does not provide tax advice to any taxpayer because it does not take into account any specific taxpayer’s facts and circumstances. ► These slides are for educational purposes only and are not intended, and should not be relied upon, as accounting advice. Page 2 Evolving model of IRS examination Presenters ► Dave Courtney Vice President – Tax Ardent Health Services Nashville, TN Page 3 ► Mark Mesler Ernst & Young LLP Atlanta, GA +1 404 817 5236 mark.mesler@ey.com ► Frank Ng Ernst & Young LLP Washington, DC +1 202 327 7887 frank.ng@ey.com Evolving model of IRS examination Discussion topics ► ► IRS organization updates Large Business & International examination update ► ► ► ► ► ► ► ► ► ► Coordinated Industry Case pilot Quality Examination Process Issue Practice Groups Information Document Requests Directive Transfer pricing examinations International Practice Networks Pre-Filing Agreements Compliance Assurance Process Appeals Judicial Approach & Culture (AJAC) Project Global Tax Risk Management Survey Page 4 Evolving model of IRS examination IRS organization updates Page 5 Evolving model of IRS examination IRS organization Appeals Communications & Liaison Commissioner Office of Research, Analysis and Statistics Chief of Staff Deputy Chief of Staff National Taxpayer Advocate Office of Compliance Analytics Chief Counsel* Equity, Diversity & Inclusion Services & Enforcement Operations Support Agency-Wide Shared Services Chief Financial Officer Chief Technology Officer IRS Human Capital Officer Privacy, Governmental Liaison and Disclosure Criminal Investigation Large Business & International Division Office of Professional Responsibility Office of Online Services Return Preparer Officer Small Business/Self Employed Division Tax Exempt & Government Entities Division Wage and Investment Division Whistleblower Office Page 6 Evolving model of IRS examination Recent IRS organization changes ► ► ► ► ► Established Assistance Commissioner (International) within Large Business & International (LB&I) Division to manage IRS-wide international compliance programs Moved jurisdiction of Tax Exempt/Governmental Entities (TE/GE) Counsel organization to Office of Chief Counsel (previously reported to TE/GE Division Commissioner) Realignment of pre-filing compliance programs to Wage & Investment Division (WI) and post-filing compliance programs to Small Business/Self-Employed Division (SB/SE) Identity theft victim assistance centralized under WI Creation of Office of Compliance Analytics and Chief Risk Officer reporting to Commissioner Page 7 Evolving model of IRS examination New IRS Taxpayer Bill of Rights Page 8 Evolving model of IRS examination FY 2013 IRS statistics ► Operating budget was approximately $11.5 billion ► ► ► ► ► ► ► ► Enforcement Taxpayer services Operations support Business system modernization $5.0 billion $2.3 billion $4.0 billion $0.2 billion Costs 41 cents, on average, to collect $100 More than 240 million federal tax returns filed Gross revenue collected was $2.5 trillion Revenue from all enforcement activities is $53.35 billion ► ► ► Page 9 Recommended additional tax after audit was $37.09 billion Civil penalties assessed of $25.9 billion Civil penalties abated of $11.4 billion Evolving model of IRS examination FY 2013 audit coverage rates Category Coverage rate Overall individual 1.0% Individual with income over $200,000 2.7% Individual with income over $1 million 10.8% Small corporation under $10 million in assets 1.0% Large corporation $10–50 million in assets 7.0% Large corporation $50–100 million in assets 15.5% Large corporation $100–$250 million in assets 19.4% Large corporation $250 million to $20 billion and over in assets Partnership Page 10 22.5%–91.2% .4% Evolving model of IRS examination IRS FY 2015 budget priorities ► Enforcement priorities ► ► ► ► Identify theft and refund fraud Foreign Account Tax Act compliance implementation Affordable Care Act (ACA) statutory requirement implementation Enforcement priorities ► ► ► ► ► ► ► ► Page 11 International and offshore compliance Expand audit coverage, focus on high-wealth individuals Improve coverage of partnerships and flow-through entities Enhance collection coverage Expand compliance coverage in tax-exempt sector Tax return preparer compliance and professional responsibilities Fraud referrals, employment taxes and abusive tax schemes Leverage data to improve audit selection Evolving model of IRS