Avoid the Surprise! In the world of Income tax, 2018 saw many changes as a result of the Tax Cuts and Jobs Act (TCJA) that was passed in 2017. To that end, what follows in this memo is a highlight of the most relevant changes and some recurring “standard” advice around which meaningful year-end planning can occur.
December 2018 Tax Planning - Avoid The Surprise!
Clients & Friends:
While the end of the year involves a lot of hustle and bustle, it also presents an opportunity to reflect on all that has unfolded over the past several months. We hope that among the many things you take the time to reflect on, tax reform and planning is atop that list.
In the world of Income tax, 2018 saw many changes as a result of the Tax Cuts and Jobs Act (TCJA) that was passed in 2017. We have been busy working hard to stay current on the new regulations so that we can provide effective tax planning as we wind down the year. To that end, what follows in this memo is a highlight of the most relevant changes and some recurring “standard” advice around which meaningful year-end planning can occur.
The new tax law resulted in changes/decreases to the tax tables for withholding on your paychecks. We have found that this decrease in federal tax withholding may result in the tax withheld being significantly too low and could result in a balance due on the 2018 tax return. This situation can be particularly problematic when both spouses are wage earners. It is important that you check your withholding rates now. We are happy to help with this so that you avoid any surprises come April. Simply send us over a copy of your YTD pay advice(s) and we can take a look.
Individuals are also impacted by the removal of personal exemptions and limitations on itemized deductions.
- Beginning in 2018, the itemized deduction for all state and local taxes (income and real estate) is limited to $10,000.
- Miscellaneous Itemized deductions subject to the 2% floor are suspended. The most common examples include unreimbursed business expenses, safe deposit boxes, investment advisory fees, and tax preparation fees.
Many filers who previously took itemized deductions on their return will now likely take the standard deduction as a result of these changes. The 2018 standard deduction amounts are $24,000 for joint filers and $12,000 for single filers. The standard deduction amounts above are increased for persons over 65 by $1,600 for single or Head of household filers and by $1,300 each or $2,600 for joint returns.
Beginning in 2019, the deduction for medical expenses is limited by an even higher threshold of 10%. If you expect to qualify for medical deductions in 2018 consider, to the extent possible, accelerating the payment of any discretionary medical expenses to 2018 while the threshold still remains at 7.5%.
With the standard deduction under the new TCJA increased to $24,000, another strategy for taking advantage of itemized deductions is to consider bunching the payment of any charitable contributions. Consider making two years’ worth of contributions in 2018 or in 2019 if it will help to push your itemized deductions above the amount of the new standard deduction. In this strategy you might itemize your deductions every other year and take the higher standard deduction in the off years.
One method for achieving this strategy is through the use of a Donor Advised Fund. These allow for efficient bunching of contributions because they allow you to donate cash or appreciated securities into the fund and take the tax deduction in 2018 all while deferring payment to your selected charities until 2019.
Another very tax efficient way to make charitable contributions, for those over 70 ½, is to earmark up to $100,000 of you annual Required Minimum Distribution (RMD) from your IRA account to be paid to a qualified charity. You do not get a tax deduction BUT the amount designated is excluded from your taxable income. This can be more beneficial than a deduction, as it satisfies both your annual RMD and charitable inclinations.
On the topic of securities, we advise that the donation of appreciated securities is a highly tax effective means of making contributions. You get a deduction for the full market value of the stock and do not pay the tax on any gain! If you happen to hold stocks that are losers do NOT donate those. Sell them and take the loss on your tax return. Be careful when considering the purchase of mutual funds at this time in the year. You may essentially be “buying a capital gain”, as most all mutual funds pay out gains come year end.
There are several other areas of the new tax law that provide individuals with opportunities to make the law “work for them”:
- The annual gift tax exclusion has been increased for 2018. Up from $14,000 in 2017, individuals may now gift up to $15,000 ($30,000 per beneficiary from a married couple filing jointly).We usually suggest that these gifts be given as early in the year as possible. Even with the new higher Estate tax exemption amounts this gifting routine still can result in decreased “death” taxes.
- Federal tax law now allows for 529 Plan withdrawals up to $10,000 a year to be used for qualified education expenses for each child from Kindergarten through the 12th grade.
- No longer only applicable to higher education costs, you may want to consider making these payments through a 529 plan to secure the PA tax deduction for these contributions and expenses. For example if you are making these payments anyway for your children or grandchildren and there are three of them, the $30,000 PA deduction will save you $921 in PA taxes!
TCJA also made notable changes to the following areas of tax law affecting Individuals:
- The Kiddie Tax has been modified, resulting in the net unearned income of children under the age of 19 (or full-time students under 24) being taxed according to the brackets applicable to trusts and estates.
- The Child Tax Credit has increased in 2018 to $2,000 per qualified child. The income thresholds for taking the credit have also substantially increased. More filers will qualify for this credit.
- The deduction for home mortgage interest is limited to underlying indebtedness of up to $750,000 beginning with purchases made on or after December 15, 2017. The interest deduction related to home equity indebtedness is suspended in 2018 unless used to make improvements to the home.
- Alimony is not deductible by the Payor spouse and is not included in the income of the Payee spouse for any divorce or separation agreement executed after December 31, 2018.
- Business/client meals are still limited by 50%. There is no longer an entertainment expense deduction, though employee Holiday parties are 100% deductible.
Though the focus of our memo thus far has been on year-end planning for Individual Income Tax, the TCJA has also resulted in substantial changes to tax law for business income and pass through income that is taxed on the individual return.
- Corporate tax rates have been drastically cut to 21% and corporate AMT is no longer applicable. (AMT will apply to substantially less individuals than it has in the past.)
- New tax law allows for enhanced bonus depreciation and Section 179 deductions.
- Bonus depreciation now currently allows for 100% expensing of both new and used acquisitions.
- Maximum deductions for Section 179 property has been increased to $1 million.
- The phase-out threshold has increased, and the definition of 179 property has expanded to include certain nonresidential real property improvements.
- The Section 199A deduction is a new and complex deduction intended for individuals and for pass-through entity income on the individual return. It could result in up to a 20% deduction on qualified business income.
- One consideration related to this deduction is the establishment of a retirement plan on your business income. Doing so will reduce your taxable income for the purposes of qualifying for the deduction while simultaneously helping you save for retirement.
- If you think this deduction may be applicable to you, we urge you to give us a call.
- Speaking of retirement plans, if you are eligible to fund one strongly consider that option AND be reminded that some plans, especially those with a 401( k) feature (like a Solo 401(k)) need to be established before December 31st.
We would be remiss if we did not remind you to revisit your estate plan. Some advisors are suggesting, if you are financially situated, you make significant gifts to your heirs before there is a change in Congress that might result in a decrease to the current estate tax exemption amount which is now at $11,180,000 each. If your will is over 5 years old it may need a review.
Please also look at the beneficiary designations on your life insurance policies and your retirement plans. If a prior beneficiary has left us and a new one is not named, the asset may be administered through your estate which is NOT usually the best tax or economic answer.
That’s it for now. These are challenging tax times. PLEASE contact us if you want to discuss or implement any of the items in this memo or if you have any questions that we can help with.
