The IRS has provided transition relief for third party settlement organizations (TPSOs) for reportable transactions under Code Sec. 6050W during calendar years 2024 and 2025. These calendar years will be the final transition period for IRS enforcement and administration of amendments made to the minimum threshold amount for TPSO reporting under Code Sec. 6050W(e).
The IRS has provided transition relief for third party settlement organizations (TPSOs) for reportable transactions under Code Sec. 6050W during calendar years 2024 and 2025. These calendar years will be the final transition period for IRS enforcement and administration of amendments made to the minimum threshold amount for TPSO reporting under Code Sec. 6050W(e).
Background
Code Sec. 6050W requires payment settlement entities to file Form 1099-K, Payment Card and Third Party Network Transactions, for each calendar year for payments made in settlement of certain reportable payment transactions. Among other information, the return must report the gross amount of the reportable payment transactions regarding a participating payee to whom payments were made in the calendar year. As originally enacted, Code Sec. 6050W(e) provided that TPSOs are not required to report third party network transactions with respect to a participating payee unless the gross amount that would otherwise be reported is more than $20,000 and the number of such transactions with that payee is more than 200.
The American Rescue Plan Act of 2021 (P.L. 117-2) amended Code Sec. 6050W(e) so that, for calendar years beginning after 2021, a TPSO must report third party network transaction settlement payments that exceed a minimum threshold of $600 in aggregate payments, regardless of the number of transactions. The IRS has delayed implementing the amended TPSO reporting threshold for calendar years beginning before January 1, 2023, and for calendar year 2023 (Notice 2023-10; Notice 2023-74).
For backup withholding purposes, a reportable payment includes payments made by a TPSO that must be reported on Form 1099-K, without regard to the thresholds in Code Sec. 6050W. The IRS has provided interim guidance on backup withholding for reportable payments made in settlement of third party network transactions (Notice 2011-42).
Reporting Relief
Under the new transition relief, a TPSO will not be required to report payments in settlement of third party network transactions with respect to a participating payee unless the amount of total payments for those transactions is more than:
- $5,000 for calendar year 2024;
- $2,500 for calendar year 2025.
This relief does not apply to payment card transactions.
For those transition years, the IRS will not assert information reporting penalties under Code Sec. 6721 or Code Sec. 6722 against a TPSO for failing to file or furnish Forms 1099-K unless the gross amount of aggregate payments to be reported exceeds the specific threshold amount for the year, regardless of the number of transactions.
In calendar year 2026 and after, TPSOs will be required to report transactions on Form 1099-K when the amount of total payments for those transactions is more than $600, regardless of the number of transactions.
Backup Withholding Relief
For calendar year 2024 only, the IRS will not assert civil penalties under Code Sec. 6651 or Code Sec. 6656 for a TPSO’s failure to withhold and pay backup withholding tax during the calendar year. However, TPSOs that have performed backup withholding for a payee during 2024 must file Form 945, Annual Return of Withheld Federal Income Tax, and Form 1099-K with the IRS, and must furnish a copy of Form 1099-K to the payee.
For calendar year 2025 and after, the IRS will assert those penalties for a TPSO’s failure to withhold and pay backup withholding tax.
Effect on Other Documents
Notice 2011-42 is obsoleted.
Notice 2024-85
IR-2024-299
The Treasury Department and IRS have issued final regulations amending regulations under Code Sec. 752 regarding a partner’s share of recourse partnership liabilities and the rules for related persons.
The Treasury Department and IRS have issued final regulations amending regulations under Code Sec. 752 regarding a partner’s share of recourse partnership liabilities and the rules for related persons.
Background
Code Sec. 752(a) treats an increase in a partner’s share of partnership liabilities, as well as an increase in the partner’s individual liabilities when the partner assumes partnership liabilities, as a contribution of money by the partner to the partnership. Code Sec. 752(b) treats a decrease in a partner’s share of partnership liabilities, or a decrease in the partner’s own liabilities on the partnership’s assumption of those liabilities, as a distribution of money by the partnership to the partner.
The regulations under Code Sec. 752(a), i.e., Reg. §§1.752-1 through 1.752-6, treat a partnership liability as recourse to the extent the partner or related person bears the economic risk of loss and nonrecourse to the extent that no partner or related person bears the economic risk of loss.
According to the existing regulations, a partner bears the economic risk of loss for a partnership liability if the partner or a related person has a payment obligation under Reg. §1.752-2(b), is a lender to the partnership under Reg. §1.752-2(c), guarantees payment of interest on a partnership nonrecourse liability as provided in Reg. §1.752-2(e), or pledges property as security for a partnership liability as described in Reg. §1.752-2(h).
Proposed regulations were published in December 2013 (REG-136984-12). These final regulations adopt the proposed regulations with modifications.
The Final Regulations
The amendments to the regulations under Reg. §1.752-2(a) provide a proportionality rule for determining how partners share a partnership liability when multiple partners bear the economic risk of loss for the same liability. Specifically, the economic risk of loss that a partner bears is the amount of the partnership liability or portion thereof multiplied by a fraction that is obtained by dividing the economic risk of loss borne by that partner by the sum of the economic risk of loss borne by all the partners with respect to that liability.
The final regulations also provide guidance on how a lower-tier partnership allocates a liability when a partner in an upper-tier partnership is also a partner in the lower-tier partnership and bears the economic risk of loss for the lower-tier partnership’s liability. The lower-tier partnership in this situation must allocate the liability directly to the partner that bears the economic risk of loss with respect to the lower-tier partnership’s liability. The final regulations clarify how this rule applies when there are overlapping economic risks of loss among unrelated partners, and the amendments add an example illustrating application of the proportionality rule to tiered partnerships. They also add a sentence to Reg. §1.704-2(k)(5) clarifying that an upper-tier partnership bears the economic risk of loss for a lower-tier partnership’s liability that is treated as the upper-tier partnership’s liability under Reg. §1.752-4(a), with the result that partner nonrecourse deduction attributable to the lower-tier partnership’s liability are allocated to the upper-tier partnership under Reg. §1.704-2(i).
In addition, the final regulations list in one section all the situations under Reg. §1.752-2 in which a person directly bears the economic risk of loss, including situations in which the de minimis exceptions in Reg. §1.752-2(d) are taken into account. The amendments state that a person directly bears the economic risk of loss if that person—and not a related person—meets all the requirements of the listed situations.
For purposes of rules on related parties under Reg. §1.752-4(b)(1), the final regulations disregard: (1) Code Sec. 267(c)(1) in determining if an upper-tier partnership’s interest in a lower-tier partnership is owned proportionately by or for the upper-tier partnership’s partners when a lower-tier partnership bears the economic risk of loss for a liability of the upper-tier partnership; and (2) Code Sec. 1563(e)(2) in determining if a corporate partner in a partnership and a corporation owned by the partnership are members of the same controlled group when the corporation directly bears the economic risk of loss for a liability of the owner partnership. The regulations state that in both these situations a partner should not be treated as bearing the economic risk of loss when the partner’s risk is limited to the partner’s equity investment in the partnership.
Under the final regulations, if a person owning an interest in a partnership is a lender or has a payment obligation with respect to a partnership liability, then other persons owning interests in that partnership are not treated as related to that person for purposes of determining the economic risk of loss that they bear for the partnership liability.
The final regulations also provide that if a person is a lender or has a payment obligation with respect to a partnership liability and is related to more than one partner, then the partners related to that person share the liability equally. The related partners are treated as bearing the economic risk of loss for a partnership liability in proportion to each related partner’s interest in partnership profits.
The final regulations contain an ordering rule in which the first step in Reg. §1.762-4(e) is to determine whether any partner directly bears the economic risk of loss for the partnership liability and apply the related-partner exception in Reg. §1.752-4(b)(2). The next step is to determine the amount of economic risk of loss each partner is considered to bear under Reg. §1.752-4(b)(3) when multiple partners are related to a person directly bearing the economic risk of loss for a partnership liability. The final step is to apply the proportionality rule to determine the economic risk of loss that each partner bears when the amount of the economic risk of loss that multiple partners bear exceeds the amount of partnership liability.
The IRS and Treasury indicate that they are continuing to study whether additional guidance is needed on the situation in which an upper-tier partnership bears the economic risk of loss for a lower-tier partnership’s liability and distributes, in a liquidating distribution, its interest in the lower-tier partnership to one of its partners when the transferee partner does not bear the economic risk of loss.
Applicability Dates
The final regulations under T.D. 10014 apply to any liability incurred or assumed by a partnership on or after December 2, 2024. Taxpayers may apply the final regulations to all liabilities incurred or assumed by a partnership, including those incurred or assumed before December 2, 2024, with respect to all returns (including amended returns) filed after that date; but in that case a partnership must apply the final regulations consistently to all its partnership liabilities.
T.D. 10014
Final regulations defining “energy property” for purposes of the energy investment credit generally apply with respect to property placed in service during a tax year beginning after they are published in the Federal Register, which is scheduled for December 12.
Final regulations defining “energy property” for purposes of the energy investment credit generally apply with respect to property placed in service during a tax year beginning after they are published in the Federal Register, which is scheduled for December 12.
The final regs generally adopt proposed regs issued on November 22, 2023 (NPRM REG-132569-17) with some minor modifications.
Hydrogen Energy Storage P property
he Proposed Regulations required that hydrogen energy storage property store hydrogen solely used for the production of energy and not for other purposes such as for the production of end products like fertilizer. However, the IRS recognize that the statute does not include that requirement. Accordingly, the final regulations do not adopt the requirement that hydrogen energy storage property store hydrogen that is solely used for the production of energy and not for other purposes.
The final regulations also provide that property that is an integral part of hydrogen energy storage property includes, but is not limited to, hydrogen liquefaction equipment and gathering and distribution lines within a hydrogen energy storage property. However, the IRS declined to adopt comments requesting that the final regulations provide that chemical storage, that is, equipment used to store hydrogen carriers (such as ammonia and methanol), is hydrogen energy storage property.
Thermal Energy Storage Property
To clarify the proposed definition of “thermal energy storage property,” the final regs provide that such property does not include property that transforms other forms of energy into heat in the first instance. The final regulations also clarify the requirements for property that removes heat from, or adds heat to, a storage medium for subsequent use. Under a safe harbor, thermal energy storage property satisfies this requirement if it can store energy that is sufficient to provide heating or cooling of the interior of a residential or commercial building for at least one hour. The final regs also include additional storage methods and clarify rules for property that includes a heat pump system.
Biogas P property
The final regulations modify several elements of the rules governing biogas property. Gas upgrading equipment is included in cleaning and conditioning property. The final regs clarify that property that is an integral part of qualified biogas property includes but is not limited to a waste feedstock collection system, landfill gas collection system, and mixing and pumping equipment. While a qualified biogas property generally may not capture biogas for disposal via combustion, combustion in the form of flaring will not disqualify a biogas property if the primary purpose of the property is sale or productive use of biogas and any flaring complies with all relevant laws and regulations. The methane content requirement is measured at the point at which the biogas exits the qualified biogas property.
