Today’sCPA NOV/DEC 2012
T E X AS S O C IET Y OF
C E RT I F I E D P U BL IC AC C OU N TANT S
MINIMIZING THE LEGAL RISKS OF CPA PRACTICE Hidden Consequences and Opportunities of Missed Elections Incorporating Excel Arrays Into Your Audit Plan Could Your S Corporation Be a Hobby?
Also: Got Ethics?
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Contents
CHAIRMAN
NOVEMBER/ DECEMBER 2012
VOLUME 40, NUMBER 3
Fred Timmons, CPA
EXECUTIVE DIRECTOR/CEO John Sharbaugh, CAE
EDITORIAL BOARD CHAIRMAN
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Arthur Agulnek, CPA
Staff MANAGING EDITOR DeLynn Deakins ddeakins@tscpa.net 972-687-8550 800-428-0272, ext. 250
TECHNICAL EDITOR C. William Thomas, CPA, Ph.D. Bill_Thomas@baylor.edu
Greta P. Hicks, CPA Mano Mahadeva, CPA, MBA James F. Reeves, CPA C. William (Bill) Thomas, CPA, Ph.D.
WEB EDITOR
cover story 26 Minimizing the Legal Risks of CPA Practice
Wayne Hardin whardin@tscpa.net
CONTRIBUTORS Ali Allie, Melinda Bentley; Jerry Cross, CPA; Anne Davis, ABC; Donna Fritz; Chrissy Jones, AICPA; Rhonda Ledbetter; Craig Nauta; Judy Neathery; Kim Newlin; Catherine Raffetto; Katey Selph; Patty Wyatt
DIRECTOR, MARKETING & COMMUNICATIONS Janet Overton Design/Production/Advertising The Warren Group thewarrengroup.com custompubs@thewarrengroup.com
It’s unlikely a CPA will retire without being sued at least once, but the risks of practicing CPAs can be minimized.
society features 14 Spotlight on CPAs
CLASSIFIED Donna Fritz Texas Society of CPAs 14651 Dallas Parkway, Suite 700 Dallas, Texas 75254-7408 972-687-8501 dfritz@tscpa.net
Safe Harbor – Lubbock Area Professional Thinks Kids Deserve a Chance
19 Got Ethics in TSCPA?
The Professional Ethics Committee and its Role
Editorial Board Arthur Agulnek, CPA-Dallas; Kristan Allen, CPA-Houston; James Danford, CPAFort Worth; Greta Hicks, CPA-Houston; Baria Jaroudi, CPA-Houston; Tony Katz, CPA-Dallas; Jeffrey Liggitt, CPA-Dallas; Mano Mahadeva, CPA-Dallas; Alyssa Martin; CPA-Dallas; Dawne Meijer, CPA-Houston; Ty Moore, CPA-Houston; Jan Taylor Morris, CPA-Houston; Winford Paschall, CPA-Fort Worth; Marshall Pitman, CPA-San Antonio; Mattie Porter, CPA-Houston; Kamala Raghavan, CPA-Houston; James Reeves, CPA-Fort Worth; Barbara Scofield, CPA-Permian Basin; Brinn Serbanic, CPA-East Texas; Paul Willey, CPA-Dallas. © 2012, Texas Society of CPAs. The opinions expressed herein are those of the authors and are not necessarily those of the Texas Society of CPAs. Today’s CPA (ISSN 00889-4337) is published bimonthly by the Texas Society of Certified Public Accountants; 14651 Dallas Parkway, Suite 700; Dallas, TX 75254-7408. Member subscription rate is $3 per year (included in membership dues); nonmember subscription rate is $28 per year. Single issue rate is $5. Periodical POSTAGE PAID at Dallas, TX and additional mailing offices. POSTMASTER: Send address changes to: Today’s CPA; 14651 Dallas Parkway, Suite 700; Dallas, TX 75254-7408.
Today’sCPA
| NOVEMBER/DECEMBER 2012
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30
COLUMN EDITORS
22 Capitol Interest
The Texas Senate Reorganizes
technical articles 30 Missed Elections: The Hidden Consequences and Opportunities
Timely returns are important, even when no taxes are due.
32 Incorporating Excel Arrays into Your Audit Plan
How to utilize Excel to its highest potential.
35 CPE: Could Your S Corporation Be a Hobby?
S corporations are subject to hobby loss rules.
columns 5 Chairman’s & Executive Director’s Message
An Update on Private Company Financial Reporting – The Private Company Council
6 Tax Topics
Hottest Topic on the Web? Information Reporting … Here’s Why
8 Business Perspectives
Building Board Success
9 Accounting and Auditing
New Impairment Guidance for Indefinite-Life Intangible Assets
10 Emerging Issues Reimagine ... (Part Two)
12 Chapters
Chapter Presidents-elect Orientation
departments 16 Take Note 42 Classifieds 44 CPE Calendar 3
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Chairman’s & Executive Director’s Message By Fred Timmons, CPA | TSCPA Chairman & John Sharbaugh, CAE | TSCPA Executive Director/CEO
An Update on Private Company Financial Reporting – The Private Company Council In May 2012, the Financial Accounting Foundation (FAF) announced its decision to create the Private Company Council (PCC). The PCC is based on the body proposed by FAF in October 2011 to settle differences in U.S. generally accepted accounting principles (U.S. GAAP), where appropriate, for privately held companies. The PCC will determine whether modifications or exceptions to existing nongovernmental U.S. GAAP are required to address the needs of private company financial statement users. Before being incorporated into U.S. GAAP, PCC recommendations will be subject to a FASB endorsement process. To give you some history behind the creation of PCC, in 2009 AICPA, FAF and the National Association of State Boards of Accountancy (NASBA) established a blue-ribbon panel to address how U.S. accounting standards can best meet the needs of users of private company financial statements. After receiving the panel’s report in January 2011, FAF gathered input from a number of stakeholders, including a letter written from TSCPA’s Executive Board. A majority of stakeholders agreed with the panel that action needed to be taken to make private company financial statements more relevant, less complex and cost beneficial. In the fall of 2011, FAF released its proposal, but it did not include the creation of an independent standard-setting board, which was the cornerstone of the blue-ribbon panel’s recommendations. While the proposal did include the creation of the Private Company Standards Improvement Council (PCSIC), any
proposed changes to existing U.S. GAAP would be subject to ratification by FASB. TSCPA, AICPA and other stakeholders had significant concerns about the proposal. In November 2011, TSCPA sent a second letter to FAF expressing support for the blue-ribbon panel’s recommendation that FAF create an independent standard-setting board. In fact, FAF received thousands of comments from AICPA, the state CPA societies, the Institute of Management Accountants, and other accounting organizations pushing for the new council to have greater independence from FASB. Then in May 2012, FAF voted to create the Private Company Council (PCC) to identify and vote on differences in U.S. GAAP for private companies, and FASB will be responsible for “endorsement” rather than “ratification” of the council’s decisions. The final report covered the responsibilities of the new council. The report is available on FAF’s website. The FAF Board of Trustees issued a call for nominations for PCC chair and members. Members of PCC, including the chair, will be appointed to an initial term of three years, with each member eligible for reappointment. In September 2012, Billy Atkinson, CPA-Houston, was appointed to serve as the chairman. He was nominated by TSCPA,
Fred Timmons will share some interesting stories or facts about Texas in each issue of Today’s CPA during his year as TSCPA chairman. 1. Sam Houston is the only person in U. S. history to have been the governor of two different states, Tennessee and Texas. 2. In 1933, the Lone Star Flag became the official flag of Texas. The pledge of allegiance to the Texas state flag is: “Honor the Texas flag; I pledge allegiance to thee, Texas, one state under God, one and indivisible.” 3. With 38,000 rose bushes, the Municipal Rose Garden in Tyler, Texas has the largest collection and variety of roses in the world. NASBA and the Texas State Board of Public Accountancy. Atkinson has been a TSCPA member for 36 years and has served on various statewide committees, including the Executive Board and Board of Directors. He also served as chairman of NASBA from 2009 to 2010. He retired from accounting practice after working for 39 years at PricewaterhouseCoopers, LLP, where he served as an audit partner and a risk management partner in the firm’s private company services unit. Atkinson said the standard known as FIN 48, Accounting for Uncertainty in Income Taxes, would be among the first issues discussed by PCC. We are pleased that Atkinson has been appointed to this important role, and we look forward to the new PCC beginning its work on this critical issue for private companies, the users of their financial statements, and the CPAs who serve them. More information on private company financial reporting and PCC can be found on AICPA’s website at aicpa.org and FASB’s website at fasb.org. TSCPA will continue to keep you informed on the progress of PCC efforts through our various communication vehicles, including your weekly electronic Viewpoint. tscpa newsletter and Today’s CPA magazine. ■
Fred Timmons can be contacted at ftimmons@tbsacpa.com. John Sharbaugh can be contacted at jsharbaugh@tscpa.net.
Today’sCPA
| NOVEMBER/DECEMBER 2012
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Tax Topics By Greta Hicks, CPA | Column Editor
Hottest Topic on the Web? Information Reporting … Here’s Why In reviewing CPE offerings, articles and announcements, the topic of preparing Forms 1099 and Form W-9 occurs more often than other tax related subjects. One reason may be that there has been little tax legislation the past two years, but the more likely reason is the Internal Revenue Service’s continued, increased and renewed emphasis on perfecting the information reporting system. The long-term goal of the IRS is to have a tax system that is designed to enable the IRS to calculate the tax based on the W-2s and information documents it receives. If looking at the increased number of times information reporting has been included in recent tax bills, it is easy to see the direction the IRS and Congress are heading. Please see: • Energy Improvement and Extension Act of 2008, PL 110-343, IRC 6045, • Housing Assistance Act of 2008, PL 110-289, and • Protection and Repayment of Exchange Subsidy Overpayments Act of 2011. The chairman of the Information Reporting Program Advisory Committee (IRPAC) confirms this hypothesis in their most recent report, “As legislative action places increased focus on information reporting and its key role in closing the tax gap and bringing all taxpayers into compliance with ever-increasing complex tax laws …” A copy of the 2011 IRPAC Public Report is available on the IRS website at www.irs.gov. Two key phrases in the chairman’s statement are “closing the tax gap” and increasing “compliance.” Information reporting is one of the key tools used to meet these two IRS goals. Generally, the taxpayer is the person responsible for securing Forms W-9, as well as preparing Form 1099 and the information on the income tax return, but by placing more far-reaching changes to income tax forms and Circular 230, new responsibilities have been placed on the paid return preparer. For example, the tax forms have the following questions: • Did you make any payments in 2012 that would require you to file Form(s) 1099? • If yes, were they filed? • If blank or no, would you think that the IRS computer would select this entity audit? o Or, the audit of all clients of that preparer? o Or, a query from the Return Preparer Office or the
Office of Professional Responsibility (OPR)? Per IRS News Release, IR-2010-107, the Return Preparer Office works in partnership with the Office of Professional Responsibility. Circular 230, §10.22, Diligence as to accuracy, states: “A practitioner must exercise due diligence – In determining the correctness of oral or written representations made by the practitioner to clients with reference to any matter administered by the Internal Revenue Service.” Historically, the IRS has led paid preparers to believe that they are not required to audit the client before preparing a tax return. Has that practice changed? The IRS is now going door to door and reviewing a return preparer’s records to verify that “due diligence” has been practiced. The IRS is looking to see if we made what they consider the proper follow-up questions to client-submitted documents. The IRS is calling these visits the “IRS Return Preparer Initiative.”
FOCUS IS ON PREPARERS In November 2011, the IRS sent out more than 21,000 letters to tax return preparers nationwide to remind them of their obligation to prepare accurate tax returns on behalf of their clients. During the 2012 filing season, “IRS representatives visited approximately 2,100 tax return preparers who received the above letters to further discuss their responsibilities as a return preparer and to verify their compliance with existing return preparer and e-file requirements.” The IRS stated the focus of these visits was: “on the return preparer’s activity; not on the taxpayers’ reporting compliance. The IRS is inspecting the taxpayers’ returns to ensure the tax return preparer’s compliance with the preparer requirements under the Internal Revenue Code (IRC) and related regulations. Taxpayers generally will not be contacted as a result of a return
Greta P. Hicks, CPA, is a consultant on IRS problems, seminar discussion leader, author of continuing education courses and web content provider. She can be reached at gretahickscpa@yahoo.com or www.gretahicks.com.
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Today’sCPA
| NOVEMBER/DECEMBER 2012
Get More For Your Money preparer visit. Taxpayer contacts resulting from these visits will be to confirm potential violations by the return preparer that may result in the imposition of penalties against the tax return preparer.” The IRS believes: “tax return preparers should understand the underlying substantive law affecting an item of income or deduction. Tax return preparers must exercise due diligence in preparing or assisting in the preparation, approval and filing of returns, documents, affidavits or other papers relating to IRS matters. Tax return preparers also must exercise due diligence in determining (1) the correctness of oral and written representations made by the tax return preparer to the IRS, and (2) the correctness of representations made by the tax return preparer to the client with reference to any matter administered by the IRS. A tax return preparer must make reasonable inquiries if the information as furnished appears to be incorrect or incomplete.” Additionally, the IRS sends out warning letters to those paid preparers who do not submit Form 8867 with earned income tax credit (EITC) returns. “Penalties will be assessed for 2012 returns.” Note: The due diligence requirements for the EITC are greater than normal due diligence during return preparation. An online EITC Due Diligence training module is available to help paid preparers avoid penalties.
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MORE DISCLOSURE An additional disclosure form has become a part of the return preparation process and thereby a part of the return preparer’s due diligence requirements. Unlike Form TD F 90-22.1, Foreign Bank and Financial Account Report, which is filed separately in June, the Form 8938, Statement of Specified Foreign Financial Assets, is submitted, when applicable, as a part of an income tax return package and thereby becomes a part of the preparation process. The IRS has announced that it plans to continue the Return Preparer Initiative during the 2013 filing season. Potential Issue: The IRS will request that preparers have available tax forms that they prepared in 2012 for their clients along with related workpapers. Attorneys and CPAs are discussing the possibility of unauthorized disclosure of confidential tax information occurring during this IRS visitation. Consult with your attorney regarding this potential issue. Resources available on www.irs.gov include: • Third Party Reporting Information Center, • Reporting Program Advisory Committee Public Report (IRPAC), • IRS Letters and Visits to Return Preparers – FAQs Filing Season 2012, and • EITC Due Diligence Training. ■
Today’sCPA
| NOVEMBER/DECEMBER 2012
Choose from a robust curriculum of 30+ webcast topics each month and 1000+ hours of self-study. www.cpelink.com/value-pass or call 800-616-3822.