As always, we hope you find plentiful reasons to give thanks and that the happiness and peace of this season is abundant in your heart and home. Have a great Holiday Season and a happy and healthy 2019!
Thank you for being our friends and clients and allowing our firm to provide your tax and accounting needs.
Siana Carr O’Connor & Lynam, LLP
Please read about the various changes in payroll withholding and related tax filing requirments for 2019.
The following is a summary of the various changes in payroll withholding and related filing requirements for 2019. As always, contact us if you have any questions on these matters.
On December 22, 2017, the most significant overhaul of the tax code in over three decades was signed into law. The Tax Cuts and Jobs Act (TCJA) impacts individuals through the introduction of new tax rates and brackets, increased standard deduction, changes to allowable itemized deductions, elimination of personal exemptions, plus many other changes.
Under the new law, various deductions and certain tax-favored fringe benefits have been eliminated or modified. These changes include the suspension of the deductions for moving expenses and certain qualified transportation expenses. The tax-free reimbursement of employment-related moving expenses has been suspended. The Act also suspends an employee's deduction for unreimbursed business expenses (previously deductible as a miscellaneous itemized deduction). For tax years 2018 and 2019, a credit for Paid Family and Medical Leave may apply to some larger employers who are subject to the Family Medical Leave Act (FMLA).
The Act reduces the federal corporate (C-Corp) tax rate to 21%, while also providing a new deduction from pass-through income generated by most S-Corps, Partnerships, Sole Proprietors, etc. These provisions have many business owners reconsidering their current entity structure and evaluating the methods for paying themselves and their employees. Please note that the issues of reasonable compensation to owners, and the classification of workers as employees vs. independent contractors remain the focus of Internal Revenue Service scrutiny. Numerous other provisions exist which may impact your employees, you and/or your business, but a more in-depth analysis of the complete Act is beyond the scope of this newsletter focusing on employment taxes. Please contact our office should you desire a more in-depth explanation of this legislation.
A. FEDERAL TAX DEPOSITS
Most taxpayers are required to make federal tax deposits for payroll taxes, corporate income tax, and backup withhlding electronically through use of the electronic federal tax payment system. Paper coupons are discontinued as the paper coupon system is no longer maintained by the Treasury Department. The primary exemption is for employers that have $2,500 or less in quarterly payroll tax liability, who may pay this liability when filing the quarterly employment tax return.
Officers and/or employees of a corporation or partnership can become personally liable for failure to withhold and remit federal employment taxes. If you are using a payroll service to make your deposits, you should ensure that the payments are timely made. Penalties can equal the amount of the tax due (100% penalty). If you are having difficulty paying your employment taxes timely, please call us.
The net FUTA rate for most Pennsylvania and New Jersey employers is 0.6% for 2018. The 2019 net FUTA tax rates are likely to approximate the same. FUTA tax continues to be assessed on the first $7,000 of wages paid to each worker during a calendar year.
The Internal Revenue Service deadline for submitting government copies of 2018 Form W-2 to the Social Security Administration is January 31, 2019. This is the same as the deadline to furnish employees with their forms.
B. SOCIAL SECURITY & MEDICARE TAXES
For 2019, the taxable social security wage base limit is $132,900. The employee and employer tax rate for social security is 6.2%. In 2019, all wages are taxable for the Medicare portion of the tax which is 1.45% for both employees and employers. The self-employment tax rate will be 15.3% on the first $132,900 of net earnings.
The Patient Protection and Affordable Care Act (ACA) imposes an additional 0.9% Medicare tax on wages, compensation, or self-employment income exceeding the threshold amount $250,000 for married taxpayers filing jointly, $125,000 for married taxpayers filing separately, and $200,000 for other taxpayers. There is no corresponding amount owed by the employer. Employers must withhold Additional Medicare tax from wages it pays to an individual in excess of $200,000 in a calendar year. If individuals anticipate owing more Additional Medicare tax than the amount withheld, they should request additional income tax withholding using Form W-4 and/or should make estimated tax payments. Taxpayers will calculate Additional Medicare tax liabilities on their individual income tax returns (Form 1040), and will apply any Additional Medicare tax withheld against all taxes shown on this return.
C. PENNSYLVANIA PERSONAL INCOME TAXES
The withholding rate remains at 3.07%. The PA Dept. of Revenue no longer provides paper coupon booklets. Instead, employer returns and payments should be filed using three electronic options: Internet, Tele file or third-party software. If you have not yet registered under one of these methods, we encourage you to do so. If you want our help in using these filing methods, please call us. More information can be obtained via the internet at www.revenue.state.pa.us and www.etides.state.pa.us. Employers may still file using paper returns and checks, however, we recommend that you switch to the D.O.R. mandated methods.
D. PENNSYLVANIA UNEMPLOYMENT COMPENSATION
The first $10,000 of wages paid to each worker in calendar year 2019 is taxed at the employer’s standard rate, as provided by the State. In addition, employers are required to withhold unemployment taxes from employees’ gross wages at a rate of 0.06%. The amount of compensation subject to employee withholding is not limited. Pennsylvania employers are required to electronically file quarterly UC tax and wage reports through the Unemployment Compensation Management System (UCMS). The Department of Labor is no longer mailing paper UC-2 forms to employers. Additional information is available at www.dli.state.pa.us.
E. PENNSYLVANIA NEW ELECTRONIC FILING REQUIREMENT
The Pennsylvania Department of Revenue recently changed the electronic filing requirement threshold for W-2 forms. Employers who file 10 or more W-2 forms with the Department are now required to file those forms electronically. The change is in effect for tax year 2018 filings. Employers should visit e-TIDES, the Department’s online system for business taxes, at www.etides.state.pa.us to file their Annual Withholding Reconciliation Statement (REV-1667). The REV-1667 must be filed by January 31. Copies of the Individual Wage Statement (W-2) must also be filed electronically with the form REV-1667.
Employers should know that the Department will grant a waiver for the 2018 tax filing season with regard to the electronic filing requirement. Additional information regarding the electronic filing requirement is available through the Department’s Business Taxes e-Services Center by accessing its website www.revenue.pa.gov or calling 717-787-7635.
F. PHILADELPHIA CITY WAGE TAX
Employers must withhold city wage taxes for residents at the rate of 3.8809% (.038809) and nonresidents who work in the city at the rate of 3.4567% (.034567). Every Pennsylvania employer who employs a Philadelphia resident must register with the Philadelphia City Revenue Commissioner and withhold the city wage tax. Please note that Philadelphia commonly changes these rates in July each year.
G. LOCAL PAYROLL TAXES
PA Act 32 - Local Earned Income Tax Law
The Pennsylvania law known as “Act 32” requires every business that employs individuals who work within Pennsylvania, either at a worksite or from their homes to withhold the applicable local earned income tax amount from employees’ wages and to remit this timely to the appropriate tax collection agency. The employer must withhold the greater of the employee’s resident tax rate for where they live or nonresident tax rate for where they work. Each employee must complete a Residency Certification Form, to identify the proper subdivision where they live and work. Additional information regarding Act 32 is available through the PA Department of Community and Economic Development by accessing its website www.newPA.com or calling 1-866-466-3972.