Unit of Energy P property
To clarify how the definition of a unit of energy property is applied to solar energy property, the final regs update an example illustrate that the unit of energy property is all the solar panels that are connected to a common inverter, which would be considered an integral part of the energy property, or connected to a common electrical load, if a common inverter does not exist. Accordingly, a large, ground-mounted solar energy property may comprise one or more units of energy property depending upon the number of inverters. For rooftop solar energy property, all components of property that are installed on a single rooftop are considered a single unit of energy property.
Energy Projects
The final regs modify the definition of an energy project to provide more flexibility. However, the IRS declined to adopt a simple facts-and-circumstances analysis so an energy project must still satisfy particular and specific factors.
T.D. 10015
The IRS has provided relief from the failure to furnish a payee statement penalty under Code Sec. 6722 to certain partnerships with unrealized receivables or inventory items described in Code Sec. 751(a) (Section 751 property) that fail to furnish, by the due date specified in Reg. §1.6050K-1(c)(1), Part IV of Form 8308, Report of a Sale or Exchange of Certain Partnership Interests, to the transferor and transferee in a Section 751(a) exchange that occurred in calendar year 2024.
The IRS has provided relief from the failure to furnish a payee statement penalty under Code Sec. 6722 to certain partnerships with unrealized receivables or inventory items described in Code Sec. 751(a) (Section 751 property) that fail to furnish, by the due date specified in Reg. §1.6050K-1(c)(1), Part IV of Form 8308, Report of a Sale or Exchange of Certain Partnership Interests, to the transferor and transferee in a Section 751(a) exchange that occurred in calendar year 2024.
Background
A partnership with Section 751 property must provide information to each transferor and transferee that are parties to a sale or exchange of an interest in the partnership in which any money or other property received by a transferor in exchange for all or part of the transferor’s interest in the partnership is attributable to Section 751 property. The partnership must file Form 8308 as an attachment to its Form 1065 for the partnership's tax year that includes the last day of the calendar year in which the Section 751(a) exchange took place. The partnership must also furnish a statement to the transferor and transferee by the later of January 31 of the year following the calendar year in which the Section 751(a) exchange occurred, or 30 days after the partnership has received notice of the exchange as specified under Code Sec. 6050K and Reg. §1.6050K-1. The partnership must use a copy of the completed Form 8308 as the required statement, or provide or a statement that includes the same information.
In 2020, Reg. §1.6050K-1(c)(2) was amended to require a partnership to furnish to a transferor partner the information necessary for the transferor to make the transferor partner’s required statement in Reg. §1.751-1(a)(3). Among other items, a transferor partner in a Section 751(a) exchange is required to submit with the partner’s income tax return a statement providing the amount of gain or loss attributable to Section 751 property. In October 2023, the IRS added new Part IV to Form 8308, which requires a partnership to report, among other items, the partnership’s and the transferor partner’s share of Section 751 gain and loss, collectibles gain under Code Sec. 1(h)(5), and unrecaptured Section 1250 gain under Code Sec. 1(h)(6).
In January 2024, the IRS provided relief due to concerns that many partnerships would not be able to furnish the information required in Part IV of the 2023 Form 8308 to transferors and transferees by the January 31, 2024 due date, because, in many cases, partnerships would not have all of the required information by that date (Notice 2024-19, I.R.B. 2024-5, 627).
The relief below has been provided due to similar concerns for furnishing information for Section 751(a) exchanges occurring in calendar year 2024.
Penalty Relief
For Section 751(a) exchanges during calendar year 2024, the IRS will not impose the failure to furnish a correct payee statement penalty on a partnership solely for failure to furnish Form 8308 with a completed Part IV by the due date specified in Reg. §1.6050K-1(c)(1), only if the partnership:
- timely and correctly furnishes to the transferor and transferee a copy of Parts I, II, and III of Form 8308, or a statement that includes the same information, by the later of January 31, 2025, or 30 days after the partnership is notified of the Section 751(a) exchange, and
- furnishes to the transferor and transferee a copy of the complete Form 8308, including Part IV, or a statement that includes the same information and any additional information required under Reg. §1.6050K-1(c), by the later of the due date of the partnership’s Form 1065 (including extensions), or 30 days after the partnership is notified of the Section 751(a) exchange.
This notice does not provide relief with respect to a transferor partner’s failure to furnish the notification to the partnership required by Reg. §1.6050K-1(d). This notice also does not provide relief with respect to filing Form 8308 as an attachment to a partnership’s Form 1065, and so does not provide relief from failure to file correct information return penalties under Code Sec. 6721.
Notice 2025-2
The American Institute of CPAs is encouraging business owners to continue to collect required beneficial ownership information as required by the Corporate Transparency Act even though the regulations have been halted for the moment.
The American Institute of CPAs is encouraging business owners to continue to collect required beneficial ownership information as required by the Corporate Transparency Act even though the regulations have been halted for the moment.
AICPA noted that the while there a preliminary injunction has been put in place nationwide by a U.S. district court, the Financial Crimes Enforcement Network has already filed its appeal and the rules could be still be reinstated.
"While we do not know how the Fifth Circuit court will respond, the AIPCA continues to advise members that, at a minimum, those assisting clients with BOI report filings continue to gather the required information from their clients and [be] prepared to file the BOI report if the inunction is lifted," AICPA Vice President of Tax Policy & Advocacy Melanie Lauridsen said in a statement.
She continued: "The AICPA realizes that there is a lot of confusion and anxiety that business owners have struggled with regarding BOI reporting requirements and we, together with our partners at the State CPA societies, have continued to advocate for a delay in the implementation of this requirement."
The United States District Court for the Eastern District of Texas granted on December 3, 2024, a motion for preliminary injunction requested in a lawsuit filed by Texas Top Cop Shop Inc., et al, against the federal government to halt the implementation of BOI regulations.
In his order granting the motion for preliminary injunction, United States District Judge Amos Mazzant wrote that its "most rudimentary level, the CTA regulates companies that are registered to do business under a State’s laws and requires those companies to report their ownership, including detailed, personal information about their owners, to the Federal Government on pain of severe penalties."
He noted that this request represents a "drastic" departure from history:
First, it represents a Federal attempt to monitor companies created under state law – a matter our federalist system has left almost exclusively to the several States; and
Second, the CTA ends a feature of corporate formations as designed by various States – anonymity.
"For good reason, Plaintiffs fear this flanking, quasi-Orwellian statute and its implications on our dual system of government," he continued. "As a result, the Plantiffs contend that the CTA violates the promises our Constitution makes to the People and the States. Despite attempting to reconcile the CTA with the Constitution at every turn, the Government is unable to provide the Court with any tenable theory that the CTA falls within Congress’s power."
By Gregory Twachtman, Washington News Editor
The IRS has launched a new enforcement campaign targeting taxpayers engaged in deferred legal fee arrangements and improper use of Form 8275, Disclosure Statement. The IRS addressed tax deferral schemes used by attorneys or law firms to delay recognizing contingency fees as taxable income.
The IRS has launched a new enforcement campaign targeting taxpayers engaged in deferred legal fee arrangements and improper use of Form 8275, Disclosure Statement. The IRS addressed tax deferral schemes used by attorneys or law firms to delay recognizing contingency fees as taxable income.
The IRS highlighted that plaintiff’s attorneys or law firms representing clients in lawsuits on a contingency fee basis may receive as much as 40 percent of the settlement amount that they then defer by entering an arrangement with a third party unrelated to the litigation, who then may distribute to the taxpayer in the future. Generally, this happens 20 years or more from the date of the settlement. Subsequently, the taxpayer fails to report the deferred contingency fees as income at the time the case is settled or when the funds are transferred to the third party. Instead, the taxpayer defers recognition of the income until the third party distributes the fees under the arrangement. The goal of this newly launched campaign is to ensure taxpayer compliance and consistent treatment of similarly situated taxpayers which requires the contingency fees be included in taxable income in the year the funds are transferred to the third party.
Additionally, the IRS stated that the Service's efforts continue to uncover unreported financial accounts and structures through data analytics and whistleblower tips. In fiscal year 2024, whistleblowers contributed to the collection of $475 million, with $123 million awarded to informants. The IRS has now recovered $4.7 billion from new initiatives underway. This includes more than $1.3 billion from high-income, high-wealth individuals who have not paid overdue tax debt or filed tax returns, $2.9 billion related to IRS Criminal Investigation work into tax and financial crimes, including drug trafficking, cybercrime and terrorist financing, and $475 million in proceeds from criminal and civil cases attributable to whistleblower information.
Proper Use of Form 8275
The IRS stressed upon the proper use of Form 8275 by taxpayers in order to avoid portions of the accuracy-related penalty due to disregard of rules, or penalty for substantial understatement of income tax for non-tax shelter items. Taxpayers should be aware that Form 8275 disclosures that lack a reasonable basis do not provide penalty protection. Taxpayers in this posture should consult a tax professional or advisor to determine how to come into compliance. In its review of Form 8275 filings, the IRS identified multiple filings that do not qualify as adequate disclosures that would justify avoidance of penalties. Finally, the IRS reminded taxpayers that Form 8275 is not intended as a free pass on penalties for positions that are false.
FS-2024-32
IR-2024-310
The net investment income (NII) tax under Code Sec. 1411 is imposed on income from investments, certain sales of property, and income from passive activities. NII includes net gains from the sale of property, unless the property is held in a non-passive trade or business. If the property sold is a non-passive interest in a partnership or S corporation, gain from the sale of the interest is NII only to the extent that income from a deemed sale of the entity's property would be NII. The IRS totally rewrote the regulations for the disposition of interests in a partnership or S corporation, and reissued them in the 2013 proposed regulations. Certain issues nevertheless remain as the NII enters its second tax year, having first been effective in 2013.
The net investment income (NII) tax under Code Sec. 1411 is imposed on income from investments, certain sales of property, and income from passive activities. NII includes net gains from the sale of property, unless the property is held in a non-passive trade or business. If the property sold is a non-passive interest in a partnership or S corporation, gain from the sale of the interest is NII only to the extent that income from a deemed sale of the entity's property would be NII. The IRS totally rewrote the regulations for the disposition of interests in a partnership or S corporation, and reissued them in the 2013 proposed regulations. Certain issues nevertheless remain as the NII enters its second tax year, having first been effective in 2013.
NII basics
There are three general categories of NII. In addition to gross income from portfolio items such as interest, rents and dividends that are not earned in a trade or business (Category 1), NII includes gross income from a trade or business that is a passive activity, as determined under Code Sec. 469 (Category 2), and income from the disposition of property, other than property held in a trade or business that is not a Category 2 business (Category 3). Income from a trade or business that is a passive activity (Category 2) can include income from pass-through entities (partnerships, S corporations, and trusts and estates).
