The IRS regularly reviews the documentation filed by individual taxpayers, businesses, and organizations, and it has identified numerous ways that taxpayers may engage in tax avoidance or tax evasion. The "abusive tax schemes" that are recognized by the IRS may lead to tax audits, and a taxpayer that has failed to pay taxes as required or meet other requirements for reporting information to the IRS may be subject to penalties. One abusive tax scheme recently highlighted by the IRS involves micro-captive transactions, and companies that engage in these types of transactions will need to be aware of what requirements may apply to them and how they can avoid potential penalties.

What Are Micro-Captive Transactions?

In some cases, businesses may establish "captive" insurance companies that are owned and operated by the parties who are insured by these companies. This can be an effective way to ensure that a company has appropriate insurance coverage to address unique issues, and it can provide other benefits as well. However, the IRS has identified certain types of captive insurance companies as "micro-captives" that may be used to reduce the amount of taxes a business may be required to pay.

In general, insurance companies are taxed based on their taxable income under Section 831(a) of the Internal Revenue Code. However, some companies may be eligible for an alternative tax under Section 831(b), and this tax is calculated based on a company's investment income in a given tax year. Because the income generated through premiums is not included in an insurance company's investment income, this may allow for a reduction in the taxes a company is required to pay.

There are numerous different types of tax credits and deductions that may be available to small business owners, and these can be essential methods of minimizing a business's tax burden and ensuring that a company can continue operating successfully. Business owners should be aware of the types of employment tax credits they may be able to use, as well as the potential penalties they could face if they do not claim these credits correctly. One concern that has risen recently is related to the Employee Retention Credit (ERC), which has been highlighted by the IRS as a potential avenue for tax scams.

What Is the Employee Retention Credit?

During the COVID-19 pandemic, a variety of measures was put in place to provide assistance for businesses that were forced to shut down or experienced other issues that led to losses of revenue. One of these was the Employee Retention Credit, which was a payroll tax credit that was available in the tax years of 2020 and 2021. It allowed employers to receive a credit for a percentage of qualified wages paid to employees, with a maximum credit of $5,000 per employee in 2020 and $7,000 per employee per quarter in 2021.

The ERC was limited to specific businesses that were affected by the pandemic. These included businesses that were required to fully or partially suspend operations due to government orders, businesses that experienced declines in gross receipts in 2020 or during the first three quarters of 2021, and businesses that met the qualifications to be considered recovery startup businesses in the third and fourth quarters of 2021.

As part of the ongoing efforts to address global climate change, the U.S. government has taken steps to promote the use of clean energy in a number of ways. This includes offering tax credits and deductions for small businesses that take steps to cut energy costs and reduce reliance on fossil fuels. By investing in energy efficiency, small business owners may be able to realize significant savings by reducing their expenses and lowering their tax bills.

Types of Clean Energy Credits and Deductions

There are several options that may be available for small businesses that make the shift toward clean energy, including:

• Solar energy tax credits - Businesses that purchase new solar energy systems have two options for receiving tax credits. The investment tax credit (ITC) will reduce a business's federal tax liability in the year in which a new solar power system is installed, while the production tax credit (PTC) will provide ongoing credits based on the electricity generated by a solar power system within the first 10 years of operation. The ITC provides a credit of 30 percent of the amount spent on systems such as solar panels, inverters, transformers, circuit breaks, and energy storage devices, and it may be the preferred option for smaller-scale solar power projects. The PTC provides a tax credit of 2.75 cents per kilowatt-hour of electricity generated in a tax year, and it may provide more tax savings in situations involving large-scale projects that will generate a significant amount of electricity over several years. Both the ITC and PTC will be available for systems that began operating in 2022 or later, as long as construction begins prior to 2033.

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Taxpayers may own multiple types of assets, including digital assets that can come in a variety of different forms. Over the past few years, many transactions have been conducted involving NFTs. An NFT ("non-fungible token") is a unique digital ID that is attached to a collectible item. NFTs use the same blockchain technology as cryptocurrency, providing a record of ownership that cannot be copied or falsified. They can grant ownership of assets such as digital images, videos, items in video games, or pieces of virtual real estate in the "metaverse," and they can also certify ownership of physical assets such as artwork.

While NFTs, cryptocurrency, and other digital assets are relatively new, they represent significant investments for many people, and they can have high values. Because more and more transactions involving NFTs are being conducted, the IRS has taken steps to ensure that these transactions are taxed correctly. Recently, it issued guidance on how taxes may apply to NFTs that are acquired by retirement accounts.

Taxes on Collectibles in IRAs

Internal Revenue Code Section 408 addresses assets that are held in individual retirement accounts (IRAs). These accounts may acquire multiple different types of assets that may be held for the benefit of account holders or plan members. Taxes will generally apply when distributions are made from retirement accounts after a person reaches retirement age. However, Section 408(m) specifies that matters may be handled differently if assets acquired by an IRA are considered to be collectibles.

In our increasingly digital world, there are numerous different types of assets that people may own, and determining how these assets may be taxed can often be confusing. Non-fungible tokens, or NFTs, are one type of asset that has raised questions in recent years. These digital tokens use blockchain technology similar to cryptocurrency to create unique digital identifiers for certain types of assets. As with some other types of digital assets, the way the IRS taxes NFTs has not yet been fully settled. However, the IRS has recently provided guidance on this issue, indicating that NFTs may be treated similarly to other types of collectibles under the tax laws.

Capital Gains Taxes and NFTs

NFTs use distributed ledger technology (commonly known as the "blockchain") to establish ownership of certain types of assets or to provide certifications of authenticity. A person who owns an NFT will have certain rights with respect to digital assets, which may include images and videos, music, trading cards, items used in video games, or pieces of virtual real estate in online communities. While capital gains taxes may apply when NFTs are sold or transferred to others, the specific tax rates may depend on whether they may be classified as collectibles.

Certain types of assets that are considered collectibles may be subject to higher capital gains tax rates, up to a maximum of 28 percent. The Internal Revenue Code states that collectibles may include works of art, antiques, precious gems or metals, stamps, coins, or other types of tangible personal property. Because NFTs are digital assets, they generally will not be considered tangible property. However, there are some situations where NFTs may be classified as collectibles based on their relationships to pieces of physical property.