GAO Issues Report Recommending Stronger Oversight of IT Security for E-File Providers and Software Developers

The Government Accountability Office (GAO) turned out to have excellent timing, releasing its report on the overall security of components of the commercial tax preparation systems in the week when Wolters Kluwer took down its online systems used by tax preparers due to a discovery of malware in their network.  The report (IRS Needs to Improve Oversight of Third-Party Cybersecurity Practices, United States Government Accountability Office, GAO-19-340, May 2019) recommends generally that the IRS attempt to impose specific security rules on all participants (tax preparers, electronic return originators and software developers), but the IRS disagreed with the recommendation, primarily based on their view that they lack statutory authority to take the actions suggested.

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Redemptions Taxed as Distributions Under §301 During Post-Transition Termination Period First Reduce AAA

If a former S corporation makes a distribution to redeem shares that is treated as equivalent to a dividend and, therefore, taxed under IRC §301 during its post-transition termination period, how is that taxed?  In Revenue Ruling 2019-13 the IRS answers that question which likely has not been keeping most of America awake at night awaiting an answer.

The relatively short ruling looks at whether that distribution first reduces the accumulated adjustment account (AAA) and the taxpayer’s basis in the stock or, rather, is treated as first coming out of earnings and profits. 

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Federal Estate Tax Deduction for Connecticut Estate Tax Must Be Reduced to Account for Tax Imposed on Add-Back of Connecticut Gift Taxes Paid Within Three Years of Death

The IRS addressed a special issue impacting the estate tax deduction under IRC §2058 for amounts paid for state estate, inheritance, legacy or succession taxes under Connecticut’s estate tax.  In Program Manager Technical Advice 2019-03 the IRS looks at the issue of whether the estate tax paid to the state of Connecticut has to be reduced proportionately to account for Connecticut gift taxes paid within three years of death that are included in the Connecticut taxable estate.

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Wolters Kluwer CCH Systems Recovering from Malware Incident, Axcess Systems Partially Restored for Users

It’s been a tough few days for users of Wolters Kluwer’s CCH tax products, especially for those using CCH Axcess.  Wolters Kluwers’ systems were affected by malware, per a company release issued the day after the outage triggered by the malware began.

The problem began early on Monday as users discovered CCH’s online systems were not accessible.  While those using the on-site version of CCH’s tax product (ProsystemFX) lost access to electronic filing and the ability to obtain additional single return licenses to run returns if the user ran out of already downloaded permissions, those on the hosted Axcess products lost access to all programs they had licensed on the platform.

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IRS Updates Maximum Cost of Autos for Cents-Per-Mile and FAVR for 2019

The IRS has released the maximum value for employer provided vehicles for purposes of the special valuation rule found at Reg. §1.62-21(d) and (e) for 2019 in Notice 2019-34.

In Notice 2019-08 the IRS had announced that the agency planned to issue regulations that were going to greatly increase the limits for the cost of such vehicles to take into account changes made in the Tax Cuts and Jobs Act, setting the base value at $50,000 adjusted annually for inflation after 2018.

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Trust Fund Penalty Applies Even If Individual Was Acting Under Orders from SBA Receiver to Pay Other Creditors First

The Eleventh Circuit Court of Appeals rejected a unique twist on the “my boss ordered me not to pay the trust fund taxes” defense in the case of Myers v. United States, CA 11, Case No. 18-11403.  In this case the party Mr. Myers claimed ordered him not to pay was an agent of the Small Business Administration (SBA) that had been appointed as a receiver of his employer.

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Congratulations on Your Recent Marriage. Now Repay that Entire Premium Subsidy You Used to Qualify For.

The tax law is not necessarily fair, and the Tax Court is not generally allowed to solve such unfairness.  In the case of Fisher v. Commissioner, TC Memo 2019-44 the taxpayer found there was no relief available for what many people would see as an unfair result.

The case involves yet another marriage penalty in the tax law.  In this case a mid-November marriage ended up forcing Christina Fisher to repay over $4,400 of advance premium tax credit (PTC) that had been used to reduce her Exchange purchased health care premiums for the year.

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Boilerplate Provision in LLC Operating Agreement Found to Terminate S Election

Under the check the box regulations, an LLC may elect to be an S corporation.  But it is important to remember that the LLC must meet all of the requirements to be treated as an S corporation during its life, which includes the single class of stock rule.  PLR 201918004 details a case where an LLC was forced to ask the IRS for relief from inadvertent termination of its S status when a review of the operating agreement found that the agreement provided for the potential for a disproportionate distribution.