The NII tax of 3.8 percent is imposed on the lesser of the total NII net income from the three categories, or the amount by which modified adjusted gross income exceeds the applicable threshold amount ($200,000 for single taxpayers; $250,000 for joint taxpayers; $125,000 for married filing separately).
Operative regulations
The IRS issued proposed regulations in 2012. On December 2, 2013, the IRS issued final regulations (TD 9644). At the same time, it issued new proposed regulations (NPRM REG-130843-13), which are still pending. Both the final and the 2013 proposed regulations apply to tax years beginning on or after January 1, 2014 and can be applied to 2013 (in part or in whole).
An important feature of the statute and regulations is that they rely on the definition of relevant terms in the income tax provisions (Part 1 of the Tax Code). This is demonstrated by the proposed regs on partnership payments under Code Secs. 701–754. Furthermore, this is relevant because the definition of NII often depends on whether the activity generating the income is a passive activity as determined under Code Sec. 469, the passive activity loss (PAL) rules. However, in some cases the government concluded that the Code Sec. 469 rules did not provide sufficient guidance for the NII tax, such as the treatment of real estate professionals
Partnership payments
Criticism of the initial 2012 proposed regulations focused in part on the lack of clear guidance on the treatment of distributions and payments by a partnership to a partner. This included clarification of the application of NII to key partnership provisions within the Internal Revenue Code: Code Sec. 731 distributions, Code Sec. 707(c) guaranteed payments and Code Sec. 736 payments to retiring or deceased partners, in liquidation of their interests. In response, the IRS discussed them in the new proposed rules issued in 2013...but some questions still remain.
Gains from a partnership distribution to a partner are treated under Code Sec. 731 as gain from a sale or exchange of a partnership interest. The proposed regulations treat these distributions as NII under category 3 (sale or exchange of property). However, other categories of payments are not treated as being from the sale or exchange of a partnership interest.
Code Sec. 707(c) payments, or guaranteed payments, are a partnership payment to a current partner for services or the use of capital that do not depend on partnership income. The 2013 proposed regulations exclude payments for services from NII, whether or not subject to self-employment tax, because they are compensation for services. However, they treat guaranteed payments for the use of capital as a substitute for interest and as category 1 NII. This treatment is consistent with the Code Sec. 469 rules that treat payments for capital as portfolio income.
Code Sec. 736 payments
The new proposed regulations clarify how the treatment of payments under Code Sec. 736 determines their treatment under Code Sec. 1411. Under Code Sec. 736(b), a payment for a retiring partner's share of partnership property is treated in the same manner as a distribution to an existing partner under Code Sec. 731 and as category 3 NII. Payments over multiple years are treated in the same manner and are not retested annually. This is similar to the Code Sec. 469 treatment. However, if the retiring partner materially participates in the partnership trade or business, then the portion of the payment treated as NII is reduced, based on the rules for determining NII on the disposition of a pass-through interest. It does not matter whether the payments are ordinary income or capital gain.
A liquidating distribution under Code Sec. 736(a)(1) can be for services, capital, or certain unrealized receivables. Payments for services that are determined with respect to income are treated as a distributive share. Otherwise, the payment is treated as a guaranteed payment under Code Sec. 736(a)(2). In this case, the treatment follows the treatment of guaranteed payments under Code Sec. 707(c).
The treatment under Code Sec. 1411 depends on the components of the distribution under the income tax rules. Income from a trade or business (other than trading in financial instruments) will be excluded from NII, while income from working capital is treated as interest and is NII.
Conclusion
The 2013 proposed regulations are "reliance" regulations, which means that taxpayers may either use them to compute NII tax exposure or rely on another "reasonable interpretation" of the relevant Internal Revenue Code provisions. Experts nevertheless anticipate that still further changes will be made when the regulations reach "final" status, especially in the area of how partnership tax rules interact with the NII tax. Whether they will be finalized before the 2014 tax year ends for planning purposes remains speculative. In the meantime, partnerships and their partners must work with current distribution rules in efforts to minimize NII tax exposure when possible. Please contact our offices if you have any concerns over how these rules might affect your overall 2014 tax liability.
As an individual or business, it is your responsibility to be aware of and to meet your tax filing/reporting deadlines. This calendar summarizes important tax reporting and filing data for individuals, businesses and other taxpayers for the month of September 2014.
As an individual or business, it is your responsibility to be aware of and to meet your tax filing/reporting deadlines. This calendar summarizes important tax reporting and filing data for individuals, businesses and other taxpayers for the month of September 2014.
September 4
Employers. Semi-weekly depositors must deposit employment taxes for payroll dates August 27–29.
September 5
Employers. Semi-weekly depositors must deposit employment taxes for payroll dates August 30–September 2.
September 10
Employees who work for tips. Employees who received $20 or more in tips during August must report them to their employer using Form 4070.
Employers. Semi-weekly depositors must deposit employment taxes for payroll dates September 3–5.
September 12
Employers. Semi-weekly depositors must deposit employment taxes for payroll dates September 6–9.
September 15
Individuals. Individuals who do not pay tax through withholding deposit the third installment of estimated tax for 2014.
Corporations. Corporations deposit the third installment of estimated tax for 2014.
Corporations. Corporations and S corporations that obtained 6-month extensions file their 2013 Form 1120 or 1120S and pay tax due.
Partnerships. Partnerships that obtained 5-month extensions file their 2013 Form 1065.
September 17
Employers. Semi-weekly depositors must deposit employment taxes for payroll date September 10–12.
September 19
Employers. Semi-weekly depositors must deposit employment taxes for payroll dates September 13–16.
September 24
Employers. Semi-weekly depositors must deposit employment taxes for payroll dates September 17–19.
September 26
Employers. Semi-weekly depositors must deposit employment taxes for payroll dates September 20–23.
October 1
Employers. Semi-weekly depositors must deposit employment taxes for payroll dates September 24–26.
Life expectancies for many Americans have increased to such an extent that most taxpayers who retire at age 65 expect to live for another 20 years or more. Several years ago, a number of insurance companies began to offer a new financial product, often called the longevity annuity or deferred income annuity, which requires upfront payment of a premium in exchange for a guarantee of a certain amount of fixed income starting after the purchaser reaches age 80 or 85. Despite the wisdom behind the longevity annuity, this new type of product did not sell especially well, principally for tax reasons. These roadblocks, however, have largely been removed by new regulations.
Life expectancies for many Americans have increased to such an extent that most taxpayers who retire at age 65 expect to live for another 20 years or more. Several years ago, a number of insurance companies began to offer a new financial product, often called the longevity annuity or deferred income annuity, which requires upfront payment of a premium in exchange for a guarantee of a certain amount of fixed income starting after the purchaser reaches age 80 or 85. Despite the wisdom behind the longevity annuity, this new type of product did not sell especially well, principally for tax reasons. These roadblocks, however, have largely been removed by new regulations.
Treasury and the IRS recently released final regulations (TD 9673) to encourage taxpayers to purchase "qualified longevity annuity contracts" (QLACs) with a portion of their retirement savings held in IRAs or in retirement accounts held under a 401(k), 403(b) or other defined contribution plans that are subject to the rules for required minimum distributions (RMDs). The final regulations are meant to remove or mitigate some of the tax concerns new retirees may face when deciding whether or not to purchase a deferred income annuity.
Longevity Annuities—Generally
Purchase of a longevity annuity provides for a deferred income stream. Although the terms of specific longevity annuity contracts differ from plan to plan, the arrangement generally requires the purchaser to pay the premium as a lump sum to the insurer. The purchaser could be 65 years of age, 55, 50 or some other age, and the insurer would not begin to make payments under the longevity annuity contract until the purchaser had reached the specified age (of no more than 85 years for the tax benefits contained in the final regulations). The amount of the annuity depends on a number of factors, among them: the age at which the contract is purchased; the amount of the premium paid; the contractual interest rate; and the age at which payments begin.
RMDs
Not every individual who reaches retirement age possesses enough spare cash outside of his or her IRAs or other retirement accounts to purchase an income annuity, let alone a longevity annuity that does not begin to pay out for many years. In such cases individuals can purchase an annuity from within an IRA or defined contribution plan account. Prior to the final regulations, however, the RMD rules requiring taxpayers who reach age 70 ½ to begin taking distributions from these accounts would have forced taxpayers to factor the premium amounts into the calculation of their annual taxable distribution. This would have depleted the account funds more quickly than the actual balance, without premium payment, warranted.
QLACs
The final regulations provide that only qualified longevity annuity contracts (QLACs) are eligible for account balance exclusion from the RMD calculation. The regulations define a QLAC as:
- A longevity annuity whose premium payment does not exceed the lesser of $125,000 or 25 percent of the employee’s account balance;
- A contract that provides for payouts to begin no later than the first day of the month following the purchaser’s 85th birthday;
- A contract that does not provide any commutation benefit, cash surrender right, or other similar feature;
- A contract under which any death benefit offered meets the requirements of paragraph A-17(c) of Reg. §1.401(a)(9)-6 (see below for more details);
- A contract that states when issued that it is intended to be a QLAC; and
- A contract that is not a variable contract under Code Sec. 817, an indexed contract, or a similar contract.
The total value of all QLACs held by one person cannot exceed the lesser of $125,000 (indexed for inflation) or 25 percent of all qualified retirement accounts put together. This limitation does not extend to funds held in non-retirement accounts or to funds held in Roth IRAs.
In addition, the amount used to pay the QLAC premium is not taxable when the QLAC is purchased. This means the account holder has a zero basis in the QLAC. Distributions from the QLAC are fully taxable.
Death Benefit
Most longevity annuities do not provide any death benefit for the purchaser's beneficiaries. While some longevity annuity plans do offer a death benefit for the beneficiaries of annuity purchasers who die prematurely, plans that maximize the annuity payment generally provide that the insurer keeps the entire premium amount, plus interest, if the purchaser dies before payouts begin or the contract basis is exhausted.
Return of premium. The final regulations attempt to mitigate some of the risk retirees face when deciding to purchase a QLAC by allowing a QLAC to provide certain death benefits in limited circumstances. Notably, the final regulations add a feature missing from the proposed regulations: return of premium. Under the final rules, a QLAC is authorized to guarantee the return of a purchaser's premium if the purchaser dies before receiving benefits equal to the premium paid.
Surviving spouse. The final regulations provide that, where the purchaser's sole beneficiary under the QLAC is his or her surviving spouse, generally the only benefit permitted to be paid after the purchaser's death is a life annuity that does not exceed 100 percent of the annuity that would have been paid to the employee. The final regulations also allow QLACs to provide the return of premium feature if a surviving spouse who receives a life annuity under the contract dies before the payments equal the premium.
