2016 FEDERAL TAX UPDATE

Transcription

1 2016 FEDERAL TAX UPDATE Presented By: NEIL D. KATZ, J.D., LL.M., CPA Katz, Bernstein & Katz, LLP 6900 Jericho Turnpike Suite 100W Syosset, NY (516) NYSSCPA Nassau Chapter Annual Taxation Conference Marriott Long Island Hotel December 3 & 4, 2016

2 TAX UPDATE I. Planning for 2016 A. Tax Rates 1. In 2016, the 39.6% tax rate applies to taxable income in excess of the following amounts: Married Joint & Surviving Spouse $466,950 Married Separate $233,475 Head of Household $441,000 Single $415,050 Estates and Trusts $ 12,400 B. Exemptions and Standard Deductions 1. The following standard deduction amounts apply: Married Joint & Surviving Spouse $12,600 Married Separate $ 6,300 Head of Household $ 9,300 Single $ 6, The additional standard deduction for being 65 years of age or older and/or blind is: Married Taxpayers $ 1,250 Single/Head of Household $ 1, The personal exemption and dependency exemption amounts increases to $4,050 from $4, The phase-out of these exemptions (as well as the phase-out of itemized deductions) begins at the following AGI amounts: Married Joint & Surviving Spouse $311,300 Married Separate $155,650 Head of Household $285,350 Single $259,400 Page 1

3 C. AMT 1. The AMT exemption amounts are: Married Joint & Surviving Spouse $83,800 Married Separate $41,900 Single/Head of Household $53,900 Estates and Trusts $23, The phase-out of the exemption begins at: D. Miscellaneous Married Joint & Surviving Spouse $159,700 Married Separate $ 79,850 Single/Head of Household $119,700 Estates and Trusts $ 79, The estate, gift and generation-skipping exemptions are increased to $5,450,000 from $5,430, The annual gift tax exclusion remains $14, The foreign earned income exclusion increases to $101,300 from $100, The adoption credit and exclusion amount increases to $13,460 from $13, Retirement Plan Contribution Limits a. The maximum IRA contribution remains at $5,500 (with a $1,000 catch-up contribution for taxpayers age 50 or older). b. If the individual is an active participant in a retirement plan, the 2016 contribution phase-out takes place over the following income ranges: i. Joint Filers - $98,000 - $118,000 Single and Head of Household Filers - $61,000 - $71,000 i Married Filing Separate Filers - $0 - $10,000 (unchanged from prior years). Page 2

4 c. For a married taxpayer who is not an active plan participant, but whose spouse is, the deduction is phased out for income between $184,000 and $194,000. d. Roth IRA limits: i. Joint Filers - $184,000 - $194,000 Single and Head of Household Filers - $117,000 - $132,000 i Married Filing Separate Filers - $0 - $10,000. E. Protecting Americans from Tax Hikes (PATH) Act 1. On December 18, 2015, PATH was enacted. The Act relates to the tax extenders that where scheduled to expire on January As part of the Act some of the extenders were made a permanent part of the Code while other provisions were extended for multiple years. 2. PATH made the following provisions a permanent part of the Code: a. Eligible Educator Deduction - Teachers, in grades K through 12, will be able to deduct, from gross income in arriving at adjusted gross income, up to $250 of teaching expenses incurred. b. Distributions from IRAs for Charitable Contributions - Taxpayers who have attained the age of 70½ on the date of the contribution, can make a charitable contribution directly from an IRA. The amount distributed directly to the charity will not be included in the gross income of the taxpayer, and the taxpayer cannot take a charitable contribution deduction. The amount distributed to the charity, however, is taken into account in determining whether the taxpayer has taken their required minimum distribution. c. Deduction for State and Local Sales Tax - Taxpayers can deduct state and local sales tax in lieu of deducting state and local income tax. d. Child Tax Credit Taxpayers are allowed a credit of $1,000 per child, under of the age of 17, reduced by $50 for each $1,000 that the taxpayer's modified A.G.I. exceeds the following threshold amounts: Single $ 75,000 Married - Joint $110,000 Married - Separate $ 55,000 Page 3

5 The child tax credit is refundable, in 2016, to the extent of 15% of the taxpayer s earned income in excess of $3,000, up to the per child credit amount. This $3,000 threshold amount was made permanent by PATH. e. The American Opportunity Tax Credit The provisions allowing a credit of $2,500 (100% of the first $2,000 of qualified costs plus 25% of then et $2,000) were made permanent. f. 179 Election to Expense The $500,000 maximum and $2,000,000 ceiling (adjusted for inflation) were made a permanent part of the Code. i. For 2016, the maximum expense is $500,000 but the ceiling is increased by inflation to $2,010,000. g. The 15-year write-off for qualified leasehold improvements, qualified restaurant property and qualified retail improvements. h. The exclusion of 100% of the gain on the sale of small business stock. i. The S corporation reduced built-in gains tax recognition period of 5 years. 3. PATH extended the following provisions as set forth below: a. Exclusion of Discharge of Debt on a Qualified Principal Residence - Taxpayers can exclude from gross income up to $2 million of discharge of indebtedness on their qualified principal residence. This provision was extended to, and is effective for, 2015 and b. Mortgage Insurance Premiums Treated as Qualified Residence Interest - Certain federally insured mortgages require the borrower to obtain mortgage insurance. The provision allowing for the mortgage premiums to be deducted as additional acquisition indebtedness interest has been extended to, and is applicable for, 2015 and c. The above-the-line deduction for Qualified Tuition - The deduction for qualified tuition and related expenses allows for a maximum deduction of $4,000 per year has been extended for 2015 and The deduction is limited by the following income ranges: Page 4

