Tax Shelter
Tax Shelter means: any partnership or other entity, any investment plan or arrangement, or any other plan or arrangement the principal purpose of which is to avoid or evade federal income tax. An item of income, gain, loss, deduction, or credit is a “tax shelter item” if the item is directly or indirectly attributable to the principal purpose of a tax shelter. A tax shelter is an investment with a greater than 2:1 ratio of deductions plus 350% of the credits to the amount invested.
History of Tax Shelters
Steven R. Mather wrote that:
“The 1970s saw a first wave of tax shelters. The entity of choice for most of these 1970s tax shelters was a partnership consisting of many partners. After wrestling with the procedural burden of dealing with these large partnerships, the Internal Revenue Service (“IRS”) got its way in the Tax Equity and Fiscal Responsibility Act of 1982 (“TEFRA”).1 As part of TEFRA, Congress enacted an entirely separate set of audit procedures that applied to certain entities (“TEFRA partnerships”). In an illustration of “be careful of what you wish for,” the audit procedures applicable to TEFRA partnerships (the “TEFRA partnership audit procedures”) proved so difficult to implement that the IRS has struggled with them ever since. The difficulties were so profound that the IRS would rarely audit an entity if it was subject to the TEFRA partnership audit procedures.”
Example of Tax Shelter:
Learn more about tax examples, explanations and calculations here.
Dunn purchases an income-producing property that provides a tax shelter. In the first year, the property produces a net operating income of $100,000. Debt service is $80,000, of which $75,000 is interest. Dunn’s before-tax cash flow is $20,000. First-year depreciation is $50,000, so that a tax loss of $25,000 is generated. Dunn not only pays no tax on the $20,000 cash flow but may be allowed to shelter $25,000 of income from other sources. Former IRC (check if this IRC provision is current here) §§448 and 461.
The Tax Reform Act of 1986 places limits and restrictions on the deductibility of passive losses.
See also other Tax Terms and Definitions in U.S.A.
active participation; material participation; passive income (loss).
See Depreciation in the United States Encyclopedia of Law and Depreciation in the World Encyclopedia of Law.
Description and Definition of Tax Shelter
An investment designed to result in favorable tax treatment.
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