In a fundamental development, the Internal Revenue Service (IRS) announced a proposal on January 26, 2010 that would require taxpayers to identify and report, on their annual income tax returns, uncertain tax positions they have taken. In addition, taxpayers would be required to disclose to the IRS the magnitude of the exposure if the position were to be disallowed. This announcement, formally issued in IRS Announcement 2010-9 (the Annoucement), was discussed by Douglas Shulman (Commissioner of the IRS) during his remarks to the New York State Bar Association (NYSBA) Tax Section on January 26. The Commissioner indicated that this proposal was part of an overall plan that would allow the IRS to “work smarter” and that the objectives of the proposal were to reduce the time it takes for agents to identify issues on audit and to help the IRS prioritize the selection of issues that it wishes to examine during audit, thereby helping the IRS make better use of its limited resources. The IRS has requested public comments on the proposal by March 29, 2010. If the proposal is implemented, it would represent an important transformation of the manner in which tax information is conveyed to the government and of the manner in which IRS audits would be conducted.

Who is Required to Disclose and What Constitutes an Uncertain Position?

Announcement 2010-9 indicates that the IRS is developing a Schedule that would be attached to the taxpayer’s annual income tax return. The Announcement provides that this Schedule would be required to be filed by a “business taxpayer” (which presumably would include most corporations – even holding corporations – as well as partnerships and LLCs) if the taxpayer (i) has total assets in excess of $10 million, and (ii) has taken at least one uncertain tax position of a type required to be disclosed on the proposed Schedule. While the determination of what constitutes an uncertain tax position is not yet fully clear, it appears that the proposal requires, at a minimum, disclosure of each discrete U.S. federal income tax position that is included in a tax reserve that the taxpayer (or, importantly, a related person) is required to establish for accounting purposes under FASB Interpretation No. 48 (“Accounting for Uncertainty in Income Taxes, an Interpretation of FASB Statement No. 109”) or any other generally accepted accounting standard, such as International Financial Reporting Standards (IFRS). In addition to this, the Announcement would also require disclosure of any U.S. federal income tax position for which a tax reserve is not required to be established because either (a) the taxpayer expects to litigate the issue, or (b) the taxpayer has made a determination that the IRS has a general administrative practice not to examine the position.

For example, based on the rules outlined in the Announcement, it appears that a wholly-owned U.S. corporate subsidiary of a Canadian parent corporation (that is required to prepare audited financial statements in accordance with Canadian generally accepted accounting principles or IFRS) would be required to disclose any U.S. tax positions taken by the subsidiary that form part of the parent’s tax reserve, assuming that the U.S. subsidiary has more than $10 million in total assets.

What Information Would the Taxpayer be Required to Disclose?

A taxpayer that is subject to the proposal would be required to file a Schedule with its tax return that would include the following information:

  • A concise description of each uncertain tax position in sufficient detail so that the IRS can determine the nature of the issue and understand the reasons for determining that the position is an uncertain tax position;
  • An indication of the U.S. Internal Revenue Code sections potentially implicated in the position;
  • A statement that the position involves an item of income, gain, loss, deduction or credit against tax;
  • A statement that the position involves a permanent inclusion or exclusion of any item, the timing of that item, or both;
  • A statement whether the position involves a determination of the value of any property or right;
  • For each separate uncertain position, the taxpayer is required to specify the maximum amount of U.S. federal income tax liability that would be due if the position were disallowed in its entirety; and
  • A statement whether the position involves a computation of basis.

The Announcement states that the proposal does not require a taxpayer to disclose its risk assessment or tax reserve amounts but cautions that the IRS has the ability to issue a summons requiring the production of this information. The IRS has indicated that it intends to retain its policy of restraint (articulated in IRS Announcement 2002-63) as it relates to requests for tax accrual workpapers. In his remarks to the NYSBA, Commissioner Shulman explained that a “concise” description of the uncertain position was intended to mean “a few sentences that inform us of the nature of the issue, and not pages of factual description or legal analysis.” Commentators have questioned, however, the significance of retaining the policy of restraint given the amount of information that would be required to be disclosed under the proposal.