Philadelphia is not regulated by Act 32, so the present system administered by the Philadelphia Department of Revenue remains in effect.
Local Services Tax (LST)
The Local Services Tax (LST) allows local governments to levy a tax of $10 to $52 per employee per year. If the locality levies a tax of $10, then the employer should withhold the tax from the first paycheck of the employee unless the employee qualifies for an exemption. The LST exempts employees who make less than $12,000 annually from the tax. The LST also exempts disabled veterans and reservists who are called to active duty at any time during the year from the tax. The employer must obtain and retain exemption certificates from such employees to document the non-withholding exemption. The LST (if more than $10) is not collected at one time, but must be withheld pro rata during the year with each payroll.
H. NEW HIRE REPORTING
Federal regulation mandates all employers to report information about any new employee within 20 DAYS of their hire date. Penalties for noncompliance can be up to $500 per employee. Mandatory information to report for all Pennsylvania employers includes: employee’s name, address, social security number, date of birth and hire date, also employer’s name, address, federal identification number, contact and phone number. Employers may report their new hire information by either manual or electronic means. Multi state employers must report employees either by magnetic tape or electronically. Additional information can be obtained at www.cwds.pa.gov or call 1-888-PAHIRES.
I. RETIREMENT PLANS
- The limitation on the exclusion for elective deferrals under 401(k) and other plans is increased from $18,500 in 2018 to $19,000 in 2019. Taxpayers who are age 50 and older (during 2019) can make an additional catch-up contribution in the amount of $6,000 in 2019.
- 401(k) and 403(b) plans may offer qualified Roth contributions that allow employees to elect to make all or a portion of their 401(k) contributions on an after-tax basis. Similar to Roth IRA’s, earnings grow tax free and, in most circumstances, distributions are free from tax when withdrawn. Your plan documents must explicitly allow designated Roth contributions.
- The annual compensation limit taken into account for qualified plan purposes is increased from $275,000 in 2018 to $280,000 in 2019.
- The maximum annual amount of salary reduction contributions to a SIMPLE retirement plan is increased from $12,500 in 2018 to $13,000 in 2019. Taxpayers who are age 50 and older (during 2019) can make an additional contribution of $3,000 in 2019.
- The limitation on the annual benefit under a defined benefit plan is increased from $220,000 in 2018 to $225,000 in 2019. The limitation for defined contribution plans is increased from $55,000 in 2018 to $56,000 in 2019.
- The amount used to identify highly compensated employees for non-discrimination testing purposes is increased from $120,000 in 2018 to $125,000 in 2019.
J. MINIMUM WAGE RATE
The minimum wage rate for Pennsylvania remains at $7.25 per hour in 2019.
K. STANDARD MILEAGE RATES
The standard mileage rate for business automobile usage is 58 cents per mile in 2019. The optional mileage allowance deduction may be used for both leased and purchased autos. If you elect the standard mileage rate for a leased auto, that method must be used for the entire lease period of that auto.
L. NON-CASH FRINGE BENEFITS
As noted above, the Tax Cuts and Jobs Act modifies or eliminates the tax-favored treatment of certain fringe benefits such as moving expenses. The rules regarding the taxation and reporting of other fringe benefits still apply. Taxable fringe benefits include the following: the cost of nondiscriminatory group-term life insurance provided to employees in excess of $50,000; personal use of an employer provided vehicle; the cost of life insurance (other than group-term) provided to employees where the employee may determine the beneficiary; and discriminatory payments to key employees under educational assistance plans, self-insured medical reimbursement plans, dependent care assistance programs and group legal service plans.
M. 1099 REQUIREMENTS
Form 1099-MISC must be issued to persons and unincorporated entities (including partnerships and LLCs not taxed as corporations) receiving at least $600 for: 1) services rendered other than as an employee; 2) rent; 3) prizes; 4) medical and health care payments; or 5) other payments. Form 1099-MISC is not required to be filed for payments for merchandise, payments made via credit card, nor most payments to corporations, subject to some exceptions. You must also file Form 1099-MISC for each person from whom you have withheld any federal income tax under the backup withholding rules regardless of the amount of payment. Form 1099-INT should be filed to report interest payments of at least $10.
The filing deadline for Form 1099-MISC to report non-employee compensation in Box 7 and the related Form 1096 is January 31, 2019. For all other reported payments, file Form 1099 by February 28, 2019. The forms generally should be provided to recipients by January 31, 2019. Penalties for late filing, non-filing, or filing incorrect information range from $50 per information return to the greater of $540 or 10% of the aggregate dollar amount of the items required to be reported correctly. In certain instances, these penalties may be higher. Should you require our assistance in preparing these forms, please submit all information to us as soon as possible to allow for timely filing and to avoid the assessment of significant penalties. We recommend that you collect names, addresses and taxpayer identification numbers for every payee and vendor with whom you transact business. Forms W-9 should be used for this purpose and may be obtained via the internet at www.irs.gov or from our website.
Companies paying non-employee compensation for Pennsylvania based work must submit copies of federal forms 1099-MISC to the Pennsylvania Department of Revenue at the same time they are due to the Internal Revenue Service. Beginning January 1, 2018, payors of $5,000 or more for Pennsylvania-sourced work to nonresident individuals or to disregarded entities owned by nonresident individuals are required to withhold Pennsylvania personal income tax from such payments at a rate of 3.07%. Similarly, a business making rent or royalty payments exceeding $5,000 to nonresidents with regard to Pennsylvania property is required to withhold Pennsylvania personal income tax on such payments. These new withholding rules require electronically filed copies of IRS Form 1099-MISC with the Pennsylvania Department of Revenue, as well as quarterly withholding returns and annual reconciliations.
The issue of whether workers should be classified as employees or as independent contractors remains the focus of Internal Revenue Service scrutiny. In determining appropriate worker classification, businesses must weigh a variety of factors. Some will dictate in favor of employee status while others will be indicative of independent contractor status. No single factor establishes the outcome, and all must be carefully considered within the context of the relationship. Improper reporting of workers can result in a requirement to pay back taxes plus interest and punitive penalties. Additional guidance with regard to this complex and important determination may be found at www.irs.gov (search “worker classification”). Should you have any questions, please call us.
N. HEALTH FLEXIBLE SPENDING ARRANGEMENT
The maximum salary reduction contribution to a health flexible spending arrangement (health FSA) is $2,700 for 2019. Any salary reductions in excess of this amount will be subject to tax on distributions from the health FSA.
O. THE PATIENT PROTECTION AND AFFORDABLE CARE ACT (ACA)
Beginning in 2019, the TCJA eliminates the individual mandate imposing a penalty on those individuals failing to have health insurance coverage required under ACA; however, other provisions of the ACA are still in effect. Generally, ACA requires employers with at least 100 full-time equivalent employees (FTE) to provide health coverage, or risk paying a penalty. ACA also requires employers and insurers to report certain information to the Internal Revenue Service.
In addition, ACA requires certain employers to report on Form W-2 the aggregate cost of applicable employer sponsored health coverage paid during the calendar year. The aggregate reportable cost is reported on Form W-2 in Box 12, using Code DD. Pending further guidance from the IRS, transition relief of this disclosure requirement may apply to certain small employers who issue less than 250 W-2 Forms each year. A detailed analysis for implementing these provisions is beyond the scope of this newsletter, but please contact us if further guidance is needed in regard to the Affordable Care Act.