examination LB&I examination update Page 12 Evolving model of IRS examination LB&I organizational chart LB&I Commissioner Heather C. Maloy Deputy commissioner (domestic) Deputy commissioner (international) Shared support Pre-filing and technical guidance Sergio Arellano (A) Doug O’Donnell (A) Susan Latham, Dir. Tina Meaux, Dir. (A) Communications, technology and media Cheryl Claybough, Dir. Kimberly Edwards, DFO NW (A) Rosemary Daley, DFO SW Assistant deputy commissioner, international David Varley (A) Business systems planning Dean Wilkerson, Dir. Financial services Rosemary Sereti, Dir. Jo McGready, DFO Fin Prod Barbara Harris, DFO NY International business compliance Sharon Porter, Dir. (A) Orrin Byrd, DFO W (A) Jolanta Sanders, DFO E William Holmes, Dir. IDM Management and finance Keith Walker, Dir. Global high wealth Cheryl Claybough, Dir. (A) International Individual compliance David Horton, Dir. Pam Drenthe, DFO Planning, analysis, inventory and research Christopher Larsen, Dir. (A) Transfer pricing operations Hareesh Dhawale, Dir. APMA (A) Equity, diversity and inclusion Rona Evans, Dir. Foreign Payments Practice Theodore Setzer, Dir. Division planning, oversight reporting and liaison Michael Boccarossa (A) Heavy Rosemary Sereti, Dir. (A) manufacturing and Catherine Jones, DFO NE Lavena Williams, DFO SE pharmaceutical Natural resources and construction Retailers, food, transportation and healthcare Kathy Robbins, Dir. Katheryn Houston, DFO W Dennis Figg, DFO E (A) Steve Whitaker, DFO Eng (A) Lori Nichols, Dir. (A) Margaret Von Lienen, DFO E (A) Lori Caskey, DFO W Paul Curtis, DFO CAS (A) = Acting Page 13 Evolving model of IRS examination Deputy director Deborah Palacheck (A) LB&I update ► Organizational leadership changes ► ► ► Domestic and international resource alignment ► ► ► Implementation challenges of 2010 LB&I restructuring Rumor of pending LB&I organization changes Impact to taxpayers ► ► ► ► Page 14 Five top executive departures including Deputy Commissioner (International, Transfer Pricing Director, Director Advance Pricing Agreement Mutual Agreement, Director International Strategy, Acting Deputy Commissioner (Domestic) Departure due to retirements and general tenure of private sector recruitments Potential change of upper management on audits Potential delays in examination process Uncertainty on decision-making authorities Decline in experienced workforce Evolving model of IRS examination LB&I Coordinated Industry Cases (CIC) pilot ► IRS – LB&I initiated a new CIC pilot 30 April 2014 ► ► Currently, CIC cases are: ► ► ► Front-end loaded into the compliance plan Limit flexibility to allocate resources to other compliance activities Under the new process, all CIC cases would: ► ► ► Pilot will run for 18 months Undergo a consistent classification process to determine return compliance risk and to identify issues Be entered into the workload delivery system New classification process will include: ► Issue identification and written explanations on compliance risks and documentation to support compliance risk conclusions ► Page 15 All information will be included in case file for use in examination Evolving model of IRS examination Quality Examination Process Page 16 Evolving model of IRS examination Quality Examination Process (QEP) Page 17 Evolving model of IRS examination Quality Examination Process – a collaborative process ► Steps for conducting a quality audit ► Planning ► ► ► ► ► Execution ► ► ► ► Information document request and analysis Monitoring audit team performance and audit scope Discussion of issues with taxpayer Resolution ► ► ► ► Page 18 Pre-audit analysis Planning meetings to scope issues with taxpayer Taxpayer orientation and initial financial and transaction data Finalize exam plan and milestones Confirming facts Consult with specialists and experts Issue resolution strategies Determine areas of agreement Evolving model of IRS examination Issue Practice Groups Page 19 Evolving model of IRS examination Formation of Issue Practice Groups (IPGs) ► ► ► ► Creation of Issue Practice Groups for domestic issues to enhance knowledge management structure, employee development and collaboration among examiners IPGs led by IPG Coordinator with one or more full-time subject matter experts (SMEs), part-time SMEs who spend less than 25% of their time as Collateral SMEs, and an IPG analyst On August 17, 2012, the IRS announced the termination of