To reinforce compliance with these proposed disclosure measures, the IRS also indicated in the Announcement that it is considering implementing additional penalties or sanctions for failure to make the required disclosure, including the possibility of seeking legislation from Congress that would impose a penalty for failure to file the Schedule or for inadequate disclosure of an uncertain tax position.

Implementation of the Proposal

As indicated above, a number of the key dimensions of the proposal will require further development and clarification. Perhaps in recognition of this and the vital overall importance of this development to taxpayers, the Announcement requests comments from the public regarding the proposal. The IRS is “particularly interested” in comments on issues related to, among other things: (i) how the maximum tax amount of the U.S. federal income tax exposure should be reflected on the Schedule; (ii) whether there are alternative methods of disclosure of the amount at issue that would allow the IRS to assess the relative importance of tax positions; and (iii) whether the scope of uncertain tax positions that are required to be disclosed should be modified. The deadline for delivering public comments is March 29, 2010.

The IRS stated that it intends to publish the new Schedule on which the proposed disclosures would be made “as quickly as possible” and that it expects to require the new Schedule be filed with tax returns filed after the release of the Schedule. Although not absolutely clear, this would presumably mean that, for calendar year taxpayers, the 2010 taxable year would be the first year for which these disclosures would be required, assuming the proposal is implemented.


In the weeks to come, there will undoubtedly be much debate in the United States about the appropriate scope of this proposal. Importantly, this significant expansion of the disclosure requirements imposed on taxpayers by the IRS exceeds the information gathering practices of the Canada Revenue Agency (CRA) and tax authorities of other countries that are major trading partners with the United States.

In addition, the proposed expansion of tax-related disclosure requirements will generate a significant amount of pressure on the issue of whether attorney-client privilege, work product protection or other evidentiary privileges may be asserted to avoid the disclosure of particular uncertain tax positions that would otherwise be required under the IRS proposal. On this point, the IRS recently achieved an important victory in U.S. v. Textron Inc., 104 AFTR 2d 2009-5719 (1st Cir., 2009), in which the U.S. Court of Appeals for the First Circuit decided that the work product protection did not attach to tax accrual workpapers prepared by Textron’s internal tax department in connection with the preparation of the company’s tax reserves for its audited financial statements. This decision has driven considerable debate regarding the limits of the work product protection as it relates to tax accrual workpapers. This debate has been fuelled by a strong dissent in the Textron decision and potential differences between judicial circuits in the United States regarding the legal standards for application of the work product protection. In addition, Textron recently made an application for judicial review of the First Circuit’s decision to the United States Supreme Court. Given the close relationship between uncertain tax positions for which a reserve must be established for financial accounting purposes and the uncertain tax positions that would be required to be disclosed under the IRS’s proposal (i.e., in many cases the information that would be required to be disclosed under the IRS’s proposal will be derivative of, or at least substantially similar to, information included in the taxpayer’s tax accrual workpapers), the authority of the IRS to compel this information under the Announcement will likely be swept into the debate regarding the interaction of the work product protection and IRS requests for tax accrual workpapers. In the absence of a Supreme Court decision on the issue, this uncertainty will likely persist.

Finally, Canadian taxpayers with U.S. affiliates should consider the potential of this IRS proposal to produce indirect consequences for them. In particular, the recent expansion of the Exchange of Information provisions of the Canada – U.S. Tax Treaty is expected by many to produce an increased flow of tax information between the IRS and the CRA. Information collected by the IRS pursuant to this proposal may in some cases relate to uncertain tax positions associated with transactions or dealings with Canadian affiliates. If the CRA is successfully able to secure this Schedule from the IRS pursuant to the Exchange of Information provisions in Article 27 of the Treaty, this may provide the CRA with an important starting point, if not a roadmap, for identifying potential audit issues on a Canadian taxpayer’s return. Also, it is possible that Canada could consider implementing similar measures if this approach becomes successfully implemented by the IRS.