P. EMPLOYEE BUSINESS EXPENSE REIMBURSEMENTS
If an employee is reimbursed for business expenses under an “accountable plan”, the reimbursements are not treated as taxable income to the employee. An accountable plan must require the employee to: 1) substantiate the nature and amount of the expenses, and 2) repay to the employer any reimbursements in excess of the business expenses incurred. Please contact us if you need assistance in designing an accountable plan.
Q. ANNUAL LEASE VALUE AMOUNTS FOR PERSONAL USE OF COMPANY CARS
The “Annual Lease Value” (ALV) table, as issued by the Internal Revenue Service (www.irs.gov), shows the annual value to employees for the personal use of a company car. This ALV amount of the auto is includible in the employee’s income, unless the car is used exclusively for business purposes. If the car is used partly for personal driving, a percentage of the ALV (based on the percentage of personal use) is reported on the employee’s W-2. Note that the ALV does not change each year. Instead, it is treated as constant for each of the first four years of use. If the company car is still in use after four years, it is revalued at the beginning of the fifth year, and the ALV based on this new fair market value is used for the next four years of employee use. The ALV includes the value of auto insurance, registration fees and repairs paid by the company. It does not include the cost of fuel. If the company pays for fuel, the cost consumed in personal driving is additional W-2 income to the employee. A standard rate of 5½ cents per mile may be used in computing income attributable to personal fuel costs paid by the employer.
R. PROPOSED OVERTIME REGULATIONS HALTED BY FEDERAL DISTRICT COURT
In 2016, the Department of Labor issued revised overtime rules under the Fair Labor Standards Act. These changes were scheduled to go into effect on December 1, 2016 but have since been halted by subsequent litigation. We recommend that employers remain informed as to the status of this matter.
DISCLOSURE
The above synopses are brief reviews of general payroll tax issues. They are not intended to be complete explanations or to provide tax advice for specific fact patterns. Please discuss any decision concerning specific situations with a tax advisor qualified on such issues.
Final regulations dealing with the 100 percent bonus depreciation allowance for qualified property acquired and placed in service after September 27, 2017, allow property which is constructed under a pre-September 28, 2017 binding contract to qualify for the 100 percent rate. The final regulations adopt proposed regulations ( REG-104397-18) with certain modifications, including a revised constructed property rule. In addition, the IRS has issued a new set of proposed regulations dealing with issues it is not ready to finalize.
Final regulations dealing with the 100 percent bonus depreciation allowance for qualified property acquired and placed in service after September 27, 2017, allow property which is constructed under a pre-September 28, 2017 binding contract to qualify for the 100 percent rate. The final regulations adopt proposed regulations ( REG-104397-18) with certain modifications, including a revised constructed property rule. In addition, the IRS has issued a new set of proposed regulations dealing with issues it is not ready to finalize.
FINAL REGULATIONS: Written Binding Contract Rules
Constructed property. The proposed regulations provided that property manufactured, constructed, or produced for the taxpayer by another person under a written binding contract entered into prior to the manufacture, etc., of the property is acquired pursuant to a written binding contract. Thus, if the contract was entered into before September 28, 2017, the 100 bonus rate did not apply.
That rule was scrapped in response to negative feedback. Instead the final regulations provide that such property is treated as self-constructed property, and the contract is ignored for purposes of determining when the property is deemed acquired. The acquisition date is now the date that the taxpayer begins manufacturing, constructing, or producing the property as determined under rules similar to those that apply to 50 percent bonus property.
Acquisition date. The final regulations provide that the acquisition date of property acquired pursuant to a written binding contract is the later of:
- the date on which the contract is entered into;
- the date on which the contract is enforceable under state law;
- if the contract has one or more cancellation periods, the date on which all cancellation periods end; or
- if the contract has one or more contingency clauses, the date on which all conditions subject to such clauses are satisfied.
Liquidated damage clause. When a contract has multiple damage provisions, the final regulations clarify that only the provision with the highest damages is taken into account in determining whether the contract limits damages.
Qualified Improvement Property
The IRS once again declined to make qualified improvement property placed in service after 2017 eligible for bonus depreciation. A legislative change is required to give this property its intended 15-year recovery period. With a 15-year recovery period, qualified improvement property will qualify for bonus depreciation under the general rule that allows bonus depreciation on property with an MACRS recovery period of 20 years or less.
Used Property
Predecessor defined. Property previously used by the taxpayer or a predecessor of a taxpayer does not qualify for bonus depreciation if the taxpayer or predecessor had a depreciable interest in the property. The final regulations define "predecessor" as:
- a transferor of an asset to a transferee in a transaction to which Code Sec. 381(a) applies;
- a transferor of an asset to a transferee in a transaction in which the transferee’s basis in the asset is determined, in whole or in part, by reference to the basis of the asset in the transferor’s hands;
- a partnership that is considered as continuing under Code Sec. 708(b)(2);
- the decedent in the case of an asset acquired by an estate; or
- a transferor of an asset to a trust.
Depreciable interest look back rule. The final regulations do not define a "depreciable interest" because this is a facts and circumstances issue. However, a five-year look back period is provided for determining whether a taxpayer or predecessor held a depreciable interest in property.
Substantially renovated property. If a taxpayer places substantially renovated property in service and the taxpayer or a predecessor previously had a depreciable interest in the property before it was substantially renovated, the taxpayer’s or predecessor’s prior depreciable interest does not prevent the taxpayer from claiming bonus depreciation. Property is substantially renovated if the cost of the used parts is not more than 20 percent of the total cost of the substantially renovated property, whether acquired or self-constructed.
Syndication transactions. A lessor who reacquires property in a syndication transaction is not treated as having a prior depreciable interest in the property.
Partnerships
The final regulations permit a partnership to claim bonus depreciation on the portion of a Code Sec. 743(b) basis increase that is attributable to built-in gain under Code Sec. 704(c), even if the partnership is using the remedial allocation method. An exception is provided for publicly traded partnerships that need to maintain fungibility for publicly traded partnership units.
If a partnership interest is acquired and disposed of during the same tax year, the bonus deduction is not allowed for any Code Sec. 743(b) adjustment arising from the initial acquisition. However, if a partnership interest is purchased and disposed of in a "step-in-the shoes" Code Sec. 168(i)(7) transaction in the same tax year, bonus on the section 743(b) adjustment is allowed. The section 743(b) adjustment is apportioned between the purchaser/transferor and the transferee.
The final regulations also clarify the treatment of qualified property transferred in a Code Sec. 721(a) transaction to a partnership in the same tax year that the qualified property is acquired by the transferor if the partnership has another partner who previously had a depreciable interest in the qualified property. In this situation, the qualified property is deemed placed in service by the transferor during that tax year, and the bonus deduction is allocated entirely to the transferor and not to the partnership. Thus, the contributing partner has contributed property with a zero basis to the partnership, and the contributed property is Code Sec. 704(c) property in the hands of the partnership.
