On April 19, 2010, the IRS released a draft of Schedule UTP, Uncertain Tax Position Statement. The Schedule is to be included with the tax returns of corporations with assets equal to or greater than $10 million and which issued an audited financial statement for the tax year.

• The primary Internal Revenue Code sections implicated;
• Whether the item is permanent, temporary, or both;
• If the item relates to a tax position of a pass-through entity, the EIN of the pass-through entity;
• Whether the item must be reported because the IRS would not challenge the position based on its administrative practice; and
• The amount of the maximum tax adjustment.

Part III asks for a concise description of every position identified in Parts I and II. The description–which in most cases should not exceed a few sentences–must include:

• A statement that the position involves an item of income, gain, loss, deduction, or credit;
• A statement whether the position involves a determination of the value of any property or right or a computation of basis; and
• The rationale for the position and the reasons for determining that the position is uncertain.

Notwithstanding the apparent simplicity of the Schedule, it raises a host of difficult issues. Most important is what consititutes an “uncertain tax position” in the first instance. The Instructions for the Schedule indicate that a UTP is (i) any federal income tax position for which the corporation or a related party has recorded a reserve in an audited financial statement, as well as (ii) a tax position for which a reserve has not been recorded based on an expectation to litigate or an IRS administrative practice. In addition:

• For Form 1120 filers, the $10 million filing threshhold is based on the total assets amounts reported on Part I, Box D of Form 1120;
• An “audited financial statement” is a financial statement in which an independent third party expresses an opinion under GAAP, IFRS, or another country-specific accounting standard;
• A corporation records a reserve in an audited financial statement when it (i) increases a liability for income taxes payable or reduces an income tax refund receivable, (ii) reduces a deferred tax asset or increases a deferred tax liablity, or (iii) both (i) and (ii) above;
• A position must be reported even if no reserve is recorded with respect to an item if a reserve would have been recorded but for a determination that, based on past administrative practices and precedents, the IRS has a practice of not challenging the tax position during an examination;
• A position must be reported when a reserve was not recorded because the corporation determines that, if the IRS had full knowledge of the tax position, there is a less than 50% likelihood that a settlement could be reached and it is more likely than not that the taxpayer would prevail in litigation;
• A “tax position taken in a tax return” is a tax position that would result in an adjustment to a line item on that tax return if the position were not sustained;
• The “maximum tax adjustment” is an estimate of the maximum amount of potential federal income tax liability for which the position was taken, determined on an annual basis and at the affiliated group level;
• An MTA is not required for valuation or transfer pricing tax positions, but the corporation must indicate whether the tax position is a valuation or a transfer pricing position and rank these positions based on either the amount recorded as a reserve or the estimated adjustment if the position is not sustained.

This document was not intended or written to be used, and it cannot be used, for the purpose of avoiding U.S. federal, state, or local tax penalties.