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Business Perspectives By Mano Mahadeva, CPA, MBA | Column Editor
Building Board Success The board of directors’ purpose is to represent the shareholders’ best interests. They get involved with investments, acquisitions, CEO compensation, tender offers, and company audits. They provide a set of checks and balances by offering safeguards and oversight over the activities of management. They establish policies and make significant strategic choices. Simply, they are responsible for the performance of their companies. Company scandals in Europe and the U.S. in recent years, and new challenges to executive authority, have altered attitudes regarding corporate governance. Progress has been made in the area in recent years due to new reporting requirements by regulators, stakeholder demands, and requirements of the stock exchanges. Several initiatives are presently underway as part of corporate governance reforms with a focus on items such as audit committees, the separation of duties, independence and on executive compensation. But boards can be ineffective for many reasons. Board members depend on management for information as they work toward common goals. A demanding demeanor regarding information or accountability can create an unpleasant working relationship, so there is a possibility of conflict avoidance. Board members may be close to managers in that they socialize in the same circles and are more friends than partners. The lack of time commitment and the lack of attention to board matters due to other conflicts may mean a rubber stamp on management recommendations. Some boards may have board members who are not “independent” or may have conflicts of interest. Then there are those CEOs who play musical chairs by sitting on each other’s boards! Dealing with the complexity of present day uncertainty has never been more tested or more dependent on effective leadership. And great boards don’t just happen! It takes work to create an effective board. This work begins with a diligent plan to recruit the right members,
who have the requisite characteristics to serve on the board. These individuals make the critical decisions that are best for the long-term interests of the stakeholders. To make the critical decisions, these individuals need to possess the following attributes – the ability to see and create the big picture; a willingness to spend time to fulfill board responsibilities; being respectful of, and working well with, others; being very familiar with the company mission and its workings; and having the ability to serve and promote the company with integrity. Following are some guidelines to help recruit the right individual to your board. Establish the criteria in writing – What qualifications do candidates need to possess (knowledge, skills and abilities)? These written criteria become a job description to guide board members regarding the board requirements. Identify potential candidates – Establish a process for disseminating criteria among board members, professional organizations, the larger community and its leaders, outside recruiters, etc. Interview the finalists – Evaluate the pool of nominees and select those who may match the criteria established. The nominating committee should interview these candidates and come up with a short list. Nominees meet the board and senior management – This is a critical step in the process. It provides an opportunity for the nominee(s) to visit with potential colleagues and to reevaluate their positions. It also provides other members
of the board and senior management the opportunity to share their thoughts and observe nominees. Obtain reference and background checks – Here is an opportunity to look into examples of leadership, ethical courage, issues with regulatory agencies, time commitments, energy, follow through, consistent values and other such items. Require board orientation and training – This is critical in the recruitment process. Besides reviewing the company and its business, the nominee(s) and nominating committee should spend time reviewing board member individual expectations and the collective board expectations. It is important that the nominating committee discuss board policies, and emphasize the company code of ethics to include the “tone” of the board. There should be a discussion and explanation about how the present board evaluates its governance. The nominee should inquire and fully understand personal and board liability. In summary, the nominee should fully comprehend board roles, board tasks and liabilities before acceptance to serve. Explain the process, conduct and outcome for board member evaluations – Discuss criteria that will be assessed, how evaluations will be conducted and their frequency. If the results indicate that a committee or an individual board member is not performing, this would be the time to discuss changing behavior or in some cases removing a board member. A diverse, committed group of directors is critical to an effective organization. It is essential that we determine the characteristics needed in each board member and recruit individuals who possess them. Recruiting is every board member’s responsibility, not the nominating committee’s alone! Clearly defined responsibilities, unambiguous communication, ongoing training and education, and honest self evaluation will help make the organization’s board of directors a successful group. n
Mano Mahadeva, CPA, is executive director with U.S. Oncology in Plano. He serves on both the Editorial Board and the Business and Industry Issues Committee for TSCPA. Mahadeva can be reached at mano.mahadeva@usoncology.com.
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Today’sCPA
| NOVEMBER/DECEMBER 2012
Accounting and Auditing By C. William (Bill) Thomas, PA, Ph.D. | Column Editor
New Impairment Guidance for Indefinite-Life Intangible Assets The Financial Accounting Standards Board (FASB) has recently issued Accounting Standards Update 2012-02 titled Intangibles-Goodwill and Other (Topic 350): Testing Indefinite – Lived Intangible Assets for Impairment. The guidance applies to all public, private and not-forprofit entities, and serves to provide a more cost effective, simplistic and consistent way to apply the impairment test for indefinite-life intangibles. Examples of these assets include trademarks, licenses and perpetual franchises. This Accounting and Auditing column provides an overview of the new guidance, examines FASB’s reasoning and examines the impact on preparers. Under the current guidance, entities carrying intangible assets are required to annually test for impairment by comparing the carrying amount of the asset with its fair value. If the carrying value exceeds its fair value, an impairment loss is recorded for the difference. Over the past year, the preparers of financial statements, along with other stakeholder groups, have voiced concerns that the current guidance is too costly and complicated. The inputs used in determining fair values can be expensive and difficult to obtain as they are typically not readily available to the entity. Moreover, entities also find it costly and wasteful to test for impairment when there is no evidence to suggest that the fair value differs from the carrying amount. In responding to these concerns, FASB’s guidance provides a more cost-effective way to test for impairment. Before the issuance of this Accounting Standards Update, indefinite-life intangibles were the only long-term assets required to quantitatively test for impairment losses on an annual basis. FASB had recently issued amendments in Update 2011-08 to simplify goodwill impairment testing by first allowing entities to evaluate qualitative factors in assessing impairment. Thus, FASB aimed
to simplify impairment testing across both goodwill and indefinite-lived intangible assets with the issuance of this update.
AMENDED GUIDANCE The amendments to the standards allow for preparers to first look at qualitative factors, discussed below, in assessing whether it is more likely than not the intangible asset is impaired. “More likely than not” refers to situations in which a greater than 50 percent chance exists that the asset is impaired. If the qualitative factors lead the entity to believe the asset is impaired, the loss is calculated per usual by comparing the carry amount with its fair value (Subtopic 350-30). As a result, the new accounting basis for the asset is the adjusted carrying amount. However, no further action is required of the preparer if the qualitative assessment shows a less than 50 percent likelihood that the asset is impaired. Thus, no fair value need be calculated nor impairment loss recorded. FASB hopes that this will lessen the cost and complexity on entities whose indefinite-life intangible assets have likely not changed in value. Companies have the option of adopting the guidance in this update. If not wanting to consider qualitative factors in assessing impairment, an entity can choose to only quantitatively assess impairment. However, most preparers will find it beneficial to adopt the guidance in this standard.
QUALITATIVE FACTORS FASB has provided a list of various qualitative factors used in impairment assessment. Although not exhaustive, the list points preparers towards relevant events and circumstances that could potentially impact the inputs used to determine the fair value of the indefinite-life intangible assets. Examples include the following: a. increases in costs, such as raw materials and labor, plus other costs that could have a negative effect on future expected earnings; b. declines in financial performance measures; c. legal or regulatory factors that could affect inputs used to determine fair value; d. company specific events, such as changes in management, strategy, customers or possibilities of bankruptcy; e. industry considerations, such as changes in demand for products, increased competition or industry stability; f. changes in economic conditions; g. an entity’s recent fair value calculation for an indefinite-lived intangible asset; and h. any changes in carry amounts of the intangible assets. An entity should evaluate the preceding list of relevant events and circumstances in determining the likelihood that the assets are impaired. However, preparers evaluate several different inputs in determining the fair value of their indefinite-life intangible assets. Thus, entities should consider all qualitative factors relevant to their assets in evaluating the impairment. This might entail considering other events and circumstances not mentioned in the above list. Companies adopting this guidance will find a less complicated and burdensome way to assess impairment for indefinite-lived intangible assets. ■
C. William Thomas, CPA, Ph.D., is the KPMG/Thomas L. Holton Chair and the J.E. Bush Professor of Accounting in the Hankamer School of Business at Baylor University in Waco. Thomas can be reached at Bill_Thomas@baylor.edu.
Today’sCPA
| NOVEMBER/DECEMBER 2012
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Emerging Issues By James F. Reeves, CPA | Column Editor
Reimagine … (Part Two in a Series) I suppose we all have a handful of influencers and commentators to whom we habitually pay attention. I make it a point to read all of David Brooks’ and Thomas Friedman’s columns in The New York Times, not that I always agree with them, but I like their choice of topics and how they present their positions in a well-reasoned way. Similarly, I make it a point to read Peggy Noonan’s column every Saturday in The Wall Street Journal. When it comes to technology trends and where things are headed, two names that grab my attention are Marc Andreessen and Mary Meeker. CLAIRVOYANCE IN THE TECH WORLD
Today, Andreessen runs a venture capital firm in Silicon Valley that boasts Facebook, Groupon, Skype, Twitter, Zynga and Foursquare among its investments, although he is better known for inventing Mosaic, the first web browser, as a 22-yearold undergraduate at the University of Illinois. He went on to commercialize the concept at Netscape, whose IPO set off the dot-com boom of the 1990s. Andreessen recently published an essay in The Wall Street Journal titled “Why Software is Eating the World,” which, needless to say, captured my attention. His point was that we are in the middle of a dramatic technological and economic shift that is poised to transform major sectors of the economy. Examples he cites include the impact of Amazon on Borders, Netflix on Blockbuster, and iTunes, Spotify and Pandora on the traditional record labels. Each of these involved software companies disintermediating traditional business models. Other examples Andreessen cites include Pixar forcing Disney to acquire it to remain relevant in animation; Shutterfly, Snapfish and Flickr ultimately forcing Kodak out of business; Skype forcing the transformation of AT&T’s and Verizon’s business models; and LinkedIn’s impact on the recruiting industry. Additional examples are obvious –
Travelocity, Orbitz and other travel sites’ impact on the airline industry; first Encarta’s and later Wikipedia’s impact on Encyclopedia Britannica; and Craigslist’s impact on the Yellow Pages. The oncethriving information industry, if you think of it as newspapers, magazines, and printed books and textbooks, is now cited by State Comptroller Susan Combs as among the worst performing industries in Texas. Andreessen suggests that health care and education are next up for fundamental software-driven transformation. Mary Meeker, who gained notoriety as a Morgan Stanley Internet evangelist during the dot-com boom, is now a partner at the high-profile Silicon Valley venture capital firm Kleiner, Perkins, Caufield, and Byers. Each year, she delivers an Internet trends report widely regarded as the leading analysis of things to come driven by technological innovation. Her 2012 report, presented at the WSJ “All Things Digital” conference in May, amplified Andreessen’s theme of creative destruction. Pointing to the growing number of people globally connected to the Internet and compounded by the growth of mobile computing, Meeker cites over 50 examples of existing businesses and industries being transformed by digitally driven business models, including
Editor’s Note: This November/ December 2012 issue of Today’s CPA includes the 100th column written by James F. Reeves, CPA. TSCPA thanks Reeves for his work and insightful commentary that enhances the quality of Today’s CPA for the Society’s membership. shopping, banking and job hunting, with many others potentially vulnerable to being fundamentally disrupted by technology. Her report, available at www. kpcb.com, uses the term “reimagine” as the underlying message to business owners, executives and investors to rethink existing business models, concluding with the admonition “we are still in spring training,” meaning that what we are seeing today is merely the cusp of what we are about to see, as up to $36 trillion in market cap of global public companies is vulnerable to disruption. “The magnitude of upcoming change will be stunning,” suggests Meeker, with the financial, consumer staples, information technology, energy, consumer discretionary, and health care industries among the most vulnerable. Meeker’s suggestion to “reimagine nearly everything” hits particularly close to home for me. If we reimagine the information industry that Comptroller Combs cites as one of the worst performing industries in Texas to include websites, blogs, social networks, content aggregators, podcasts, RSS feeds, video and semantic technologies, we see an industry being transformed in a very fundamental way, as information is now being created for search engine optimization and to share, not merely to be consumed.
THE COMING TSUNAMI Of particular interest to Texas CPAs will be the changes happening in higher
James F. Reeves, CPA, is Senior Vice President, New Product Development at the Tax and Accounting business of Thomson Reuters. Contact him at jim.reeves@thomson.com, or visit his blog at http://jamesfreeves.blogspot.com.
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education, both college and post-college education, as students triangulate on the chasm between the cost of education, what they can afford and are willing to pay, and the ultimate return on investment. At some point, the status quo will become unsustainable, and part of the solution inevitably will be virtual courses and perhaps even virtual degrees. This evolution has already begun. It first caught my attention when my daughter announced she was moving to Austin for graduate school – not at the University of Texas, but at Vanderbilt where she received her undergraduate degree. That’s Vanderbilt, in Nashville, Tennessee! She viewed lectures online and traveled to Nashville once a month for group work and personal interaction with her professors. And her grades actually improved! Commonly known as blended learning, the goal is to reach a broader student audience, better address student needs, save money, and deliver customized curriculum to the individual student, who can learn at his/her own pace. University of Texas System Chancellor Francisco Cigarroa recently presented his vision for the U.T. System, where universities leverage technology to facilitate language learning, writing skills, research and communication. He refers to a report published by Education Secretary Arne Duncan, citing evidence that teachers are more effective when they incorporate digital content and online learning systems into everyday classes. For this reason, the University of Texas is in negotiations with online learning companies Coursera and edX, two of the more notable distributors of online course content. Coursera is a for-profit, venture capital funded startup that lists Stanford, Princeton, Penn, Cal Tech, Duke, Johns Hopkins and Rice among the institutions it has signed up to distribute their courses. EdX, on the other hand,
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is a not-for-profit started by Harvard and MIT, each of which investing $30 million in the venture. For the most part, courses offered by these new companies are free and not offered as part of a degree program, but showcase prominent professors and enroll tens or even hundreds of thousands of participants from around the world who sign up for a course for the sole purpose of learning. The universities get to showcase their course offerings and undoubtedly get a PR benefit and a recruiting tool; the professors enhance their reputations on a global scale; and the students get the opportunity to learn from some of the world’s most renowned professors and enhance their skills. Coursera was co-founded by two Stanford professors who had noticed something remarkable. A hedge fund manager named Salman Khan had uploaded several short videos of himself explaining algebra concepts to YouTube for his young cousins. The videos became a global phenomenon with millions of viewers, leading Khan to start Khan Academy with a mission to provide a free, world-class education to anyone, anywhere, and secure financial backing from The Gates Foundation. The Stanford professors launched three online computer science courses and saw 300,000 students register to take them within a month with no marketing, prompting Stanford President John Hennessy to remark, “There is a tsunami coming” in a recent interview in The New Yorker. The courses offered by these new providers include video clips of short lectures, PowerPoint slides, interactive quizzes, auto-graded exercises, discussion forums where students can vote relevant questions up or down and provide student-to-student help, and typically lead to a certificate of completion. Many of the students are professionals trying to expand their
skills, according to a recent article in The Atlantic, but participants also include teenagers, college students and retirees. They not only like the price tag, but also the instant feedback and the fact they can learn on their own timetable. This new format has already garnered a new moniker – MOOC – massive online open classroom.
ON CPAS’ HORIZON Why should we as CPAs care? After all, almost two thirds of us are baby boomers with retirement on the horizon. For one thing, we’re looking at an evolving industry that one way or another will produce the new entrants into our profession – our staff, future partners and clients. For another, this is the future learning environment for our children and grandchildren. I expect we’ll see technological advances impact learning from K-12, through college and graduate school, to ongoing, lifelong learning (aka CPE), which is one of the core values of our profession, as recently reaffirmed in AICPA’s CPA Horizons 2025 project. No doubt, the financial models are still evolving, and nobody is suggesting online learning will totally replace the classroom. By all accounts, the most effective learning environment is a blended learning environment whereby the online component helps create knowledge and forces the institutions, teachers and professors to focus on the higher value aspects of the learning process, including tutoring, conversing and group projects.
RESCRAMBLING David Brooks recently observed in a New York Times column: “What happened to the newspaper and magazine business is about to happen to higher education, a rescrambling around the web.” That’s probably pretty accurate – a rescrambling of an industry, and this one too hits pretty close to home. n
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Chapters By Rhonda Ledbetter | TSCPA Chapter Relations Representative
Chapter Presidents-elect Orientation
Linda Johnson and James Larkin, CPA, Brazos Valley Chapter; Rebekah North, CPA, Central Texas Chapter
TSCPA and its chapters are intertwined. Society leadership often grows from chapter leadership. As a result, it’s only natural that former chapter presidents come together within TSCPA to plan and lead an annual orientation event for presidents-elect. Volunteers travel from around the state for the day. They get – and share – information about how to lead a chapter. There is the very practical: a year of tasks organized by month; a list of the services TSCPA offers its chapters; tips on getting and keeping volunteers; student member involvement ideas; PAC do’s and don’ts; and much more. Participants go home with a
Teri Reinert, CPA, and Josh Lucas, CPA, El Paso Chapter; Jeff Marshall, CPA, South Plains Chapter
binder full of useful material, including a condensed guide to Robert’s Rules of Order. The emphasis is on arming presidentselect with tools they’ll need as chapter leaders and also in other volunteer roles. CPAs are active in civic organizations, school boards, church finance committees, etc., and find their TSCPA training valuable for years to come. Many are attending their first statelevel meeting, and leave astonished and energized. Everyone has that “first day of school.” Even as adults, they still have those moments of shyness and apprehension about the unknown. Once they get there, first-timers are comforted to find that there are others who are new too. It also helps to meet the steering subcommittee members conducting the event, all former chapter presidents themselves, some who attended it as their first TSCPA gathering several years ago. Participants have the opportunity to get to know the TSCPA chairman-elect. Most of the time, that person has been a chapter president, so there are experiences to share. The Chapter Presidents-elect Orientation was one of the first Society meetings that
TSCPA Treasurer-elect Jeannette Smith, CPA-Rio Grande Valley, attended. She says: “The orientation process provided a practical approach to leading my chapter. The material provided was easy to reference as I began to prepare. It was very important to me to figure out how we could get our local members to participate. Listening to the others attending, I realized that I was not the only one with this dilemma. I was able to take back proven solutions for how to get volunteers, how to raise money for scholarships, and more. Also, because those at the presidents-elect orientation come from all types of practice areas, I left with some good ideas about how to involve business and industry members in our chapter, which had been more focused on public practice needs.” Smith continues: “That event helped me in my journey toward becoming a TSCPA leader. It brought together all the aspects of serving at my chapter, while getting me interested in moving up at the state level. It showed me there will be guidance and assistance to help me be involved without fear.” Comments current Executive Board member Jesse Dominguez, CPA-Austin, a member in industry: “The most memorable aspect about the presidents-elect orientation was getting to meet so many other involved CPAs from around the state. It enabled me to develop some great relationships and friendships. In addition, the ability to glean
Tom DeGeorgio, CPA, Houston Chapter and Robin Christian, CPA, Fort Worth Chapter
Rhonda Ledbetter is the TSCPA chapter relations representative. Contact her at 972-687-8508 or at rledbetter@tscpa.net.