Film, Television, and Theatrical Productions
The final regulations clarify that a used qualified film, television, or live theatrical production does not qualify for bonus depreciation. Also, the basis of a qualified film, television, or live theatrical production is reduced by the deduction claimed under Code Sec. 181 before computing the bonus deduction.
Using ADS
Using the alternative depreciation system (ADS) to determine the adjusted basis of a taxpayer’s qualified business investment (under Code Sec. 250(b)(2)(B) or Code Sec. 951A(d)(3)) or the adjusted basis of a taxpayer’s tangible assets for allocating business interests expense between excepted and non-excepted trades or businesses (under Code Sec. 163(j)) does not cause a taxpayer’s tangible property to be ineligible for bonus depreciation.
Public Utility Property
An example is added to clarify that the 100 percent bonus rate does not apply to self-constructed property of a regulated public utility if construction begins after September 27, 2017, and the property is placed in service in a tax year beginning after 2017.
Effective Date
The final regulations apply to qualified property placed in service during or after the tax year that includes the date of publication in the Federal Register. However, a taxpayer may choose to apply the final regulations in their entirety to qualified property acquired and placed in service after September 27, 2017, provided the taxpayer consistently applies all rules in the final regulations. Additionally, a taxpayer may rely on the proposed regulations issued on August 8, 2018, to qualified property acquired and placed in service after September 27, 2017, in tax years ending before the date of publication of the final regulations.
PROPOSED REGULATIONS: Acquired and Self-Constructed Components
A taxpayer may elect to treat components of a larger self-constructed property that are acquired or self constructed after September 27, 2017, as eligible for the 100 percent bonus rate, even though manufacture, construction, or production of the larger self-constructed began before September 28, 2017. The larger property must be eligible for bonus depreciation at the 50 percent rate.
Businesses With Floor Plan Financing
Property used in a trade or business that has had floor plan financing indebtedness does not qualify for bonus depreciation if the floor plan financing interest related to the indebtedness is taken into account under Code Sec. 163(j)(1)(C) in determining the allowable business interest deduction.
The proposals provide rules for determining whether interest in floor plan financing indebtedness has been taken into account during a tax year. In general, floor plan interest is not considered taken into account for a tax year if the sum of interest business income for the tax year and 30 percent of the adjusted taxable income for the tax year equals or exceeds business interest as defined in Code Sec. 163(j)(5). The proposals clarify that the determination of whether a trade or business that has had floor plan financing indebtedness has taken floor plan financing interest into account is made annually.
Leased Property
The proposals clarify that taxpayers leasing property to a trade or business with floor plan financing indebtedness or a rate-regulated utility may claim bonus depreciation. The taxpayer, however, may not be a trade or business with floor plan financing indebtedness that prevents it from claiming bonus depreciation or a rate-regulated utility.
Used Property
Five-year lookback. A safe harbor provides that a taxpayer who disposes of property within 90 days after placing it in service did not hold a prior depreciable interest in the property. Consequently, the property is eligible for bonus depreciation if subsequently reacquired.
Partnerships. A taxpayer has a prior depreciable interest in a portion of property if the taxpayer was a partner in a partnership at any time the partnership owned the property. The amount of the prior depreciable interest is based on the partner’s total share of depreciation deductions with respect to the property.
Series of related transactions. Special rules in the original proposed regulations governing the treatment of a series of related transactions for purposes of the used property acquisition requirements are modified and expanded.
Consolidated groups. Significant clarifications to the rules governing the used property acquisition requirements for consolidated groups are also made.
Written Binding Contract Rules
Property not acquired pursuant to a contract. The acquisition date of property that is not acquired pursuant to a written binding contract is the date on which the taxpayer paid or incurred more than 10 percent of the total cost of the property. The cost of land and preliminary activities are excluded from cost for this purpose.
Purchase of entities. Binding contract rules that apply to the purchase of an entity are proposed. The current binding contract rules only deal with purchases of assets.
A contract to acquire all or substantially all of the assets of a trade or business, or to acquire an entity such as a corporation, a partnership, or a limited liability company, is binding if it is enforceable under state law against the parties to the contract. The presence of a condition outside the parties’ control (including, for example, regulatory agency approval) will not prevent the contract from being a binding contract. Further, the fact that insubstantial terms remain to be negotiated by the parties to the contract, or that customary conditions remain to be satisfied, does not prevent the contract from being a binding contract. This proposed rule also applies to a contract for the sale of the stock of a corporation that is treated as an asset sale as a result of a deemed asset acquisition election under Code Sec. 338.
Long Production Property
The proposals provide rules for determining qualifying basis attributable to the manufacture, construction, or production of long production property and certain aircraft eligible for an extended placed in service deadline.
Mid-Quarter Convention
The mid-quarter convention applies to property placed in service during the tax year if 40 percent or more of the basis of the property was placed in service in the last three months of the tax year. The proposals clarify that the basis of property is not reduced by the 100 percent bonus allowance. This rule has always applied to 50 percent bonus property.
Effective Date of Proposals
In general, the proposed regulations apply to qualified property placed in service during or after the tax year that includes the date the proposals are finalized. A taxpayer may rely on the proposals in their entirety to qualified property acquired and placed in service after September 27, 2017.
Proposed regulations would provide guidance on the inclusion of income and deduction items in the calculation of built-in gains and losses under Code Sec. 382(h). The proposed regulations would:
- simplify the application of Code Sec. 382;
- provide more certainty to taxpayers in determining built-in gains and losses for Code Sec. 382(h) purposes; and
- ensure that the application of certain law changes made by the Tax Cuts and Jobs Act ( P.L. 115-97) (TCJA) does not further complicate the application of Code Sec. 382(h).
Taxpayers may rely on these proposed regulations until final regulations are issued. When these proposed regulations are adopted as final regulations, it is expected that Notice 87-79, 1987-2 CB 387, Notice 90-27, 1990-1 CB 336, Notice 2003-65, 2003-2 CB 747, and Notice 2018-30, 2018-21 I.R.B. 610, will be withdrawn and declared obsolete.
Built-in Gains and Losses
Generally, Code Sec. 382 imposes a value-based limitation (section 382 limitation) on the ability of a loss corporation to offset its taxable income in periods subsequent to an ownership change with losses attributable to periods prior to that ownership change.
Code Sec. 382(h) provides rules relating to the determination of a loss corporation’s built-in gains and losses as of the date of the ownership change (change date). In general, built-in gains recognized during the five-year period beginning on the change date (recognition period) allow a loss corporation to increase its section 382 limitation. Built-in losses recognized during the recognition period are subject to the loss corporation’s section 382 limitation.
Specifically, if a loss corporation has a net unrealized built-in gain (NUBIG), the section 382 limitation for any tax year ending during the recognition period is increased by the recognized built-in gain (RBIG) for the year, with cumulative increases limited to the amount of the NUBIG. If a loss corporation has a net unrealized built-in loss (NUBIL), the use of any recognized built-in loss (RBIL) during the recognition period is subject to the section 382 limitation.
IRS Guidance and TCJA
Notice 2003-65 provides interim guidance on the identification of built-in gains and losses under Code Sec. 382(h). This notice permits taxpayers to rely on safe harbor approaches for applying Code Sec. 382(h) to an ownership change prior to the effective date of temporary or final regulations issued under that provision.
