Step 4-7

Should You Invest?

Any taxpayer who naively believes a tax shelter promoter's claim that an abusive investment can be shielded from intense IRS scrutiny is living in a dream world. Even though it has taken the IRS many years and several legislative packages to deal with the skyrocketing problem of abusive tax shelters, they are now in a position to deal with it very effectively, and very quickly.

If you're worried that a tax shelter may result in your return being audited by the IRS, consider this fact- The only tax SHELTERS that must be registered with the IRS are those: (1) in which a person could reasonably infer that the tax shelter ratio (the aggregate amount of deductions plus 350 percent of the tax credits that are represented as potentially allowable to an investor) for any investor may be greater than 2 to 1 as of the close of any of the first 5 years ending after the date on which the investment is offered for sale; and, (2) the investment is subject to a Federal or state securities regulatory scheme, or the shelter's total amount that may be offered for sale exceeds $250,000 and five or more investors will be involved.

The IRS Commissioner has stated, though, that the regulations were broadly written on purpose to create a registration program that included perfectly acceptable shelters along with the abusive ones. This was done to enable the IRS to monitor all tax shelters.

However, in order for you to effectively gauge the potential consequences of your investment in an abusive tax shelter, read the IRS example in Exhibit 4-1.

Before investing in any tax shelter:

1. Read and understand the prospectus.
2. Determine if the investment program is required to be registered with the state, the IRS, or other Federal agencies such as the SEC. Obtain proof from the promoter that the registration requirements have been met.

3. Ask yourself: Does the deal seem too good to be true? Try to determine if the investment has economic reality, by computing the present value of all the investments and associated costs of the shelter.

• Does the price of the underlying asset, together with its related elements, bear a relationship to fair market value? Is the property appraised by a "qualified" appraiser?
• Does the transaction provide for a true equity build up, or is your initial investment the sum total of your involvement? Are there valid at-risk amounts, or does your "loss" involve nonrecourse financing? Are there unwritten understandings of the parties involved that must occur before the "loss" is obtained?
• Does the transaction transfer the burdens and benefits of ownership, or are there cash loss protections built in that negate your loss or risk? Are there documents of ownership or has title to property actually changed hands? Are false statements or documents being used?
• Does the shelter appear to be an IRS target for examination? If so, could you withstand the intensive scrutiny of an IRS audit? Are you financially prepared to battle the IRS, or to pay the possible consequences?
• Does the shelter promoter appear to be legitimate? What is his track record? Does he offer a qualified tax opinion? What is the track record of the individual or firm giving the opinion.

4. Have the prospectus checked out by a qualified practitioner such as a tax attorney or a CPA skilled in tax shelter analysis. The best approach is to have a CPA check out the accounting methodology used by the investment company, and a tax attorney to check for tax law conformities and/or irregularities. The costs of the these checks will be well worth it, particularly if they save you thousands of dollars in IRS penalties. 5. If questions still remain, have your tax adviser send the prospectus to the IRS for an opinion of its worthiness.

Next Section: Exhibit 4-1 IRS Example of Abusive Tax Shelter Consequences

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© 1986, 1998 to 2002, Jack Warren Wade, Jr.