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information and start planning for the next year. We received insight into the tasks necessary to accomplish our chapter’s goals. This helped me polish my leadership skills and contribute to my chapter’s success. The presidents-elect orientation also provided a forum for us to network with volunteers and staff from TSCPA chapters of different sizes Emily Knopp, CPA, and Joan Schwartz, CPA, San Angelo Chapter and from the state level.” “The presidents-elect information from CPAs with expertise in orientation was absolutely one of the their respective fields brings greater value most useful meetings I attended in the to my involvement and increases my value year leading up to chairmanship of my to my employer as well. We are very much chapter,” states TSCPA Chairman-elect a diverse group of people with a variety of Willie Hornberger, CPA-Dallas. “One of interests and talents.” the highlights of the day was the training Although she had already been active I received on ways to maximize publicity as a member of key TSCPA committees for chapter events and on dealing with the before becoming chapter president-elect, media.” He continues: “I was able to meet Edie Cogdell, CPA-San Antonio, found fellow chapter leaders from across the the event worthwhile. “I really valued the state, share ideas, obtain invaluable advice opportunity to attend with my chapter’s from staff, and see firsthand how TSCPA executive director. We worked with our functions. I got to know other members in peers in a small, informal setting to gain an informal environment so that I could call
them later for ideas and advice on proposed projects and issues. Many of the people I met at this meeting I now call friends and I enjoy catching up with them every time we have a TSCPA meeting.” Sometimes the full value of the event isn’t realized until later. Charlotte Jungen, CPASoutheast Texas, a current Executive Board member, recalls: “Because of Hurricane Ike, I wasn’t able to attend the orientation the year I was president-elect. I didn’t think I had missed much because I got the manual for chapters by mail and figured I had all the information I needed to have a successful year. It wasn’t until I was there as a member of the steering committee that I realized all I had missed out on.” She continues: “The panel discussion with past presidents is particularly helpful because you can get some great ideas from other chapters – anything from successful fundraising ideas to CPE speakers/topics, membership recruitment, student activities, etc.” TSCPA works hard to help its leaders be successful in all levels of the Society and to provide them with skills to contribute to any organization in which they serve. Get involved and take advantage of a great opportunity! For contact information, go to the Chapters section at tscpa.org. ■
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Spotlight on CPAs By Anne McDonald Davis, ABC
Safe Harbor – Lubbock Area Professional Thinks Kids Deserve a Chance Sam Hawthorne, CPA-South Plains, is a lawyer and an accountant, but he says his volunteer work for the past 13 years on behalf of area kids is less professional consultation and more a contribution as “a citizen and a father.” He adds, “As a Christian, I especially think I have a charge to help orphaned, abandoned, abused children. You really count your blessings when you realize the chances you’ve had that some don’t.”
Sam Hawthorne with his son JD, wife Thresa, and daughters Kara and Katie at a World Series game.
Hawthorne has spent his career since graduating from Texas Tech School of Law with his South Plains firm, now Field, Manning, Stone, Hawthorne and Aycock; his primary practice is in the areas of business law, tax law, and trusts and estate law. The son of a farmer who worked the land between Plains, Texas, and Lovington, New Mexico, he appreciates that a number of his clients today are farmers and ranchers. In the
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traditional agricultural, family-oriented community of Lubbock, there is an especially stark contrast between the quiet home life of many residents and youngsters who have lived without that nurturing and protection. “We all have a responsibility to help our communities, to give back in whatever way we can for all the advantages and opportunities we’ve been given. Pitch in and do our part,” Hawthorne says quietly.
The children/family organizations that Hawthorne has worked with include the Children’s Home of Lubbock, Women’s Protective Services, Texas Boys Ranch and New Mexico Christian Children’s Home. He also serves or has served on the boards of other area entities including his children’s school, Kingdom Preparatory Academy, and Covenant Health System, Lubbock Methodist Hospital System and the Lubbock Area Foundation. It’s quite a juggling act at times with his busy practice and active family. Hawthorne credits his wife, Thresa, with managing the balance. A registered nurse staying home with the kids now, “she keeps us all going” he asserts. A bona fide baseball family (well, softball too), the Hawthornes cheer on the Rangers in between their own games. Currently, dad is a coach for his nine-year-old son JD’s team, as well as treasurer for Lubbock’s Southwest Little League; daughters Katie, 11, and Kara, six, also take their turns at bat on girls’ teams. In addition to encouraging his children’s joy in sports, coaching and volunteering for their local Little League chapter is another opportunity to support local youth and provide a positive outlet for them. “Little League is a great youth organization that is available for any child who wants to play, from beginners to seasoned players,” enthuses Hawthorne.
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Sam Hawthorne fishing with his daughter Katie.
So how does a typical week shape up these days? “No down time!” he smiles. “I’m either at work or going to a board meeting … or to one of our kid’s activities with sports and school.”
FINDING A PATH Before Hawthorne decided on becoming a CPA and then a lawyer, he had other ideas. He seriously considered engineering until he took his first classes in business and accounting and felt “drawn in that direction.” At a small liberal arts school, College of
the Southwest (now University of the Southwest), Hawthorne found a “good school, good professors and mentors, such as John Funk, CPA, and attorney Scotty Holloman.” There he received his BBA in accounting, but it would be after he graduated summa cum laude from law school before he sat for the CPA exam in the late ’90s. “Luckily, I was still in ‘study’ mode,” he concedes. “It can be hard if you wait.” The Lubbock CPA/attorney finds his area of practice a good fit for a person of his nature: “I enjoy planning for both my client’s personal and business needs, looking out for the next generations. I help them accomplish goals in a collaborative environment. There’s not as much conflict and controversy as in the litigation side of law; it’s more of a building process.” A TSCPA member from the beginning of his professional career, Hawthorne has also enjoyed getting involved with his
local chapter, having served as a chapter officer and director. And after all that … there’s just enough time left to go fishing. “In Colorado,” Hawthorne elaborates. “Trout. Both fly fishing and spinner bait.” The whole family? He assures, “The whole family.” More often than not, he says, daughter Katie usually takes home family bragging rights for the biggest catch of the trip. There is an enveloping paternal sense about Sam Hawthorne. It is reflected in his desire to protect his clients and their families, his concern for disadvantaged young people, his devotion to community, his delight in his wife and children, and his deeply held spiritual beliefs. ■
Sam Hawthorne coaching his son’s Little League team.
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Today’sCPA
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Take Note
CGMA Global Economic Forecast Released for Q3, 2012 The CGMA global economic forecast released by AICPA and CIMA is a quarterly report that captures the views of CGMA management accounting professional decision makers from around the world on global economic conditions and current topical issues. Since it is based on the views of senior business executives from around the world, it provides a bellwether of the health of the corporate sector and of the wider global economy. Global executives have become slightly less concerned about the future impact of the global economy on their businesses, as domestic concerns such as regulation and access to finance emerged. The overall reading of the CGMA Global Economic Index was unchanged between the second and third quarters. Optimism about respondents’ own organizations stabilized in the third quarter, continuing to be stronger than the outlook for the global and local national economies as a whole. You can read and download the report on the CGMA website. It is available at cgma.org/Resources/Reports/Pages/ GlobalEconomicForecast.aspx.
Ask a Member Program Through TSCPA’s Ask a Member resource, you can connect with other members for informal consultation when you have questions, concerns or situations that arise and might be outside your area of expertise. Ask a Member program volunteers provide quick, informal assistance on an “as needed” basis, giving you access to the knowledge and experience of other Texas CPAs. It’s an additional resource that TSCPA offers to help you with your professional needs. To access it, go to the Resource Center at tscpa.org, then scroll down and select Ask a Member. On the site, you can select a technical area from the list provided to view members who have volunteered to provide assistance.
Submit an Article to Today’s CPA Would you like to see your name in print? The editors of Today’s CPA are seeking article submissions for the magazine. Today’s CPA is a peer-reviewed publication with an editorial board consisting of highly respected CPA practitioners. To submit an article for consideration or to learn more, please contact managing editor DeLynn Deakins at ddeakins@ tscpa.net or technical editor Bill Thomas at Bill_Thomas@ baylor.edu.
Students Win Tuition/Book Reimbursements Four student members recently won $250 tuition/book reimbursements provided by the Accounting Education Foundation of TSCPA, Inc. The winners were selected in a random drawing of 2012-13 student members majoring in accounting. TSCPA congratulates these four students: Maricela Carrera – Houston Aiman Aazid – Houston Daniel Lemon – Houston Maria Piasecki – San Antonio
What’s New on the TSCPA Website Go to tscpa.org to learn more about … Featured Articles: The articles in this area of TSCPA’s website are longer and more in-depth, and they cover a variety of topics, including tax issues, business and industry, investment planning, economic issues, speeches given, and much more. To access them, look under News Alerts on the right side of the home page, click on More News, and then go to the listing under Featured Articles on the right side of the page.
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Assistance Available for Succession Planning through Practice Management Institute TSCPA can assist you with your succession planning needs through the Practice Management Institute. Developed in partnership with the Succession Institute, LLC, the Practice Management Institute was designed especially for TSCPA members. This resource provides free material and content on succession planning. There are also CPE self-study course offerings available at a discounted rate for those who would like to receive CPE credit. To learn more, please go to the CPE section of the TSCPA website at tscpa.org, scroll down and select Practice Management Institute CE.
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Take Note
Notice of Midyear Board of Directors Meeting Accountants Confidential Assistance Network If you know a Texas CPA, CPA candidate or accounting student who is dealing with alcohol, chemical dependency and/or mental health issues, be sure to refer them to TSCPA’s Accountants Confidential Assistance Network (ACAN). This peer assistance program provides a 24-hour hotline that is available at 1-866-766-ACAN to help people who need assistance. You can also contact Craig Nauta at cnauta@tscpa.net. There’s no risk to call. By law, all information, communications, reports received, gathered or maintained by ACAN are strictly confidential. To learn more about the program, please go to the website at tscpa.org, select Resource Center, and then scroll down and click on Accountants Confidential Assistance Network.
Members Expelled The following people have had their membership in TSCPA expelled by the Executive Board under TSCPA Bylaws Article III, Section (4B)(1). This action was a result of the revocation of their CPA certificate by the Texas State Board of Public Accountancy. • Curtis Von Hail, Plano; • Kevin B. Jackson, Plano.
INCLUDES LEGISLATIVE BRIEFING AND RECEPTION
Sheraton Austin Hotel at the Capitol, Austin, Texas The Midyear Board of Directors Meeting and Legislative Briefing and Reception will be held Jan. 29-30, 2013, at the Sheraton Austin Hotel at the Capitol. After undergoing a multi-million dollar renovation, the Sheraton Austin at the Capitol offers newly designed guest rooms with HDTVs, updated lobby and meeting spaces. The hotel is conveniently located in downtown Austin near the Capitol and not far from the University of Texas, the Sixth Street/Warehouse District, and Austin’s business district. Sheraton Austin Hotel 701 East 11th Street Austin, TX 78701 512-478-1111 $189 single or double (plus hotel tax) The cutoff date for the sleeping room block is Friday, Jan. 4, 2013, or when the block is filled, so make your reservation early. For more information about the meeting, please go to TSCPA’s website at tscpa.org. Under About TSCPA, select Meetings/Calendar and then 2013 Midyear Board Meeting, January 28-30 in Austin (.PDF).
MEMBERSHIP SUSPENSIONS
The following people have had their membership in TSCPA suspended by the Executive Board for non-compliance with TSCPA Bylaws Article III, Section (4A)(1) for non-compliance with the Texas State Board of Public Accountancy’s continuing professional education requirements. Suspended for a period of three years – • Maylene Santiago Cato, CPA, Seabrook; • Michele R. Chauviere, CPA, Cypress; • Martha E. Voigt, CPA, Los Angeles, Calif.
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Disciplinary Action As a result of a decision by the Executive Board of the Texas Society of CPAs, the following members have had their TSCPA memberships: Suspended – • Scott David Eller of Mansfield effective Sept. 27, 2012. The action was based on the suspension of Eller’s certificate by the Texas State Board of Public Accountancy following his conviction February 16, 2012, on one count of conspiracy to commit wire fraud. Eller is appealing the conviction. Expelled – • Samuel McCord Sullivan of Houston effective Sept. 27, 2012. Sullivan entered a plea of guilty on June 11, 2012, for possession of child pornography, a thirddegree felony. Sullivan received deferred adjudication for eight years and must register as a sex offender.
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Take Note
Leadership Nominations Results for 2013-14 Positions Terms Commence June 1, 2013 TSCPA’s Nominating Committee recently chose the slate of candidates for 2013-14 leadership positions, directors-at-large and Nominating Committee members. In accordance with TSCPA Bylaws Article IX, the candidates’ election will be conducted through a secure electronic ballot on a TSCPA website area approved by the Executive Board. The electronic ballot will be open to all eligible members to vote. The voting is planned to take place in mid-November through December 2012. TSCPA will send communications to members regarding the electronic voting and will post information about it on the website at tscpa.org. The following persons were nominated for terms beginning in fiscal year 2013-14 and have consented to serve if elected by the members: Mark D. Lee (Houston) Chairman-elect (Chairman in 2014-15) James R. Oliver, Jr. (San Antonio) Treasurer-elect (Treasurer in 2014-15) Susan S. Roberts (Fort Worth) Secretary (Beginning June 2013 and expiring May 2014)
Nominating Committee (Beginning June 2013 and expiring May 2014)
Executive Board Members Three-year term beginning June 2013 and expiring May 2016
Michael L. Brown (Central Texas)
Christina A. Mondrik (Austin)
Sandra Kay F. Brown (Brazos Valley) Lorena Castillo (Rio Grande Valley) Chris W. Busch (Southeast Texas) Suzanne M. Infante (Corpus Christi) Michele M. Heyman (Austin)
Jerry D. Spence (Corpus Christi)
Alyssa G. Martin (Dallas)
Director at Large (Three-year term beginning June 2013 and expiring May 2016)
Brian C. Jones (Houston)
Charlotte M. Jungen (Southeast Texas) Joan E. Schwartz (San Angelo) Benjamin Peña (Rio Grande Valley) Tracy B. Stewart (Brazos Valley)
Steven G. Newcom (Fort Worth) Lynn S. Kupper (San Antonio) As immediate past chairman of TSCPA in 2013, Fred J. Timmons (San Antonio) will automatically serve as the Nominating Committee Chair, and Sandra Kay F. Brown (Brazos Valley) was appointed as Vice Chair.