Notice 2003-65 provides (i) a single safe harbor for computing the NUBIG or NUBIL of a loss corporation, based on principles underlying the calculation of net recognized built-in gain under Code Sec. 1374, and (ii) two safe harbors for the computation of a loss corporation’s RBIG or RBIL: the 1374 approach and the 338 approach.
The 1374 approach identifies RBIG and RBIL at the time of the disposition of a loss corporation’s assets during the recognition period. Generally, this approach relies on accrual method of accounting principles to identify built-in income and deduction items at the time of the ownership change, with certain exceptions.
In contrast, the 338 approach identifies items of RBIG and RBIL generally by comparing the loss corporation’s actual items of income, gain, deduction, and loss recognized during the recognition period with those that would have been recognized had an election under Code Sec. 338 (section 338 election) been made with respect to a hypothetical purchase of all of the outstanding stock of the loss corporation on the change date.
Taxpayers may rely on either the 338 approach or the 1374 approach until the IRS issues temporary or final regulations under Code Sec. 382(h). Compared to the 338 approach, the accrual-based 1374 approach is simpler to apply and administer and provides greater certainty for taxpayers.
Prior to the issuance of Notice 2003-65, the IRS had issued Notice 87-79 and Notice 90-27, which provided much more limited guidance regarding the determination of built-in gains and losses. After the TCJA, the IRS issued Notice 2018-30, which makes the 338 approach unavailable when computing items arising from bonus depreciation under Code Sec. 168(k).
The law changes made by the TCJA created additional uncertainty regarding the application of Code Sec. 382 in general, and Notice 2003-65 in particular. Specifically, certain important changes under the TCJA could potentially compromise the mechanics of the 338 approach and further complicate its application.
1374 Approach
For purposes of computing NUBIG and NUBIL, the proposed regulations would adopt as mandatory the NUBIG/NUBIL safe harbor and the 1374 approach described in Notice 2003-65, with certain modifications. These modifications would include technical fixes to calculations involving cancellation of indebtedness (COD) income, deductions for contingent liabilities, and cost recovery deductions. Additionally, the proposed regulations would clarify that carryovers of Code Sec. 163(j) disallowed business interest are counted only once for purposes of Code Sec. 382.
The modifications to the existing NUBIG/NUBIL safe harbor and the 1374 approach would ensure greater consistency between:
- amounts that are included in the NUBIG/NUBIL computation; and
- items that could become RBIG or RBIL during the recognition period.
Comment
According to the IRS, the proposed regulations would modestly restrict net operating loss usage by reducing the amount that would qualify as RBIG, reducing the incentive to engage in inefficient, tax-motivated mergers and acquisitions.
NUBIG or NUBIL Computation
The proposed rules for the computation of NUBIG/NUBIL would capture a range of items that closely tracks the NUBIG/NUBIL safe harbor computation in Notice 2003-65. However, the component steps of the proposed NUBIG/NUBIL computation would be more explicit, as follows:
- The proposed NUBIG/NUBIL computation would first take into account the aggregate amount that would be realized in a hypothetical disposition of all of the loss corporation’s assets in two steps treated as taking place immediately before the ownership change:
- —Step 1: the loss corporation would be treated as satisfying any inadequately secured nonrecourse liability by surrendering to each creditor the assets securing such debt.
- —Step 2 : the loss corporation would be treated as selling all remaining assets pertinent to the NUBIG/NUBIL computation in a sale to an unrelated third party, with the hypothetical buyer assuming no amount of the seller’s liabilities.
- That total hypothetical amount realized by the loss corporation pursuant to Steps 1 and 2, above, would be then decreased by (i) the sum of the loss corporation’s deductible liabilities (both fixed and contingent), and (ii) the loss corporation’s basis in its assets.
- Finally, the decreased hypothetical total would be then increased or decreased, as applicable, by the following:
- —(i) the net amount of the total RBIG and RBIL income and deduction items that could be recognized during the recognition period (excluding COD income); and
- —(ii) the net amount of positive and negative section 481 adjustments that would be required to be included on the previously-described hypothetical disposal of all of the loss corporation’s assets.
The proposed regulations generally would not allow COD income to be included in the calculation of NUBIG/NUBIL, but would provide certain exceptions.
RBIG and RBIL Items
As mentioned above, the proposed regulations would apply a methodology for identifying RBIG or RBIL that closely tracks the accrual based 1374 approach described in Notice 2003-65. However, the proposed regulations would significantly modify the 1374 approach to include as RBIL the amount of any deductible contingent liabilities paid or accrued during the recognition period, to the extent of the estimated value of those liabilities on the change date.
The proposed regulations also would add a rule clarifying that certain items do not constitute RBIG (such as dividends paid during the recognition period). In addition, limitations would be provided on the extent to which excluded COD income is treated as RBIG. Further, the proposed regulations would provide two different RBIG ceilings with regard to COD on recourse debt, and would provide special rules for COD income on nonrecourse debt.
Finally, rules would be provided for the interaction between Code Sec. 163(j) and Code Sec. 382. To eliminate the possibility of duplication of RBIL items, the proposed regulations would provide that Code Sec. 382 disallowed business interest carryforwards would not be treated as RBIL if such amounts were allowable as a deduction during the recognition period. The proposed regulations also would clarify the treatment of certain items allocated from a partnership.
Applicability Date
The regulations are proposed to be effective for ownership changes occurring after the date the proposed regulations are published as final regulations in the Federal Register. However, taxpayers and their related parties may apply these proposed regulations to any ownership change occurring during a tax year with respect to which the period described in Code Sec. 6511(a) has not expired, so long as the taxpayers and all of their related parties consistently apply the rules of these proposed regulations to such ownership change and all subsequent ownership changes that occur before the applicability date of the final regulations.
Comments and Requests for Hearing
Written or electronic comments must be received by November 9, 2019. Written or electronic requests for a public hearing and outlines of topics to be discussed at the public hearing must be received by November 9, 2019. Electronic submissions must be sent via the Federal eRulemaking Portal at www.regulations.gov (indicate IRS and REG-125710-18) by following the online instructions for submitting comments. Once submitted to the Federal eRulemaking Portal, comments cannot be edited or withdrawn. The Treasury and the IRS will publish for public availability any comment received to its public docket, whether submitted electronically or in hard copy.
Hard copy submissions must be sent to: Internal Revenue Service, CC:PA:LPD:PR (REG-125710-18), Room 5203, Post Office Box 7604, Ben Franklin Station, Washington, DC 20044. Submissions may be hand-delivered Monday through Friday between the hours of 8:00 a.m. and 4:00 p.m. to CC:PA:LPD:PR (indicate REG-125710-18), Courier’s Desk, Internal Revenue Service, 1111 Constitution Avenue, NW., Washington, DC 20224.
The IRS has issued final regulations that amend the rules relating to hardship distributions from Code Sec. 401(k) plans. The final regulations are substantially similar to the proposed regulations. Further, plans that complied with the proposed regulations satisfy the final regulations as well. The regulations are effective on September 23, 2019.