the tiered issue process All prior Industry Director Directives (IDDs) relevant to the tier issues are withdrawn and should not be followed by examiners Page 20 Evolving model of IRS examination Current list of domestic IPGs ► ► ► ► ► ► ► Partnerships and TEFRA RICs, REITs and REMICs S-Corporations and Cooperatives Non-Life Insurance Compensation and Benefits Penalties Deductable and Capital Expenditures (DCEs) Page 21 ► ► ► ► ► ► ► ► Evolving model of IRS examination Corporate Distribution and Adjustments Corporate Income and Losses Business Credits Energy Credits Life Insurance Financial Instruments Inventory and 263A Methods of Accounting and Timing – previously CAM Information Document Requests Directive Page 22 Evolving model of IRS examination LB&I Directive on Information Document Requests (IDRs) – issued 2/28/14 ► Reiterates requirement that all IDRs must be: ► ► ► Issue focused (i.e., identify and state the issue that has led the examiner or specialist to request the information included in the IDR) Discussed with taxpayer prior to issuance, both in regard to content and determining a reasonable response time frame Outlines mandatory three-step IDR enforcement process: ► ► ► Delinquency Notice Pre-Summons Letter Summons ► Page 23 Effective date 3/3/2014 Evolving model of IRS examination LB&I Directive on IDRs ► Examiners and specialists are permitted to grant taxpayers one extension of up to 15 business days before the enforcement process begins. ► If no response is received by the IDR due date and no extension is granted, the IDR enforcement process begins on the date the extension determination is communicated to the taxpayer. ► IDR enforcement process – The examiner or specialist and taxpayer will determine a reasonable response due date to an IDR. Page 24 Evolving model of IRS examination LB&I Directive on IDRs ► Delinquency Notice – Signed by team manager, discussed with taxpayer and issued by examiner or specialist within 10 business days of the application of the enforcement process – new response date no more than 10 business days from date of Delinquency Notice ► Pre-Summons Letter – Signed by territory manager, who will issue and discuss the next steps with taxpayer at equivalent level within 10 business days after the Delinquency Notice due date – new response date no more than 10 business days from date of Letter (unless DFO approval) ► Summons – If information is not provided, a summons will be issued for enforcement by IRS Counsel and Department of Justice Page 25 Evolving model of IRS examination New IDR enforcement process – timeline Within 10 business days IDR deadline ► No more than 10 business days Delinquency Notice No more than 10 business days Response date Delinquency Notice 10 business days PreSummons Letter No timeline specified but likely quickly PreSummons Letter response date Summons Under the new directive, the IDR process - from the date of the initial draft IDR to the initiation of the summons process - can take approximately 140 days. Page 26 Transfer pricing examinations Page 27 Evolving model of IRS examination New Transfer Pricing Audit Roadmap ► ► ► On February 14, 2014, the Transfer Pricing Operations (TPO) released the Transfer Pricing Audit Roadmap (the Roadmap). The Roadmap provides IRS transfer pricing practitioners with recommended audit procedures and links to useful reference material. The Roadmap provides insight into what to expect during a transfer pricing examination. ► ► This transparency is intended to help improve communications and efficiency, for the benefit of both the IRS and taxpayers. The 24-month cycle guideline is not fixed. Page 28 Evolving model of IRS examination Transfer Pricing Audit Roadmap ► Organized around a 24-month audit timeline, the Roadmap breaks down a transfer pricing audit into three phases: ► ► ► ► ► Planning Execution Resolution Emphasis is placed on coordination within LB&I throughout the process, including the exam team, IRS transfer pricing specialists and the taxpayer, and encourages constant communication among all three groups of stakeholders. The stated purpose of the Roadmap is: “To provide the transfer pricing practitioner, whether employed in TPO or International Business Compliance (IBC), with audit techniques and tools to assist them with the planning, execution and resolution of transfer pricing examinations.” Page 29 Evolving model of IRS examination Transfer Pricing