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CPAs Dabbling is Russian Roulette with 5 Bullets - Part 2


     By Lance Wallach, CLU, CHFC Abusive Tax Shelter, Listed Transaction, Reportable Transaction Expert Witness

PhoneCall Lance Wallach, Expert Witness Carl Lloyd Sheeler, PhD, ASA, CBA, CVA at (516) 938-5007


In Part 1, we addressed the woeful inadequacy of education and experience of the accounting professional who chooses to dabble in a niche sector to make a few thousand dollars and why the AICPA, IRS and the Courts have brought the hammer down and the knowing or unwitting practitioner learns s/he is facing penalties, sanctions, fines, lawsuits and no E&O coverage. Game over.
An illustration of what to do. A large Boston based CPA firm that has a department of full-time valuation professionals outsources their work to our firm when an audit or tax preparation creates either a perceived or actual conflict of interest. In a case, where the value of a 99.5% Member Interest in an LLC holding $65+ million in marketable securities as of early 2009, was opined with a 42% discount. The IRS challenged the discount having recently prevailed on the Estate of Holman with a similar fact pattern where the discount was disallowed and the gross estate was at full fair market value.

Due to the review of the partnership agreement and fund of funds agreements as well as indicating how the market volatility has caused even small cap public companies to lose 40% or more of their value, we were able to show that the Member interest was an economic one with no voting rights and a holding period likely to be at least 12 to 18 months necessitated the discount. The taxpayer prevailed.

An illustration of what to do and what not to do. Taxpayer’s CPA applies an aggregate -30% discount to a transferred partnership interest citing several court cases where such discounts were permitted and relying upon the averages of various restricted stock and IPO studies. The IRS sent a Notice of Deficiency disallowing the discounts for absence of proof as to the level of the discount. We were retained and argued for a -55% discount and the taxpayer achieved a -45% concession. (First. we always refer to buyer and seller as investors. Second, we outline all the impairments of the entity and equity level as “risks”, whereby an adjustment would be warranted and usually referred to as concessions versus “discounts”. Third, we discuss the likely number and risk preferences of the pool of buyers based upon indexes of the asset class performance over a defined holding period with an eye towards the capital markets. Fourth, we prove up the discount is appropriate by showing the risk/return makes sense.

The first example is an accounting firm that knows what it is good at and where/when to outsource, the second was plain and simple incompetence, because the training the CPA received isn’t adequate to simply and arbitrarily apply a discount without examination of case specific factors. The CPA lost the client and was penalized for gross under-valuation of the equity interest – a severe fine. Having a doctoral dissertation addressing illiquidity is less important than understanding the private capital markets, which most dabbling CPAs seldom do. If they had, they’d see most of the issues are financial and operational and not accounting and tax related. The client may not know the difference. The AICPA, the IRS and the Courts expect the CPA firm to know better and not misrepresent through omission.

ABOUT THE AUTHOR: Lance Wallach, Expert Witness Carl Lloyd Sheeler, PhD, ASA, CBA, CVA
Lance Wallach, National Society of Accountants Speaker of the Year and Member of the AICPA faculty of teaching professionals, is a frequent Speaker on retirement plans, abusive tax shelters, financial, international tax and estate planning.

Dr. Sheeler, National Managing Partner, Business Valuations, Ltd. has 20+ years of full-time BV expertise and is an industry thought-leader having trained thousands of valuation practitioners in complex matters involving discounting of equity interests and valuing larger midmarket companies.

Copyright Lance Wallach, CLU, CHFC

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While every effort has been made to ensure the accuracy of this publication, it is not intended to provide legal advice as individual situations will differ and should be discussed with an expert and/or lawyer. For specific technical or legal advice on the information provided and related topics, please contact the author.

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