The IRS has issued final regulations that amend the rules relating to hardship distributions from Code Sec. 401(k) plans. The final regulations are substantially similar to the proposed regulations. Further, plans that complied with the proposed regulations satisfy the final regulations as well. The regulations are effective on September 23, 2019.
The final regulations:
- reflect statutory changes affecting Code Sec. 401(k) plans, including changes made by the Bipartisan Budget Act of 2018 ( P.L. 115-123); and
- affect participants in, beneficiaries of, employers maintaining, and administrators of plans that include cash or deferred arrangements or provide for employee or matching contributions.
Deemed Immediate and Heavy Financial Need
The final regulations modify the safe harbor list of expenses for which distributions are deemed to be made on account of an immediate and heavy financial need. The final regulations:
- add "primary beneficiary under the plan" as an individual for whom qualifying medical, educational, and funeral expenses may be incurred;
- modify the expense listed in existing Reg. §1.401(k)-1(d)(3)(iii)(B)(6) to provide that the limitations in Code Sec. 165(h)(5) do not apply for this purpose; and
- add to the list a new type of expense, relating to expenses incurred as a result of certain disasters.
Distribution Necessary to Satisfy Financial Need
The final regulations modify the rules for determining whether a distribution is necessary to satisfy an immediate and heavy financial need, by:
- eliminating any requirement that an employee be prohibited from making elective contributions and employee contributions after receipt of a hardship distribution; and
- eliminating any requirement to take plan loans prior to obtaining a hardship distribution.
In particular, the final regulations, like the proposed regulations, eliminate the safe harbor in existing Reg. §1.401(k)-1(d)(3)(iv)(E), under which a distribution is deemed necessary to satisfy the financial need only if elective contributions and employee contributions are suspended for at least six months after a hardship distribution is made and, if available, nontaxable plan loans are taken before the hardship distribution is made.
Expanded Sources for Hardship Distributions
The final regulations modify existing Reg. §1.401(k)-1(d)(3) to permit hardship distributions from Code Sec. 401(k) plans of elective contributions, qualified nonelective contributions (QNECs), qualified matching contributions (QMACs), and earnings on these amounts, regardless of when contributed or earned.
Section 403(b) Plans
A hardship distribution of Code Sec. 403(b) elective deferrals is subject to the rules and restrictions set forth in Reg. §1.401(k)-1(d)(3). Accordingly, the preamble to the proposed regulations had stated that the new rules relating to a hardship distribution of elective contributions from a Code Sec. 401(k) plan generally apply to Code Sec. 403(b) plans. Because this requirement is retained in the final regulations, at Reg. §1.401(k)-1(d)(3)(iii)(B), it applies to Code Sec. 403(b) plans.
Applicability Dates
The changes to the hardship distribution rules made by the Bipartisan Budget Act of 2018 are effective for plan years beginning after December 31, 2018.
Plan Amendments
The Treasury Department and IRS expect that plan sponsors will need to amend their plans’ hardship distribution provisions to reflect the final regulations, and any such amendment must be effective for distributions beginning no later than January 1, 2020. The deadline for amending a disqualifying provision is set forth in Rev. Proc. 2016-37, I.R.B. 2016-29,136.
For a taxpayer using an accrual method of accounting, the all events test is not met for item of gross income any later than when is included in revenue on an applicable financial statement (AFS) or other financial statement specified by the Treasury Secretary. How the AFS income inclusion rule applies to accrual method taxpayers with an AFS is described and clarified by Proposed Reg. §1.451-3.
For a taxpayer using an accrual method of accounting, the all events test is not met for item of gross income any later than when is included in revenue on an applicable financial statement (AFS) or other financial statement specified by the Treasury Secretary. How the AFS income inclusion rule applies to accrual method taxpayers with an AFS is described and clarified by Proposed Reg. §1.451-3.
Year-by-Year Application
The proposed regulations provide that the AFS income inclusion rule generally applies to accrual method taxpayers with an AFS when the timing of income inclusion for one or more items of income is determined using the all events test. They further clarify that the AFS income inclusion rule applies only to taxpayers that have one or more AFS covering the entire tax year.
The AFS income inclusion rule applies on a year-by-year basis and, therefore, an accrual taxpayer with an AFS in one tax year that does not have an AFS in another tax year must apply the AFS income inclusion rule in the tax year that it has an AFS, and does not apply the rule in the tax year in which it does not have an AFS.
No Change to Income Tax Treatment
The proposed regulations also clarify that AFS income inclusion rule does not change the treatment of a transaction for federal income tax purposes:
- The treatment of a transaction or event in a tax year may be different for federal income tax and AFS purposes.
- The applicability of any exclusion provision, or the treatment of nonrecognition transactions, in the Code, the Income Tax Regulations, or other guidance does not change.
Partial Payment
The proposed regulations provide that an amount included in the transaction price for AFS purposes may not be treated as contingent on the occurrence or nonoccurrence of a future event if the taxpayer has been paid or has an equitable, contractual, or other right to partial payment for performance completed to date. Additionally, that transaction price may not be reduced for amounts subject to Code Sec. 461, including reward amounts in credit card transactions.
Special Methods and Multi-Year Contracts
The proposed regulations clarify that when a taxpayer uses a special method of accounting, the special method of accounting determines the timing of the income inclusion.
Proposed regulations also provide guidance for taxpayers with a financial reporting period that is different than the taxpayer’s tax year. The taxpayer must use one of three permissible methods in order to determine whether an item of income has been included in revenue on an AFS.
For a contract with multiple performance obligations, the allocation of the transaction price to each performance obligation equals the amount allocated to each performance obligation for purposes of including the item in revenue in the taxpayer's AFS. The proposed regulations clarify that a transaction price does not include amounts collected on behalf of third parties, or amounts that are contingent on the occurrence or nonoccurrence of a future event.
A taxpayer with a multi-year contract applies the all events test by applying a cumulative approach reflecting amounts previously included under Code Sec. 451 rather than an annualized approach.
Fees
Under the proposed regulations if the taxpayer does not treat a fee as discount or as an adjustment to the yield of a debt instrument over the life of the instrument (such as points) in its AFS, and the fee otherwise would be treated as creating or increasing original issue discount (OID) for federal income tax purposes (specified fee), then the rules in the proposed regulations under Code Sec. 451(b) apply before the rules in Code Secs. 1271 through Code Sec. 1275. Removing specified fees and specified credit card fees from the calculation of OID will permit taxpayers to apply only the rules of Code Sec. 451(b) to these fees, without also having to apply the rules relevant to OID.
The proposed section regulations would not apply to determine the time at which OID generally is includible in income.
Effective Date
The regulations are proposed generally to apply to tax years beginning on or after the date the final regulations are published in the Federal Register. However, in the case of a specified fee, Proposed Reg. §1.451-3(i)(2) is proposed to apply for a taxpayer’s first tax year beginning one year after the date the Treasury Decision adopting these regulations as final is published in the Federal Register.
A taxpayer may rely on the proposed regulations (other than the proposed regulations relating to specified fees) for tax years beginning after December 31, 2017 (after December 31, 2018, for specified credit card fees), as long as the taxpayer: (1) applies all the applicable rules contained in the proposed regulations for specified credit card fees; and (2) consistently applies the proposed regulations to all items of income during the tax year (other than specified fees).