Audit Roadmap Quality Examination Process (QEP) QEP phases Planning Execution Resolution Transfer pricing audit stages and timeline Cycle time in months Non-cycle time 1st to 2nd 3rd 4th 5th 6th 7th to 15th 16th 17th 18th 19th 20th to 23rd 24th Pre-examination analysis Opening conference, transfer pricing orientation Preparation of initial risk analysis, exam plan and key milestones Fact finding and additional IDRs, functional analysis Mid-cycle risk assessment Issue development and preliminary reports Pre-Notice of Proposed Adjustment (NOPA) issue presentation Resolution discussions Final NOPA and case closing Page 30 Evolving model of IRS examination International Practice Networks Page 31 Evolving model of IRS examination IRS International Practice Networks ► Integrated international program ► ► ► ► International matrix is a framework for international strategy, training, networks and data management Organizes all international issues into four areas: Business Outbound, Business Inbound, Individual Outbound and Individual Inbound Four cross-over issues including Foreign Currency, Information Gathering, Corporate Organizations/Transactions and Treaties International Practice Networks (IPNs) aligned with the matrix strategy ► ► ► Page 32 Most international matrix issue areas represented by an IPN IPNs led by Steering Committee – technical specialist staff, an international manager sponsor, LB&I, SB/SE and Associate Chief Counsel (International) attorneys IPNs intended to allow international personnel organization wide and counsel to share and collaborate on strategic international issues Evolving model of IRS examination International Practice Network Income shifting Inbound financing Repatriation/ withholding ► International Business Compliance (IBC) inbound Income shifting Deferral planning Foreign tax credit management Repatriation International Business Compliance (IBC) outbound ► Jurisdiction to tax US activities US investments International Individual Compliance (IIC) inbound Jurisdiction Offshore to tax arrangements Foreign tax credits Pass-thru entities Foreign corporations International Individual Compliance (IIC) outbound Corporate organizations/transactions Page 33 Evolving model of IRS examination International Practice Networks will focus on international issues and will replace the tiered issue process The International Practice Network will report to LB&I Deputy Commissioner (International) Goals for the International Practice Networks Tap into technical expertise: ► Facilitate the Knowledge Management model to broaden technical expertise and increase technical advice output ► Coordinate and support identification and publication of guidance Expand collaboration: ► Facilitate and engage additional resources to identify expertise throughout LB&I and the IRS to augment the development of technical positions ► IPNs do not command or control issues Improve quality and institution building: ► Sharing institutional knowledge and best practices to improve quality across the organization ► Concurrent opportunities to teach and learn Improve line of sight: ► LB&I is emphasizing line of sight into technical positions and consistent application of issue guidance across the organization Page 34 Evolving model of IRS examination Pre-Filing Agreements Page 35 Evolving model of IRS examination Pre-Filing Agreements (PFAs) Revenue Procedure 2009-14 ► ► Enables taxpayers and the IRS to resolve, before the filing of a return, the treatment of an issue otherwise likely to be disputed in post-filing examinations If successful, results in a closing agreement ► ► ► ► An agreed-upon methodology may be used for up to four subsequent years Provides full resolution of issue earlier than traditional return filing and examination Benefits taxpayer and IRS by improving the quality of tax compliance while reducing its costs, burdens and delays Affords heightened certainty for financial statements Page 36 Evolving model of IRS examination Pre-Filing Agreement (PFAs) ► Excluded issues ► ► ► ► ► ► ► Page 37 Transfer pricing, change of accounting method Penalties or criminal sanctions and reasonable cause determinations. Pending or proposed request for Private Letter Ruling (PLR) or Technical Advice Memorandum (TAM) or contrary to an issued PLR or TAM involving the taxpayer Issues subject of pending litigation with the IRS Issues designated for litigation by IRS Office of Chief