Michael W. Young (Panhandle)
AICPA Council (Three-year term beginning October 2013 and expiring October 2016) The following names will be submitted to the AICPA Nominating Committee as recommendations from Texas to serve on the AICPA Council:
Thania D. Gonzalez (El Paso)
Fred J. Timmons (San Antonio)
Marshall K. Pitman (San Antonio)
Stephen G. Parker (Houston)
Katy Avenson (Austin)
E. Leroy Bolt (Abilene)
D.D. Holmes (Fort Worth)
Dora J. Dyson (Central Texas)
Russell J. Chimeno (Southeast Texas) was selected as a twoyear Director-at-Large replacement (2013-2015) for Susan Roberts (Fort Worth) who was selected as Secretary and was serving as a Director-at-Large through 2015.
AICPA Council – 1-Year Designee: (Beginning October 2013 and expiring October 2014)
Larry S. May (Abilene) Wayne C. Barton (East Texas) Carol S. McIntosh (Central Texas)
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William H. Hornberger (Dallas)
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Take Note
By Dr. Charles Stanley, CPA
Got Ethics in TSCPA? The Professional Ethics Committee and its Role JS is a licensed CPA in Texas. He is also a member of the Texas Society of CPAs (TSCPA) and the American Institute of CPAs (AICPA). JS owns his own practice and does primarily tax work for his clients. JS has been successful in his practice for 20 years and has never had any problems with his tax clients. However, JS is now having some problems with a client, MT. The relationship is strained at best. Because the relationship is not the best, JS has not returned calls or e-mails to his client. In addition, MT owes JS for the past year’s work, but MT has refused to pay the fee because she feels that the bill was too high and the fees outrageous. MT is considering firing JS as her CPA and has requested by e-mail and voice mail that JS send her copies of her tax returns, as well as the journals and ledgers that JS created in the preparation of the tax returns. Because MT has not paid for previous services, JS feels that he does not have to return her calls. As a result, MT files a complaint with TSCPA accusing JS of not returning her documents or her calls. The complaint goes to the Professional Ethics Committee of TSCPA. The above scenario is one that is not uncommon for many members of TSCPA. Certainly, most Texas CPAs know – as a result of the required ethics continuing professional education (CPE) that all licensees must complete as a part of licensing – that complaints can be lodged with the Texas State Board of Public Accountancy (State Board). However, many TSCPA members are not aware that TSCPA has its own Professional Ethics Committee (PEC). Therefore, when a complaint against a TSCPA member is filed with TSCPA, members are often surprised when they receive a letter from PEC notifying them that they have been accused of violating the Texas Code of Professional Conduct. (This code consists of both the State Board Rules of Professional Conduct and the AICPA Code of Professional Conduct, whichever, in its judgment, is more restrictive.) Members are doubly surprised by the letter if they have already dealt with the State Board on the same complaint. Because many members of TSCPA are not aware of the existence and function of PEC, this article is intended to provide members with a brief description of the committee and how it functions.
THE PROFESSIONAL ETHICS COMMITTEE The PEC is made up of 20 active TSCPA members who serve in a voluntary capacity. They come from very diverse backgrounds. The committee consists primarily of practitioners who work in different areas of accounting, including auditing, tax, consulting, and personal financial planning. In addition, there are members from education and different areas of industry, including banking, government and law. Having members from various areas of expertise is necessary for the committee to do its work in that audit members handle cases involving audits, tax members handle cases involving taxes, and so on. So, with this in mind, exactly how does PEC function?
A COMPLAINT IS MADE Like the Enforcement Division of the State Board, before PEC can do anything, a complaint has to be filed against a member. The complaints come from a variety of sources. Most complaints come from dissatisfied clients, such as MT above, who feel that his/her CPA has not provided satisfactory services. Other sources include governmental agencies, such as the Internal Revenue Service (IRS) or the State Board, employers or the media. Every complaint made against a TSCPA member is taken very seriously. The first step is to determine if there is jurisdiction. If a complaint is made against a CPA who is not a member of TSCPA or AICPA, then no further action can be taken by PEC. If the CPA is a member of AICPA but not TSCPA, again PEC takes no action. However, if it is determined that the CPA is a TSCPA member, the process begins. In addition, if the CPA is also an AICPA member, PEC works with AICPA on the complaint through a program called the Joint Ethics Enforcement Program (JEEP). The purpose of JEEP is to prevent duplication of efforts by both organizations. Once it has been determined that PEC has jurisdiction of the Texas CPA against whom a complaint has been made, a case number is assigned by the TSCPA staff liaison. The cases are held until PEC meets, usually four times a year. Prior to each meeting, the new complaints are made available to all members for preparation. At each meeting, every new complaint is discussed by the committee to determine whether to open an investigation against the Texas CPA based on the allegations and any supporting evidence provided. Keep in mind that at this point, all the committee members know is the information that has been provided by the complainant. No contact with the member will have been made prior to the meeting. After the complaint has been discussed by the committee, one of two decisions will be made by a majority vote of the committee continued on next page
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members. If PEC determines that there does not appear to be a violation of the Texas ethics rules or AICPA rules, it will vote not to open an investigation. The CPA will not be notified of this decision. The CPA will be notified of a complaint only if PEC votes to open an investigation. However, if upon preliminary review there appears to be a possible violation by the member, PEC will vote to open an investigation and cite the rules of conduct that are involved in the investigation. The AICPA rules will be used if the TSCPA member is also a member of AICPA under the JEEP agreement, as noted above. Once the case is opened, the chair assigns a primary handler and a secondary handler. The primary handler has the responsibility of investigating the case, while the secondary handler supports and assists the primary handler as needed. An opening letter is sent to the member as a formal notification that he/she has been accused by a complainant of violating certain ethics rules. The opening letter will cite which Texas and AICPA rules are being investigated. In addition to the notification to the member that an investigation has commenced, the member will be asked specific questions relating to the information that the committee has received and asked to provide any documents that pertain to the case, such as work papers or tax returns, by a given date. Ideally, PEC wants to complete the investigation and settle the case as soon as possible. Investigation. Once the investigation is completed, the primary handler notifies the staff liaison. If there is prima facie evidence
of a violation, the member is then offered the opportunity for an interview with representatives of the committee. The interview can be in person in front of committee members or by telephone. This interview allows the member to be able to state his/her case before the committee. This interview is not mandatory, but allows the member to state his/her case. If the member does not respond to the interview request or declines the interview opportunity, the investigation proceeds. Completion of the investigation. The primary handler will then present the case before PEC. Usually, the handler will prepare and present a brief written summary of the facts of the case, the results of the investigation, and will make a recommendation to PEC about the resolution of the case. If the handler feels that there were no violations, a recommendation to close the case will be made. If the handler feels that the member did indeed violate the ethics rules, PEC will vote first on the violations and second on recommended appropriate discipline for the violations. A majority vote is necessary for the handler’s recommendations to be accepted. Determining corrective action. In setting the recommended discipline for a member, the seriousness of the violation will determine how much and what kind of discipline will be recommended. The PEC wants the discipline that is recommended to be rehabilitative, not punitive. The idea is that the member will become a better and more productive CPA and will not repeat the violations. The PEC believes, along with the State Board, that strong ethical conduct by Texas CPAs is a must. Therefore, any recommended discipline has that goal in mind. Some of these corrective actions include reprimands or the need for pre-issuance reviews. The scope of the corrective action will depend on the seriousness of the violation and whether the actions are covered by the JEEP agreement. If the member is also a member of AICPA, the JEEP agreement provides guidelines as to the recommended actions by PEC. Normally, the discipline consists of recommended CPE that will address the source of the violation. For example, if the violation involves tax issues, then tax CPE courses will be recommended. If the violation involves compilations and reviews, then CPE for compilations and reviews will be designated, and so on. If the violation is serious, specific courses might be dictated. The number of CPE courses and hours will depend on the violation. Again, the more serious the violation, the more CPE courses will be recommended. Once PEC makes its decision, cases with joint memberships are sent to the AICPA Professional Ethics Division for concurrence. When a member is also a member of AICPA, sometimes AICPA
Dr. Charles Stanley, CPA, is an accounting professor at Baylor University. He is also the vice-chairman of TSCPA’s Professional Ethics Committee and has served on PEC for 20 years. He teaches a four-hour ethics CPE class and has authored an online version of the course. He has written numerous articles and conducted presentations about ethics both nationally and internationally. Contact him at Charles_Stanley@baylor.edu.
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does the primary investigation. Once AICPA completes its investigation, it sends its recommendations for action to TSCPA’s PEC. The PEC reads through the AICPA findings and will vote on whether or not to concur. While most of the time PEC will concur with AICPA, PEC is not obligated to do so and has often not concurred with AICPA. Similarly, AICPA is not obligated to concur with PEC decisions. Sometimes, the member’s violation is so serious that corrective action by CPE would be insufficient. This situation might occur if the member has committed fraud or a felony. In that case, membership in TSCPA might come into question. However, PEC cannot take action to suspend or revoke membership in TSCPA. All PEC can do is to recommend that either suspension or expulsion from TSCPA is warranted. The recommendation for suspension or expulsion from TSCPA is forwarded to the TSCPA Executive Board. The Executive Board will review the facts of the case and make the final decision regarding membership. If loss of membership is decided by the Executive Board, it will be published. These include expulsion from TSCPA or suspension of membership privileges.
WHAT IF THE COMPLAINT IS THE SAME AS ONE WITH THE STATE BOARD? It is not uncommon for members to have dealt with TSCPA and the Enforcement Division of the State Board regarding the same incident. In those situations, the Texas CPA who has been found in violation of the Texas rules by the State Board will often enter into an agreed consent order (ACO) with the State Board. The ACO will dictate the discipline that the State Board has designated for the Texas CPA. This discipline runs the gamut from CPE to revocation of the Texas CPA’s license. In such situations, if the CPA is also a member of TSCPA and AICPA, that member is subject to discipline by both organizations. The fact that the member has signed an ACO with the State Board does not mean TSCPA and AICPA are bound by the findings of the State Board. If PEC agrees with the actions of the State Board, PEC tries to avoid duplicating those actions. The PEC does not want a member to be subject to “double jeopardy” if discipline actions would be the same. However, as previously mentioned, PEC is not bound by State Board actions. If PEC determines that further investigation is warranted, then a case can be opened and may result in recommendations from PEC that differ from the State Board’s.
WHAT HAPPENS TO JS? So, what would probably happen to JS, our CPA in the scenario? Given the information that would come from the client, the committee would open a case against JS citing the rules that involve acts discreditable and return of client
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documents. If upon investigation, it is determined that JS has indeed refused to return calls to the client, JS is violating the acts discreditable rules. One provision of the acts discreditable rule states that a CPA should communicate with the client on a timely basis if the client is requesting such communication. It doesn’t matter that the relationship with this client is strained. JS should return the calls and e-mails to this client. In addition, JS’s refusal to return client documents when requested is a violation of the rule involving work papers. This rule states that if a client requests return of client documents, such documents must be returned. These documents include journals and ledgers that the CPA has prepared on behalf of the client. The rule also includes the return of tax returns and tax return work product to the client, if the tax return is requested by the client, such as copies of the client’s tax returns. The fact that the client still owes JS payment for work previously performed does not allow the CPA to withhold the client documents when such documents have been requested. The primary handler would perform the investigation once the case against JS is opened by PEC. Then when the investigation is completed, JS would be offered a chance for an interview. Once the interview with JS is completed or JS refuses the interview, the findings will be presented to the full committee at its next meeting. In this case, the handler would recommend that JS is in violation of the rules. The committee will either accept or reject the recommendation, after discussion of the case by committee members. If the committee votes to accept the recommendation of the handler, appropriate discipline will be recommended and voted on by the committee. Finally, a letter of the findings and discipline recommendations will be sent to JS. If CPE is recommended, JS will have a time period given to him in which he must complete the recommended CPE and show completion. If JS fails to complete the CPE within the time period given, the committee could recommend to the TSCPA Executive Board that JS’s membership in TSCPA be considered for termination.
BECOMING BETTER CPAS Hopefully, this article allows members to understand the role of PEC. The PEC does not want members to think that we are looking for ways to punish Texas CPAs for violating ethics rules. Rather, this committee exists to help members become better CPAs. We hope that whenever a member is faced with a potential ethical dilemma and uncertain what to do, that member will contact the committee. We will offer our opinion on how we see the situation. However, members should understand that any opinions given by committee members are the opinions of the committee members and not representative of TSCPA, AICPA or the State Board. We look forward to serving you. ■
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Capitol Interest By Bob Owen, CPA | TSCPA Managing Director, Regulation and Legislation
The Texas Senate Reorganizes I write this before the Nov. 6, 2012, general election and you will likely be reading it after the results are known, so you can decide if Lt. Gov. David Dewhurst’s October Senate reorganization was prescient. New committee chairs and their committees are not normally named until after the start of a legislative session. Dewhurst only named chairs; he did not name other committee members. While on first blush it may seem presumptuous to name new Senate committee chairs before the election, there was not much doubt about the election’s outcome. Senate District 10 (Fort Worth) was perceived to be the only genuinely contested race between Democratic incumbent Sen. Wendy Davis and Republican Rep. Mark Shelton, and Dewhurst did not name Davis as a new committee chair. Some believe Democratic incumbent Sen. Juan “Chuy” Hinojosa could possibly lose to CPA Republican Rep. Raul Torres in the SD 20 race (Corpus Christi and Rio Grande Valley), but evidently Dewhurst did not think so as he named Hinojosa as the Intergovernmental Relations chair, the first chairmanship for Hinojosa. Of the 29 other Senate races, 17 had no major party opposition and 12 were more or less assured re-election because of their districts’ voter demographics. As an aside, should Shelton defeat Davis and Torres defeat Hinojosa, the Republicans would likely have a two-thirds majority in the Senate, something that has eluded them since they gained a Senate majority. Torres is using that fact to try to turn out Republican voters in what is otherwise considered a Democratic district. Before Dewhurst named the new committee chairs, rumors were flying that he would break with Senate tradition and name all Republican chairs, a move advocated by the most conservative wing of the Republican Party. Dewhurst did bust a couple of Democrats, but this session will have the same number of Democrats as
chairs as in 2011, although the important Higher Education Committee is now chaired by a Republican. Two Senate committees were eliminated – International Relations and Trade and Redistricting. The first was chaired by Sen. Eddie Lucio (D-Brownsville), a longtime moderate senator, and surprisingly Lucio did not pick up another committee chairmanship. Perhaps no Redistricting Committee is a good sign that the Republicans hope they don’t have to go through the redistricting process again after the courts finally rule on the permanent districts. Sen. Judith Zaffirini (D-Laredo) lost her long-tenured position as Higher Education Committee chair, but was appointed as the Government Organization chair. While that is a definite step back, Government Organization is the committee through which sunset legislation normally passes, so it is an important assignment. In that spot, Zaffirini will be important to CPAs since the legislation authorizing the Texas State Board of Public Accountancy (TSBPA) to operate as a self-directed, semi-independent (SDSI) agency is currently being reviewed by the Sunset Advisory Commission. Perhaps to make up for the Democratic demotion, Sen. Royce West (D-Dallas) was promoted from the chairmanship of the Government Organization Committee to serve as chair of the Jurisprudence
Committee, chaired last year by Sen. Chris Harris (R-Fort Worth) who did not seek re-election. It is somewhat surprising to see a Democrat as chair of Jurisprudence since some so-called tort reform legislation is usually assigned to this committee. Perhaps that’s a signal that some believe we have reformed torts sufficiently in past sessions. The other committee that deals with tort reform is State Affairs, which will continue to be chaired by Sen. Robert Duncan (R-Lubbock). Duncan has also been known to disagree with tort reformers on some issues in the past. In addition to Harris, there were three other powerful Senate committee chairs who did not run for re-election, leaving Finance, Education and Economic Development needing new leadership. CPA Sen. Tommy Williams (R-The Woodlands) was earlier named as Finance Committee chair. Duncan supposedly wanted the vacant Finance Committee chairmanship and has more seniority, but lost out to Williams. Williams has done some heavy lifting for Republicans in the Senate and has been very helpful to Dewhurst on several occasions. Besides, Williams is a CPA! Dewhurst named Sen. Dan Patrick (R-Houston) as Education Committee chairman and Sen. Bob Deuell (R-Greenville) to lead Economic Development. Deuell chaired the Nominations Committee last session and Patrick moves up from vice-chair of Education last session. The press wrote the most about the Zaffirini reassignment and the Patrick appointment at the time the appointments were made. The Zaffirini move seemed the most surprising, since she is the secondlongest serving member of the Senate. Some claimed the move was a move to the right, but replacement Sen. Kel Seliger (R-Amarillo), while conservative, is considered to be more a problem solver than an ideologue. Another pundit reported
Bob Owen, CPA, is TSCPA’s managing director of regulation and legislation. Contact him at bowen@tscpa.net.