6 i. $4,000 maximum for income up to $65,000 ($130,000 for joint filers). $2,000 maximum for income over $65,000 up to $80,000 ($160,000 for joint filers). i No deduction is allowed for income over $80,000 ($160,000 for joint filers). d. The Work Opportunity Tax Credit is extended through e. Subject to certain reductions in future years, Bonus Depreciation is extended through i. For qualified purchases made before January 1, 2017 the bonus depreciation percentage is 50%. For qualified purchases made in 2017 and 2018 the percentage is 40%. i For qualified purchase made in 2019 the percentage is 30%. II. 179 and Bonus Depreciation A. 179 Election to Expense 1. General Rules a. 179 allows a taxpayer to immediately expense a portion of the cost of depreciable tangible property. b. The deduction, however, is subject to a limitation based upon the qualified 179 assets placed into service during the year. If the taxpayer places into service, during the tax year, 179 assets above a fixed threshold amount, the 179 deduction is reduced on a dollar-for-dollar basis. i. Example: If a taxpayer places into service, $2,210,000 of qualified assets, the 179 deduction is limited to $300,000 ($500,000 reduced by the $200,000 excess of property placed into service over the $2,010,000 ceiling). Page 5

7 c. In order to elect 179 treatment, the taxpayer need only claim the deduction on the return for the tax year in which the asset was placed into service. d. 179 also imposes an income limitation upon the deduction. The 179 deduction cannot be used to create or add to a loss. i. Example: Taxpayer has taxable income of $75,000 prior to taking into account the 179 deduction. During the tax year the taxpayer placed into service qualified 179 assets that cost $110,000. The taxpayer s 179 deduction is limited to $75,000. The remaining 179 deduction ($35,000) is carried forward to the following year. If the taxpayer had a $15,000 taxable loss prior to taking the 179 deduction into account, the taxpayer could not take any portion of the 179 deduction and the full amount would carry over to the following year. Income from all trades or businesses in which the taxpayer is engaged is counted in determining the income limitation. (a) Wages received by an individual taxpayer from activities unrelated to those creating the 179 deduction are treated as income in determining the income limitation. i Example: Husband is self-employed and has net income from selfemployment, before taking into account any 179 deduction, of $60,000. Wife is employed by an unrelated entity and has earned income of $55,000. In determining the 179 income limitation, the wife s earned income is added to the husband s net self-employment income. Therefore, the husband could deduct a maximum of $115,000 of 179 expense. e. The 179 annual deduction limitation, the ceiling amount and the income limitation apply at the entity level as well as at the individual taxpayer level. Therefore, flow-through entities (i.e., partnerships and S corporations) are first subject to the limitations contained in 179. These entities must then report to the owners their respective shares of the 179 deduction, subject to any of the applicable limitations. At the individual level, the limitations of 179 will then be applied again. Page 6

8 i. Example: Munson is a 40% shareholder of Catcher, Inc., an S corporation. The corporation acquired $500,000 of 179 property. On the S Corporation return, Catcher, Inc. took a 179 deduction of $500,000 (the maximum amount allowed). Of this amount, $200,000 flows through to Munson. Munson is self-employed and acquired $400,000 of qualified 179 property for his business. Of the $600,000 of eligible 179 deduction, Munson s maximum deduction on his personal return is limited to $500,000. f. The 179 deduction applies for both the regular tax and the Alternative Minimum Tax for Qualified Real Property a. Under prior law, qualified 179 property was limited to tangible personal property and could not be used for the acquisition of real property. b. The 2010 Small Business Act expanded the definition of property qualifying for expensing to include qualified real property. ATRA extended this provision for 2012 and Congress further extended this provision to 2014, and has now permanently extended the provision. i. Qualified real property includes qualified leasehold improvement property, qualified restaurant property and qualified retail improvement property. Qualified real property does not include: (a) (b) (c) (d) Property used for lodging, except for property used as a hotel or motel in which the predominant portion of the accommodations is used by transients; Property used outside the United States; Property used by governmental units, foreign persons or entities, and certain tax-exempt organizations; and Air conditioning and heating units. c. For the purposes of applying the $500,000 limit, no more than $250,000, per year, can be attributable to qualified real property. Page 7

9 i. Example: Taxpayer places into service, $150,000 of tangible personal property and $350,000 of qualified real property. Without taking into account any taxable income limitation, the taxpayer can claim a 179 deduction of $400,000 ($150,000 of tangible personal property and $250,000 maximum qualified real property). Example: Taxpayer places into service, $550,000 of tangible personal property and $350,000 of qualified real property. The taxpayer s maximum 179 deduction is $500,000. The taxpayer can allocate this between tangible property and real property so long as no more than $250,000 is allocated to qualified real property. For example, the taxpayer could allocate $250,000 to each or $300,000 to the tangible personal property and $200,000 to the qualified real property. B. Bonus Depreciation 1. General Rules a. Bonus depreciation allows a taxpayer to take a 50% depreciation deduction in the year that an asset is placed into service, in addition to the regular depreciation taken for that year. i. Bonus depreciation is mandatory. A taxpayer can elect out of bonus depreciation. However, the election out would apply to all assets of the same class acquired during the tax year. b. Property qualifying under MACRS, with an ADR mid-point life of less than 20 years, qualifies for the bonus depreciation. The property must be "original use" property to qualify for bonus depreciation. Bonus depreciation cannot be taken on used property. Among the property specifically included as qualifying for bonus depreciation is: i. Computer software that is allowed as a deduction under 167; i Water utility property; Qualified leasehold improvement property; Page 8