Non-spouse beneficiary/beneficiaries. QLACs may also provide a lifetime annuity to designated non-spouse beneficiaries, but the annuity would likely be reduced. Calculation of an annuity payable to a non-spouse beneficiary would be calculated based on the applicable percentage provided in one of the tables in the final regulations. However, if the QLAC provides a return of premium feature, the applicable percentage that the beneficiary would receive is zero.
Please contact this office if you have any questions on how a qualified longevity annuity might fit into your retirement plans now that the IRS has relaxed some of the rules.
The IRS continues to ramp-up its work to fight identity theft/refund fraud and recently announced new rules allowing the use of abbreviated (truncated) personal identification numbers and employer identification numbers. Instead of showing a taxpayer's full Social Security number (SSN) or other identification number on certain forms, asterisks or Xs replace the first five digits and only the last four digits appear. The final rules, however, do impose some important limits on the use of truncated taxpayer identification numbers (known as "TTINs").
The IRS continues to ramp-up its work to fight identity theft/refund fraud and recently announced new rules allowing the use of abbreviated (truncated) personal identification numbers and employer identification numbers. Instead of showing a taxpayer's full Social Security number (SSN) or other identification number on certain forms, asterisks or Xs replace the first five digits and only the last four digits appear. The final rules, however, do impose some important limits on the use of truncated taxpayer identification numbers (known as "TTINs").
Note. A TTIN typically appears as XXX-XX-1234 or ***-**-1234.
Identity theft/refund fraud
The IRS has more than 3,000 employees working identity-theft related issues. They are investigating refund fraud and assisting taxpayers - both individuals and businesses - that have been victims of identity theft. The IRS has also upgraded its filters that screen tax returns for indications of refund fraud. Between 2011 and 2014, the IRS reported that it prevented more than $50 billion in fraudulent refunds.
Protecting personal information from disclosure is one important tool in the IRS's toolshed to fight identity theft. IRS data systems contain personal information, such as SSNs, EINs, individual taxpayer identification numbers (ITINs) and adoption taxpayer identification numbers (ATINs) on millions of taxpayers. To thwart potential identity thieves, the agency launched a pilot program in 2009 to allow the use of TTINs. The goal of the pilot program was to reduce the risk of identity theft that could result from the inclusion of a taxpayer's entire identifying number on a payee statement or other document.
Proposed regulations
The IRS viewed the pilot program as a success and issued proposed regulations in 2013. Under the proposed regulations, TTINs would be available as an alternative to using a taxpayer's SSN, ITIN, or ATIN. The proposed regulations also permitted the use of TTINs to electronic payee statements as well as paper payee statements.
Expanded use
In July, the IRS announced that it was finalizing the proposed TTIN rules. The final rules also expand the use of TTINs to:
- Employer identification numbers. The final rules allow the use of abbreviated employer identification numbers (EINs) in certain cases.
- More documents. The final regulations permit the use of TTINs on any federal tax-related payee statement or other document required to be furnished to another person unless specifically prohibited.
Voluntary
The IRS encourages the use of TTINs but did not make use of TTINs mandatory. The IRS also explained that use of a TTIN will not result in any penalty for failure to include a correct taxpayer identifying number on any payee statement or other document.
Limitations
The final regulations (officially known as TD 9765) place some limits on TTINs. A TTIN may not be used on a return filed with the IRS. This includes Form 1040, U.S. Individual Income Tax Return. A TTIN also may not be used if a statute or regulation specifically requires use of an SSN, ITIN, ATIN, or EIN. Additionally, employers cannot use a TTIN on an employee's Form W-2, Wage and Tax Statement.
If you have any questions about TTINs or identity theft/refund fraud, please contact our office.
On July 22, two federal appeals courts roughly 100 miles apart reached very different conclusions about one of the most widely-used provisions of the Affordable Care Act: the Code Sec. 36B premium assistance tax credit. The U.S. Court of Appeals for the District of Columbia Circuit found that the IRS had overreached when it issued regulations providing that individuals who obtain health coverage through a federally-facilitated Affordable Care Act Marketplace are eligible for the tax credit. In contrast, the Fourth Circuit Court of Appeals, sitting in Richmond, Virginia, upheld the IRS regulations as a valid exercise of the agency's authority. The contradictory decisions create a split among the Circuits, which could prompt the U.S. Supreme Court to review the IRS regulations.
On July 22, two federal appeals courts roughly 100 miles apart reached very different conclusions about one of the most widely-used provisions of the Affordable Care Act: the Code Sec. 36B premium assistance tax credit. The U.S. Court of Appeals for the District of Columbia Circuit found that the IRS had overreached when it issued regulations providing that individuals who obtain health coverage through a federally-facilitated Affordable Care Act Marketplace are eligible for the tax credit. In contrast, the Fourth Circuit Court of Appeals, sitting in Richmond, Virginia, upheld the IRS regulations as a valid exercise of the agency's authority. The contradictory decisions create a split among the Circuits, which could prompt the U.S. Supreme Court to review the IRS regulations.
Tax Credit
To help offset the cost of health insurance coverage obtained through Marketplaces, the Affordable Care Act created the Code Sec. 36B credit. The credit is linked to an individual's income in relation to the federal poverty line (FPL). Generally, individuals and families whose household income is between 100 percent and 400 percent of the FPL for their family size may be eligible for the credit. The credit is refundable and may be paid in advance to the insurer.
In 2012, the IRS issued regulations about the Code Sec. 36B credit. Opponents of the Affordable Care Act challenged the regulations in a number of cases, including the cases that made their way to the D.C. Circuit (Halbig et al. v. Burwell) and the Fourth Circuit (King et al. v. Burwell). Generally, they argued that the language of the Affordable Care Act only made the Code Sec. 36B credit available to individuals who obtained their coverage through a state-run Marketplace. Individuals who obtained coverage through a federally-facilitated Marketplace were ineligible for the credit. Two federal district courts ruled in favor of the IRS and the D.C. Circuit and the Fourth Circuit agreed to hear appeals.
D.C. Circuit Decision
In a 2-1 decision, a panel of the D.C. Circuit found that the IRS regulations were inconsistent with the Affordable Care Act. The majority looked to the language of the Affordable Care Act and found it was clear. "Applying the statute's plain meaning, we find that Code Sec. 36B unambiguously forecloses the interpretation embodied in the IRS rule and instead limits the availability of premium tax credits to state-established (Marketplaces)," the court found.
The dissent would have upheld the IRS regulations. The dissent argued that the words of the Affordable Care Act had to be read with a view to their place in the overall statute. The tax credits, the dissent explained, are an essential component of the Affordable Care Act, and the IRS regulations were entitled to deference.
Fourth Circuit Decision
The Fourth Circuit decision was also made by a panel of three judges. Unlike the D.C. Circuit, the Fourth Circuit found that the language of the Affordable Care Act was unclear and looked to the policy goals of the Affordable Care Act. "Widely-available tax credits are essential to fulfilling the Affordable Care Act's primary goals. The IRS rule advances this understanding by ensuring that this essential component exists on a sufficiently large scale, the court held. The court concluded that the IRS regulations were a permissible construction of the Affordable Care Act and upheld the regulations.
Appeals Expected
Shortly after the D.C. Circuit announced its decision, a White House spokesperson said that the Obama administration will appeal the ruling to the entire D.C. Circuit. All 11 judges of the D.C. Circuit are expected to hear the appeal (an "en banc" hearing). The full D.C. Circuit could uphold the panel's decision or reverse it. If the full D.C. Circuit agrees with the panel, the Obama administration would very likely appeal the decision to the U.S. Supreme Court. The taxpayers in the King case could also petition the Supreme Court to review the Fourth Circuit's decision. At the same time, two other challenges to the Code Sec. 36B regulations are making their way through the federal district courts: one in Indiana and another in Oklahoma.
Looking Ahead
The conflicting decisions certainly contribute to uncertainty over eligibility for the Code Sec. 36B tax credit. Both individuals and employers need to keep track of developments. The Code Sec. 36B credit is part of the calculation under the Affordable Care Act to determine if an applicable large employer must make an employer shared responsibility payment (the "employer mandate.").
The Obama administration is treating the decision by the D.C. Circuit as having no impact on the availability of the Code Sec. 36B tax credit. The U.S. Justice Department reported that qualified individuals in both state-run Marketplaces and federally-facilitated Marketplaces will continue to be eligible for the credit. IRS Commissioner John Koskinen made the same comments to Congress on July 23.
If you have any questions about these decisions or the Code Sec. 36B premium assistance tax credit, please contact our office.
Employers may be able to claim a tax credit for a portion of their expenses for providing child care to their employees. Code Sec. 45F allows a employer-provided child care credit, which is a part of the general business credit. Businesses calculate the credit using Form 8882, Credit for Employer-Provided Childcare Facilities and Service, and enter any credit amount on Form 3800, General Business Credit, which must be attached to an employer's tax return.
Employers may be able to claim a tax credit for a portion of their expenses for providing child care to their employees. Code Sec. 45F allows a employer-provided child care credit, which is a part of the general business credit. Businesses calculate the credit using Form 8882, Credit for Employer-Provided Childcare Facilities and Service, and enter any credit amount on Form 3800, General Business Credit, which must be attached to an employer's tax return.
Amount of the credit
The amount of the credit is the sum of 25 percent of an employer's "qualified childcare facility expenditures," plus 10 percent of the employer's "qualified childcare resource and referral expenditures" for the tax year. The total credit amount is limited to $150,000.
Qualified childcare facility expenditures
Examples of expenses that are qualified child care expenditures include:
- Expenses paid or incurred to acquire, construct, rehabilitate, or expand a qualified child care facility that (i) is to be used by the taxpayer; (ii) is depreciable property; and (iii) is not the principal residence of the taxpayer or any of the taxpayer's employees;
- Expenses for operating costs of a qualified child care facility (i.e. providing childcare training), and
- Amounts paid or incurred under a contract with a qualified child care facility to provide childcare to the taxpayer's employees.
Fair market value. Employers should consider the fair market value of childcare expenditures. The IRS may question expenses that exceed the fair market value of the care provided. For example, alarm bells may ring if in a given area, expenses to operate a childcare facility are only half of what the employer claims.
Qualified childcare facility
It should go without saying that child care expenses are only qualified for purposes of claiming the credit if the expenses were paid or incurred with respect to a qualified child care facility. This is defined as a facility whose principal use—unless it is the principal residence of the operator—is to provide child care assistance. A qualified childcare facility must also meet the requirements of all applicable state and local laws and regulations, including licensing requirements. Furthermore:
- A facility must have enrollment open to employees of the taxpayer during the tax year; and
- The facility may not discriminate in favor of highly compensated employees.