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that Dewhurst consulted with all senators before making his choices and that Zaffirini’s colleagues were not supportive of her reappointment. The Patrick appointment got equal press, primarily because Patrick is an advocate for public education vouchers and is now in a position to champion that cause. He is decidedly more conservative than the previous chair, Sen. Florence Shapiro (R-Plano). Patrick is the self-appointed leader of the ultra-conservative wing of the Republican Senate, having initiated the Conservative Caucus during the last session. With the election of new freshmen senators, the Senate will be decidedly more conservative than last session, and it wasn’t exactly liberal then. Dewhurst also made a change in two committees’ responsibilities. Homeland Security was moved from the Transportation Committee to the Agriculture and Rural Affairs Committee. Sen. Craig Estes (R-Wichita Falls) continues to chair the Agriculture, Rural Affairs and Homeland Security Committee while the Transportation Committee is now chaired by Sen. Robert Nichols (R-Jacksonville). Nichols is not new to transportation issues, having served as a transportation commissioner and on the Senate Transportation Committee throughout his Senate tenure. Nichols is also vice-chair of the Sunset Advisory Commission. Sen. John Carona (R-Dallas) retained his position as chair of the Business & Commerce Committee. Carona occasionally takes controversial positions, including bucking the Republican leadership from time to time. He definitely is an independent thinker and not easily intimidated. After some initial rocky times between Carona and Dewhurst in past sessions, they now seem to work well together. While Dewhurst theoretically can appoint any senator to a committee chairmanship, he does have to consider the opinions of the senators. The lieutenant governor has ultimate authority in these matters only
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as long as the Senate rules give him that authority. The senators can always change the rules and while that has not happened in recent history, if ever, senators have been known to remind the lieutenant governor of this fact in recent sessions. See Figure 1 for Dewhurst’s full slate of committee chair appointments.
MEANWHILE – IN THE HOUSE Don’t expect to see any House committee appointments until well into the 2013 session. While there are not a lot of seriously contested races in the House, it is not as predictable as the Senate. Not to mention the fact that the Speaker of the House is elected by House members at the first of the session, so for Speaker Joe Straus to even start talking about committee appointments publicly before the speaker election would perhaps be fatally presumptuous. It also helps the speaker candidate garner votes as members vie for their preferred committee appointments. Rep. Bryan Hughes (R-Mineola) is challenging Straus and has most of the Tea Party-supported candidates supporting him. Most pundits expect Straus to maintain the leadership post, but expect a spirited contest even if Hughes can’t get close to an upset vote. The speaker race was once a contest unmarred by outside influence by law. Since a judge ruled that law unconstitutional, an abridgement of free speech, outside parties may try to influence legislators’ votes for the speaker. Certain super PACs are already spending money to defeat Straus. TSCPA continues to take a hands-off position on the speaker’s race – let the members decide and we will willingly support their choice. Just like the Senate, there are quite a few House committee chairs who did not seek re-election or were defeated in the primary. The speaker will need to replace at least eight chairs, including such important committees as Public Education, Judiciary & Civil Jurisprudence, Insurance, Pensions, Investments and Financial Services, Corrections, and Criminal Jurisprudence.
Figure 1. Office of the Lieutenant Governor David Dewhurst TEXAS SENATE COMMITTEE CHAIRS October 2012 Administration Senator Kevin Eltife (R-Tyler) Agriculture, Rural Affairs & Homeland Security Senator Craig Estes (R-Wichita Falls) Business & Commerce Senator John Carona (R-Dallas) Criminal Justice Senator John Whitmire (D-Houston) Economic Development Senator Bob Deuell (R-Greenville) Education Senator Dan Patrick (R-Houston) Finance Senator Tommy Williams (R-The Woodlands) Government Organization Senator Judith Zaffirini (D-Laredo) Health & Human Services Senator Jane Nelson (R-Flower Mound) Higher Education Senator Kel Seliger (R-Amarillo) Intergovernmental Relations Senator Juan “Chuy” Hinojosa (D-McAllen) Jurisprudence Senator Royce West (D-Dallas) Natural Resources Senator Troy Fraser (R-Horseshoe Bay) Nominations Senator Glenn Hegar (R-Katy) Open Government Senator Rodney Ellis (D-Houston) State Affairs Senator Robert Duncan (R-Lubbock) Transportation Senator Robert Nichols (R-Jacksonville) Veteran Affairs & Military Installations Senator Leticia Van de Putte (D-San Antonio)
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There will also be a new chair for Licensing and Administrative Procedures, which is the committee that hears CPA licensing legislation.
WHAT TO LOOK FOR IN THE NEXT SESSION Space doesn’t permit a full rundown of all the issues that will be considered during the 2013 legislative session (there will be some 5,000 bills filed), but here are some things to watch. • Revenue is pouring in at rates far in excess of Comptroller Susan Combs’ predictions, raising hopes that there will be no budget deficit and that there might even be some surplus to try to restore the severe cuts in the state budget during the last session. Expect conservatives to resist any increases in spending, despite improving revenues. The growth of Medicaid and other Health and Human Services programs may quickly use up any supposed surplus. • Gov. Rick Perry is pushing for transparency in budgeting and Straus agrees. Both want the Legislature to eliminate the time-honored practice of telling the public they are raising money for one thing and then spending it on another. It’s good PR, but if you hold your breath on this one, you will soon be joining the Blue Man Group. • While education funding reform is theoretically on the table, most pundits predict that nothing will be done until the current school district funding lawsuits have been heard by the Supreme Court. The process was scheduled to start with a Travis County District Court session on Oct. 22, 2012. It’s unlikely the suits will make it all the way through the appellate process and the Texas Supreme Court in time for action during the regular session. A special session? Perhaps. Unless, of course, the courts decide the current funding system is constitutional – something they have not done in my memory. • You can look for more conversation and a few bills on mandatory testing in public schools. Even the testing advocates are evidently not happy with the tests currently being used or the
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administration of those tests. • Roads should be a major issue. Texas’ deteriorating highways and rising debt will be addressed, maybe not resolved, but addressed. According to a recent study, the bad roads in Texas cost Texans $23 billion annually in repairs, time and trouble, and that it will get worse unless more funding is found. According to Rep. Joe Pickett (D-El Paso), “The average Texan is paying three dollars less a year in gas tax than they were in 1999.” Picket, who serves on the House Transportation Committee, also predicted no substantive action by the Legislature in 2013, saying, “The Legislature is going to continue to kick the can down the road on this,” according to the Texas Tribune. • Do not expect any net new taxes or substantial increases in state user fees, despite what you might read later in this article about some specific proposals. • Don’t place any bets that more gambling will be allowed in Texas. In a nonscientific poll of Austin “insiders,” Texas Weekly reported that 74 percent of insiders believed Texas voters would say yes to more legalized gambling; but 80 percent of these same insiders also believe there is no chance of getting the required two-thirds majority vote in the Legislature to authorize such a vote. • Don’t expect the Legislature to authorize any significant use of the $5-$6 billion so-called rainy day fund. If any such funds are used, it will be in relatively small amounts and for items that are clearly one-time expenditures. If it wasn’t raining last session with a huge deficit facing the state, this session will be positively sunny. • Look for pressure on state universities to reduce their costs and tuition, or at least slow the tuition growth rate. A Texas Lyceum poll showed that 46 percent of Texas voters believe we should re-regulate tuition rates, while 30 percent say we should stay unregulated but give more assistance for low-income students. Perry wants tuition frozen for four years once a student enters a university. A battle may also be brewing between those who believe you can learn
it all online and those who say faceto-face instruction is necessary. Along that line, Perry is calling on universities to adopt what I will call “learn as you go.” Perry is suggesting colleges adjust their programs so students can learn at their own pace. I thought that was what we had when I was in school when so many students crammed four years of education into six. • They will keep trying to find a legal answer to voter ID. Because Texas is subject to the Federal Voting Rights Act, this is difficult to do. • Border security will still be an issue. • Any social issue rejected by the courts will be revisited.
TAXES AND CPA CONCERNS There is already no shortage of tax proposals, despite the no-new-tax environment. Of course, some of the proposals are tax swaps, with no net increase in tax revenues. The problem with revenue-neutral tax proposals is that they are not tax-neutral for individual or business taxpayers. For example, the Texas Public Policy Foundation’s perennial proposal to swap all property taxes for expanded and higher rates of sales taxes might be neutral for some property owners, but it would definitely be a tax increase for everyone else, and I suspect for many property owners, too. Duncan has also revised his proposal to replace local property taxes with a statewide property tax. This proposal is evidently one of the few simple steps that could be taken to eliminate the repeated lawsuits over education funding. This proposal sounds like it could be tax neutral, except that current property tax rates vary by county, so there would be winners and losers in any event. The proposal also has many opponents among local school boards and constituencies, because no one believes local school district control can be kept if the revenues are collected and allocated by the state. Both of these proposals require a constitutional amendment; two-thirds of the Legislature has to vote to place it on a statewide ballot and a majority of voters have to approve.
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Nichols suggests that all gasoline taxes be used only for road construction. I’ll bet some of you thought that was already the case; but no, only a portion is reserved for state transportation and all that is certainly not used for construction. Recognizing it might be tough to accomplish the switch overnight (since what doesn’t go for roads goes for schools), Nichols is proposing a multi-year transition. Another idea is higher vehicle registration fees dedicated to road construction. According to Rep. Drew Darby (R-San Angelo), that’s not a tax increase; it’s a fee increase. Make you feel better? About the only tax proposal on the horizon that might actually have a chance of passage is to make the $1 million minimum revenue floor for franchise taxes permanent. I suspect most CPAs would like that, as long as taxpayers still had to file a no-tax-due return. There is a big push by small business organizations, but some opposition from the remaining franchise taxpayers. The proposal has the support of both Perry and
House Ways and Means Chair Rep. Harvey Hilderbran (R-Kerrville). It permanently removes so many taxpayers from the franchise tax rolls that there would be fewer taxpayers than under the old franchise tax; but the big boys would all still pay so the revenue impact might be manageable. TSCPA is right in the middle of determining what our legislative agenda will include for the next session. Our State Taxation Committee and Legislative Advisory Committee (LAC) are both meeting between the time I write this and the time you read it to make recommendations to the Executive Board. The Executive Board will consider those recommendations at its November meeting. What might be considered? Since TSBPA’s SDSI legislation is up for Sunset Advisory Commission review, it’s likely we will be supporting that renewal. The Sunset staff recommended renewal with a few specific changes in the legislation that are not troubling.
We Go To Work For You.
Last session, we asked legislators to make a few changes in the Accountancy Act. The bill passed out of the Senate and out of the House Licensing and Administrative Procedures Committee only to get hung up in the House Calendars Committee in the end of session log-jam. Our LAC will be considering a re-run. We have continued to make suggestions to improve the franchise tax and most of our recommendations have been included in legislation, but in the last session almost all franchise tax bills were DOA in the House Ways and Means Committee. Maybe we will try again, though I would predict more or less the same result. One thing is for sure. We will be watching all the bills filed in the Legislature for any that might adversely impact CPAs. There are always some bills that are bad news for CPAs, usually a result of unintended consequences. Unintended or not, TSCPA takes action when appropriate to avoid unfavorable consequences for CPAs. ■
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Cover Article
MINIMIZING THE LEGAL RISKS OF CPA PRACTICE PART ONE
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BY KENNETH M. HORWITZ, J.D., LL.M., CPA, AND RICHARD E. YOUNG, J.D.
he public practice of accountancy has inherent liability risks that can be planned for and minimized, but not eliminated completely. The reality in this day and time is that a CPA in public practice faces the real possibility that he/ she will not complete years in the practice of accounting without being sued by a client or others. Claims and lawsuits result in loss of billable hours, adverse publicity, the cost of litigation, the potential for grievances with regulatory bodies, and the cost of settlement of the claim. We have written this article from the perspective of attorneys who represent CPAs in our legal practice. We do not here purport to present the rules under the CPA professional or peer review standards, but we are convinced that following those professional
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and peer review standards rules is an important factor in reducing risks. It is our goal in this two-part article that the reader will find actions to be taken (and avoided) to reduce the risks in his/her accounting practice. The first part will address primarily practice structure and operational issues; the second part will focus on legal liability and issues that can arise once a claim is made.
PROFESSIONAL LIABILITY INSURANCE
Your chances of being sued are real. A lawsuit, if not settled before trial, will wind up before a judge or a jury for trial. It is critical that you plan for the costs of the process, including legal costs and settlement costs. Your planning should include
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malpractice (or “errors and omissions”) insurance. When you purchase such insurance, there are many variables and details you must consider and negotiate. You and your insurance agent should fit the policy and its cost to the needs of your practice. Some CPAs think that if they do not buy malpractice insurance – “go bare” – they will be an unattractive target for a lawsuit. That is, they believe that by buying insurance, they become an attractive target for a lawsuit. This is a risky position. First, most litigants will not discover that the CPA has no insurance until after the suit is filed and goes on for some time. The CPA bears the cost of the defense in the meantime, so the money “saved” by not buying insurance (and usually some more money besides) will be spent. Second, most claimants and their lawyers will not believe the assertion of no insurance since the common practice is to carry such insurance. Third, some clients will be wary of engaging a CPA in the first place if the client discovers the CPA carries no insurance, since this may be viewed as an indication of lack of quality. Fourth, this “poverty” defense has a chance of working only if the CPA and his/her firm and partners really are broke, an unlikely event because of the existence of current and future receivables unless the CPA is very unsuccessful in practice. And fifth, even if there is no insurance, the claimant can still file a complaint with the Texas State Board of Public Accountancy (State Board) before, during or after the lawsuit – and perhaps with an adverse jury finding if the CPA loses the trial – and invoke disciplinary action based on the malpractice. Regardless of the merits of this issue, reality is clear: lawsuits are expensive to defend. If you do not have the resources to defend the lawsuit, the results of it are likely to be costly. Once a lawsuit is filed, the cost of defense can easily mount up into the hundreds of thousands of dollars. Planning to provide resources to meet this cost are critical and essential. If you cannot afford to defend a suit, you will lose. There are monetary costs to a loss, as well as the consequent report to, and action by, the State Board that will require a defense.