Proposed regulations provide rules for accrual method taxpayers who receive advance payments. The proposed regulations include provisions affecting both taxpayers both with and without applicable financial statements (AFS), and describe and clarify the statutory requirements of Code Sec. 451(c).
Similar to Rev. Proc. 2004-34
The proposed regulations include many provisions similar to those of Rev. Proc. 2004-34, I.R.B. 2004-22, 991. For example the proposed regulations:
- provide a similar deferral method for non-AFS taxpayers;
- provide a list of items excluded from the definition of advance payment;
- provide rules consistent with Rev. Proc. 2004-34 to ensure the acceleration of an advance payment when a taxpayer dies or ceases to exist, or when a taxpayer’s obligation is satisfied or otherwise ends; and
- use the short tax year rules of Rev. Proc. 2004-34 for the AFS and non-AFS deferral methods
The proposed regulations also provide additional definitions and clarifications.
Change in Accounting Method
The IRS intends to provide the procedures by which a taxpayer may change its method of accounting to use one of the deferral methods described in these proposed regulations. Until further guidance is issued, a taxpayer may continue to rely on Rev. Proc. 2004-34, as described in Notice 2018-35, I.R.B. 2018-18, 520.
Effective Date
The proposed regulations are to apply to tax years beginning on or after the date the final regulations are published in the Federal Register. Until the date the Treasury Decision adopting these regulations as final regulations is published in the Federal Register, a taxpayer may rely on these proposed regulations for tax years beginning after December 31, 2017, as long as the taxpayer: (1) applies all the applicable rules contained in these proposed regulations, and (2) consistently applies these proposed regulations to all advance payments.
Taxpayers may use the automatic consent procedures to change accounting methods to comply with the recent proposed regulations described above. Rev. Proc. 2018-31, I.R.B. 2018-22, 637, is modified.
Taxpayers may use the automatic consent procedures to change accounting methods to comply with the recent proposed regulations described above. Rev. Proc. 2018-31, I.R.B. 2018-22, 637, is modified.
The proposed regulations provide rules for:
- inclusion in gross income under the all events test for taxpayers with an applicable financial statement (AFS) ( NPRM REG-104870-18); and
- use of the deferral method for advance payments for taxpayers with or without an AFS ( NPRM REG-104554-18).
Certain qualifying taxpayers may apply for a change to comply with the proposed regulations without filing a Form 3115, Application for Change in Accounting Method.
Taxpayers Affected
The accounting change procedures for inclusion in gross income for taxpayers with an AFS generally apply to taxpayers with an AFS that want to:
- change to a method of accounting that treats an item of gross income as meeting the all events test no later than when the item is taken into account as revenue in its AFS under Code Sec. 451(b)(1)(A);
- in certain cases, allocate the transaction price to performance obligations under Code Sec. 451(b)(4);
- change to a method of accounting that complies with Proposed Reg. §1.451-3; or
- change to a method of accounting that complies with Proposed Reg. §1.451-8(c).
The procedures also apply to taxpayers that do not have an AFS and that want to change to a method of accounting that complies with Proposed Reg. §1.451-8(d).
In addition, the procedures apply to a change in AFS in order to apply certain revenue recognition methods of accounting.
Pending Nonautomatic Applications
The IRS will return any Form 3115 requesting a change in method of accounting available under this revenue procedure that:
- was filed on or before September 9, 2019, under the non-automatic procedures for a tax year beginning after December 31, 2017; and
- is pending with the National Office on September 9, 2019.
The National Office will send a letter to the taxpayer acknowledging the return of the Form 3115, and will return the user fee submitted with the form. A timely resubmitted Form 3115 will be considered filed as of the date the taxpayer originally filed the Form 3115 under the nonautomatic change procedures.
Effective Date
This revenue procedure is generally effective for tax years beginning after December 31, 2017. For specified credit card fees, it is effective for tax years beginning after December 31, 2018.
Amendments to have been proposed to update the information reporting regulations under Code Sec. 6033, which generally apply to organizations exempt from tax under Code Sec. 501(a). The proposed regulations reflect statutory amendments and certain grants of reporting relief announced through guidance that has been made since the current regulations were adopted. The amendments and grants of relief apply particularly with respect to tax-exempt organizations required to file an annual Form 990, Return of Organization Exempt from Income Tax, or a Form 990-EZ information return.
Amendments to have been proposed to update the information reporting regulations under Code Sec. 6033, which generally apply to organizations exempt from tax under Code Sec. 501(a). The proposed regulations reflect statutory amendments and certain grants of reporting relief announced through guidance that has been made since the current regulations were adopted. The amendments and grants of relief apply particularly with respect to tax-exempt organizations required to file an annual Form 990, Return of Organization Exempt from Income Tax, or a Form 990-EZ information return.
Annual Return and Reporting Requirements
Code Sec. 6033 outlines various requirements for an annual information return to be filed by organizations that are exempt from tax under Code Sec. 501(a) or are described in Code Sec. 527, including exceptions to the filing requirement. The reporting requirements under Code Sec. 6033(h) mandate controlling organizations to include on their returns:
- interest, annuities, royalties, or rents received from each controlled entity under Code Sec. 512(b)(13);
- any loans made to each such controlled entity; and
- any transfers of funds between such controlling organization and each such controlled entity.
Penalty Relief
Under Code Sec. 6104(b), the IRS must make the filed annual returns available to the public. Under Rev. Proc. 2018-38, I.R.B. 2018-31, 280, tax-exempt organizations (other than charities exempt under Code Sec. 501(c)(3) and Code Sec. 527 political organizations) were no longer required to report the names and addresses of contributors on Schedule B when filing their information returns. This change applied to information reporting for tax years ending on or after December 31, 2018, for donations above certain applicable thresholds.
However, Rev. Proc. 2018-38 has been overturned by a federal district court ( S.C. Bullock, DC Mont., 2019-2 ustc ¶50,245), which held that the IRS failed to follow the notice and comment procedures required by the Administrative Procedure Act (APA).
Code Sec. 6652(c)(1)(A) imposes penalties for a failure to file a return required under Code Sec. 6033, failure to include any required information, or failure to provide correct information. Under Code Sec. 6652(c)(5), the penalty is not imposed if it is shown that the failure was due to reasonable cause. Notice 2019-47 provides that the IRS will consider there to be a reasonable cause based on reliance on Rev. Proc. 2018-38 for any organizations that file Form 990 or 990-EZ and did not include on their 2018 information return such donor information as Rev. Proc. 2018-38 indicated was not required.
Proposed Amendments
The proposed amendments to the regulations would restore relief from the requirement to report contributor names and addresses on the annual returns filed by certain tax-exempt organizations that was previously provided in Rev. Proc. 2018-38 before the federal district court overturned that rule. Therefore, only organizations exempt under Code Secs. 501(c)(3) and 527 would need to continue reporting their donor information on their Forms 990, 990-EZ, or 990-PF.
In addition, the proposed amendments would incorporate into the regulations the existing exception from having to file an annual return for certain organizations that normally have gross receipts of $50,000 or less, found in Rev. Proc. 2011-15, I.R.B. 2011-3, 322.
