IRS Offers Amnesty to Users of Complicated Tax Shelter

The IRS is offering high-dollar tax cheats another chance to play “Let’s Make a Deal” in hopes of recovering billions of dollars in lost tax revenue.

The initiative, announced last week, is aimed at thousands of rich taxpayers suspected of improperly avoiding some federal income taxes through a complicated shelter known as Son of Boss.

The scheme involved transferring bond and option contracts between a series of shell companies to provide tax deductions to high-income filers. The ploy also involved funneling taxable income to charities and pension funds that wouldn’t have to pay tax on the money.

It was called Son of Boss because it was a variation on the original “Bond and Option Sales Strategy,” or Boss for short. IRS officials say Son of Boss was used to evade an estimated $6 billion in taxes.

To get that money back, the IRS is using a carrot-and-stick approach. Those who come in now and concede 100% of the tax liability will be allowed to deduct some of their losses and avoid the most severe penalties. Those who don’t, will lose their right to administrative appeals, get no deductions for their costs and face maximum fines.

“The IRS carrot is quite small, but the stick is severe,” said Elliott Kajan, a tax attorney with Kajan Mather & Barish in Beverly Hills. “There will be no avenues to discuss the merits of their positions with the examining agent or at the administrative appellate forum. They must take their position to court if they want relief.”

Participants who don’t come forward will get demand letters disallowing all losses and costs and will be assessed maximum applicable penalties, the agency said.

“Son of Boss deals had only one purpose -- the elimination of tax,” IRS Commissioner Mark W. Everson said in a statement. “We encourage investors in these transactions to settle these disputes now to avoid more severe consequences later.”

The IRS says it gathered information on participants in the scheme, including their names and Social Security numbers, from many of the promoters -- making the chances of tracking them down fairly high.

So why offer amnesty at all?

Partly it’s to save money. The expense of finding and then prosecuting thousands of tax cheats is daunting even for an agency with the IRS’s resources.

“If you look at the effort of trying to chase those people versus opening the door and letting them come in, this makes a lot of sense,” said Charles Rettig, partner with the Beverly Hills tax law firm of Hochman, Salkin, Rettig, Toscher & Perez.

Indeed, both federal and state tax authorities are increasingly fond of limited-time deals that waive penalties for scofflaws willing to fess up and pay back taxes.

Last year, IRS offered a limited amnesty aimed at pulling in people who had participated in abusive offshore shelters. The agency collected $170 million and gathered about 20,000 leads on 479 shelter promoters, with the details of each of their programs.

Those promoters were then pursued and ordered to pony up investor lists, giving the IRS a road map for prosecutions.

California launched a similar initiative in 2003, urging taxpayers who participated in illegal shelters to come clean before penalties increased this year.

The state’s Franchise Tax Board had initially expected that its “voluntary compliance initiative” would generate about $90 million for the cash-strapped state.

When the results were finally tabulated late last month, the net tax collected amounted to a startling $1.3 billion, the FTB said.

“There are a lot of wannabe taxpayers, who just don’t know how to get back into the system,” Rettig said. “When you provide some incentive for people to come forward, you find a tremendous number of folks step up to the plate.”

The amnesty programs preclude promoters from joining in the group absolution, and none promises exemption from criminal prosecution. If authorities learn that a taxpayer participated in outright fraud, he or she can be criminally charged regardless of the waiver of civil penalties.

By and large, the programs also exclude those who already have been identified and contacted. Instead, the initiatives attempt to sweep up the thousands of relatively average taxpayers who were sucked into a shelter that they may or may not have recognized as abusive when they used it. Without the amnesty, authorities would have to find, audit and prosecute these taxpayers -- a process that could take years.

The day after the IRS announced its initiative, pension regulators said they planned to launch a similar program for companies that have failed to tell their workers that their defined benefit pension plans have insufficient money to pay participants.

The Pension Benefit Guaranty Corp., which has a long-standing rule requiring companies to give notice to employees when their pension funding levels fall below certain thresholds, proposed a “voluntary correction program” Thursday.

The agency’s plan is subject to a public comment period. If it goes through, companies will be able to correct past errors before the agency starts collecting increased fines for failure to notify.

Currently, penalties are based on how many days the plan delayed in telling employees of the shortfall. The new program will allow regulators to multiply penalties by the number of people affected, creating a far more significant deterrent for large plans.

Meanwhile, California tax officials, fresh off their victory with the $1.3-billion voluntary compliance initiative, are backing a bill in the Legislature to offer another tax amnesty. Where the last program targeted big-time tax cheats who used corporate and offshore shelters, this one is open to all individuals who may have failed to file or pay back taxes.

The last such broad-sweep amnesty program was launched 20 years ago, and this law would preclude any additional amnesty programs for at least 10 years after this one is finished. That’s to ensure taxpayers won’t think that a better deal might come along later.

“Among all the bad budget news, this is a bright spot,” said California Controller Steve Westly. “The huge success of our amnesty program shows that government can think outside the box.”

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Kathy M. Kristof, author of “Investing 101” and “Taming the Tuition Tiger,” welcomes your comments and suggestions but regrets that she cannot respond individually to letters or phone calls. Write to Personal Finance, Business Section, Los Angeles Times, 202 W. 1st St., Los Angeles, CA 90012, or e-mail kathy.kristof@latimes.com. For past columns, visit latimes.com/kristof.