COMMON MISTAKES IN PRACTICE
There are common mistakes made by CPAs (regardless of how experienced they may be). The first deadly mistake is the failure to make a deadline. Management systems to avoid this type of mistake are a critical part of any well-run practice, but used alone are not the best practice. Do not get caught in the trap of practicing in a hurried mode and performing work by rote, relying on computers and check lists, and failing to step back and ask critical questions or perform appropriate due diligence. Such practices lead to unhappy results. You must be frank with your boss and your clients both as to what expectations your boss and the client should have, and the limits of your performance. Failing to so communicate with clients is a common mistake that often leads to claims for malpractice. Consider also the failure to be frank with your boss or your clients regarding mistakes made. Frequently, if a mistake is made, and the mistake and any corrective actions are dealt with promptly and forthrightly, the mistake has a way of resolving itself without harm to the client or to the CPA. Inevitably, a
cover-up will create a bad consequence. The corollary of a staff person failing to be frank with his/her boss and co-workers is the failure of the boss to supervise staff. It is the supervisor’s responsibility when errors occur because of lack of supervision and clearly, the professional standards require proper supervision and management of staff; merely checking the box does not fulfill this requirement. In connection with all attest function work, written fee agreements are now required by the professional standards. Although this is not true in other areas of public practice, failure to obtain written fee agreements that define the scope of the work and the basis upon which fees will be charged, as well as setting forth the expectations on client cooperation, can (and does) lead to ultimate misunderstanding, disagreement and expanded claims by clients of failure to do work that the CPA did not agree to perform. An engagement without a written fee agreement is that much more difficult to defend. Many CPAs may fail to be frank not only with the client, but also with himself/herself as to whether he/she has sufficient experience and training regarding the work involved in the engagement. Practicing in an area where you do not have requisite knowledge or experience is a sure formula to making an error that will lead to a malpractice claim. Do not undertake an assignment that you are not competent to complete without seeking additional guidance or qualification. Getting along with clients is critical. If you are not comfortable with (or do not trust the ethics of) a client, you should consider whether retention of that client is appropriate. Such issues with a client frequently lead to the CPA failing to do his/her best work and failing to communicate with the client. Avoidance of communication with a client can lead to a malpractice claim. It is a practice likely to lead to sanction by the State Board should the client complain to that body. A common effect of failure to maintain a good relationship with a client is the client does not pay. This can lead to the most likely way to draw a malpractice lawsuit and a complaint to the State Board – sue a client for a fee. There is frequently pressure for billing to achieve financial goals set by a firm. A common mistake is yielding to the temptation to write down excessive time to placate your boss or deal with the pressures of the situation. This is a sure way to create problems with clients. Finally, in the context of common mistakes, the failure by many CPAs to read and understand admittedly complex rules of the American Institute of CPAs (AICPA) Professional Standards and other standards, such as Circular 230 and Section 6694 of the Internal Revenue Code (IRC), can leave the CPA open to performing work in a non-ethical manner, notwithstanding the CPA’s view of himself/herself as an ethical person. Merely understanding the general ethical rules in our society does not translate into an understanding of the specific requirements of CPA ethical standards applicable in particular fact patterns. continued on next page
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Cover Article MINIMIZING LEGAL RISKS continued from previous page
CLIENT BASE CONTROL
Many claims arise because a CPA accepts, or fails to terminate, high-risk clients. If you develop an area of expertise and limit your practice to clients’ needs in that area, you are reducing the risk of the types of mistakes that are created by unfamiliarity with the work to be performed. That is a good thing. But selecting the area or areas of practice and limiting work for clients to those areas needs to be modulated by understanding that certain types of industries and services carry inherently greater risk. If you perform audits, particularly audits of certain types of businesses, such as financial institutions and construction companies, as well as audits of financial statements used in a public securities offering or private placement offering, you should first have a clear understanding of the inherent hazards together with an appropriate fee for undertaking such risk. This type of work for certain industries is too involved and too risky to undertake as a “loss leader.” Audits of financial statements that are going to be submitted to governmental agencies where the agency exercises oversight over the form and substance of the audit (such as audits of pension plans where the Department of Labor may review in detail the auditor’s workpapers) should be undertaken only with a clear understanding of the rules applicable to such audits and the fastidious attention to the detail required in the performance of such audits and issuance of financial statements. Tax engagements also contain their own set of risks, including the potential for untimely filed tax returns (or the claim by the Internal Revenue Service that the return is not timely filed), S corporation planning and planning with respect to other complex tax issues, particularly in view of the ever-changing statute, regulations and rules in the tax area. All such work requires special expertise and access to research materials to properly perform the work. An essential element of client base control is developing an adequate set of new client acceptance and client retention procedures that cover: • the work to be performed; • the personnel who will perform the work; • the desirability of the potential (or existing) client; • conflicts of interest; • independence issues; and • the potential client’s history with other firms. Due diligence includes background checks on management of significant clients and even the simple, but frequently overlooked, Internet search for information regarding the
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potential client, as well as its significant owners, directors and senior officers; this is an essential part of the process. Be wary of the prospective – or existing – client who withholds what seems to be important information. Do not be blinded by potential lucrative fees that may accompany the prospect for a new client when serious warning signs suggest future litigation hazards. No future fee is worth the potential of
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future lawsuits and complaints filed with regulatory bodies. The CPA should also conduct a continuing analysis of whether an existing difficult client is worth the risk and cost of retaining that client.
FIRM ORGANIZATION AND MAINTENANCE
You should be very careful regarding whom you associate with in your practice. Before you form a relationship or join a firm with one or more CPAs, make sure that those CPAs maintain the same high standards of ethics and practice that you do. Guilt by association is certainly applicable to the practice of accounting. You should inquire about claims against your potential future associates. Who are their clients and are they desirable clients? Is the work that they do high risk and are you going to have problems with their liabilities? You need to look at their existing engagements, and how they track and bill time. In this context, a delay or refusal to supply information regarding such issues should be a definitive warning. Management systems are critical to the maintenance of a quality practice and avoidance of situations that will lead to malpractice claims or complaints to regulatory agencies. These systems include deadline calendars, file retention and destruction policies, billing and account receivable systems, practices for retainers (particularly new clients), supervision systems, maintenance and updates of proper forms and form letters, and control over relationships of firm members that may lead to liability, such as activities as a trustee or executor, service as a for-profit or nonprofit corporate executive or director as an agent for service process. The firm should maintain a process for risk management, including access to legal counsel – remember, an ounce of prevention is worth a pound of cure. Prompt attention to the detail of required notices of potential claims to insurance carriers is a must. When you cease to do work for a client, client termination letters are a critical step in limiting liability. Similarly, quality control systems to ensure independence, avoidance of conflict of interest, library maintenance, supervision of staff, hiring policies, control of continuing education, etc., are essential parts of the process to avoid claims. Obviously in this day and time, computer security (in office, portable USB drives and laptops) is critical; such security includes both physical security for the equipment, and password and encryption protection for software.
TRAINING
All CPAs understand State Board rules mandating that CPAs maintain their competency through continuing professional education (CPE) and reporting of attendance to the State Board. The State Board rules prohibit undertaking
any engagement that the CPA cannot reasonably expect to complete with due professional competence. Many CPAs schedule the cheapest CPE possible without necessary regard to how the CPE fits their area of practice or improves their competence. Such practices are a major mistake. You should consider the quality of any professional seminars and the relevance to your practice in completing your CPE requirements. Voluntary work with TSCPA, its chapters or AICPA frequently enhances the CPA’s competence, and such enhancement can be used to develop more profitable and less risky practice.
CLIENT COMMUNICATIONS AND CLIENT RELATIONS
Clients frequently judge the competency of the work that the CPA does by availability for communication and ability to communicate. Failure to communicate with clients will frequently generate antipathy and cause the client to take adverse actions, such as to file a claim in a court or a complaint with a regulatory agency such as the State Board or the IRS Office of Professional Responsibility. Availability to take telephone calls, willingness to respond by e-mail, and to otherwise communicate with the client frequently will solve problems before they develop. Remember, however, e-mail is forever and great care should be taken as to how one communicates by e-mail. Proper billing and collecting fees regularly is a critical component of communication. Your work performed does not become more collectable the longer you wait to bill it. A final note in connection with communication with clients is the need to provide clients with copies of work that you have performed and the portions of their files to which they are entitled without complaint or hassle. The State Board frequently receives complaints regarding CPAs who have refused to give clients their files or have delayed in returning communications to them and does not deal kindly with the CPA who treads improperly in this context. (Editor’s Note: Please also see the article, “Got Ethics in TSCPA? The Professional Ethics Committee and its Role” on page 19 of this Today’s CPA issue.)
ANALYZING YOUR PRACTICE FOR RISK
Before you can define the scope of your risks once a claim is made, it is important to undertake a risk management analysis of your practice and to conform your practice’s operation to the best practices to minimize risk. Part two of this article will discuss issues for which you need advance information to complete the risk management process, including which issues may arise in the unhappy event that a claim is made. ■
Kenneth M. Horwitz, J.D., LL.M, CPA, and Richard E. Young, J.D., are attorneys with Glast, Phillips & Murray, P.C., a law firm in Dallas, Texas. Horwitz may be contacted at kmh@gpm-law.com and Young may be contacted at ryoung@gpm-law.com.
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Feature
By Phillip J. Korb, MS, CPA, and Jan L. Williams, Ph.D., CPA
Missed Elections: The Hidden Consequences and Opportunities The timely filing of nontaxable returns can be a vital part of tax planning. This practice, however, may be frequently overlooked due to the overshadowing premise that no tax is due. Most practitioners and their clients are aware of the obvious penalties for failure to file and pay taxes on a timely basis. Of course, there is the failure to file on a timely basis of 5 percent of the tax due for each month or fraction thereof, with a maximum penalty of 25 percent. There is the failure to pay the tax of ½ percent per month or fraction thereof as well.
However, in cases where the client or the practitioner knows in advance of filing that no tax will be due, there is a tendency to not file extensions or to not file the returns on a timely basis. The reason that practitioners and their clients might not feel the expediency to file on time is that these two penalties, as well as interest, would not apply since they are based on the amount of tax due. Since no tax is due, these obvious penalties would not be imposed.
What is overlooked in not filing nontaxable returns on a timely basis is that certain beneficial tax elections are lost in the process. An example of such a nontaxable return is one in which a net operating loss arises in the current year. If the return is not filed by the due date of the return (including extensions), the election to forego the loss carryback and carry the net operating loss forward is lost. If the taxpayer anticipated being in a higher tax bracket going forward than they were in previously, the benefit of greater future tax savings would be forgone. Not only is it important to file your nontaxable returns on a timely basis, it is also important to file timely returns when the return may be taxable. There are several elections, which are the opposite of the election to forego a net operating loss carryback, whereby the taxpayer is anticipating greater current tax benefits at the expense of lower anticipated future tax benefits. One such election is electing out of the installment sales rules and having the entire gain taxed in the year of sale. This election might be made in situations where
Phillip J. Korb, MS, CPA, and Jan L. Williams, Ph.D., CPA, are associate professors of Accounting at the University of Baltimore. Korb may be reached at pkorb@ubalt.edu and Williams at jwilliams@ubalt.edu.
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either the taxpayer anticipates being in a higher tax bracket in the future, or wants to take advantage of offsetting more current year losses by reporting the entire gain in the year of sale, rather than just a portion of gain. To preserve this benefit, an election must also be made by the due date of the return, including extensions. Another election where current benefits outweigh future benefits is the election to expense start-up costs rather than by default having them capitalized and authorized over a 15year period. This election would be made when the current year tax savings, enhanced by the time value of money, is worth more because of lower anticipated tax rates in some or all of the next 15 years. This election is irrevocable and must also be made on a timely filed income tax return, including extensions, for the tax year in which the business begins. The election for nondealers in taxable bonds to amortize bond premium is another election that provides a current benefit. This election allows a current offset of interest income that is preferable to any future benefits derived from deducting a capital loss upon the sale or maturity of the bond. The election is binding for the year made and all later years, but must be made on the taxpayer’s timely filed tax return for the first tax year to which the election applies. Failing to file a nontaxable return on a timely basis and losing certain beneficial tax elections can happen not only in the area of income taxes, but also in other tax areas. Due to recent legislative changes in the estate tax area, executors of the estates of decedents dying in 2011 and 2012 must file a federal estate tax return (form 706) to elect to transfer the deceased spouse’s unused exclusion amount to the surviving
spouse. Therefore, even though no tax would be due on the deceased spouse’s estate return (because the unified credit would, in effect, exclude all of the taxable estate), a return would have to be filed to preserve the unused portion of the unified credit for the surviving spouse. This election to allow the portability of the deceased spouse’s unused exclusion amount must be made on a timelyfiled form 706, including extensions, prepared in accordance with the instructions for form 706. Absent further legislative action by Congress before year end, the unified credit is scheduled to fall to $345,800, or the exemption equivalent of $1,000,000; and the top estate tax rate is scheduled to rise to 55 percent. Even though it is expected that Congress will probably raise the unified credit and lower the maximum tax rate from these scheduled changes in year-end legislation, it is doubtful that the election to allow the portability of the deceased spouse’s unused exclusion will be eliminated. Consequently, making this election on a timely filed form 706 will continue in importance. Filing returns timely and requesting extensions can be critical components of tax planning and are important for all returns, taxable and nontaxable, to prevent the loss of tax savings, both currently and in the future. Practitioners should be aware of the possible hidden consequences associated with the untimely filing of tax returns. Not filing a timely return because no tax is due can result in a loss of current benefits and/or greater taxes in the future. It is important that practitioners stress to their clients the importance of receiving the necessary information to file their returns on a timely basis. ■
FIGURE 1. SUMMARY OF ELECTIONS AND FILING REQUIREMENTS Election
Election Filing Requirement
Net Operating Losses (Elect not to carryback NOLs)
Attach a statement to your original return filed by the due date (including extensions) for the NOL year. Automatic six-month extension – If the statement was not attached to the timely filed return, the taxpayer can file the statement with an amended return within six months of the due date of the original return (excluding extensions). Election to waive the carryback period is generally irrevocable.
Installment Sales (Elect to report the entire gain in year of sale)
Individuals should report the installment sale gain in full on Form 8949, Form 4797 or both (not Form 6252). Automatic six-month extension (see above) and write “Filed pursuant to section 301.9100-2” on top of the amended return. Election can only be revoked with IRS approval.
Business Start-Up Costs (Elect to deduct up to $5,000 of business start-up and organizational costs)1
Claim the deduction on the original return filed by the due date (including extensions) for the year the business begins. Election made by completing part VI of Form 4562. Automatic six-month extension (see above). Also indicate the election on your amended return and write “Filed pursuant to section 301.9100-2” on the top of the return.
Bond Premium (Elect to amortize the premium on taxable bonds)
Report the amortization on the return for the first year the election is to apply. Attach a statement to your original return stating the election to amortize bond premium will apply and the election is being made pursuant to section 171. Election can only be revoked with IRS approval.
Decedent’s Unused Estate Exclusion (Elect to allow surviving spouse to use the unused exclusion)
File timely and complete Form 706 (including extensions) within nine months of the decedent’s death. No attachments are necessary. Automatic six-month extension (see above) and write “Filed pursuant to section 301.9100-2” on top of the amended return.
The $5,000 deduction is reduced by the amount of business start-up or organization costs over $50,000 and must be amortized.
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Feature
By Joseph P. Helstrom, CPA, and Patricia A. McCarthy, MBA
Incorporating Excel Arrays into Your Audit Plan Arrays in Excel are a very powerful, yet generally unknown tool. With arrays, you can perform tasks that may currently take more than one step and consolidate them into a single step, improving efficiency. Arrays also make it easier to perform tasks such as comparing lists, mathematical operations ignoring errors, summing data using one or more criteria, and finding minimums and maximums of data using various criteria. Before discussing how to use arrays in Audit, let’s quickly overview what an array is. WHAT IS AN ARRAY?
Quite simply, in Excel, an array is a block of adjacent cells that are treated as a group. It is defined as a range of related data. The data can be represented in a column or row, or more than one column or row. The following exercise as shown in Figure 1 provides a good introduction to arrays:
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FIGURE 1
1 2
A
B 1 1
C 2 2
D 3 3
E 4 4
5 5
In Figure 1, think of Row 1 as an array comprised of the numbers one through five. Row 2 also represents an array
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comprised of numbers one through five. What would happen if we wanted to multiply the first array by the second? What would you do? Click in cell A3 and multiply A1 by A2 and then copy it across … correct? That is one method, but with an array formula one can do it so much faster as everything calculates at once. 1. Select A3 through E3 (Figure 2) 2. Enter =A1:E1*A2:E2 3. Press CTRL+SHIFT+ENTER at the same time
FIGURE 2
1 2 3
A
fx {=A1:E1*A2:E2}
B 1 1 1
C 2 2 4
D 3 3 9
E 4 4 16
5 5 25
Note that our formula’s result is the same as multiplying A1*A2, B1*B2, C1*C2, D1*D2 and E1*E2 in order. Just imagine if you had not used an array and were trying to multiply 50 or 500 columns instead of five? Arrays are very efficient. The third step is very important – all array formulas must be followed by CTRL+SHIFT+ENTER. If you just hit ENTER and then copy it, only the first cell will display the correct answer. The CTRL+SHIFT+ENTER tells Excel that the selected range, in this case A1:E1, is an array and A2:E2 is an array and they should be calculated together. Excel places { } around the formula to indicate that it is an array. Note that the result is to multiply A1*A2, B1*B2, C1*C2, D1*D2 and E1*E2 in order. Let’s try another example. In this example shown at Figure 3, 1. Highlight the cells below the data (A3:E3) 2. Enter =A1:E1+A2:E2 3. Press CTRL+SHIFT+ENTER at the same time The result is shown in Figure 3:
FIGURE 3
1 2 3
A
B 1 1 2
C 2 2 4
D 3 3 6
E 4 4 8
This provides a result of 30, the sum of all the values in the array.