Counsel Issues that involve a tax shelter Issues that require a determination of whether the taxpayer, rather than another entity, is the common law employer Evolving model of IRS examination Pre-Filing Agreement (PFAs) ► ► ► ► ► ► Acceptance of request into PFA program is subject to discretion of LB&I management $50,000 filing fee upon acceptance into PFA program Either party may withdraw at any time Return filing requirements are not suspended or waived Inspection of records pursuant to the PFA process does not preclude a later examination Selection criteria include: ► ► ► Page 38 Impact on other years, issues and taxpayers Availability of IRS resources Probability of completing the PFA by the date for filing the earliest affected tax return Evolving model of IRS examination Compliance Assurance Process Page 39 Evolving model of IRS examination What is CAP? The Compliance Assurance Process (CAP) is a program in which taxpayers and the IRS work together to achieve real-time tax return certainty. ► The program allows taxpayers to have a proactive relationship with the IRS, while managing their tax controversy and risk ► Key CAP component is real-time taxpayer interaction with issue identification and resolution ► Cooperative joint effort to resolve all issues and reach agreement prior to return filing ► Earlier certainty on the tax return is driven by taxpayer participation and cooperation, contemporaneous disclosures and issue resolution Page 40 Evolving model of IRS examination Three CAP phases ► Pre-CAP phase ► ► ► CAP phase ► ► ► Compliance maintenance phase ► ► Page 41 The IRS and the taxpayer develop a plan to eliminate open years within a set time frame. They work in a cooperative and transparent post-file environment. The ultimate goal is meeting the selection criteria and progressing to the CAP phase. The taxpayer and the audit team work in a real-time environment to identify and resolve issues prior to filing (same as current CAP process). The taxpayer works with the audit team by identifying transactions and providing information to resolve material issues. The taxpayer receives full acceptance if all material issues are disclosed and the tax return filing is consistent with the agreed tax treatment. The IRS will adjust the level of review work and time applied. The level of review will be adjusted based on the taxpayer’s unique experience in CAP and history of compliance and risk. Material transactions and issues are periodically disclosed. Evolving model of IRS examination LB&I Pre-CAP & CAP taxpayers Page 42 YEAR # of CAP taxpayers # of CAP maintenance taxpayers 2005 17 Not applicable (NA) NA 2006 34 NA NA 2007 71 NA NA 2008 91 NA NA 2009 100 NA NA 2010 112 NA NA 2011 139 NA NA 2012 161 10 NA 2013 169 43 27 2014 186 64 20 Evolving model of IRS examination # of pre-CAP taxpayers Appeals Judicial Approach and Culture (AJAC) Page 43 Evolving model of IRS examination Appeals Judicial Approach and Culture (AJAC) Project ► ► ► ► AJAC Project returns appeals to a quasi-judicial approach to case management with goal of enhancing internal and external customer perception of a fair, impartial and independent Office of Appeals AJAC guidance was issued in two phases and applies to examination, collection and penalty cases handled by Appeals AJAC guidance generally applies to non-docketed cases; similar procedures for docketed cases are forthcoming Provides guidance on pre-conference meetings and ongoing communications with LB&I Page 44 Evolving model of IRS examination AJAC – Phase 1 Interim Guidance on Examination ► ► AP-08-0713-01 effective 7/18/13 Revised Policy Statement 8-2 (formerly P-8-49) ► ► ► Appeals will not raise new issues or reopen issues agreed to by taxpayer and Compliance Appeals will attempt to settle a case on factual hazards when cases submitted by Compliance are not fully developed and taxpayer presents no new information Clarifies that Appeals officers are not examiners and should not participate in assisting Compliance with case development Page 45 Evolving model of IRS examination AJAC – Phase 2 Implementation of AJAC ► ► ► ► AP-08-0710004 effective for all new Appeals cases received on or after 9/2/14 Effective 10/1/14 for assistance between Appeals and Counsel on docketed cases At least 365 days remaining on statute of limitations, at least 180 days for cases returned to originating function for consideration of new information or issue