Abusive Tax Shelter FAQs

1. What is a tax shelter?
A tax shelter is a legal method taxpayers can use to reduce tax liabilities. Tax shelters are used to describe some of the tax advantages of real estate investment, such as deductions for depreciation, interest, and taxes, which may offset the investor's other ordinary income to reduce overall tax payment.

2. I am considering a tax shelter investment. How can I recognize an abusive tax shelter?
The IRS allows some tax shelters, but will not allow a shelter which is abusive. An abusive shelter generally offers inflated tax savings, which are greater than your actual investment placed at risk. Generally, you invest money to generate income. However, an abusive tax shelter generates little or no income, and exists solely to reduce taxes unreasonably. A series of tax laws have been designed to halt abusive tax shelters. Any person participating in an abusive tax shelter may be penalized up to $1,000, in addition to being liable for the full tax irrespective of the shelter.

3. What is an abusive tax shelter?
Abusive tax shelters are marketing schemes that involve artificial transactions with little or no economic foundation. Generally, you invest money to make money. Abusive tax shelters offer:

  • Inflated tax savings based on large write-offs and credits that are usually out of proportion to your investment.
  • Little risk despite outward appearances.

4. How do I know if I am at risk?
You are considered at risk for abusive tax shelter activity for the following amounts:

  • The amount of cash you invested in the activity
  • The adjusted basis of other property you contributed to the activity, and
  • The amount you borrowed to invest in the activity, to the extent that you are personally liable on the loan or have pledged property not used in the activity as security.

Losses and credits from tax shelters are often considered passive. Passive losses and credits can only be used to offset income from other passive activities.

5. What is a Listed Transaction and what does it mean to me?
IRS regulations on abusive tax shelters provide that a taxpayer must disclose certain transactions know as "listed transactions" by filing a disclosure statement with its tax return. A listed transaction is a transaction that is the same as or substantially similar to one that the IRS has determined to be a tax avoidance transaction.

6. My tax shelter promoter gave me a legal opinion stating that this tax strategy should withstand IRS scrutiny. Does this protect me?
The vast majority of shelters come with legal opinions stating that there is substantial authority for the tax strategy. These opinions are used as a marketing device and are touted by the promoter as a means of escaping penalties in the event the IRS challenges the shelter. Many of the opinions either misstate the strategy or contain assumptions, caveats or qualifications that make the opinion essentially meaningless.

7. What is my remedy against the promoter?
Possible remedies include:

  • back taxes
  • penalties
  • interest
  • return of your investment
  • return of all costs or fees paid to the promoter
  • restitution for any damages
  • reimbursement of attorney's fees