- Finally, if the facility itself is the principal trade or business of the taxpayer, at least 30 percent of the children enrolled must be dependents of employees of the taxpayer.
Qualified childcare resource/referral expenditures
An expense qualifies as a qualified child care resource and referral expenditure if it is paid or incurred under a contract to provide child care resource and referral services to an employee of the taxpayer.
No double benefit
Taxpayers are not entitled to double benefits from the same expenditures. For example, if an employer claims a credit for expenses of constructing, rehabilitating, or expanding a qualified childcare facility, the employer must reduce its basis of the property by the amount of the credit. If the credit is subsequently recaptured, however, the employer may increase the basis of the property by the amount of the credit recaptured.
Recapture provisions
If a recapture event occurs during the first ten years after a qualified childcare facility is placed into service, the employer must pay back all or a portion of any amount of the employer-provided child care credit taken for qualified child care expenditures with respect to that qualified child care facility. The amount of the credit that must be recaptured decreases over the ten-year period. In addition, recapture applies only to the portion of the credit attributable to qualified child care expenditures, not to qualified child care resource and referral expenditures.
One example of an event that would trigger recapture is if the facility ceases to be operated as a qualified child care facility or if there is a change of ownership in the facility within the ten-year period.
If you have any questions about how to compute the employer-provided childcare credit, please contact our offices.
Taxpayers that plan to operate a business have a variety of choices. A single individual can operate as a C corporation, an S corporation, a limited liability company (LLC), or a sole proprietorship. Two or more individuals can form a partnership, a corporation (C or S), or an LLC.
Taxpayers that plan to operate a business have a variety of choices. A single individual can operate as a C corporation, an S corporation, a limited liability company (LLC), or a sole proprietorship. Two or more individuals can form a partnership, a corporation (C or S), or an LLC.
Nontax considerations
State law and nontax considerations are an important consideration in choosing the form of the business and may play a decisive role. A general partner of a partnership has unlimited liability for the debts of the business. This can be modified by using a limited partnership (LP), which must have at least one general partner and at least one limited partner. The general partner still have unlimited liability, but a limited partner's liability is limited to its contribution to the partnership. A corporation has limited liability; shareholders generally are not responsible for the liabilities of the corporation beyond their contributions to the entity.
Federal tax considerations
At the same time, it is crucial to consider federal tax requirements and consequences when choosing the form of business entity. A primary federal tax consideration is avoiding a double layer of tax on business income. This can be accomplished by operating as a passthrough entity, such as a partnership or S corporation. Income is not taxed at the entity level. It passes through to partners and shareholders and is taxed at their rates.
In contrast, C corporations are taxable entities. Furthermore, when a C corporation pays a dividend to its shareholders, this generally is taxable to the shareholder. It must be noted that income of a passthrough entity is allocable and taxable to its owners, whether or not the income is actually distributed to the partner or shareholder. Dividends are not taxed unless there is an actual distribution.
While a partnership is organized under state law, an S corporation is a creature of the federal tax system. The S corporation is a regular corporation for state law purposes.
Advantages of partnerships
Unlike an S corporation shareholder, anyone or any entity can be a partner. S corporations are limited to 100 shareholders; only certain individuals, estates and trusts are eligible to be shareholders. C corporations and nonresident aliens cannot be shareholders of an S corporation.
S corporations are limited to a single class of stock; income and losses must be allocated on the same basis to each shareholder. Having only one class of stock may affect the corporation's ability to raise capital. A partnership can have different classes of partners and has more flexibility for allocating income and losses to different types of partners.
Partnership liabilities can increase a partner's basis in the partnership, offsetting distributions of cash and reducing their taxation. The increased basis allowed partners to use losses generated by the partnership. Liabilities of an S corporation do not create stock basis; separate bases in stock and debt must be calculated. This lack of basis may limit the use of losses generated by the S corporation.
Contributions of appreciated property by a partner to the partnership generally are not taxable, even if the partner is not part of a group controlling the partnership. Contributions by a shareholder to a corporation are tax-free only if the shareholders are part of a group controlling 80 percent of the corporation after the contribution. However, a partnership must follow special allocation rules for handling built-in gain on contributed property, whereas S corporations do not have special allocation rules in this circumstance.
Conclusion
In general, a partnership offers more flexibility than an S corporation in the treatment of taxes. However, S corporation shareholders do have limited legal liability, while general partners are not insulated from the partnership's debts and liabilities.
As an individual or business, it is your responsibility to be aware of and to meet your tax filing/reporting deadlines. This calendar summarizes important tax reporting and filing data for individuals, businesses and other taxpayers for the month of August 2014.
As an individual or business, it is your responsibility to be aware of and to meet your tax filing/reporting deadlines. This calendar summarizes important tax reporting and filing data for individuals, businesses and other taxpayers for the month of August 2014.
August 1
Employers. Semi-weekly depositors must deposit employment taxes for payroll dates July 26-29.
August 6 Employers. Semi-weekly depositors must deposit employment taxes for payroll dates July 30-August 1.
August 8
Employers. Semi-weekly depositors must deposit employment taxes for payroll dates August 2-5.
August 10
Employees who work for tips. Employees who received $20 or more in tips during July must report them to their employer using Form 4070.
August 13
Employers. Semi-weekly depositors must deposit employment taxes for payroll dates August 6-8.
August 15
Employers. Semi-weekly depositors must deposit employment taxes for payroll dates August 9-12.
August 20
Employers. Semi-weekly depositors must deposit employment taxes for payroll dates August 13-15.
August 22
Employers. Semi-weekly depositors must deposit employment taxes for payroll dates August 16-19.
August 27
Employers. Semi-weekly depositors must deposit employment taxes for payroll dates August 20-22.
August 29
Employers. Semi-weekly depositors must deposit employment taxes for payroll dates August 23-26.
September 4
Employers. Semi-weekly depositors must deposit employment taxes for payroll dates August 27-29.
September 5
Employers. Semi-weekly depositors must deposit employment taxes for payroll dates August 30-September 2.
The Tax Code contains many taxpayer rights and protections. However, because the Tax Code is so large and complex, many taxpayers, who do not have the advice of a tax professional, are unaware of their rights. To clarify these protections, the IRS recently announced a Taxpayer Bill of Rights, describing 10 rights taxpayers have when dealing with the agency.
The Tax Code contains many taxpayer rights and protections. However, because the Tax Code is so large and complex, many taxpayers, who do not have the advice of a tax professional, are unaware of their rights. To clarify these protections, the IRS recently announced a Taxpayer Bill of Rights, describing 10 rights taxpayers have when dealing with the agency.
Taxpayer education
The idea for a Taxpayer Bill of Rights has been percolating for several years. One of the leading proponents has been National Taxpayer Advocate Nina Olson. In January 2014, Olson told Congress that a Taxpayer Bill of Rights was long overdue. Even though the rights already existed, many taxpayers did not know about them. More taxpayer education was needed, Olson emphasized. Olson proposed that either Congress pass legislation or the IRS take administrative action to set out a Taxpayer Bill of Rights.
Olson proposed that a Taxpayer Bill of Rights be based on the U.S. Bill of Rights. Olson also recommended that the IRS describe taxpayer rights in non-technical language. Olson's proposal won support from IRS Commissioner John Koskinen earlier this year.
Taxpayer Bill of Rights
In June, IRS Commissioner John Koskinen and Olson together unveiled a 10-point Taxpayer Bill of Rights.
The provisions in the Taxpayer Bill of Rights are:
- The Right to Be Informed
- The Right to Quality Service
- The Right to Pay No More than the Correct Amount of Tax
- The Right to Challenge the IRS's Position and Be Heard
- The Right to Appeal an IRS Decision in an Independent Forum
- The Right to Finality
- The Right to Privacy
- The Right to Confidentiality
- The Right to Retain Representation
- The Right to a Fair and Just Tax System
"The Taxpayer Bill of Rights contains fundamental information to help taxpayers," Koskinen said. "These are core concepts about which taxpayers should be aware. Respecting taxpayer rights continues to be a top priority for IRS employees, and the new Taxpayer Bill of Rights summarizes these important protections in a clearer, more understandable format than ever before."
As the IRS Commissioner noted, the Taxpayer Bill of Rights does not create new rights. Rather, the Taxpayer Bill of Rights is intended to serve an educational purpose to help taxpayers understand better their existing rights.
IRS Publication 1
The Taxpayer Bill of Rights is highlighted prominently in IRS Publication 1, Your Rights as a Taxpayer. The IRS reported that updated Publication 1 will be sent to taxpayers when they receive notices on issues ranging from audits to collections. Updated Publication 1 initially will be available in English and Spanish, and later in Chinese, Korean, Russian and Vietnamese.
Additionally, the IRS created a special page on its website to highlight the Taxpayer Bill of Rights. The Taxpayer Bill of Rights will be displayed in all IRS offices.
If you have any questions about the IRS Taxpayer Bill of Rights, please contact our office.
IR-2014-72
Since 2009, the IRS has operated an Offshore Voluntary Disclosure Program (OVDP) for U.S. taxpayers who have failed to disclose foreign assets or report foreign income from those assets to the IRS or Treasury. The program provides reduced penalties and other benefits, thus giving taxpayers an opportunity to address their past noncompliance and "become right" with the government.
Since 2009, the IRS has operated an Offshore Voluntary Disclosure Program (OVDP) for U.S. taxpayers who have failed to disclose foreign assets or report foreign income from those assets to the IRS or Treasury. The program provides reduced penalties and other benefits, thus giving taxpayers an opportunity to address their past noncompliance and "become right" with the government.
The IRS reports that 45,000 taxpayers have made voluntary disclosures since 2009 and have paid $6.5 billion in back taxes, interest, and penalties. In 2014, the IRS made important changes to the OVDP, with the expectation that the revised program will lead to a significant increase in the number of U.S. taxpayers who participate in the OVDP and report their undisclosed foreign assets.
Reporting obligations
U.S. taxpayers, including U.S. citizens living abroad, must report and pay taxes on their worldwide income, including income from foreign assets. Taxpayers must report foreign accounts on Form 1040, Schedule B; if their value exceeds certain thresholds, they must report on Form 8938, Statement of Foreign Financial Accounts. Taxpayers with accounts worth more than $10,000 must report the accounts on the Report of Foreign Bank and Financial Accounts (FBAR), which is filed with Treasury (not the IRS).
The IRS provided temporary OVDPs in 2009 and 2011. In 2012, it opened another OVDP that it continues to offer. Under the 2012 program, taxpayers must enter into a closing agreement with the IRS, provide updated returns for the prior eight years, and pay a penalty as high as 27.5 percent. In return, the IRS agrees not to pursue criminal penalties against taxpayers who may have willfully failed to report their foreign assets and/or income. In 2012, the IRS also unveiled a "streamlined procedures" program, with lighter penalties for U.S. taxpayers residing abroad who were nonwillful evaders.