10 iv. Certain property produced by the taxpayer for use in its trade or business; v. Sale-leasebacks; and vi. Certain aircraft. III. Offshore Voluntary Disclosure Initiative A. Overview 1. The IRS has previously had two programs that gave taxpayers an opportunity to come clean and report foreign accounts that were previously undisclosed. This voluntary disclosure program was part of the effort by, the IRS to stop offshore tax evasion and ensure tax compliance. 2. The first program was instituted in 2009 and the second program applied for Both of these programs were very successful. However, as 2012 began neither of these programs were available. 3. In January 2012, the IRS announced (IR ) the reopening of the offshore voluntary disclosure program. To understand the new program a review of the details of the 2011 plan is necessary. B. Details of the 2011 Plan 1. To avoid significantly higher civil penalties and criminal penalties, the taxpayer had to disclose all of their previously undisclosed foreign financial accounts and: a. File or amend federal income tax returns for years 2003 through b. File or amend offshore-related information returns (including Form TD , Report of Foreign and Financial Accounts (FBAR)) for all covered years. c. Cooperate in the voluntary disclosure process and agree to: i. Pay all unpaid taxes and interest related thereto. Pay an accuracy or delinquency penalty on the overdue tax. Page 9

11 i Pay a penalty, in lieu of all other penalties that may apply, of 25% of the highest aggregate balance held in the account during the covered years. (Note: in certain cases the penalty is reduced to 12.5% or 5%, infra). 2. Under the 2009 initiative, the period was six years and the penalty was 20% (in limited cases 5%) instead of 25%. 3. In order to have been eligible for the 12.5% FBAR penalty, the taxpayer had to show that the foreign account never had a balance greater than $75, The 5% FBAR penalty was limited to: a. Taxpayers who are foreign residents who were unaware that they were U.S. citizens, and b. Taxpayers who inherited foreign accounts that were minimally used and the taxpayers paid all applicable U.S. taxes on the funds deposited in such accounts. 5. The 2011 initiative set forth a procedure for taxpayers who participated in the 2009 initiative to take advantage of the 12.5% or 5% penalty if they believed that they qualify. 6. To apply for the 2011 initiative, the taxpayer had to send a timely letter which: a. Enclosed complete and amended tax returns and FBARs for the covered years. b. Reported legal source income omitted from the original returns, and c. Offered to pay the tax, interest and penalties determined by the IRS to be applicable. 7. It should be noted that taxpayers who made silent disclosure could have qualified for this program. C. Additional Guidance Regarding the 2009 & 2011 Programs 1. On June 1, 2011, the IRS issued additional guidance regarding the 2009 and 2011 Voluntary Disclosure Initiatives. 2. The major issues covered by this guidance were: Page 10

12 D Program a. The steps that a taxpayer had to take to opt out of the initiatives. b. A formal process whereby the IRS could remove uncooperative taxpayers from the program. c. A U.S. citizen who was a resident of a foreign country could reduce the 25% penalty to 5% if they complied with the tax laws in the resident foreign country and the taxpayer had $10,000 or less of U.S. source income. 1. The 2012 program restores the previous program with the following changes: a. There is no deadline for taking advantage of the voluntary disclosure benefits. However, the IRS could change this at any time. b. Under the 2012 program the penalty is, generally, 27.5%. i. Taxpayers could be subject to the 5% and 12.5% penalties under the same rules that applied in the 2011 program. 2. In June 2012, the IRS issued IR that provides more information on the 2012 program. a. Undisclosed income tax liabilities, from domestic sources, must be disclosed in applying for admittance into the program. b. Spouses may participate in the program jointly or separately. c. Taxpayers are reminded that for 2011 they were required to file Form 8938, Statement of Specified Foreign Financial Assets. Failure to have done so will subject the taxpayer to a penalty of $10,000, with an additional penalty of $10,000 per month (maximum $50,000) for each additional month the failure continues starting 90 days after notification of such failure. d. If the taxpayer challenges in a foreign court the tax information disclosure, the taxpayer must notify the U.S. Justice Department of the appeal. Failure to do so will disqualify the taxpayer from eligibility in the program. Page 11

