Our thanks to Robert Costello, CPA for reminding all of us of this potential trap involving self-rented property.
The trap is best illustrated by the facts in the case of Tony R. Carlos v. Comm., 123 T.C. No. 16 (09/20/04). Taxpayer owned all of the stock of two S corporations - Bear Valley Fabricators and J&T Branding. He also owned two commercial real estate properties -one located at Bear Valley Road and the other located at John Glenn Road. The property at Bear Valley Road was rented to Bear Valley Fabricators and produced a net rental income of 102,646 in 1999 and 102,045 in 2000. The property at John Glenn Road was rented to J&T at a net loss of 41,706 in 1999 and 40,169 in 2000. Taxpayer GROUPED the two properties as one in a single column of Schedule E (very slick) and reported a net income of 60,940 in 1999 and 61,876 in 2000. Taxpayer treated the net rental income from both properties in each year as nonpassive apparently on the theory that Reg. 1.469-2(f)(6) applied to the net amount from the two grouped properties. The Tax Court concluded that Reg. 1.469-2(f)(6) applied to the net rental income of 102,646 and 102,045 from the Bear Hill proerty making it nonpassive thus leaving the net rental loss from the John Glenn Property of 41,706 and 40,169 as a passive loss in 1999 and 2000, respectively, to be disallowed under section 469 and carried forward. The moral of this case is that when more than one item of property is being rented to a trade or business in which the taxpayer materially participates, beware of Reg. 1.469-2(f)(6) being selectively applied to recharacterize the net income from some items of property as nonpassive while leaving the losses from other items of property to be disallowed as from a passive rental activity. Query whether the taxpayer could have grouped his business and/or rental activities differently in order to achieve his objective? Grouping under Reg. 1.469-4 takes on added importance in light of the enactment of S 1411!!!
BOSTON TAX ALERTS ARE REPRINTED BELOW AS FOLLOWS:
Our thanks to Robert Boodman for calling our attention to Rev. Proc. 2015-20.
Our thanks to Peter Birkholz, MST, our repair/capitalization/partial disposition/Form 3115 expert, for the following email:
Recently published Rev. Proc. 2015-20 got a number of practioners excited about a change to not requiring Form 3115 for "certain" changes. The actual permitted change is limited and is not recommended. The Rev. Proc. allows taxpayers to start applying the partial disposition election under 1.168(i)-8(d)(2) effective 1/1/14 on a cutoff basis. This means that a partial structural disposition or abandonment replaced before 1/1/14 could not be recognized as a disposition on a Form 3115 to secure a Section 481(a) adjustment. If you want the new rule going forward only, a choice may be made on the 2014 return. If not, get to work identifying the partial dispositions on your clients' depreciation schedules and secure tax savings through filing of Form 3115.
As tax season begins, the purpose of this email is to forewarn you about amounts appearing on Form 8960 (the net investment income tax). Your software populates amounts from Schedules D and E that may or may not be subject to the 3.8% tax on net investment income. I am aware of one instance email:where the net income from self-rented property was subjected to tax on Form 8960 unnecessarily and another instance where the net income from rents was subjected to the 3.8% tax by a client who could have qualified as a real estate professional but was not recognized as such by the FORMER preparer. It pays to be smart and vigilant! Review Form 8960 very carefully to ensure that nothing is subjected to a 3.8% tax unnecessarily. If a competitor finds such a mistake, you are going to lose the client! If you would like to learn more about the 3.8% tax as it applies to rental real estate, our last class is on 02/04 at The Chateau Restaurant in Waltham.
Our thanks to Robert McElhinney, CPA for posing the following question at a recent seminar!
