Buried deep in the Surface Transportation and Veterans Health Care Choice Improvement Act of 2015 is a short, but potent addition to §6501(e)(1)(B) of the Internal Revenue Code, clarifying that “An understatement of gross income by reason of an overstatement of unrecovered cost or other basis is an omission from gross income.” Gone is the argument about what “omit” really means and what it applies to. Instead, the definition is set by statute to pre-empt a common argument regarding whether mis-stating the basis is really an omission.
As a general rule, under §6501(a), a valid assessment of income tax liability may not be made more than three years after the later of (i) the date the tax return was filed or (ii) the due date of the tax return. However, under §6501(e)(1)(A), a six-year period of limitations applies if a taxpayer makes a “substantial omission,” which is an omission from gross income of an amount greater than 25% of the amount of gross income stated in the return. The Supreme Court interpreted the predecessor to §6501(e)(1)(A) and held in Colony, Inc. v. Commissioner[i] that the extended period of limitations applied only to situations in which amounts were omitted from the return and not to situations in which amounts were misreported on the return.
In 2010, the IRS issued Treas. Reg. §301.6501(e)-1(e), providing that any overstatement of basis that results in an understatement of gross income under §61(a) is an omission from gross income that triggers the six-year period of limitations under §6501(e)(1)(A). However, the Supreme Court, in 2012, held in United States v. Home Concrete & Supply, LLC[ii] that an overstatement of basis is not an omission of gross income for purposes of §6501(e)(1)(A) and invalidated a portion of Reg. §301.6501(e)-1(e), resolving a split among various Circuit Courts and the Tax Court. In reaching its conclusion, the Supreme Court found that the Colony decision controlled. The result was a limiting of the I.R.S.’s ability to audit and correct basis misstatements.
If, however, the income reported is more than 25% off the real income, the I.R.S. can extend the statute of limitations to six years instead of the normal three year period. Furthermore, either time period starts from the date the return is filed, not when it is due. Thus, the longer the delay in filing, the farther out the statute of limitation extends.
Congress has been examining basis in a big way these days. In addition to the above ‘redefinition,’ the Surface Transportation Act also required that the basis reported for property received from a decedent must be the same basis used by the recipient when reporting the sale or disposal of the property (there are, of course, allowances for additional costs contributed to the property). As there was no real tracking of the basis of property received from a decedent, the addition reporting under the new §6035 by an estate’s executor means that this information will now be traceable, and enforceable. There are still questions about any de minimis exceptions, and it looks like the requirement to use the same basis may not apply to marital property, but Congress appears intent on income tax enforcement for these types of misstatements.
[i] 357 U.S. 28 (1958).
[ii]United States v. Home Concrete & Supply, LLC, No. 11-139 (U.S. Apr. 25, 2012).
Originally published 11/2/2015.