2014 revisions
The revised streamlined procedures program has been expanded to taxpayers living in the United States. Participants are no longer required to have an unpaid tax balance of $1,500 or less per year. Participants self-certify that their noncompliance was not willful; the IRS will review their circumstances. Taxpayers must pay taxes on any unreported income from the past three years and must file required FBAR reports for the previous six years. Participants living abroad pay no penalty, while U.S. residents pay a miscellaneous offshore penalty of five percent.
The OVDP program for potentially willful evaders has been tightened. Taxpayers must provide increased information and must pay the 27.5 percent penalty at the time of application. In light of the expanded streamlined program, the IRS eliminated reduced penalties (five and 12.5 percent) that had been offered to nonwillful OVDP participants. To increase the pressure on nonfilers, the IRS increased the penalty from 27.5 percent to 50 percent for taxpayers who used a foreign financial institution or a facilitator that the IRS or Justice Department publicly acknowledges to be under investigation.
Taxpayers are advised to consult with their tax adviser about these programs and choose carefully. A taxpayer cannot participate in both the streamlined and the OVDP programs; it is an either/or proposition. If a taxpayer is confident that his or her noncompliance was not willful, the streamlined program is a reasonable choice. However, this program provides no protection from criminal prosecution, further audits, or proposed tax increases, if the IRS decides that the taxpayer acted willfully.
A recent decision by the U.S. Supreme Court clarifies how taxpayers may challenge an IRS summons where the taxpayer claims the summons was issued for an improper purpose. A taxpayer has a right to conduct an examination of IRS officials regarding their reasons for issuing a summons when the taxpayer points to specific facts or circumstances plausibly raising an inference of bad faith, the Court held. The Court took a different approach than one adopted by the Eighth Circuit Court of Appeals, which had brought the case to the Supreme Court.
A recent decision by the U.S. Supreme Court clarifies how taxpayers may challenge an IRS summons where the taxpayer claims the summons was issued for an improper purpose. A taxpayer has a right to conduct an examination of IRS officials regarding their reasons for issuing a summons when the taxpayer points to specific facts or circumstances plausibly raising an inference of bad faith, the Court held. The Court took a different approach than one adopted by the Eighth Circuit Court of Appeals, which had brought the case to the Supreme Court.
IRS summons power
The IRS has many tools in its investigative toolbox. One tool is the power to issue administrative summonses to taxpayers and third parties. The IRS may issue a summons to direct a taxpayer to testify or to produce certain documents. If a taxpayer or third party declines to comply with the summons, the IRS may ask a federal district court to enforce the summons.
The IRS must jump through several hoops to persuade a court to enforce a summons. The IRS must show that the summons was issued for a legitimate purpose, the IRS sought information not already in its possession, and the summons met all the administrative steps required by the Tax Code. Once the IRS makes its prima facie showing to enforce a summons, the burden shifts to the third party opposing the summons.
Like any power, there is the possibility that the summons power cab be abused and the courts have developed some protections for taxpayers. A court will not permit its process to be abused by enforcing a summons that was issued for an improper purpose. An improper purpose may include any purpose reflecting on the good faith of the investigation.
Clarke case
The case before the Supreme Court involved allegations of a summons issued for an improper purpose. The case began when the IRS investigated a partnership. The IRS issued summonses to third parties, seeking certain records related to the partnership and tax deductions it had claimed. One third party declined to give the IRS the records sought by the summons and the IRS asked a federal district court to enforce the summons.
Before the federal district court, the third party argued that the IRS had issued the summons for an improper purpose. One allegation the court noted was that the summons reflected retribution for the partnership's refusal to extend the statute of limitations. The district court rejected the third party's argument and he appealed to the Eleventh Circuit. There, he was successful.
The Eleventh Circuit found that the third party was entitled to a hearing to explore the allegation of improper purpose. The decision by the Eleventh Circuit created a split among the courts of appeal. Other circuits had taken a less expansive view of when a taxpayer would be entitled to a hearing when improper purpose is alleged. The IRS appealed to the Supreme Court, which agreed to review the case.
Supreme Court's decision
The Supreme Court heard arguments on April 23, 2014 and announced its decision on June 19. Justice Kagan delivered the Court's unanimous opinion. Justice Kagan explained that as part of the process concerning a summons's validity, the taxpayer is entitled to examine an IRS agent when he can point to specific facts or circumstances plausibly raising an inference of bad faith. "Naked allegations of improper purpose are not enough: The taxpayer must offer some credible evidence supporting his charge," Justice Kagan wrote.
When the Eleventh Circuit reviewed this case, it did not apply this standard, Justice Kagan wrote. "We have no doubt that the Court of Appeals viewed even bare allegations of improper purpose as entitling a summons objector to question IRS agents. The court applied a categorical rule, demanding the examination of IRS agents even when a taxpayer made only conclusory allegations," Justice Kagan wrote. The Court vacated and remanded the case to the Eleventh Circuit with instructions to consider the taxpayer's argument in light of the standard set by the Court.
If you have any questions about the Clarke case or the IRS's summons power, please contact our office.
Clarke, SCt., June 19, 2014
Taxpayers who are self-employed must pay self-employment tax on their income from self-employment. The self-employment tax applies in lieu of Federal Insurance Contributions Act (FICA) taxes paid by employees and employers on compensation from employment. Like FICA taxes, the self-employment tax consists of taxes collected for Social Security and for Medicare (hospital insurance or HI).
Taxpayers who are self-employed must pay self-employment tax on their income from self-employment. The self-employment tax applies in lieu of Federal Insurance Contributions Act (FICA) taxes paid by employees and employers on compensation from employment. Like FICA taxes, the self-employment tax consists of taxes collected for Social Security and for Medicare (hospital insurance or HI).
The self-employment tax is levied and collected as part of the income tax. The tax must be taken into account in determining an individual's estimated taxes. The self-employed taxpayer is responsible for the self-employment tax, in effect paying both the employer's and the employee's share of the tax. The tax is calculated on Schedule SE, filed with the individual's income tax return, and is then reported on the Form 1040.
Self-Employment Tax Rate
The self-employment tax rate is 15.3 percent of self-employment income. This is the same overall percentage that applies to an employee's compensation. The rate combines the 12.4 percent Social Security tax and the 2.9 percent Medicare tax. Self-employed individuals can deduct one-half of the self-employment tax. (For 2011 and 2012, the Social Security tax rate was reduced from 12.4 to 10.4 percent.) If the individual's net earnings from self-employment are less than $400 (or $100 for a church employee), the individual does not owe self-employment tax.
Like FICA taxes, the 12.4 percent Social Security tax only applies to earning up to a specified threshold. For 2013, this threshold was $113,700; for 2014, the threshold is $117,000. There is no ceiling for applying the 2.9 percent Medicare tax.
Self-Employment
The tax applies to net earnings from self-employment. This is the taxpayer's gross income for the year from operating a trade or business, minus the deductions allowable to the trade or business, plus the taxpayer's distributive share of income or loss from a partnership.
A person is self-employed if he or she carries on a trade or business as a sole proprietor or independent contractor. A general partner of a partnership that carries on a trade or business is also considered to be self-employed. Self-employment does not include the performance of services by an employee. However, an employee who also carries on a separate business part-time can be self-employed with respect to the business.
Additional Medicare Tax
Effective for 2013 and subsequent years, both employees and self-employed individuals must pay an additional 0.9 percent Medicare tax if their FICA wages or self-employment income exceeds specified thresholds $250,000 for joint filers; $125,000 for married filing separately; and $200,000 for all other taxpayers. This tax is determined on Form 8959.
The simple concept of depreciation can get complicated very quickly when one is trying to determining the proper depreciation deduction for any particular asset. Here’s only a summary of some of what’s involved.
The simple concept of depreciation can get complicated very quickly when one is trying to determine the proper depreciation deduction for any particular asset. Here’s only a summary of some of what’s involved.
Identifying the asset
The modified accelerated cost recovery system (MACRS) is generally, but not always, used to depreciate tangible depreciable property placed in service after 1986. The MACRS deduction is computed on Form 4562, Depreciation and Amortization.
Intangible property may not be depreciated under MACRS, but it may be amortized in certain situations. Real estate may not be depreciated, but buildings situated on it may. Sound recordings, films, and videotapes are specifically excluded from MACRS, but may be depreciated using the income forecast method. Deprecation for financial accounting book purposes is generally not the same as tax depreciation. Under MACRS, property placed in service and disposed of in the same tax year is not depreciable. Property converted from business use to personal use in the tax year of acquisition is not depreciable.
The cost of tangible depreciable property also may be deducted immediately if the business and the asset qualifies for Code Section 179 expensing. Bonus depreciation, in years that Congress makes it available, is also available, taken first before the asset’s remaining value is depreciated under MACRS.
Computing depreciation under MACRS
In order to compute depreciation under MACRS, the asset's MACRS property class must be determined. The asset's recovery period (i.e., its depreciation period), applicable depreciation method, and applicable convention depend on the asset's property class. Under MACRS, an asset's property class is based on either the type of asset or the business activity in which the asset is primarily used. The key resource for determining an asset's property class is the asset classification table contained in Revenue Procedure 87-56.
The cost of property in the 3-, 5-, 7-, and 10-year classes is recovered using the 200-percent declining-balance method (i.e., the applicable depreciation method) over three, five, seven, and ten years, respectively (i.e., the applicable recovery period), and the half-year convention (unless the mid-quarter convention applies), with a switch to the straight-line method in the year that maximizes the deduction.
The cost of 15- and 20-year property is generally recovered using the 150-percent declining-balance method over 15 and 20 years, respectively, and the half-year convention, with a switch to the straight-line method to maximize the deduction. The cost of residential rental and nonresidential real property is recovered using the straight-line method and the mid-month convention over 27.5- and 39-year recovery periods, respectively.
For more specific information on the amount of depreciation you may take for any business asset you own or plan to purchase, please feel free to contact this office.
Nearly half-way into the year, tax legislation has been hotly debated in Congress but lawmakers have failed to move many bills. Only one bill, legislation to make permanent the research tax credit, has been approved by the House; its fate in the Senate still remains uncertain. Other bills, including legislation to extend many of the now-expired extenders before the 2015 filing season, have stalled. Tax measures could also be attached to other bills, especially as the days wind down to Congress' August recess.
Nearly half-way into the year, tax legislation has been hotly debated in Congress but lawmakers have failed to move many bills. Only one bill, legislation to make permanent the research tax credit, has been approved by the House; its fate in the Senate still remains uncertain. Other bills, including legislation to extend many of the now-expired extenders before the 2015 filing season, have stalled. Tax measures could also be attached to other bills, especially as the days wind down to Congress' August recess.