13 E. Failure to Elect Voluntary Disclosure 1. In addition to tax and interest on any undisclosed accounts, the taxpayer will be subject to the following civil tax penalties for failure to disclose an interest in a foreign account on an FBAR: a. For a non-willful violation, a penalty of $10,000 per violation. b. For a willful violation, a penalty equal to the greater of $100,000 or 50% of the balance of the account at the time of the violation. 2. In addition to the criminal penalties that apply to the taxpayer s income tax returns, the taxpayer can be subject to fines and imprisonment. F. Expansion of Streamlined Filing Procedures 1. In a speech before the Organization for Economic Cooperation and Development, IRS Commissioner Koskinen stated that the OVDP program has resulted in more than 43,000 voluntary disclosures and the collection of more than $6 billion in additional taxes, interest and penalties. He further stated that the agency was considering making changes to the OVDP with an emphasis on smaller penalties for those taxpayers who did not willfully fail to comply with the FBAR requirements. a. The National Taxpayer Advocate has criticized the program as one size fits all. The argument was made that there is no meaningful distinction between those who willfully fail to report and those who inadvertently fail to report foreign accounts. 2. On June 18, 2014, the IRS announced the expansion of the streamlined filing procedure and modifications to the OVDP. a. The modifications apply to the 2012 program and do not represent a new program but a continuation of the 2012 program. b. The major modifications to the 2012 program are: i. An increase in the penalty from 27.5% to 50% if the foreign financial institution at which the taxpayer has or had an account, or the facilitator who assisted the taxpayer in establishing or maintaining the account, has been publicly identified as being under investigation; and The reduced penalty structure has been eliminated due to the expansion of the streamlined filing compliance procedure. Page 12

14 3. Streamlined Filing Compliance Procedure a. This procedure is available to taxpayers, living outside of the U.S. as well as those living inside the U.S., who certify that their failure to report foreign financial assets and pay all taxes due in respect to those assets did not result from willful conduct on their part. b. For taxpayers living inside the U.S. the following benefits apply to a qualified taxpayer: i. The taxpayer will be subject to a Miscellaneous Title 26 offshore penalty in lieu of all other penalties. The covered period is reduced from 8 years to 3 years for income tax returns and 6 years for FBARs. c. Taxpayers who are residing outside of the U.S. must show that they were unaware of their U.S. tax obligations in order to qualify for the program. If they qualify, they will not be subject to any penalty. However, they are required to file income tax returns for 3 years and FBARs for 6 years. 4. Going forward, taxpayers must choose either the OVDP or the streamlined procedure. They are mutually exclusive. Once a taxpayer files for one they cannot change their mind and file for the other. G. Recent Guidance a. There are transitional rules in place which allow taxpayers who have filed voluntary disclosure letters to enter into the OVDP, prior to July 1, 2014, to remain in the program and take advantage of the streamlined procedures, if they qualify. 1. Delinquent FBAR Submission Program a. The IRS has set forth procedures for the filing of delinquent FBARs, without penalty, where the taxpayer does not use the OVDP or the streamlined procedures. b. Under this program, delinquent FBARs should be filed by U.S. persons who: i. Do not need to use either the OVDP or streamlined procedures or amended returns to report and pay additional tax, Page 13

15 i iv. Have not filed the required FBARs, Are not under civil or criminal investigation by the IRS, and Have not been contacted by the IRS about the delinquent FBARs. c. To resolve the delinquent FBAR issue, the taxpayer should follow the following steps: i. Review the instructions. i iv. Include a statement as to why the FBARs are being filed late. File all FBARs electronically with the Financial Criminal Enforcement Network (FinCEN). Select a reason for filing late on the cover page of the electronic form. d. The IRS will waive the late filing penalty if the taxpayer, i. Properly reported on its U.S. return, and paid all of the tax on, the income from the foreign accounts reported on the delinquent FBARs, and Has not been contacted regarding an income tax examination or a request for delinquent returns for the years for which the FBARs are submitted. 2. Guidance on Computation and Limit Set on Maximum Penalty a. As set forth above, the maximum penalty for willful failure to file an FBAR is the greater of $100,000 or 50% of the highest dollar amount in the foreign financial account, each year. Many commentators have suggested that this is a violation of the Eighth Amendment to the Constitution which prohibits the imposition of excessive fines. b. On May 13, 2015 the IRS issued Interim Guidance for Report of Foreign Bank and Financial Accounts (FBAR) Penalties. For willful failure to file an FBAR, generally, the total penalty will not exceed 50% of the highest aggregate balance of all foreign Page 14

16 financial accounts during the years under examination. In no event will the total penalty exceed 100% of said balance. c. The penalty for each year will be allocated, as set forth in the following example contained in the Interim Guidance: i. Example: Assume highest aggregate balances of $50,000, $100,000 and $200,000 for 2010, 2011 and 2012, respectively. The total penalty amount is $100,000 (50% x $200,000, the highest aggregate balance during the years under examination). The total of the highest aggregate balances for all years combined is $350,000. The penalty for 2010 is $14,286 ($50,000/$350,000 x $100,000). The penalty for 2011 is $28,571 ($100,000/$350,000 x $100,000). The penalty for 2012 is $57,143 ($200,000/$350,000 x $100,000). d. For nonwillful failure to timely file FBARs the Interim Guidance states that the penalty will not exceed $10,000 for each year under examination. However, the total penalty cannot exceed 50% of the highest aggregate balance of all unreported foreign financial accounts for the years under examination. i. Certain cases (based upon facts and circumstances, considering the conduct of the taxpayer and the aggregate balance of the unreported foreign financial accounts) may indicate that asserting the nonwillful penalty for each year is not warranted. The examiner (after proper authorization) may assert a single $10,000 penalty for all years under examination. e. Where the accounts are co-owned the examiner must make a separate determination as to each co-owner regarding whether there was a violation and if the violation was willful or nonwillful. Any penalty will be allocated based upon the co-owner s percentage of ownership. i. If the co-ownership percentage cannot be determined, the penalty will be applied equally. 3. US v. Hom (CA-9, 7/26/16) a. In Hom, the Ninth Circuit Court of Appeals reviewed a District Court determination regarding the requirement of a taxpayer to file Page 15