Is there any requirement that a business take a physical inventory? Also, if you start to take a physical inventory, is this a change in method of accounting? We asked three of our faculty members these questions and received four different answers (only kidding). IRS Publication 538 states as follows "Physical inventory. You MUST take a physical inventory at reasonable intervals and the book amount for inventory must be adjusted to agree with the actual inventory."(emphasis supplied). Also, a firm of certified public accountants in Kane, PA (wherever the hell that is) in a letter to clients stated "The Internal Revenue Service REQUIRES any business which maintains inventory to physically count the inventory on hand every year."(emphasis supplied). Having now practiced taxes for over 50 years and never having heard of such a requirement, I decided to call the Service's National Office in Washington, D.C. A technical specialist on section 471 directed me to Reg. 1.471-2(d) which states "The balances shown by such book inventories SHOULD be verified by physical inventories at reasonable intervals and adjusted to conform therewith."(emphasis supplied). Please note that there is some similarity in this wording with the wording in Pub 538 except that Pub 538 uses the word MUST rather than the word SHOULD. Not only SHOULD book inventories be verified by physical inventories at reasonable intervals, but you SHOULD brush your teeth at least three times daily, you SHOULD eat plenty of green vegetables, you SHOULD not drink too much, etc. Based on my conversation with the National Office and the wording of the regulation, there appears to be no requirement to take an annual inventory. The representative also stated that he did not believe that starting to take a physical inventory was a change in method of accounting. The moral of this story: you SHOULD not believe anything that anyone tells you about the tax law - trust but verify!!!
Our thanks to Kenneth J. Vacovec, Esq. for the following email!
Yesterday, January 20, the Tax Court released a decision disallowing an oil rig worker's claim to the section 911 earned income exclusion since his "abode" was not in Russia. This decision follows a long line of cases where oil rig workers claim the 911 exclusion while maintaining an abode in the United States. The taxpayer avoided penalties because his tax returns were prepared by a "competent tax professional."
A recent Chief Counsel Memorandum 201503012 dated 11/26/14 reaffirmed a 1962 case that set out an 11 factor test for bona fide residence under section 911.
Section 911 will be discussed in detail by Ken in his rescheduled seminar on 01/23 (Friday). There still is time to register for Internation Taxation of Individuals on 01/23 in Waltham!!!
On 01/16/2015, the Service issued Revenue Procedure 2015-13 (IRB 2015-5, 02/02/15) on Procedures to Obtain Advance Consent to Change Method of Accounting. Rev. Proc. 2015-13 applies to BOTH automatic changes and non-automatic changes and supersedes Rev. Proc. 2011-14 on automatic changes and Rev. Proc. 97-27 on non-automatic changes; and except as otherwise provided, is effective for Forms 3115 filed on or after 01/16/15 for a year of change ending after 05/31/2014. Also on 01/16, the Service issued Rev. Proc. 2015-14 which contains a List of Automatic Changes. If you are considering filing a Form 3115 for a change in method of accounting related to the final repair/capitalization regulations or for any other reason, you should read Rev. Proc. 2015-13 to see how it applies to your change. Please remember that our 1-day seminar on Repair/Capitalization will be held on 02/03 at the Hyatt house in Waltham!!!
Recently, the Service published the monthly national average premium for 2015 for qualified health plans that have a bronze level of coverage for purposes of calculating the penalty in section 5000A for individuals without minimum essential coverage (MEC) in 2015 and who are not exempt. That amount is $207 (see Rev. Prov. 2015-15, IRB 2015-5 dated 02/02/15). Previously, Rev. Proc. 2014-46 had set the amount at $204 for 2014 which you may need to use in calculating the penalty for individuals without MEC and who are not exempt in 2014. Sections 5000A and 36B (the premium tax credit) will be discussed in detail in New Tax Legislation/Current Tax Developments on 01/29 at The Chateau Restaurant in Waltham and also to some extent in our Form 1040 Workshops on 01/28 at the Comfort Inn in Randolph and on 01/30 at The Chateau Restaurant in Waltham. You may want to learn something about these two new provisions sooner rather than later so that you do not get bogged down in this morass during tax season!!!
Many of us were taken by surprise when the IRS issued final regulations on September 19, 2013 under Reg. 1.162-3 and 1.263(a)1-3. The final regulations contain many new items not provided for in the Temporary Regulations. In addition, final Regulations under 1.168(i)-8 were issued on August 18, 2014 dealing with partial dispositions.