IRC §1362(b)(1)(D) provides that one of the conditions for S status is that the corporation does not have more than one class of stock outstanding.  However, the “class of stock” is not based on state law rules for what makes for different classes of stock.  Rather, Reg. §1.1362-1(l)(1) creates a federal S corporation test for what constitutes the existence of only a single class of stock:

(1) General rule. A corporation that has more than one class of stock does not qualify as a small business corporation. Except as provided in paragraph (l)(4) of this section (relating to instruments, obligations, or arrangements treated as a second class of stock), a corporation is treated as having only one class of stock if all outstanding shares of stock of the corporation confer identical rights to distribution and liquidation proceeds. Differences in voting rights among shares of stock of a corporation are disregarded in determining whether a corporation has more than one class of stock. Thus, if all shares of stock of an S corporation have identical rights to distribution and liquidation proceeds, the corporation may have voting and nonvoting common stock, a class of stock that may vote only on certain issues, irrevocable proxy agreements, or groups of shares that differ with respect to rights to elect members of the board of directors.

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Determination Letter Program Reopened to Certain Existing Plans

The IRS has opened up its plan determination letter program to a limited number of existing individually designed plans in Revenue Procedure 2019-20.  The IRS had indicated in various forums that the agency would begin to reopen its determination program to cover certain existing plans.  Until this procedure, the program had been limited to new individually designed plans and those that were looking for a letter at the time the plan was being terminated.

A determination letter is a ruling from the IRS that the language of the plan is in compliance with the requirements for the plan to be treated as a qualified retirement plan.  While the letter does not cover issues that may arise with operation of the plan, it does assure that if the plan is operated in accordance with the plan document and other provisions of the law that it should not be at risk of losing its qualified status—in which case it would no longer be a tax exempt trust. 

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Refund of State Tax Credit in Excess of Tax Liability is Taxable Income

In March of 2015 we discussed a Tax Court case holding that various refundable New York state income tax credits represented income to the taxpayers involved in the case of Maines v Commissioner, 144 TC No. 8. In Ginsburg v. Commissioner, CA FC, Case No. No. 1:17-cv-00075-RHH a different taxpayer decided to go a different route to obtain relief, bringing their case in the Court of Federal Claims.

Unfortunately for the taxpayer, the results turned out to be the same (the excess was taxable) and when they appealed that decision to the Court of Appeals for the Federal Circuit, they were denied relief at that level as well.

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Settlement Related to Taxpayer's Corporations, Resulting in a Portion Being Deemed an Employee Business Expense

The Tax Court determined a taxpayer would be allowed a deduction for a portion of a settlement he paid to a customer that had filed a legal claim for problems with work performed by two corporations he controlled only as an employee business expense in Ferguson v. Commissioner, TC Memo 2019-40, rather than as an above the line business loss.  However, the portion of the loss allocable to the other corporation, which was an S corporation, would be treated as a contribution of capital giving rise to a deduction that would flow through to the taxpayer.

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Emailed IRS Memo Holds That Using a CPEO Does Not Allow a Partner to Be Treated as the Employee of a Partnership

The IRS issued emailed advice discussing Certified Professional Employer Organizations (CPEO) and self-employed individuals that has general information on the issue of a partner or proprietor being as an employee when such an organization is used.  ECC 201916004 restates the IRS’s view that such individuals generally cannot be treated as an employee of the unincorporated entity they hold an ownership interest in.

First, the ruling clarifies that IRC §3511, which generally provides protection for the taxes that end up not being deposited by a CPEO, does not apply to self-employed individuals:

The reporting of amounts paid to self-employed individuals is provided for in section 6041. CPEOs must report remuneration they pay to self-employed individuals (within the meaning of section 6041 and the regulations thereunder) in accordance with the rules under these and other applicable provisions. Section 3511(f) of the Code provides that a self-employed individual is not a work site employee with respect to remuneration paid by a CPEO to the self-employed individual. Section 3511(c) provides that a CPEO is not treated as an employer of a self-employed individual. Consistent with these two provisions, section 31.3511-1(f)(2) of the proposed regulations provides that section 3511 does not apply to any self-employed individual.

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IRS Greatly Expands Frequently Asked Questions for §199A on Website - And S Corporation Owners Aren't Going to Like the Final Answer

The IRS for the second year in a row snuck a nasty surprise into a frequently asked question section of their website just before the tax filing deadline.  In 2017 the nasty surprise related to the denial of refunds to taxpayers who overpaid taxes but were eligible for the installment payment of the §965 transition tax.

This year’s “April surprise” arrived in the form of a massive expansion of the IRS’s set of frequently asked questions on their website related to the §199A qualified business income deduction (Tax Cuts and Jobs Act, Provision 11011 Section 199A - Qualified Business Income Deduction FAQs).[1]  The April 11 update expanded the FAQ from 12 questions to 33, and saved what many will see as the bombshell for the last question.