17 FBARs relating to online poker accounts with FirePay, PokerStars and PartyPoker. i. The District Court looked to a Fourth Circuit decision in Clines (CA-4, 1992) to determine that the companies were effectively functioning as commercial banks, by holding funds for 3 rd parties and disbursing them at their direction. i iv. This determination was based upon the admission by the taxpayer that he opened the three accounts, controlled the accounts, deposited and withdrew or transferred money at will and could carry a balance in the accounts. The District Court also agreed with the IRS that the accounts were foreign accounts as the determination is based upon the location of the host institution and not the location of the money. Based upon these determinations, the District Court upheld the penalty asserted against the taxpayer for the failure to file the FBARs. b. On appeal, the Ninth Circuit agreed with the District Court as it related to the account at FirePay, but held that the actual poker accounts at PokerStars and Party Poker did not fall within the definition of a bank, securities or other financial account. i. According to the Court of Appeals, the FirePay account was an intermediary between the taxpayer s personal bank accounts and the online poker sites and thus acted as a licensed sender of money. In addition, since FirePay was located and regulated in the UK, the account was determined to be a foreign account. With regard to the online poker site accounts, the Court found that these accounts primarily facilitated online gambling, and while the taxpayer could carry a balance, the balance was only used to play poker and not for any other financial reason. Page 16

18 IV. Surface Transportation and Veterans Health Care Choice Improvement Act of 2015 A. Overview 1. On July 31, 2015, President Obama signed the Surface Transportation and Veterans Health Care Choice Improvement Act of The primary purpose of the bill was to provide a stopgap extension of Highway Act funds. 2. The Act contains a number of tax compliance measures, including changes to filing due dates, that are made a permanent part of the Internal Revenue Code. B. Return Due Dates 1. Partnerships - The due date for filing Form 1065, for tax years beginning after December 31, 2015, is the 15 th day of the third month following the close of the tax year (March 15 th for calendar year partnerships). This coincides with the due date for filing Form 1120-S for Subchapter S corporations. 2. C Corporations The due date for filing Form 1120 for C Corporations, for tax years beginning after December 31, 2015, is the 15 th day of the fourth month following the close of the tax year (April 15 th for calendar year C Corporations). a. A special rule applies to C Corporations with a June 30 th fiscal year. The change in the return due date does not take place until tax years starting in Therefore, June 30 th year end C Corporations must file their returns on or before September 15 th, until tax years starting in Automatic Extensions The six-month automatic extension, currently provided to C Corporations by Reg (a) is codified. a. However, for calendar year C corporations, with tax years beginning before January 1, 2026, the maximum extension is five months (September 15 th ) and for June 30 th fiscal year corporations, with tax years beginning before January 1, 2026, the maximum extension allowed is seven months. b. The new law also directs the IRS to modify its regulations regarding automatic extensions to provide a maximum of six-month extension for partnerships (to September 15 th for calendar year partnerships) Page 17

19 and a five and a half month extension for trusts filing Form 1041 (to September 30 th for calendar year trusts). 4. FBAR (FINCEN Report 114) Prior to the law change, FBARs where required to be filed on or before June 30 th without extension. The new law provides, for tax years beginning after December 31, 2015, that FBARs are required to be filed on or before April 15 th with a maximum extension of six months to October 15 th. C. Uniform Basis Reporting Requirement 1. In order to assure consistency between values reported on an estate tax return (Form 706) and the income tax basis of the property inherited by a beneficiary of the estate, the new law provides that an executor of an estate, where an estate tax return is required to be filed under 6018(a), must furnish to the IRS and the beneficiary a statement setting forth the value of the property inherited as reported on the estate tax return. 2. The new provision ( 6035), as enacted, applies to any estate tax return filed after July 31, 2015, with the statement having to be filed (and provided to the beneficiary) by the earlier of: a. 30 days after the date that the Form 706 is required to be filed (including extension); or b. 30 days after the date that the Form 706 is filed. 3. In addition, any time where there is an adjustment to the return (via audit or through a subsequent filing), a supplemental statement must be filed no later than 30 days after the adjustment to the filed return is made. 4. With the first statements under the new provision being due, and with the government still creating the form and preparing the guidance for the filing, Notice was issued, in March, to delay, yet again, the filing of the notices required under the new law. Pursuant to the Notice any filing that is or was required to be done prior to June 30, 2016, was due on June 30, Form 8971, Information Regarding Beneficiaries Acquiring Property From A Decedent, is to be used to provide the required basis information to the beneficiaries. Page 18