We all learned how to make a decision in the area of repair versus improvement when we first came into practice. The approach and rules are different under these final Regulations. I will be covering the methodology needed to make a decision in this area using the final Regulations on 2/3/15 in Waltham. In addition, the new opportunities to write off certain assets under 2014 Revenue Procedures will be discussed. When a Form 3115 must be used and when it should not be used also will be discussed.
Act section 138 of The Tax Increase Prevention Act of 2014 extended the reduction in the S corporation recognition (waiting) period for 1 year i.e. through 12/31/2014. What this means is that if an S corporation previously converted from C corporation to S corporation status and sells or disposes of assets in a taxable transaction in 2014, the built-in gains tax that might otherwise apply to that sale or other taxable disposition will not apply if the S corporation has been an S corporation in each of its prior FIVE calendar years. What the extension does NOT mean is that if a corporation converts from C to S in 2014, it has a right to a 5 year waiting period if it sells its assets in 2019. Since the five year waiting period has been extended for only 1 year through 12/31/2014, if an S corporation that previously was a C corporation were to sell assets in 2015, it would have to have waited out a 10 calendar year waiting period. Also, please do not forget that MA also has a built-in gains tax that applies to S corporations. This issue is discussed to some extent in our 1-day seminars on New Tax Legislation/Current Tax Developments, in our 2-day seminar in Waltham, and in our seminar entitled 1120S Preparation Workshop on 11/20 at The Chateau Restaurant in Waltham.
Our thanks to Suzanne Machowski, CPA for inquiring regarding the status of Rev. Proc. 2008-54. On Monday, I spoke to a representative in the Service's National Office in Washington who said that Rev. Proc. 2008-54 was alive and well and still could be used to MAKE or revoke a section 179 election on an amended return. I stated that this would appear to include MAKING the section 179 election on examination, and he agreed. As you may know, for taxable years beginning in 2014, the dollar limitation for section 179 expensing is $500,000. You may recall that section 179 applies to both new and used property, and it applies both federally and in MA!!!
Section 5000A, which imposes a penalty on applicable individuals without minimum essential coverage (MEC), contains a number of exemptions which excuse certain individuals without MEC from paying the penalty. One such exemption is found in section 5000A(e)(2) for Taxpayers With Income Below Filing Threshold which provides that no penalty shall be imposed on "Any applicable individual for any month during a calendar year if the individual's household income for the taxable year ... is less than the amount of gross income specified in section 6012(a)(1) with respect to the taxpayer." While this exemption obviously could apply to an individual who is not a dependent of another taxpayer, could it also apply to someone who is claimed as a dependent on another taxpayer's (such as a parent) return? Such an interpretation could help parents who are not described by this exemption avoid a portion of the penalty imposed by section 5000A. In Notice 2014-76 mentioned below, a statement appears toward the end thereof stating that the Secretary of Health and Human Services intends to issue guidance stating that the exemption in section 5000A(e)(2) does NOT apply to DEPENDENTS. Section 5000A and 36B will be discussed in detail in my seminars entitled New Tax Legislation/Current Tax Developments and on day 1 of our 2-day seminars in W. Springfield and Waltham. Other topics to be discussed in these seminars include the Tax Increase Prevention Act of 2014, the ABLE Act, a review of section 1411 as applied to rental real estate, and other current tax developments. There still is plenty of space in all of our seminars in January!!!
On 12/19/2014, the President signed the Tax Increase Prevention Act of 2014! The link to the engrossed act appears immediately below as does a description of the seminars in which it will be discussed.
http://thomas.loc.gov/cgi-bin/query/z?c113:H.R.5771: Here is the link for the engrossed version of the Tax Increase Prevention Act of 2014. Hit the link and go to item 4 which is the engrossed version of the act.
2014 FEDERAL TAX UPDATE - AGENDA FOR 2 DAY SEMINAR!!! Hit this link for the Agenda for our 2-day seminar at the Clarion in W. Springfield and at the Chateau Restaurant in Waltham. The extenders bill will be discussed in our seminars on New Tax Legislation/Current Tax Developments, Form 1040 Preparation Workshop, and in our 2-day seminars entitled 2014 Federal Tax Update. Other topics to be discussed include an update and review on the 3.8% tax on NII, a discussion of the penalty for not purchasing health insurance, and the section 36B credit for purchasing it through an exchange. In our 1040 Workshop and in our 2-day seminar in W. Springfield only, Pete also will be giving an update on repair/capitalization, the need for Form 3115 in some but not most cases, and the partial disposition rules. It is not to late to come up to speed in all of these areas before the start of tax season!!!!!