Tax extenders
Legislation to extend nearly all of the extenders seemed to be almost assured of passage in the Senate after the Senate Finance Committee (SFC) approved the EXPIRE Act in April. The EXPIRE Act would extend through 2015 many of the popular but temporary tax incentives, including the higher education tuition deduction, the state and local sales tax deduction, the deduction for mortgage premiums, research tax credit, Work Opportunity Tax Credit (WOTC), and more. In May, the EXPIRE Act became bogged down in procedural votes in the Senate. Democrats and Republicans could not agree whether amendments would be allowed and if so, how many amendments.
In the meantime, individual lawmakers have introduced bills to extend some of the extenders. The bills must be referred to committees (the SFC or the House Ways and Means Committee) for action. Committee chairs ultimately determine if the bills will be brought before the committee. SFC Chair Ron Wyden, D-Ore., has signaled that the EXPIRE Act is likely his best attempt to move an extenders bill. Wyden has also said that he will not promote another extenders bill after 2015 (hence the name, EXPIRE Act). Ways and Means Chair Dave Camp, R-Mich., has largely kept the committee's focus on the proposals outlined in his proposed Tax Reform Act of 2014.
Lawmakers have roughly eight weeks before their month-long August recess to act on the extenders. Our office will keep you posted of developments.
Research tax credit
The research tax credit is a very popular business tax incentive. Its popularity has pushed it to the front of the line in the House for renewal. One drawback is the credit's cost: estimated at $155 billion over 10 years.
In May, the House approved the American Research and Competitiveness Act of 2014. The bill attracted support from both Democrats and Republicans. The bill makes permanent and enhances the research tax credit. The bill is not offset, which is a stumbling block to winning support from Senate Democrats. In fact, President Obama has said he would veto the bill in its present form if it reaches his desk. There is a possibility, albeit slight, that the Senate could pass its own version of the research tax credit and the House and Senate would try to reach a compromise in conference.
Corporate taxation
President Obama, lawmakers from both parties and many taxpayers agree that the U.S. corporate tax rate should be reduced. They disagree on how to pay, or if to offset, any reduction. President Obama continues to promote the elimination of some business tax preferences, particularly tax incentives for oil, gas and fossil fuel producers, as the way to pay for a corporate tax rate cut. The President also has called for using some of the revenues to fund road and bridge construction.
Democrats in the House and Senate have also honed in on so-called "corporate inversions." These occur when U.S. companies merge with foreign ones for tax purposes. The merged entity is often located in a low-tax jurisdiction, such as Ireland with a corporate tax rate of 12.5 percent, compared to the U.S. corporate tax rate of 35 percent. House and Senate Democrats have introduced companion bills (Stop Corporate Inversions Act of 2014) to curb these mergers. Under current law, a corporate inversion will not be respected for U.S. tax purposes if 80 percent or more of the new combined corporation (incorporated offshore) is owned by historic shareholders of the U.S. corporation. The bill would reduce the threshold to 50 percent. House and Senate Republicans are not expected to support the bill.
Other bills
On July 1, the interest rate on federal subsidized Stafford loans is set to increase from 3.4 to 6.8 percent. Legislation introduced in the Senate, the Bank on Students Loan Fairness Act, would provide a one-year "fix" by setting the rate at the primary interest rate offered through the Federal Reserve discount window. The bill would be paid for by the so-called "Buffett Rule," which generally would disallow certain tax preferences to higher income individuals. Along with the student loan bill, lawmakers have on their agenda legislation to renew federal highway spending, as discussed above. A final highway bill with tax-related provisions could be approved before the August recess. Some lawmakers have proposed a hike in the federal gasoline tax but it is unlikely to be approved.
If you have any questions about tax legislation, please contact our office.
Transit incentives are a popular transportation fringe benefit for many employees. Although the costs of commuting to and from work are not tax-deductible (except in certain relatively rare cases), transportation fringe benefits help to offset some of the costs, including the expenses of riding mass transit or taking a van pool to work. Under current law, the value of qualified transportation fringe benefits provided to an employee is excluded from the employee's gross income and wages for income and payroll tax purposes.
Transit incentives are a popular transportation fringe benefit for many employees. Although the costs of commuting to and from work are not tax-deductible (except in certain relatively rare cases), transportation fringe benefits help to offset some of the costs, including the expenses of riding mass transit or taking a van pool to work. Under current law, the value of qualified transportation fringe benefits provided to an employee is excluded from the employee's gross income and wages for income and payroll tax purposes.
Qualified benefits
Only certain transit benefits qualify for this special tax treatment. They are:
- Transportation in a commuter highway vehicle if the transportation is in connection with travel between the employee's residence and place of employment (for example, van pooling),
- Transit passes,
- Qualified parking, and
- Qualified bicycle commuting reimbursements.
Employers have some latitude regarding which, if any, transit benefits they want to offer. An employer may simultaneously provide an employee with any one or more of the first three qualified transportation fringes. However, an employee may not exclude a bicycle commuting reimbursement for any month in which he or she receives any of the other incentives.
Excluded from gross income
As long as the amount of the transit pass, qualified parking or other benefit does not exceed the statutory monthly limits, the amounts are not wages for purposes of Social Security and Medicare, the Federal Unemployment Tax Act (FUTA), and federal income tax withholding. However, if the amounts do exceed the statutory limits, the excess must be included in the employee's gross income.
Amounts
For 2014, the maximum that may be excluded is $250 per month for qualified parking, but only $130 for transit passes and van pooling. The exclusion for qualified bicycle commuting reimbursement is limited to a per employee limitation of $20 per month multiplied by the number of qualified bicycle commuting months during the calendar year.
At the end of 2013, the monthly cap on the transit passes and van pools of the commuter benefit dropped to $130 per month-from $240 per month-because transit benefits parity expired. The amount of qualified parking, however, increased to $250 per month, from $240 per month, because of an adjustment for inflation required under the Tax Code.
Pending legislation
Parity could be restored and made retroactive to January 1, 2014. In April, the Senate Finance Committee approved the EXPIRE Act, which would restore parity by increasing the transit pass and van pool benefits to $250 per month - the same amount as parking. The EXPIRE Act is not a permanent fix. The bill would extend parity through the end of 2015. On January 1, 2016, parity would again expire.
The EXPIRE Act also includes special treatment for bikeshare costs. In 2013, the IRS announced that bikeshare arrangements would not be treated as a transportation fringe benefit unless Congress makes them so. The EXPIRE Act modifies the definition of qualified bicycle commuting reimbursement to include expenses associated with the use of a bikesharing arrangement.
Both the House and Senate must pass legislation in order to extend transit benefits parity. At this time, transit benefits parity has not moved in the House. One deterrent is the cost of extending parity. According to the Joint Committee on Taxation, a two-year extension of parity (through 2015) would cost $180 million over 10 years.
Retroactive extension
Retroactive extension of transit benefit parity would create some administrative challenges for employers. The last time there was a retroactive extension, the IRS provided special guidance to employers on how to account for the retroactive change when filing employment tax returns and Forms W-2. The IRS would likely do the same if there is a retroactive extension of transit benefit parity to January 1, 2014.
Please contact our office if you have any questions about transportation fringe benefits. Our office will keep you posted of developments.
If a taxpayer makes a mistake resulting in paying less federal tax to the IRS than actually owed, that taxpayer could be subject to the accuracy related penalty under Code Sec. 6662. According to the IRS, the two most common accuracy related penalties are the "substantial understatement" penalty and the "negligence or disregard of the rules or regulations" penalty. These penalties are calculated as 20-percent of the net understatement of tax.
If a taxpayer makes a mistake resulting in paying less federal tax to the IRS than actually owed, that taxpayer could be subject to the accuracy-related penalty under Code Sec. 6662. According to the IRS, the two most common accuracy-related penalties are the "substantial understatement" penalty and the "negligence or disregard of the rules or regulations" penalty. These penalties are calculated as 20-percent of the net understatement of tax.
20-percent penalty
The Tax Code defines the words "substantial understatement" differently for individuals and corporations. For individuals, a substantial understatement of tax is an amount that exceeds the greater of (1) 10 percent of the tax required to be shown on the return for the tax year; or (2) $5,000. For corporate taxpayers (other than S corporations and personal holding companies), an understatement is substantial if it exceeds the lesser of: (1) the greater of 10 percent of the taxpayer's proper tax liability or $10,000; or (2) $10 million.
Negligence generally includes any failure to make a reasonable attempt to comply with the Tax Code. For example, negligence occurs when a taxpayer fails to include on a return an amount of income shown on an information return or fails to make a reasonable attempt to ascertain the correctness of a deduction, credit or exclusion on a return that would appear to be too good to be true to a reasonable and prudent person under the circumstances. Negligence may be excused if the taxpayer had a reasonable basis.
40-percent penalty
The penalty is increased to 40-percent in certain circumstances. For example, the penalty could be increased to 40 percent to the extent that a portion of the underpayment is attributable to a gross valuation misstatement. A gross valuation misstatement exists if the actuarial determination is 400 percent or more of the correct amount.
Furthermore, the 40-percent penalty would apply to the amount of an underpayment attributable to a nondisclosed transaction lacking economic substance. Finally, the 40-percent penalty applies in the case of any underpayment attributable to an undisclosed foreign financial asset understatement.
Some limitations
Throughout this article, we have referred to the Code Sec. 6662 provision as a "penalty." It is more accurate to call it an addition to tax. This means that the amounts tacked on to a taxpayer's total tax owed under Code Sec. 6662 are also considered tax, and interest accrues on those amounts just as it accrues on the unpaid tax liability. This can result in a hefty tax bill!
There are limitations on the penalty, however. First, the IRS cannot impose more than one accuracy-related penalty on the same portion of an underpayment. For example, if the taxpayer negligently made a substantial valuation misstatement that caused a $6,000 underpayment of tax, the IRS cannot impose a 20-percent penalty once for the negligence and a second time for the substantial valuation misstatement.
Second, the IRS cannot impose both the Code Sec. 6662 penalty and the Code Sec. 6663 penalty for civil fraud on the same portion of an underpayment. Penalty stacking is prohibited.
Finally, a taxpayer may be able to have the penalty removed from any portion of an underpayment if it can prove that it had a reasonable cause for that portion of an underpayment and acted in good faith with respect to it. Successful advocacy of this defense is complicated, and taxpayers should seek professional advice.
For more information on what taxpayers can do to avoid or reduce a penalty, please contact our offices.
With the April 15th filing season deadline now behind us, it’s not too early to turn your attention to next year’s deadline for filing your 2014 return. That refocus requires among other things an awareness of the direct impact that many "ordinary," as well as one-time, transactions and events will have on the tax you will eventually be obligated to pay April 15, 2015. To gain this forward-looking perspective, however, taking a moment to look back … at the filing season that has just ended, is particularly worthwhile. This generally involves a two-step process: (1) a look-back at your 2013 tax return to pinpoint new opportunities as well as "lessons learned;" and (2) a look-back at what has happened in the tax world since January 1st that may indicate new challenges to be faced for the first time on your 2014 return.