If taxpayer provides new information or new evidence, at least 210 days remaining on the statute of limitation when case will be received by originating (exam) function Page 46 Evolving model of IRS examination AJAC – Phase 2 Implementation of AJAC ► ► ► Case returned to examination for further development of new information, taxpayer raises new issue(s), failure to secure timely consent, pending technical advice If Appeals Officer determines taxpayer or practitioner unreasonably delays the process with intentionally submitting new information or raising new issues multiple times, the Appeals Officer can make a determination based on factual hazards without consideration of new information or issues Specific procedures for returning a case to Large Business & International Division ► Page 47 Generally return case to LB&I or allow opportunity to review and comment on information with at least 45 days Evolving model of IRS examination Global Tax Risk Management Survey Page 48 Evolving model of IRS examination EY 2014 Tax risk and controversy survey ► Methodology and survey base: ► ► 830 tax and finance executives representing more than 20 industries in 25 jurisdictions Four key areas of tax risk identified 1 Reputation risk 2 BEPS and legislation risk 3 Enforcement risk 4 Operational risk www.ey.com/taxriskseries Page 49 Evolving model of IRS examination Reputation risk, base erosion profit shifting risk ► ► 89% of the largest companies surveyed are somewhat or significantly concerned about the media coverage of the taxes some companies are paying or their seemingly low effective tax rates. This is up from 60% in 2011. Conversely, just 9% say they are unconcerned now, compared with 40% in 2011. 65% of the largest companies say they have developed a more structured approach to managing their public tax profile. Page 50 ► ► ► Evolving model of IRS examination 94% of the largest companies having an opinion on the matter think that global disclosure and transparency requirements will continue to grow in the next two years. 74% of the largest companies say they feel that tax administrators are now challenging existing structures due to changes in the law or changes in their enforcement approach. 51% of the largest companies said that, in the last two years, they have experienced an increased focus by the tax authorities in their HQ’s country on the economic and operational substance of foreign entities in their group. Tax enforcement risk, operational risk ► ► ► Transfer pricing is thought to be the highest-perceived tax risk area, followed by indirect taxes and permanent establishment risk. 68% of the largest companies report that they feel tax authorities globally have increased their focus on cross-border transactions in the last two years. 68% of the largest companies report that they feel tax audits have become more frequent or aggressive in the last two years. ► ► ► Page 51 Evolving model of IRS examination Leading sources of operational tax risk for the largest companies (in order of prevalence): ► 75% cited insufficient resources to cover tax function activities ► 64% cited insufficient internal communication ► 57% cited a lack of processes or technology Only 45% of large companies globally have “complete visibility” over open tax audits and disputes globally. 43% of all companies use internally developed software or templates to track open tax audits, while 43% use no technology tools at all. Only 12% use a specialist third-party tool from a vendor or professional services company. Questions? Page 52 EY | Assurance | Tax | Transactions | Advisory About EY EY is a global leader in assurance, tax, transaction and advisory services. The insights and quality services we deliver help build trust and confidence in the capital markets and in economies the world over. We develop outstanding leaders who team to deliver on our promises to all of our stakeholders. In so doing, we play a critical role in building a better working world for our people, for our clients and for our communities. EY refers to the global organization, and may refer to one or more, of the member firms of Ernst & Young Global Limited, each of which is a separate legal entity. Ernst & Young Global Limited, a UK company limited by guarantee, does not provide services to clients. For more information about our organization, please visit ey.com. 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