20 V. Miscellaneous A. Cases, Rulings, etc. 1. Mortgage Interest Deduction - AOD a. The IRS, in August of 2016, announced that it was acquiescing with the 9 th Circuit Court of Appeals decision in Voss (CA-9 8/7/2015) finding that the home mortgage interest itemized deduction limits were applied on a per-individual basis and not a per-residence basis. b. The Voss case dealt with two unrelated taxpayers who bought two houses together as joint tenants. Each home was financed by borrowing secured by the residence, for which the owners were jointly and severally liable. One of the homes was used as their primary residence and the other was their second home. c. The taxpayers each reported interest expense on their personal income tax return up to the maximum level allowed ($1,000,000 for acquisition indebtedness and $100,000 for home equity indebtedness). d. On audit, the IRS determined that the two individuals, as co-owners of the residences, were together limited to the $1,000,000 and $100,000 amounts, taking the position that the limits applies on a per-residence basis, regardless of the number of owners and regardless of whether the owners were married to each other. e. While the Tax Court agreed with the IRS, the 9 th Circuit Court of Appeals reversed and held that the limits apply on a per-taxpayer basis. f. The IRS has now announced that it is acquiescing in the 9 th Circuit decision and will apply the limits on a per-taxpayer basis. 2. Ordinary and Necessary Business Expenses Tanzi (TC Memo ) a. Pursuant to 162(a) taxpayers can deduct all ordinary and necessary business expenses paid or incurred during the year in carrying on a trade or business. Personal expenses, however, are generally not deductible (unless the Code specifically allows a deduction). Page 19

21 i. Performing services as an employee is considered carrying on a trade or business, and thus, employees can deduct ordinary and necessary expenses related to employment. The burden to prove the entitlement to the deduction and the amount of the deduction is borne by the taxpayer. However, the Cohan rule does allow a Court to approximate the amount of a deduction where the taxpayer can establish that a deductible expense has been paid but cannot establish the amount. b. In Tanzi, the taxpayers were employed by a college in Florida as an adjunct professor (husband) and a librarian (wife). On Schedule A of their Form 1040 the taxpayers deducted 100% of the phone, internet and television expenses (characterized as electronic support ); depreciation expense for assets allegedly purchased in prior years; expenses incurred in acquiring DVDs, CDs and books (characterized as professional library ); along with something referred to as computer equipment expense. c. The taxpayers argued that as educators (and based upon their own educational background) they bore a lifetime burden of developing knowledge and essentially self-educating and that these expenses should thus be allowed as a deduction under 162. d. The IRS on audit disagreed with the position taken by the taxpayers, and the Tax Court agreed with the IRS. i. The Tax Court stated that pursuing general knowledge is more in the nature of a personal expense. The Tax Court also rejected the use of the Cohan rule with regard to the Computer Equipment expense as pursuant to 274(d) computers and computer equipment are subject to a strict substantiation requirement. 3. Real Estate Professional - Hailstock (TC Memo ) a. 469 provides that a passive activity is any activity, which involves the conduct of a trade or business, in which the taxpayer does not materially participate. i. Seven tests for material participation are found in the Regulations ( T). Page 20

22 Services performed in the financial management of an activity are only considered in determining participation in certain circumstances. b. Under 469(c)(2) rental activities are per se passive, regardless of the taxpayer s participation in the activity, unless the taxpayer qualifies as a Real Estate Professional, as defined in 469(c)(7). To qualify, the taxpayer must spend more than one-half of their personal services on real estate trades or businesses in which the taxpayer materially participates and must perform more than 750 hours of service on real estate trades or businesses in which the taxpayer materially participates. c. In Hailstock, the taxpayer devoted substantial time and effort to her real estate businesses and did not have other employment. She spent in excess of 40 hours per week on among other things: purchasing materials, supervising rehabilitation work and meeting with prospective tenants. i. The taxpayer did not keep contemporaneous records of either her income and expense generated from the activities or her time spent in the activities. i iv. Based upon her lack of record keeping, the Tax Court allowed the IRS to determine her net income based upon a bank deposit method, however, the Tax Court did not agree with the IRS that the lack of record keeping meant that she could not qualify as a real estate professional. The court found that her testimony regarding the significant efforts that she expended in generating the rental income and in maintaining the rental properties was sufficient to prove her time in her real estate trades and businesses and thus allowed the taxpayer to be treated as a Real Estate Professional. The Court said that although it cautioned the taxpayer to use contemporaneous time logs and income and expense records in the future, it would not allow the lack of such record keeping to be determinative of her present and past status. 4. IRA Rollovers - Rev. Proc a. In this Revenue Procedure (effective August 24, 2016), the IRS has provided a new self-certification procedure designed to help Page 21

23 recipients of retirement plan distributions who inadvertently miss the 60-day rollover period. b. Rev. Proc contains a letter ruling procedure for taxpayers to apply for a waiver of the 60-day requirement and sets out certain factors to be considered in determining whether to grant the waiver. i. The factors to be considered include: death, disability, hospitalization, incarceration, restrictions imposed by foreign countries, errors committed by financial institution and other evidence of hardship. c. Under the new procedure, a taxpayer can certify to a financial institution (by model letter as set forth in the Rev. Proc. or similar letter) that the failure to meet the 60-day period was due to circumstances as outlined in the pronouncement. If done, the IRA custodian can accept the contribution without need of a private letter ruling. The certification must state: i. That the IRS has not previously denied a waiver request with respect to this rollover; i That the 60-day deadline was missed due to one or more of the reasons set forth in the Rev. Proc. That the contribution is being made as soon as practicable after the applicable reason no longer prevents the recontribution. d. The plan administrator can, absent actual knowledge to the contrary, rely on the self-certification. e. The IRS does not want taxpayers to believe that they are accepting the self-certification as a waiver of the 60-day requirement. However, based upon the existence of a certification, the tax return can be filed treating the rollover as valid. The IRS does reserve the right to examine the return and assert penalties if the IRS determines that the requirements for a valid waiver were, in fact, not met. f. Rev. Proc also modifies Rev. Proc to provide that the IRS can, in addition to granting a waiver through the PLR process, grant a waiver during an examination of a taxpayer s income tax return. Page 22