Our thanks to Gary Olszewski, CPA for calling our attention to Publication 5187 which was just released on the Affordable Care Act. The Publication discusses both sections 5000A and 36B. We recommend that you hit this link http://www.irs.gov/pub/irs-pdf/p5187.pdf print out the pub, and read it before attending our seminars entitled Current Tax Developments/NTL, Form 1040 Preparation Workshop, or Federal Tax Update. The Publication addresses many but not all of the issues in these two areas.
In addition to the provisions in the extenders bill, there are three particularly important substantive tax areas that you may need to know something about during the upcoming tax season: section 1411 (the 3.8% tax on net investment income), the final repair/capitalization regulations including partial dispositions, and the penalty for not having minimum essential coverage and the section 36B credit for purchasing such coverage through a federal or state exchange. These three areas will be discussed to some extent in various seminars including The Treatment of Rental Real Estate for Purposes of the 3.8% Tax on Net Investment Income, Current Tax Developments, Form 1040 Preparation Workshop, and in our 2-day seminars in W. Springfield and Waltham in January. If you want to come up to speed on these three important substantive areas of tax practice, you have only about a month and a half left to do so!!!!!
As you may know, for each month beginning after 2013, "applicable individuals" are required to be covered by "minimum essential coverage (MEC)," be exempt from the requirement to have MEC, or pay a penalty for not having MEC. As mentioned below in a prior Boston Tax Alert, Form 8965 is used to claim an exemption. A list of exemptions not found in the statute or in the draft instructions is found in Notice 2014-76 also mentioned below. You may want to start inquiring sooner rather than later regarding which of your clients, family members, or friends has failed to secure minimum essential coverage, and begin to determine whether they are exempt from the penalty under section 5000A. With respect to those same folks, you may want to begin to inquire whether any of them has purchased a qualified health plan through a state or federal exchange, because if they did and if their household income equals or exceeds 100% but does not exceed 400% of the federal poverty level and meets certain other requirements, they appear to qualify for a premium tax credit under section 36B which is computed using Form 8962. These provisions are rather complex, and Peter and I are attempting to explain them in my seminars on Current Tax Developments/NTL and in Peter's 1040 Workshops. These provisions also will be covered in some detail in our 2-day seminars in W. Springfield and Waltham in January. Assuming that these topics are relevant to you, the sooner that you come up to speed on these provisions, the easier will be your tax season!
Is appears that Congress is getting closer to passing an "extenders" bill. A draft bill (H.R. 5771) entitled the "Tax Increase Prevention Act of 2014" has been introduced in the House of Representatives. The text of the bill can be located by hitting this link: http://rules.house.gov/bill/113/hr-5771 or by just Googling the name of the Act or its H.R. number. It appears that everything that we care about will be extended, but for only one year! I will be prepared to discuss this bill in my Current Tax Developments/NTL seminars beginning this Friday in Peabody, and Peter will be preparer to discuss this bill in his 1040 Workshops which begin on 12/09 in Hyannis.
You may be interested in knowing that Form 8965 which is used to claim an exemption from the individual shared responsibility payment for not purchasing health insurance recently was finalized on 11/13/14. Unless someone advises me differently, the instructions for Form 8965 still are in draft form dated 09/24/14. As noted below, Notice 2014-76 recently was published which identifies additional hardship exemptions. Peter Birkholz and I are working diligently to learn sections 5000A and 36B so that we can explain them to you in my seminar entitled Current Tax Developments/NTL and in his seminars entitled Form 1040 Preparation Workshop. In the event that our coverage of these provisions in those seminars is not sufficient, we again are contemplating the possibility of presenting a 1/2 day seminar on each provision sometime in January after the 2-day seminars or in early February. We would be interested in your thoughts in this regard.
Our thanks to Peter Birkholz, MST for the following email!