AUDIT TECHNIQUES USING ARRAY FORMULAS
When this formula is entered, you have the result as shown in Figure 2:
A3
1. Select cell F3 2. Enter =SUM(A1:E2) 3. Press CTRL+SHIFT+ENTER at the same time
5 5 10
Note that the addition is once again performed in order. Now, we are able to perform summary operations on the array data as well. Using our example,
Identifying Duplicates Now, let’s take a look at specific audit techniques that use array formulas. One extensively used audit technique is identifying duplicates. Audit programs call on the auditor to identify duplicate check numbers, duplicate invoices or duplicate journal entries. Sometimes auditors need to ensure that vendor addresses and employee addresses don’t match or need to look for duplicate payments. If the records examined are extensive, there will be a lot of manual effort expended with little assurance that all matching items will be identified. While some audit-specific computer programs could be used, Excel array formulas are the cheapest and most efficient way to identify matching data. Assume the following sorted list as shown in Figure 4: 1. Highlight B2:B12 2. Enter =IF (A2:A12=A1:A11,”Duplicate” , ””) 3. Press CTRL+SHIFT+ENTER at the same time
FIGURE 4
1 2 3 4 5 6 7 8 9 10 11 12
A 1 2 3 3 4 5 6 7 7 8 9
This will compare the array in A2:A12 to the array one row prior (A1:A11) to see if any are equal. When the same number is detected, the word “Duplicate” will display in the corresponding cell in column B. Now, admittedly, you could start in B2 and type =IF (A2=A1,”Duplicate” , ””) and copy this formula down. However, the use of arrays with large amounts of data simplifies the task. Matching Two Lists of Data Array formulas are best to use in matching data. Assume that you have two lists of data represented in Figure 5. You want to identify where there is a match between the two lists. In this example:
1. Select C2:C6 2. Enter =MATCH (A2:A6, B2:B6, 0) 3. Press CTRL+SHIFT+ENTER at the same time. You will obtain the following result shown in Figure 6.
FIGURE 5
1 2 3 4 5 6
A 123 699 456 789 258
B 753 159 123 453 789
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Incorporating Excel Arrays continued from previous page
1 2 3 4 5 6
A
B
C
FIGURE 6
There is a comparison 123 753 3 between the first and second list. A 699 159 #N/A #N/A represents no match found. 456 123 #N/A Where there 789 453 5 is a number, it represents a match 258 789 #N/A from the first list to the second list. As an example, the number 123 from the first list matches the third item in the second list. The number 3 represents where in the second list the matching item resides.
Any gaps in the sequence are now identified by the word “Gap.” Once again, you can accomplish the same thing by starting at cell B3 and typing =IF (B3<>B2+1,”Gap” , ””) and copying it down. Arrays, however, simplify the task.
OTHER ARRAY FORMULA USES Many times when working with Excel formulas, the error #N/A appears. When this appears in a column of numbers, Excel will not permit any further arithmetic operations to be performed on that column. Something as simple as summing a column will result in a #N/A. When dealing with a lengthy list of numbers, this can be very frustrating, especially if there are many errors scattered throughout the list. This generally results in a long and tedious process of going through the data and visually identifying the error and either deleting it or changing it to zero. Arrays can help with this problem. In Figure 8, a simple sum command of =SUM (B1:B9) will return #N/A. Assume that the data is in B1:B9. To arrive at the sum,
Identifying Gaps in Sequence Some audit procedures ask the auditor to identify gaps in the sequence of pre-numbered documents. Examples of sequence gaps include: check numbers, purchase orders, sales invoices or journal entry numbers. A gap in a sequence may 1. Click in cell B11 indicate an internal control weakness that requires further 2. Enter =SUM(IF(ISERROR(B1:B9),0,B1:B9)) investigation. 3. Press CTRL+SHIFT+ENTER at the same time Assuming that you have a column of sequenced numbers that are sorted in ascending order, the goal is to compare the This formula tells Excel to treat any errors in B1:B9 as zeros previous number in the sequence to that number plus one. and to then sum the amounts in B1:B9. So if cell A2 contained the number 100, you would expect A3 to contain a value of 100 plus one or 101. We can treat the FIGURE 8 column of numbers as an array and use an array fx {=SUM(IF(ISERROR(B1:B9),0,B1:B9))} B11 formula to identify any gaps. There are sequence A B C D E F G gaps in the screenshot shown at Figure 7. 1 Part 1 100 1 2 Part 2 200 FIGURE 7 You want 3 Part 3 300 A B to compare a 4 Part 4 #N/A 1 number with 5 Part 5 200 the immediately 2 1 6 Part 6 100 preceding number 7 Part 7 #N/A 3 2 plus one. Assuming 8 Part 8 300 that the column of 4 3 9 Part 9 #N/A numbers starts at 5 5 Gap cell A2: 10 6 6 11 1200
7 8
7 9
Gap
1. Select cells B2:B8 2. Enter=IF(A2:A8<>A1:A7+1,”Gap” , ””) 3. Press CTRL+SHIFT+ENTER at the same time
POWERFUL TOOLS Array formulas are very powerful tools that can be more efficient than traditional methods. Arrays can be used to summarize data, sum only those numbers that meet certain criteria, find minimums and maximums, ignore zeros and errors in calculations, along with many other uses. ■
Patricia McCarthy and Joseph Helstrom are co-owners of CPASelfstudy.com, a firm that provides continuing professional education (CPE) to CPAs. To contact them, please e-mail patricia@cpaselfstudy.com or joe@cpaselfstudy.com.
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CPE Article By Mark A. Turner, DBA, CPA, CMA, and Ramon Fernandez, MBA, CPA, CFP®, CMA, CIA
Could Your S Corporation Be a Hobby?
Curriculum: TAX Level: INTERMEDIATE Designed For: TAX PRACTITIONERS Objectives: EXAMINE SECTION 183
(ACTIVITIES NOT ENGAGED IN FOR PROFIT) AND ITS APPLICATION TO S CORPORATIONS
Key Topics: S CORPORATIONS, HOBBY LOSS RULES
Prerequisites: NONE Advanced Preparation: NONE
It may come as a surprise to learn that S corporations are subject to the hobby loss rules. That is, S corporations must comply with the Section 183 limitations on deductions when the entity lacks a profit motive. Section 183(a) states: “In the case of an activity engaged in by an individual or an S corporation, if such activity is not engaged in for profit, no deduction attributable to such activity shall be allowed under this chapter except as provided in this section.” Section 183(b) then provides for deductions only to the extent of an activity’s gross income. Section 183 and its application to S corporations are not new. In fact, S corporation provisions were originally enacted by the Tax Reform Act of 1969. The application to S corporations is based on a long-held belief that nonprofit activities carried on by individuals might also be carried on under the guise of an S corporation. continued on next page
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Could Your S Corporation Be a Hobby? continued from previous page
OLD SCHOOL The entity doctrine is the well established principle that a corporate entity is separate and distinct from its shareholders. The 1943 Supreme Court decision in Moline Properties, Inc.[431 USTC ¶9464, 319 U.S. 436] stated that: the doctrine of corporate entity fills a useful purpose in business life. Whether the purpose be to gain an advantage under the law of the state of incorporation or to avoid or to comply with the demands of creditors or to serve the creator’s personal or undisclosed convenience, so long as that purpose is the equivalent of business activity or is followed by the carrying on of business by the corporation, the corporation remains a separate taxable entity. The court also noted that the corporate form may be disregarded where it is a sham or unreal – a bald and mischievous fiction. The Supreme Court ruled similarly in Deputy v Du Pont [40-1 USTC ¶9161, 308 US 488], denying a deduction for expenses incurred by an individual on behalf of a corporation in which he held an interest. Taxpayers, courts and the Internal Revenue Service (IRS) continue to hold to the separateness of corporations from their owners.
OLD SCHOOL MEETS NEW SCHOOL
Moline Property, Deputy and the entity principle were recognized well before the development of S corporations and LLCs. In the case of S corporations, it can be argued that the corporation’s identity is essentially the same as its owner. That perspective is implicitly adopted with the inclusion of S corporations in the hobby loss rules. Consider the case of Abbene v. Commissioner [CCH Dec. 52,874(M), T.C. Memo. 1998-330]. There, the Tax Court determined that the profit motive of an S corporation engaged in horse breeding was not present, based upon the activities of the shareholder. Similarly in Sousa v. Commissioner [CCH Dec. 46,113 (M), T.C. Memo 1989-581], an individual did not conduct his boat-chartering S corporation with a bona fide profit motive. More recently, the U.S. Court of Federal Claims determined in Peter Morton v. USA [2011-1 USTC ¶50,346] that an S corporation was entitled to deduct aircraft expenses on the basis of the business interest of its sole shareholder. This case bears a closer look. Peter Morton is a co-founder of the Hard Rock Café chain and a creator-developer of the Hard Rock brand. He is also the sole or majority shareholder in several S corporations that collectively provide support for advancement of the Hard Rock Café properties and brand. Morton stated that “all these entities were interrelated and it did not matter which entity he used to conduct any particular business.” One of these S corporations
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held title to various aircraft used by Morton to conduct his business affairs, intending to take advantage of the limited liability protection available to S corporation shareholders. Whether the S corporation was entitled to deduct airplane expenses hinged on whether the S corporation possessed a profit motive, as required by Section 183. That profit motive, according to the court, can be assessed by observing whether the shareholder possessed a profit motive. Furthermore, the taxpayer argued that since the aircraft facilitated the activities of multiple businesses, the aircraft expenses were deductible. As the court stated: He argues that he is permitted to apply the expenses of an asset owned by one entity towards other entities because plaintiff and the entities all worked towards a common business purpose, and therefore were engaged in a common activity for profit. He sets forth the theory that he and his entities operated as a “unified business enterprise.”
UNIFIED BUSINESS ENTERPRISE THEORY The Court of Federal Claims found judicial support for this unified business enterprise theory that allows S corporate deductions for aircraft use when such use furthers the business purpose of other entities under common control. This is the case despite the fact that the title-holding S corporation did not use it to advance its own independent profit motive. It is sufficient that the aircraft advanced the profit motive of the shareholder’s overall trade or business. The court found its support in the following: • C ampbell v. Commissioner [89-1 USTC ¶9186, 868 F.2d 833 (6th Cir. 1989)] where the Tax Court allowed a partnership to deduct aircraft expenses when partners used the aircraft in furtherance of the business of a partner-owned corporation. The relationship between the partnership and the corporation established the requisite profit motive. Activities of one entity clearly furthered the interests of another entity of similar ownership. • Kuhn v. Commissioner [CCH Dec. 48,419(M), 64 T.C.M. 488 (1992)] states that, “While as a rule the law considers an individual and his controlled corporation to be distinct entities (for purposes of liability and taxation, among others) many taxpayers are largely unconcerned with that distinction.” It is irrelevant that the taxpayer intended to benefit directly (individually) or indirectly (via the corporation) through use of its property. Either way, the taxpayer had a profit motive. In Kuhn, an individual taxpayer rented property to his wholly owned corporation at below-market rates. The corporation benefited from the arrangement and the taxpayer reported losses. Despite losses, the Court found that the taxpayer had a profit motive as required by Section 183.
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• A line of Tax Court decisions consistently attributed a taxpayer’s profit intent to the wholly owned S corporation. [Kartrude v. Commissioner, Dec. 45,132(M) T.C. Memo 1988-498; Synnestvedt v. Commissioner, Dec 43,638(M), T.C. Memo 1987-31, and others]. • The entity doctrine intended to preserve corporateshareholder separateness was established prior to the development of S corporations. Therefore, expenses incurred by an S corporation on behalf of the business activities of its shareholder may be deducted by the corporation.
WHAT TO DO WITH TREAS. REG. 1.183-1(F) The unified business enterprise theory as espoused by the U.S. Court of Federal Claims and the Tax Court concludes that an S corporation’s profit motive may be ascertained from the shareholder’s activities. But is that what the regulations provide? Treasury Regulation 1.183-1(f ) states: Rule for electing small business corporations: Section 183 and this section shall be applied at the corporate level in determining the allowable deductions of an electing small business corporation. Nevertheless, the line of cases identified above consistently state that “although Section 183 analysis with respect to the activities of a subchapter S corporation is applied at the corporate level, Section 1.183-1(f ), Income Tax Regs, petitioner’s intent is attributable to his wholly owned subchapter S corporation.” On the one hand, regulations require assessment of profit motive based on the actions and activities of the S corporation, independent of the actions, activities and motives of shareholders. On the other hand, the courts acknowledge the regulation and then promptly ignore it by looking to the shareholder’s intent to assess profit motive. Are corporations, in reality, just the people who own and operate them? In Magassy v. Commissioner [CCH Dec. 55,505(M), T.C. Memo 2004-4, (4th Cir. 2004)], a doctor’s S corporation boat chartering activity was found to lack a profit motive. The court noted that “although the Section 183 analysis with respect to the activities of an S corporation is applied at the corporate level, a taxpayer’s objective or intent is attributable to his wholly owned S corporation.” Therefore, the taxpayer’s inexperience in owning a yacht, no business plan, incomplete books and records, and substantial medical practice income resulted in finding the S corporation had no profit motive. The taxpayer in Kartrude v. Commissioner engaged in stunt flying through a 50 percent owned S corporation. Profit motive of the entity was assessed based on the activities of the stuntperforming shareholder. As motive is determined for each year, the court was able to identify the shareholder’s actual and
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honest objective of making a profit was present in some years, but not all. Consider Brannen v. CIR [84-1 USTC ¶9144, 722 F.2d 695 (11th Cir. 1984)] where deductibility of partnership expenses was at issue. The court reasoned that investors chose to invest in a partnership. As partnerships are entities distinct from their partners, it would be inconsistent to examine profit motive at a partner level rather than at a partnership level. Nevertheless, the court reasoned that Section 183 takes effect only when the taxpayer is engaged in an activity in which he/she is not otherwise entitled to claim deductions under Sections 162 or 212. These provisions, of course, require that an activity be entered with the dominant hope and intent of realizing a profit. The appellate court then stated that “although Section 183 technically does not come into play until after it has been determined that the activity in question was not being carried on for profit within the meaning of Section 162, the courts have relied upon the factors set forth in Section 183 in making the requisite profit motive analysis under Section 162.” The court then applied the factors of Treas. Reg. §1.183-2(b) looking to the actions and activities of partners to assess the partnership activity. It is quite evident that courts have been consistent in applying the rules of Section 183 to all flow through entities and assessment of profit motive has been at the shareholder/partner level.
DEMONSTRATING S CORPORATION PROFIT MOTIVE
Treasury Reg 1.183-2(b) describes nine factors that may be employed to sort out a profit motive. These factors generally consider profit motive from the perspective of an individual and are, therefore, readily adaptable to an S corporation context. 1. Manner in which the taxpayer carries on the activity. Recordkeeping, a bank account separate from other activities and adaptation of operating methods to improve profitability are telltale signs of a businesslike manner. In the case of an S corporation, the court would look to corporate officers (shareholders) and employees who are most likely responsible for corporate dealings to determine whether activities have been conducted in a manner that suggests a profit motive. Activities include efforts to improve and adapt operating methods in a manner that might lead to a profit. 2. Expertise of taxpayer or advisors.Does the shareholder have expertise in the business of the S corporation or employ people with the appropriate expertise? 3. Time and effort expended by the taxpayer. Individuals can devote considerable time in recreational pursuits. The same can be said of individuals pursuing profits. The difference may be in how much fun is involved – though some, of course, also manage to have fun in their for-profit activities. The regulations note that withdrawal from one occupation to enter another may evidence a profit motive. For S corporations, that may continued on next page
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Could Your S Corporation Be a Hobby? continued from previous page
4.
5.
6.
7.
8.