With the April 15th filing season deadline now behind us, it’s not too early to turn your attention to next year’s deadline for filing your 2014 return. That refocus requires among other things an awareness of the direct impact that many "ordinary," as well as one-time, transactions and events will have on the tax you will eventually be obligated to pay April 15, 2015. To gain this forward-looking perspective, however, taking a moment to look back … at the filing season that has just ended, is particularly worthwhile. This generally involves a two-step process: (1) a look-back at your 2013 tax return to pinpoint new opportunities as well as "lessons learned;" and (2) a look-back at what has happened in the tax world since January 1st that may indicate new challenges to be faced for the first time on your 2014 return.
Your 2013 Form 1040
Examining your 2013 Form 1040 individual tax return can help you identify certain changes that you might want to consider this year, as well encourage you to continue what you’re doing right. These "key ingredients" to your 2014 return may include, among many others considerations, a fresh look at:
Your refund or balance due. While it is nice to get a big refund check from the IRS, it often indicates unnecessary overpayments over the course of the year that has provided the federal government with an interest-free loan in the form of your money. Now’s the time to investigate the reasons behind a refund and whether you need to take steps to lower wage withholding and/or quarterly estimated tax payments.
If on the other hand you had to pay the IRS when filing your return (or requesting an extension), you should consider whether it was due to a sudden windfall of income that will not repeat itself; or because you no longer have the same itemized deductions, you had a change in marital status, or you claimed a one-time tax credit such as for energy savings or education. Likewise, examining anticipated changes between your 2013 and 2014 tax years—marriage, the birth of a child, becoming a homeowner, retiring, etc.—can help warn you whether your're headed for an underpayment or overpayment of your 2014 tax liability.
Investment income. One area that blindsided many taxpayers on their 2013 returns was the increased tax bill applicable to investment income. Because of the "great recession," many investors had carryforward losses that could offset gains realized for a number of years as markets gradually improved. For many, however, 2013 saw not only a significant rise in investment income but also a rise in realized taxable investment gains that were no longer covered by carryforward losses used up during the 2010–2012 period.
Furthermore, dividends and long-term capital gains for the first time in 2013 were taxed at a new, higher 20 percent rate for higher income taxpayers and an additional 3.8 percent net investment income tax surtax for those in the higher income brackets. Short-term capital gains saw the highest rate jump, from 35 percent to 43.4 percent rate, which reflected a new 39.6 percent regular rate and the new 3.8 percent net investment income tax rate. This tax structure remains in place for 2014.
Personal exemption/itemized deductions. Effective January 1, 2013, the American Taxpayer Relief Act (ATRA) revived the personal exemption phaseout (PEP). The applicable threshold levels are $250,000 for unmarried taxpayers; $275,000 for heads of households; $300,000 for married couples filing a joint return (and surviving spouses); and $150,000 for married couples filing separate returns (adjusted for inflation after 2013). Likewise, for it revived the limitation on itemized deductions (known as the "Pease" limitation after the member of Congress who sponsored the original legislation) for those same taxpayers.
Medical and dental expenses. Starting in 2013, the Affordable Care Act (ACA) increased the threshold to claim an itemized deduction for unreimbursed medical expenses from 7.5 percent of adjusted gross income (AGI) to 10 percent of AGI. However, there is a temporary exemption for individuals age 65 and older until December 31, 2016. Qualified individuals may continue to deduct total medical expenses that exceed 7.5 percent of adjusted gross income through 2016. If the qualified individual is married and only one spouse is age 65 or older, the taxpayer may still deduct total medical expenses that exceed 7.5 percent of adjusted gross income.
Recordkeeping. If you cannot find the paperwork necessary to prove your right to a deduction or credit, you cannot claim it. An organized tax recordkeeping system—whether on paper or computerized–therefore is an essential component to maximizing tax savings.
Filing Season Developments
So far this year, the IRS, other federal agencies and the courts have issued guidance on individual and business taxation, retirement savings, foreign accounts, the ACA, and much more. Congress has also been busy working up a "tax extenders" bill as well as tax reform proposals. All these developments can impact how you plan to maximize benefits on your 2014 income tax return.
Tax reform. President Obama, the chairs of the House and Senate tax writing committees, and individual lawmakers all made tax reform proposals in early 2014. The proposals range from comprehensive tax reform to more piece-meal approaches. Although only small, piecemeal proposals have the most promising chances for passage this year, taxpayers should not ignore the broader push toward tax reform that will be taking shape in 2015 and 2016.
Tax extenders. The Senate Finance Committee (SFC) approved legislation (EXPIRE Act) in April that would extend nearly all of the tax extenders that expired after 2013. Included in the EXPIRE Act are individual incentives such as the state and local sales tax deduction, the higher education tuition deduction, transit benefits parity, and the classroom teacher’s deduction; along with business incentives such as enhanced Code 179 small business expensing, bonus depreciation, the research tax credit, and more. Congress may now move quickly on an extenders bill or it may not come up with a compromise until after the November mid-term elections. Many of these tax benefits are significant and will directly impact the 2014 tax that taxpayers will pay.
Individual mandate. The Affordable Care Act’s individual mandate took effect January 1, 2014. Individuals failing to carry minimum essential coverage after January 1, 2014 and who are not exempt from the requirement will make an individual shared responsibility payment when they file their 2014 federal income tax returns in 2015. There are some exemptions, including a hardship exemption if the taxpayer experienced problems in signing up with a Health Insurance Marketplace before March 31, 2014. Further guidance is expected before 2014 tax year returns need to be filed, especially on how to calculate the payment and how to report to the IRS that an individual has minimum essential coverage.
Employer mandate. The ACA’s shared responsibility provision for employers (also known as the “employer mandate”) will generally apply to large employers starting in 2015, rather than the original 2014 launch date. Transition relief provided in February final regulations provides additional time to mid-size employers with 50 or more but fewer than 100 employees, generally delaying implementation until 2016. Employers that employ fewer than 50 full-time or full time equivalent employees are permanently exempt from the employer mandate. The final regulations do not change this treatment under the statute.
Other recent tax developments to be aware of for 2014 planning purposes include:
- IRA rollovers. The IRS announced that, starting in 2015, it intends to follow a one-rollover-per-year limitation on Individual Retirement Account (IRA) rollovers as an aggregate limit.
- myRAs. In January, President Obama directed the Treasury Department to create a new retirement savings vehicle, “myRA,” to be rolled out before 2015.
- Same-sex married couples. In April, the IRS released guidance on how the Supreme Court’s Windsor decision, which struck down Section 3 of the Defense of Marriage Act (DOMA), applies to qualified retirement plans, opting not to require recognition before June 26, 2013.
- Passive activity losses. The Tax Court found in March that a trust owning rental real estate could qualify for the rental real estate exception to passive activity loss treatment.
- FATCA deadline. The IRS has indicated that it is holding firm on the July 1, 2014, deadline for foreign financial institutions (FFIs) to comply with the FATCA information reporting requirements or withhold 30 percent from payments of U.S.-source income to their U.S. account holders.
- Vehicle depreciation. The IRS announced that inflation-adjusted limitations on depreciation deductions for business use passenger autos, light trucks and vans first placed in service during calendar year 2014 are relatively unchanged from 2013 (except for first year $8,000 bonus depreciation that may be removed if Congress does not act in time.
- Severance payments. In March, the U.S. Supreme Court held that supplemental unemployment benefits (SUB) payments made to terminated employees and not tied to the receipt of state unemployment benefits are wages for FICA tax purposes.
- Virtual currency. The IRS announced that convertible virtual currencies, such as Bitcoin, would be treated as property and not as currency, thus creating immediate tax consequences for those using Bitcoins to pay for goods.
Please contact this office if you’d like further information on how an examination of your 2013 return, and examination of recent tax developments, may point to revised strategies for lowering your eventual tax bill for 2014.
A new tax applies to certain taxpayers, beginning in 2013—the 3.8 percent Net Investment Income (NII) Tax. This is a surtax that certain higher-income taxpayers may owe in addition to their income tax or alternative minimum tax. The tax applies to individuals, estates, and trusts (but not to corporations). Individuals are subject to the tax if they have NII, and their adjusted gross income exceeds a specified threshold—$250,000 for married taxpayers filing jointly; $200,000 for unmarried individuals.
A new tax applies to certain taxpayers, beginning in 2013—the 3.8 percent Net Investment Income (NII) Tax. This is a surtax that certain higher-income taxpayers may owe in addition to their income tax or alternative minimum tax. The tax applies to individuals, estates, and trusts (but not to corporations). Individuals are subject to the tax if they have NII, and their adjusted gross income exceeds a specified threshold—$250,000 for married taxpayers filing jointly; $200,000 for unmarried individuals.
For trusts, the NII tax applies at a much lower income level—the amount at which the highest tax bracket for a trust begins. This may sound high, but in fact, it is not. For 2014, this bracket begins at $12,150. A trust subject to the NII tax may lower or eliminate its potential liability by distributing NII to its beneficiaries, because the tax applies only to the undistributed NII for the year. The tax may then apply to the recipient, but based on the recipient’s income level.
Exempt and nonexempt trusts
Some trusts are exempt from the NII tax: cemetery perpetual care funds; Alaska Native Settlement Trusts electing to be taxed under Code Sec. 646; wholly charitable trusts; and foreign trusts. However, other trusts are not exempt. These include pooled income funds (where individuals donate remainder interests to charity while retaining an income interest); qualified funeral trusts; electing small business trusts; and charitable remainder trusts.
Passive activity
For individuals, trusts, and estates, the tax applies to income from a trade or business that is a passive activity with respect to the taxpayer. A trade or business is not passive if the taxpayer materially participates in the activity (as determined under Code Sec. 469). There is IRS guidance for determining whether an individual materially participates in an activity.
Material participation
The IRS has never provided guidance on how to determine whether a trust or estate materially participates in a trade or business. When the IRS issued final regulations on the NII tax, it said that the issue was under study, but the IRS has not indicated whether it will issue guidance on the issue.
The IRS regulations conclude that the application of the material participation requirements to trust income potentially subject to the NII tax must be determined at the trust level. The treatment of the income as passive or nonpassive, once determined for the trust, flows through to trust beneficiaries who receive a distribution of NII. Thus, if the trust materially participates in the activity that generated the income, the income is nonpassive to both the trust and its beneficiaries, regardless of the age or involvement of the beneficiaries. If the trust did not materially participate, the income is passive to both the trust and its beneficiaries, even if a beneficiary materially participated in the activity.