In the past, taxpayers determined the difference between a repair and an improvement based on the dollars expended. Under the new property Final Regulations, determination of the capitalizable events under 1.263(a)-3(j) (Betterments) and 1.263(a)-3(k) (Restorations), the dollars expended are not determinative. Rather, using the "unit of property" designation under 1.263-3(e), a comparison is made of the portion of the physical structure changed as a percentage of the total "unit of property." This analysis is made to determine if the expenditures were for a material change under the betterment or restoration rules. In addition to the measurement of the change to the physical structure, 1.263-3(k)(6) measures whether the change was to a "discrete and critical function" of the unit of property. The examples under Betterment and Restoration rules are consistent with this approach and do not refer to the dollars expended.
Based on the proportion of the physical change to the property or the function of the portion changed, taxpayers will either treat the expenditure as a repair or as an improvement. If the change was in the past (in an open or closed year) and the taxpayer expensed the change and current rules would require a capitalization, a Form 3115 is required. If the past change was capitalized and current rules would allow expensing, a Form 3115 could be filed. According to the National Office, the capitalizing to expensing Form 3115 is optional and can be prepared for open only or open and closed years.
Peter will be discussing when Forms 3115 are required and when to file them in his 1040 workshops which begin on 12/09 in Hyannis. Pete also will be discussing the new penalty for not having obtained health insurance for 2014 and the section 36B credit for individuals who bought their health insurance through a federal or state exchange and whose incomes are between 100% and 400% of the poverty level.
On 11/22, Richard Bogue, Esq., CPA will present an update on federal, RI, and MA estate taxes including indexing, the increase in the RI threshold from 1.0M to 1.5M effective 01/01/15, selected judicial decisions, and more.
Recently, the Service published Notice 2014-76 which identifies the hardship exemptions from the individual shared responsibility payment (aka referred to as a penalty) under section 5000A that a taxpayer may claim on a federal income tax return without obtaining a hardship exemption certification from the Health Insurance Marketplace. One such exemption, which appears to apply to one of my family members, provides that an individual is eligible for a hardship exemption if the individual enrolled OUTSIDE the Marketplace in minimum essential coverage for 2014 that is effective on or before May 1, 2014. Before subjecting a client or family member to a penalty for not having minimum essential coverage in 2014, you may want to read this Notice to see what other hardship exemptions are available without obtaining a hardship exemption certificate. The individual shared responsibility payment and the section 36B credit will be discussed in our seminars entitled Current Tax Developments/NTL and 1040 Workshop for Experienced Preparers!!!
Our thanks to Michael S. Marino for the following email!
IRS Practice and Procedure- coming soon....on 11/25 from 1:30-5:00pm in Seekonk.
Have you ever been procedurally stumped when dealing with the IRS? Learn the options available to your taxpayers in a multitude of different procedural scenarios. Practice before the IRS is serious business and each action of a Power of Attorney is deemed an action of the taxpayer...so you have to get it right! Cases are won and lost based on the choices you make. Join me for this interactive afternoon for lecture and discussion on each of the various procedural avenues and venues that are available to a taxpayer who disagrees with a Revenue Agent or Revenue Officer, a taxpayer who has received a proposed assessment (Notice of Deficiency), and a taxpayer who has missed the deadline on a Notice of Deficiency. From examination to collection, criminal and civil, we will review the structure of the IRS, as well as the various courts to which tax appeals may be taken or where tax cases are heard.
Additionally, we will discuss current events, including the new procedures for streamline Offshore Voluntary Disclosure, and hot topics/trends in Offers in Compromise. We may even throw in some updates regarding the Commonwealth of Massachusetts Department of Revenue and the State of Rhode Island Division of Taxation.
For individuals whose modified AGI is over the applicable threshold, net investment income generally includes the net income from rental real estate and the gain from the sale of rental property. There are at least four exceptions when net rental income is not per se passive under section 469 and therefore may not/do not constitute net investment income for purposes of section 1411: Reg. 1.469-2(f)(6), grouping, real estate professional, and not a "rental activity" such as property which is rented for 7 days or less. These four exceptions will be discussed in our seminar entitled the 3.8% Tax on Net Investment Income. We also will discuss section 1411 in detail and review two full pages of questions regarding the kinds of income and deduction items that do or do not enter into the computation of NII. For your more affluent clients, section 1411 remains a major consideration which is important for you to get right!!! We offer 1-day seminars on the 3.8% Tax on 11/19 in Peabody, 11/21 in Seekonk, 12/04 in Marlboro, and 12/12 in Waltham.