9.
mean the shareholder has left one occupation to devote more time to the interests of the corporation. Expectation of appreciation. S corporations may hold assets awaiting appreciation. Operations, in the meantime, work to minimize losses incurred until the ultimate profit is realized when the appreciated property is sold. Whether these undertakings are considered a single activity or separate depends on the “degree of organizational and economic interrelationship of various undertakings, the business purpose that is served … and the similarities of the undertaking (Treas. Reg. 1.1831(d)).” Regulations provide an example in which land is purchased primarily for appreciation but is farmed in the interim. Farming and land holding will be regarded as a single activity only if “the income from farming exceeds the deductions attributable to the farming activity that are not directly attributable to the holding of the land.” S corporations with more than one activity must allocate income and expenses among all activities. Previous success in other business pursuits. S corporations or their shareholders who have previously turned other businesses from being unprofitable to profitable may evidence a profit motive in a currently unprofitable activity. History of income or losses. Unexplained sustained losses may indicate a lack of profit motive. Circumstances beyond the control of a taxpayer such as drought, disease, fire, theft, weather damage, involuntary conversions or depressed market conditions are possible explanations for sustained losses, yet still retain a profit motive. The amount of occasional profits, if any. The size and regularity of losses in comparison to profits, the amount of taxpayer investment, and the value of assets used in the activity are important criteria to consider. An opportunity for a substantial ultimate profit in a venture that is highly speculative may be sufficient to support a profit motive. The “unity of business purpose theory” supports a finding of a profit motive of an S corporation in concert with a shareholder’s other related business activities. The financial status of the taxpayer. S corporations with affluent shareholders may have greater difficulty demonstrating a profit motive, particularly if S corporation activities are unrelated to the shareholders’ other pursuits. Elements of personal pleasure or recreation. Activities need not be engaged in solely for a profit motive. However, the dominance of personal motives often supports a not-for-profit motive.
As applied by the courts, no factor is necessarily weightier than another and the shareholder rather than the corporation itself may be the object for evaluating the S corporation profit motive. It should also be noted that Section 183(d) provides a presumption that an activity is engaged in for profit if the activity is profitable for three years of a consecutive five-year
38
period (two of seven years for activities related to horses). The taxpayer can make an election to postpone IRS challenges until five (or seven) years have passed from the date the activity started. This is done by filing Form 5213, Election to Postpone Determination as to Whether the Presumption Applies that an Activity is Engaged in for Profit. Meeting the rule creates a profit-motive presumption that can nevertheless be rebutted by the IRS. On the other hand, if the presumption rule is not met, the taxpayer may still be able to avoid the hobby loss rules by meeting some or all of the nine factors listed above.
CHECK-THE-BOX REGULATIONS AND PROFIT MOTIVE
The check-the-box regulations make it relatively simple for partnerships and LLCs to elect to be taxed as corporations. Non-corporate entities making such elections can also then make the S corporation election. The advantages sought by this two-step process include avoidance of double taxation on distributions to shareholders and achieving employee status for S corporation shareholders. Additionally, since the “nonincorporated corporation” is taxed as an S corporation, it would seem too that these entities are subject to the rules of Section 183. This squares with the IRS policy of applying the rules of Section 183 to all pass-through entities. General Counsel Memorandum 36577 explains that since Treas. Reg §1.183-1(a) applies Section 183 to trusts and estates that compute their taxable income in the same manner as individuals, Section 183 should likewise apply to partnerships. Moreover, it has long been held that a partner is viewed as engaged in the business of the partnership, and the intent of a partnership is reflected in the management activities of the partners. Therefore, when evaluating the profit motive of a partnership or an S corporation, the actions of partners and shareholders cannot be separated. It should be noted that General Counsel Memoranda are for use by IRS district offices in formulating positions. They provide CPAs a foundation for interpreting tax law, though GCMs are not always acceptable by the courts. Similarly, in Simon v. CIR [87-2 USTC ¶9554, 830 F.2d 499 (3rd Cir. 1987)], the court observed that:
Today’sCPA
| NOVEMBER/DECEMBER 2012
although the existence of a profit objective of a partnership is determined at the partnership level, we note that a partnership is a formal entity and a determination of profit objective can only be made with reference to the actions of those individuals who manage the partnership affairs. An individual partner’s investment objective is not relevant to establishing a partnership profit motive. Therefore, partnerships electing to be taxed as corporations and then electing S status are subject to the same Section 183 limitations as regular C corporations that took a more conventional path toward S corporation status. What about incorporating an activity and not making the S election? Do the hobby loss rules apply to a C corporation? According to the IRS Audit Techniques Guide (ATG) for Section 183 (Revised 6/2009), “It does not apply to C corporations.” The rationale is that regular C corporations are not flow-through entities. The losses stay at the corporate level and can only be used at that level, whereas the losses of partnerships, S corporations, estates and trusts can be passed through to the individual owners/ beneficiaries. Of course, it would seem that if an activity is not found to have a profit objective, the IRS could always disregard the corporate entity as a sham and impose the hobby loss rules at the individual owner level. Otherwise, incorporating a hobby without the S election might be a too-good-to-betrue tax planning scheme. It would allow deductions in full against the income with a carryback/carryforward of any net operating losses. This would be preferable to the individual treatment of hobby expenses as itemized deductions. Except for the otherwise allowable deductions (such as property taxes), the rest are miscellaneous itemized deductions subject to the 2 percent of AGI floor. In addition, these 2 percent AGI deductions are disallowed under the alternative minimum tax.
DOES THE S ELECTION INCREASE EXPOSURE TO VEIL PIERCING?
Lifting the corporate veil to determine the existence of an S corporation’s profit motive causes the separate corporate-shareholder identity to become fuzzy. Does that then
increase the likelihood of a “piercing the veil challenge” to S corporations? Most states recognize two basic theories in evaluating whether to pierce the protective veil of a corporation and hold shareholders accountable for liabilities of the corporation. One is the alter ego theory and the other is a single business entity theory. Piercing the veil requires that some injustice will occur if the formality is not set aside. In Texas, this level of injustice must amount to fraud, though most states don’t hold to such a high threshold. States and courts have expressed a reluctance to violate the sanctity of the protective veils afforded by law.
TEXAS LAW – UNIQUE AND STRONG VEIL PIERCING PROTECTION
In Texas, a court decision viewed as unfavorable to the business community led to a rewrite of state law that excluded piercing the veil if attributed to an alter ego or single business entity theory, and any similar theory. The sole basis for ignoring the corporate liability protection must be due to an actual fraud that directly benefits the shareholder. Specifically, the Texas Business Corporation Act, Article 2.21 (2006) requires that: a holder of shares … shall be under no obligation to the corporation or to its obligees with respect to: any contractual obligations of the corporation or any matter relating to or arising from the obligation on the basis that the holder, owner, subscriber or affiliate is or was the alter ego of the corporation, or on the basis of actual fraud or constructive fraud, a sham to perpetrate a fraud, or similar theory, unless the obligee demonstrates that the holder, owner, subscriber or affiliate caused the corporation to be used for the purpose of perpetrating and did perpetrate an actual fraud [emphasis added] on the obligee primarily for the direct personal benefit of the holder, owner, subscriber or affiliate; or any obligation of the corporation on the basis of the failure of the corporation to observe any corporate formality, including without limitation: (a) the failure to comply with any requirement of this
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| NOVEMBER/DECEMBER 2012
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Could Your S Corporation Be a Hobby? continued from previous page
Act or of the articles of incorporation or bylaws of the corporation; or (b) the failure to observe any requirement prescribed by this Act or by the articles of incorporation or bylaws for acts to be taken by the corporation, its board of directors or its shareholders. This limitation does not apply, however, if the stockholder expressly assumes, guarantees or agrees to be personally liable to the obligee or is otherwise liable to the obligee for the obligation under another applicable statute. Furthermore, this law does not absolve corporate agents of liability for the agents’ own tortuous conduct. This strong veil of protection, of course, is only extended to entities that are actually incorporated in Texas. Non-corporate entities that elect to be taxed as corporations, whether or not they make an S election, would not be afforded this protection against veil-piercing claims.
IN A NUT SHELL
S corporations are explicitly subject to the Section 183 hobby loss rules. Treas. Reg. 1.183-1(f ) states that the hobby loss
rules shall be applied at the corporate level for S corporations. However, court cases uniformly have assessed profit motive by looking at the shareholder’s intent. They have applied the nine factors in Treas. Reg. 1.183-2(b) for determining profit motive at the shareholder level, seemingly unable to differentiate corporate actions and activities from those of its shareholder(s). The check-the-box regulations give unincorporated entities the ability to be taxed as corporations and even make the S election. As a result, these entities would be subject to the hobby loss rules. C corporations are not subject to these limitations under the reasoning that they are not flow-through entities; that is, their losses stay at the corporate level. It would appear that lifting the corporate veil to peek at the profit motive at the shareholder level would risk “piercing the veil” challenges to S corporations. In Texas, the veil is particularly hard to pierce due to strong business legislation that excludes piercing, even if attributed to the shareholder being an alter ego of his/her corporation. The sole basis for ignoring corporate liability protection must be due to an actual fraud that directly benefits the shareholder. ■
Mark A. Turner, DBA, CPA, CMA, is Associate Professor of Accounting at the University of St. Thomas – Houston. He can be reached at turnerma@stthom.edu. Ramon Fernandez, MBA, CPA, CFP®, CMA, CIA, is Assistant Professor of Accounting at the University of St. Thomas – Houston. He can be reached at ramonf@stthom.edu.
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Today’sCPA
| NOVEMBER/DECEMBER 2012
CPE Quiz Today’s CPA offers the self-study exam below for readers to earn one hour of continuing professional education credit. The questions are based on technical information from the preceding article. Mail the completed test by December 31, 2012, to TSCPA for grading. If you score 70 or better, you will receive a certificate verifying you have earned one hour of CPE credit – granted as of the date the test arrived in the TSCPA office – in accordance with the rules of the Texas State Board of Public Accountancy (TSBPA). If you score below 70, you will receive a letter with your grade. The answers for this exam will be posted in the next issue of Today’s CPA. Answers to last issue’s self-study exam: 1. d 2. b 3. a 4. d 5. a 6. d 7. c 8. d 9. d 10. a PARTICIPATION EVALUATION (Please check one.) 5=excellent 4=good 3=average 2=below average 1=poor 1. The authors’ knowledge of the subject is: 5__ 4__ 3__ 2__ 1__. 2. The comprehensiveness of the article is: 5__ 4__ 3__ 2__ 1__. 3. The article and exam were well suited to my background, education and experience: 5__ 4__ 3__ 2__ 1__. 4. My overall rating of this self-study exam is: 5__ 4__ 3__ 2__ 1__. 5. It took me___hours and___minutes to study the article and take the exam. Name _______________________________ Company/Firm________________________ Address (Where certificate should be mailed) ___________________________________ City/State/ZIP_________________________ Enclosed is my check for: ___ $10 (TSCPA member) ___ $20 (non-member) Please make checks payable to The Texas Society of CPAs. Signature____________________________ TSCPA Membership No._______________ After completing the exam, please mail this page (photocopies accepted) along with your check to: Today’s CPA; Self-Study Exam: TSCPA CPE Foundation Inc.; 14651 Dallas Parkway, Suite 700; Dallas, Texas 75254-7408. TSBPA Registered Sponsor #260.
Today’sCPA
| NOVEMBER/DECEMBER 2012
Could Your S Corporation Be a Hobby? BY MARK A. TURNER, DBA, CPA, CMA, AND RAMON FERNANDEZ, MBA, CPA, CFP®, CMA, CIA
1
Internal Revenue Code Section 183 states that the hobby loss rules apply to which of the following entities? A. B. C. D.
Individuals: Yes; S corporations: No Individuals: No; S corporations: Yes Individuals: Yes; S corporations: Yes Individuals: No; S corporations: No
B. Recreational aspects of the activity C. Whether the taxpayer has financial assets at risk D. Financial status of the taxpayer
7 Which of the following is true when land is acquired with the expectation of appreciation?
A. $3,000 B. $4,000 C. $5,000 D. $7,000
A. Operations conducted to minimize losses until property held for appreciation is sold may be considered a single activity. B. Holding land and any activity conducted on the land must be combined as a single activity for purposes of determining whether a profit motive is present. C. Holding land with the expectation of appreciation and operations can only be combined as a single activity in the case of farming. D. Holding land for appreciation can be combined with any similar or dissimilar activity, at the election of the taxpayer.
3 According to the Moline Properties Inc. Supreme Court decision:
8 Among the advantages of electing S status by unincorporated entities is:
A. A corporation is a separate entity from its shareholders. B. A corporation is a pass-through entity for its shareholders. C. The corporate form cannot be disregarded. D. The corporate form can be disregarded if its purpose is to carry on a business activity while gaining an advantage under the law of the state of incorporation.
A. Avoidance of Section 183 “hobby loss” rules B. Avoidance of employee payroll taxes for shareholders serving as employees C. Avoidance of double taxation on distributions to S corporation shareholders along with possible employee status for S shareholders D. Assurance that S shareholder activities will not be considered in evaluating profit motive
2 If an activity deemed to be a hobby has gross income for the year of $5,000, otherwise allowable property taxes of $4,000, and other expenses of $3,000, what is the total amount of deductions that would be allowable for the year?
4
Allowing an entity to deduct expenses that further the business purpose of other entities under common control is justified under: A. B. C. D.
The entity doctrine. The unified business enterprise theory. The check-the-box regulations. Internal Revenue Code Section 183.
5 In Magassy v. Commissioner, the Tax Court found the entity’s activity to lack a profit motive. At which level did the court assess the profit motive objective? A. B. C. D.
The S corporation level The C corporation level The partnership level The individual owner level
6 Among the nine factors the IRS generally uses to determine whether a taxpayer possesses a profit motive are all of the following except:
9
Texas law:
A. Is consistent with the theory that S shareholders should be held accountable for corporate debts in all cases when the corporation is a mere “alter ego” of the shareholder. B. Prevents S shareholders from personally assuming or guaranteeing liability for S corporation debt. C. Permits an “alter ego” defense when S shareholders have committed actual fraud. D. Generally supports “piercing the veil” claims.
10 All of the following are true except: A. S corporations are explicitly subject to Section 183 loss rules. B. The IRS can look through the S corporation and evaluate shareholder activities for purposes of identifying the presence of corporate profit motives. C. Check-the-box regulations give unincorporated entities the ability to be taxed as corporations and even make an S election. D. In Texas, the fact that S shareholder activities can be examined for profit motive of the entity opens the door to “piercing the veil” challenges even when fraud is not present.
A. Time and effort extended by the taxpayer in an activity
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CPE Personal Assistant Be sure to use your CPE Personal Assistant on the TSCPA website. It’s an online tool TSCPA members can use to track, maintain and update their CPE records. You can access this tool by going to the CPE area of the TSCPA website (tscpa.org) and clicking on the CPE Personal Assistant box. 44
Today’sCPA
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JANUARY MONDAY
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A distracted driver … A rain-slicked highway … A deer suddenly darts across the road … Would your loved ones be prepared financially if you suffered a fatal car accident? Help protect them with the Group Accidental Death and Dismemberment Insurance Plan sponsored by TSCPA.
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o matter how safely you drive—even if you wear your seat belt and your vehicle has anti-lock brakes and full air bag protection—sometimes there’s no avoiding a fatal accident. In fact, if you’re between the ages of 1 and 44, you’re more likely to die in an accident than from cancer or any other disease. The most common type of fatal accident? Motor-vehicle crashes.* That’s why members of TSCPA are guaranteed acceptance in an Accidental Death and Dismemberment (AD&D) plan, which can pay your loved ones up to $500,000.00 if you fall victim to a covered fatal accident. There is NO physical exam. NO health questions are required. Plus, this program for TSCPA members also includes extra benefits for safe drivers, child care, college tuition, serious injuries, burns and much more! It’s an easy way to add up to a $500,000.00 accident financial cushion for your loved ones … at an affordable, members-only group rate. * “Injury Facts 2011 Edition,” National Safety Council. **Features, Costs, Eligibility, Renewability, Limitations and Exclusions
Help build a $500,000.00 financial safety net against injuries and death resulting from covered: • Car Accidents • Falls • Drowning
The AD&D plan sponsored by TSCPA delivers up to $500,000.00 benefit payments—paid straight to you or your loved ones—in addition to any other coverage you may have. It’s a convenient way to help your loved ones rebuild their lives if you fall victim to a sudden fatal accident. Sponsored by:
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