24 5. Defintion of Marriage Related terms a. In response to the Supreme Court s recent decisions on same-sex marriage (Windsor and Obergfell), the Treasury Department has issued final income tax, estate tax, gift tax and procedural regulations to clarify certain definitions that apply for federal tax purposes. i. Under the new regulations, spouse, husband and wife are now defined to mean an individual lawfully married to another individual, regardless of sex. i The term husband and wife now means two individuals who are lawfully married to each other, regardless of sex. The terms do not include individuals who have entered into registered domestic partnerships, civil unions, or other similar relationships that are not denominated as a marriage under the law of the state, possession or territory. b. The regulations also discuss what is a recognized marriage for federal tax purposes. i. For domestic marriages, the final regulations recognize any marriage that is valid under the law of a state, possession or territory of the US in which the marriage is entered into, regardless of the married couple s place of domicile (the place of celebration ). For a foreign marriage to be recognized as valid for federal tax purposes, the relationship denominated as a marriage under the laws of the foreign jurisdiction, must be recognized as valid by at least one state, possession or territory of the US. There is no further need to consider the laws of all the states to conclude that a foreign marriage is valid. c. The finalization of these regulations makes Rev. Rul obsolete as of September 2, 2016, other than for employee benefit plans that are using that ruling as guidance. 6. Charitable Contribution Deductions - Cave Buttes, LLC (147 TC No. 10) a. For any non-cash charitable contribution of property exceeding $5,000, the donor must, pursuant to Reg A-13(c) obtain a qualified appraisal of the property, attach Form 8283 (or some Page 23

25 other appraisal summary) to the return and maintain certain records relating to the contribution. i. In order for an appraisal to qualify under the regulations, the appraisal must contain information including the description of the property, the appraiser s qualifications to be rendering the opinion of value, the date of the appraisal, the valuation method used and the basis for the determination of value. (a) (b) The appraisal should also include any terms of any relevant agreement related to the property; and A statement that the appraisal was prepared for income tax purposes. The regulations state that the deduction should not be denied if it is shown that the failure to obtain and/or attach a qualified appraisal to the return is due to reasonable cause and not willful neglect. b. In Cave Buttes, the taxpayer made what it considered to be a bargain sale of real property and included a completed Form 8283 and an appraisal of the property on its tax return. The IRS challenged the deduction on several grounds but the Court concluded that while the appraisal may not have been in strict compliance with the regulations, it was in substantial compliance and thus was qualified. i. The IRS questioned whether the appraisers were qualified and used the fact that only one of the two appraisers that participated in preparing the report signed the report and included his resume. i An argument was made that the property was not described in sufficient detail for a person who is not generally familiar with the property to be able to determine what property was being contributed. This argument was based upon some erroneous information in the report regarding the access to and location of utilities, and not with regard to the property itself. The appraisal did not state that it was being made for income tax purposes, but did state the purpose of this appraisal is to estimate the current Market Value of the fee simple interest in the subject property as of the date of valuation for filing with the IRS. The court refused to Page 24

26 find that there are magic words required to fulfill this requirement. iv. The IRS argued that the appraisal was as of the date of the transfer. Under Arizona law titled to the property passed on April 24, 2007 but the appraisal was dated May 15, c. While strict adherence to the rules is sufficient to sustain the deduction, it is not necessary. d. The court also agreed with the taxpayer s expert as to the value of the property contributed. B. Identity Theft Issues 1. Tax identity theft has become a major issue. To this end, the IRS is developing procedures to address this problem. 2. The IRS has created Form 14039, Identity Theft Affidavit that taxpayers who are actual or potential victims can file. If the taxpayer is an actual victim of tax identity theft they should attach a short explanation of the problem and how they became aware of it. If the taxpayer is not an actual victim but have experienced misuse of their personal identity information (i.e lost or stolen credit cards, purses or wallets, or targets of phishing or phone scams etc.) they should attach a brief description of the event including relevant dates. a. The taxpayer must attach to the affidavit a clear and legible photocopy of an official document to verify their identity (i.e. passport, driver s license, Social Security card, etc.) b. Once received, the IRS will flag the account for review of any suspicious activity. c. The IRS will send the taxpayer Notice CP01S to acknowledge that the Form was received. 3. Idverify.irs.gov a. A new pre-screening procedure for suspicious returns has been adopted by the IRS. If the IRS believes that a return is suspicious it will send a Letter 5071C or Notice CP01B to the taxpayer asking them to visit idverify.irs.gov or call within 30 days. Page 25