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IRS Releases Revisions to EPCRS Program, Expanding Issues That Can Be Corrected Via SCP

The IRS has released revisions to the Employee Plans Compliance Resolution System (EPCRS) in Revenue Procedure 2019-19.  The revisions are effective as of April 19, 2019.

EPCRS constitutes three separate programs that are used to correct problems in the operations or documents of qualified retirement plans and certain other retirement arrangements (such as SEPs).  The program generally treats sponsors more favorably who come forward voluntarily to correct their problems, and the system is meant to encourage sponsors to voluntarily fix the plan as opposed to “hoping” the issue will never be noticed.

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IRS Releases Second Set of Proposed Opportunity Zone Regulations

The IRS issued its second set of proposed regulations dealing with Opportunity Zone issues (REG-120186-18). Tax Analysts reported in Tax Notes Today that Treasury officials had indicated in a press briefing related to the release of these regulations that they expect these will constitute the entirety of the remaining regulations for Opportunity Zones, although they did not rule out a third set of proposed regulations if it seems necessary.

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Proposed Regulations Issued for ESBTs with NRA Potential Current Beneficiary Subject to Grantor Trust Rules

The IRS has moved to plug a potential loophole created when Congress changed the law in the Tax Cuts and Jobs Act (TCJA) to allow an electing small business trust (ESBT) to have a nonresident alien (NRA) potential current beneficiary (PCB).  In proposed regulations REG-117062-18 the IRS provides that if such an NRA would be treated as the owner of trust corpus under the grantor trust rules for such a trust, the grantor will not be treated as the owner of the S corporation portion of the ESBT.

In the preamble to the proposed regulations, the IRS points out that the committee reports related to the TCJA had stated that allowing NRAs to be PCBs of ESBTs did not pose a risk that the S corporation income would not be subject to U.S. tax, since tax is imposed on the trust and not the beneficiary for S corporation income when shares are held by an ESBT.

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Ninth Circuit Panel Holds Taxpayers Cannot Rely on Common Law Mailbox Rule to Prove Timely Filing of Documents

The Ninth Circuit Court of Appeals rejected a taxpayer’s attempt to use the common law mailbox rule to prove that an amended return the taxpayer claimed to have mailed to the IRS four months before the deadline for filing the claim was timely filed.  In Baldwin, et. ux. v. United States, CA9, No. 17-55115; No. 17-55354 the Court found that the IRS’s 2011 regulations under IRC §7502 take precedence over the Ninth Circuit’s prior holding that taxpayer could make use of the common law mailbox rule to prove timely filing in Anderson v. United States, 966 F.2d 487, 490 (9th Cir. 1992).

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Self Employed Health Insurance Deduction Available to Family Members of S Corporation Shareholder

In Chief Counsel Advice 201912001 the IRS held that family members, who while not directly holding shares in an S corporation, are deemed to be 2% shareholders under the rules of §318 are allowed to claim the self-employed health insurance deduction under IRC §162(l) if they otherwise qualify.

Under IRC §1372, individuals holding 2% or more of the stock of an S corporation are treated as if they were partners for purposes of applying the employee fringe benefit income tax rules.  IRC §1372(b) expands that definition of shareholders to include those who would be deemed to hold such shares by attribution under IRC §318.

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PMTA Outlines Interaction Between $10,000 SALT Cap and Home Office Deduction

In a Program Manager Technical Advice that must be parsed carefully (PMTA 2019-001), the IRS discusses the interplay between the office in home deduction under IRC §280A and the $10,000 cap on state and local taxes under IRC §164(b) added by the Tax Cuts and Jobs Act (TCJA).  If the reader is not careful, he/she may jump to a very taxpayer unfriendly conclusion.

The PMTA comes to the following conclusion that may alarm readers at first:

If a taxpayer’s total individual state and local taxes meet or exceed the $10,000 limitation of §164(b)(6), or if the taxpayer chooses to take the standard deduction instead of itemizing deductions, none of the taxpayer’s state and local taxes relating to taxpayer’s business use of the home are included as expenses under §280A(b). If a taxpayer’s total individual state and local taxes do not meet or exceed the $10,000 limitation of §164(b)(6), and the taxpayer does not opt to take the standard deduction in lieu of itemized deductions, then the taxpayer can include as expenses under §280A(b) the business portion of the state and local taxes up to the difference between the limitation under §164(b)(6) and the amount of individual state and local taxes that the taxpayer actually deducted under §164.

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