Although the New Hampshire Legislature did not make numerous changes to the taxing statutes during its 2014 session, the Department of Revenue Administration was active in the area of Administrative Rules. The Department adopted the long-awaited rules under the Real Estate Transfer Tax and provided clarification of the tax applicability in cases of entity conversions. The Department also announced its controversial position relating to the application of the tax to leases of real estate. The Department is now in the final stage of re-adopting the Business Profits Tax rules which contain guidance in the area of reasonable compensation and the more detailed rules regarding qualified investment companies. The legislative and regulatory changes will be discussed during our seminar entitled New Hampshire Taxation of Businesses & Their Owners offered on November 18th in Peabody, MA. The seminar also will discuss the application of market-based sourcing of income from services and the conflicts that exist between the NH and MA statutes.
In our 1/2 day seminar entitled Real Estate Professionals from 1:30-5:00pm on 11/18 in Seekonk and from 9:00-12:30pm on 12/02 in Waltham, we will be discussing the probable aggregation of rental real estate activities by a real estate professional in order to test for material participation and the difference between aggregation under Reg. 1.469-9(g) and the grouping of trade or businesses activities and rental activities under Reg. 1.469-4. Aggregation and grouping are NOT the same! We also will be discussing Rev. Proc. 2011-34 which allows a taxpayer to make a late election to aggregate rental real estate activities under certain circumstances. Beginning in 2013, whether your client qualifies as a real estate professional is important not only for purposes of deducting losses from rental real estate but also for purposes of trying to avoid the 3.8% tax on net investment income which generally includes net rent income as well as the gain on the sale of a rented building. We will be discussing both of these aspects in our 1/2 day seminars!!!
Our thanks to Paul Plourde, Esq., CPA for the following email!
In May 2014, the GAO issued a report entitled "Partnerships and S Corporations, IRS needs to improve information to address tax noncompliance. K-1 matching is not designed to detect misreporting, but only is designed to detect mismatches between Form 1040 and K-1's. Although the IRS has estimated misreporting by S corporations covering the tax years 2003 and 2004, the results of this study were never published. The IRS has never studied misreporting by partnerships. Nevertheless, the GAO estimates a rough order of magnitude of the misreporting to be $91 billion per year for tax years 2006 through 2009. The margin of error for this estimate is plus or minus 10%. This report encourages the IRS to focus on K-1 misreporting (as contrasted with a small percentage of full examinations by limited IRS employees) with respect to S corporations as well as partnerships in the future. Schedule K-1 matching and misreporting by partnerships will be discussed briefly in Paul's seminar entitled 1065 Preparation Workshop from 9:00am-12:30pm on 11/18 in Seekonk. In the afternoon of 11/18, Lucien Gauthier, Esq., CPA will be presenting a 1/2 day seminar from 1:30pm-5:00pm entitled Real Estate Professionals which exams the tax status of REPs for purposes of both sections 469 (the passive activity loss rules) as well as 1411 (the 3.8% tax on net investment income). We hope to see you there!
Our thanks to Todd Fothergill and Todd Weaver of Strategies for College for the following email regarding their 1/2 day seminar entitled Financial Aid Tactics on 11/20 from 1:30pm-5:00pm at The Chateau Restaurant in Waltham!
This seminar, appropriate for both practitioners and selected clients who will be filing financial aid applications for current high school seniors, will focus on (1) how to complete the online FAFSA, online CSS Profile, and supplemental applications for business owners and supplemental applications for divorced/separated parents in a timely fashion; and (2) how to accurately forecast the outcome of the FAFSA and CSS Profile in terms of potential grants, scholarships, and interest-free student loans. This seminar provides a personalized, step-by-step walk through of the financial aid process with an experienced professional.