27 i. If the taxpayer responds they will be asked a series of personal questions (i.e. previous address) to verify that they filed the return. If the taxpayer fails to respond or responds and fails to correctly answer the questions, the return will be flagged as fraudulent. b. If the return is flagged as fraudulent, the IRS will assign the return to a tax assistor to resolve the issue. After a favorable resolution, the IRS will create an Identity Protection Personal Identification Number (IP PIN) to prevent the taxpayer from being victimized a second time. i. The IRS will assign this number by sending the taxpayer Notice CP01A. This number is then used when the taxpayer files their federal tax return. i In addition, the IRS will invite approximately 1.7 million taxpayers to voluntarily opt into the IP PIN program. The invitation will be made to taxpayers where the IRS has identified certain indicators of identity theft on their returns. If the taxpayer loses or misplaces the IP PIN they will not be able to file electronically until they find it or retrieve it by accessing their online account. 4. During the 2016 filing season (relating to 2015 W-2 forms) the IRS implemented a W-2 Verification pilot program as a way to assist in combatting identity theft and refund fraud. Partnering with four major payroll services, the IRS added a 16-digit verification code to a box on copies B and C of Form W-2. a. The code was assigned to approximately 1.5 million W-2 forms. b. Each number generated was known only to the IRS, the payroll service provider and the individual who received the Form W-2. As such, any changes to the W-2 information was detectable by the IRS. c. Having considered the pilot program to be highly successful, the IRS has announced plans to increase the scope of the program for the 2017 filing season (2016 W-2 forms). i. For the upcoming filing season, roughly 20% of all W-2s to be filed will be part of the program. Page 26

28 In addition, the program will be expanded to other payroll service providers and large federal organizations. d. For the 2018 filing season (2017 W-2 forms) a newly numbered box, #9, will be the location where the assigned verification code will be placed. C. Private Debt Collectors 1. Enacted as part of the American Jobs Creation Act of 2004, 6306 allows the IRS to enter into qualified tax collection contracts with private debt collection agencies to collect delinquent federal tax debts. 2. In 2015, the Fixing America s Surface Transportation Act, added 6306(c) which required the IRS to enter into contracts with private debt collectors. a. Pursuant to the code, a tax receivable, that is subject to private collection, is defined as any outstanding assessment which the IRS includes in its currently collectible inventory. b. 6306(d) was added to exclude certain receivables from being subject to private debt collection, including: i. any amount that at any time after assessment has been placed in non-collectible status by the IRS; i any amount where more than one-third of the collection statute of limitations has lapsed without the debt having been assigned for collection to an IRS employee; or any amount where the account has been assigned to IRS personnel for collection and more than 365 days have passed without interaction with the taxpayer or a 3 rd party. c. In addition, a tax obligation is not eligible for private collection if: i. There is a pending or active OIC or installment agreement; i It is part of an active innocent spouse case; It relates to a tax debt of a deceased individual, a minor child, or a victim of identity theft; Page 27

29 iv. It is currently under examination, litigation, criminal investigation or levy; or v. It is subject to a proper exercise of a right of appeal. 3. As of late September, 2016 the IRS has contracted with 4 private debt collectors to participate in this program. 4. The IRS has stated that the program is designed so that the private collectors will be working on accounts where taxpayers owe money but the IRS is no longer actively working their accounts. As such, the IRS intends to assign accounts to the private collectors which are older, more delinquent accounts where the IRS lacks resources to continue collection. a. The taxpayer (and the taxpayer s representative) will receive written notification that their account will be handled by the private collector, and the private collector is then expected to send a separate letter confirming the transfer of the file. b. The private collectors are required to follow the Fair Debt Collection Practices Act, and are advised to be courteous and respectful of the taxpayer s rights. c. Payments can be made electronically on the IRS website Pay Your Tax Bill or by sending a check payable to US Treasury directly to the IRS. Payment should not be made by prepaid debit cards, nor should checks be made payable to the private collector. D. Partnership Audit Rules 1. Under current rules, partnerships can be audited under 3 different regimes: a. The unified audit rules; b. The small partnership rules; and c. The electing large partnership rules. 2. The TEFRA unified audit rules provide that the tax treatment of any partnership item is generally determined at the partnership level. Covering most partnerships with more than 10 partners, the IRS will conduct a single administrative proceeding to resolve partnership audit items. Once the audit is completed, the IRS will calculate the impact on all of the partners and assess each of the partners, individually. Each partner then has the opportunity to protest their individual liability. Page 28

30 a. For partnerships with 10 or fewer partners, the unified audit procedures do not apply. Instead the IRS is required to audit the partnership and each partner separately. 3. Under new rules, applicable to partnership tax years that begin after December 31, 2017, the current TEFRA uniform audit rules, and the electing large partnership rules are repealed. These audit regimes are replaced with a streamlined single set of rules for auditing partnerships and their partners at the partnership level. 4. Under the streamlined audit approach, any adjustment to items of income, gain, loss, deduction or credit of a partnership for a particular tax year is determined at the partnership level. a. Any tax, or additional amount, relating to any such adjustment is determined, at the partnership level. b. The partnership will have to pay tax equal to the imputed underpayment. This amount is generally the net of all the adjustments multiplied by the highest individual or corporate tax rate. i. The partnership can show evidence that a lower rate should apply based upon certain partner-level information. c. As an alternative to handling the adjustment at the partnership level, the entity can make an election, not later than 45 days after the notice of the final partnership adjustment, to issue adjusted information returns to the partners. In such a case, the partners must take the adjustment into account on their individual returns through a simplified amended return process. 5. The new procedures will continue to apply the requirement that partners treat items on their individual returns in a manner consistent with the treatment at the partnership level. In the event that the partner treats an item in an inconsistent manner, and does not disclose such inconsistent treatment, the IRS will now treat the inconsistency as a mathematical or clerical error, subject to summary assessment procedures. 6. Finally, the new rules allow partnerships with 100 or fewer partners to elect out of for any tax year. In such an event the partnership audit would be conducted in the same manner as the audit of a partnership with 10 or fewer partners. Page 29