If you enroll in FINANCIAL AID TACTICS offered in Waltham, MA on November 20 from 1:30pm-5:00pm, Strategies For College, Inc. will file the 2015-16 FAFSA for three of your clients free of charge!!! If you cannot attend, contact Todd Weaver at (888) 485-7299 Ext 3 for more information.
In Howard C. Cantor v. Comm., T.C. Summary Opinion 2014-103 (11/06/14), the Tax Court "assumed without finding that installing original or replacement windows in newly built or existing buildings constitutes "construction' or "reconstruction" within the meaning of section 469(c)(7) but that cutting and installing mirrors and table tops, cutting and installing shower and bath glass enclosures, and replacing window panes do not so that the taxpayer was not a real estate professional and thus could not deduction the losses from four rental real estate activities. Although a summary opinion is "not reviewable by any other court" (i.e. cannot be appealed to a Court of Appeals) and "shall not be treated as precedent for any other case," this case will be discussed in our 1/2 day seminar on Real Estate Professionals on 11/18 in Seekonk and on 12/02 in Waltham.
As part of both of our Passive Activity Loss seminars offered this week, we will be discussing the concept of grouping under Reg. 1.469-4 as it pertains to grouping one or more trades or businesses activities as a single activity in order to meet one of the seven tests of material participation in order to deduct losses from one of the businesses as well as grouping real estate which is wholly or partially rented to a trade or business in which the taxpayer materially participates such as an S corporation business in order to avoid the 3.8% tax on the net rental income under section 1411. We also will be discussing what constitutes an "appropriate economic unit" for purposes of grouping as applied in the Scott Wesley Williams case (which was featured in a prior Boston Tax Alert appearing below) as well as the Wade case as it applies to meeting the seventh test of material participation of regular, substantial, and continuous as interpreted by the -5T regulation under section 469. You need to know the passive activity loss rules and grouping in order to know whether you can deduct losses and in order to try to avoid the 3.8% tax on net rental income or on net business income from a business in which you do not materially participate. Our intensive Passive Activity Loss seminars are designed to help you with both of these issues!!!
Our thanks to Edward DeFranceschi, Esq. for the following email!
Yesterday, October 29th, the US District Court in the District of Columbia dismissed the suit filed by the AICPA against the IRS which sought to prevent the IRS from offering a voluntary program for unenrolled preparers. The program would have offered to the 600,000 unenrolled tax return preparers a chance to voluntarily take a course in tax law, pass a course-related comprehension test, complete a prescribed amount of continuing education and consent to be subject to Circular 230. A preparer who completes the program receives a "Record of Completion" and would be included in a directory of preparers with credentials or other qualifications. The directory would be available on the IRS website. This is the identical program that the District Court in DC said the IRS could not compel return preparers to participate in; see Loving v. IRS.
In order to sue in the United States, a party bringing the suit must have "standing". Standing means the party bringing the action must 1) have suffered an injury in fact; 2) there must be a causal connection between the injury and the conduct complained of; and 3) it must be likely that the injury will be redressed by a decision in the party's favor. All three elements are necessary, and the Court held that the AICPA did not meet a single one.
The AICPA claimed three theories to support standing. First that its members employed individuals who would be injured by the additional regulatory burdens created by the program. Second that its members would be injured because they would be required to take steps to ensure that their newly regulated employees complied with Circular 230. Lastly, the AICPA argued that its members would suffer injuries because the program would cause confusion among consumers.
You do not have to be a law professor to see that none of those complaints meets the tests for standing. However, the third one does have merit if you substitute "competition" for "confusion". Like any good competitor, the AICPA does not want a list of professionals on the IRS website if their members are not on it. There has been some suggestion that if Congress permits the IRS to regulate all return preparers, CPA's will have to "voluntarily" join the new mandatory program in order to get listed on the IRS website as preparers.
This correspondent has a $1 bet with Mr. Gauthier that Congress will not act to correct the hole in the IRS authority before the 2 day BTI seminary.
p.s. As always, Ed will be doing a presentation on Preparer Penalties/Circular 230/Professional Ethics on Day 2 of our 2-day Federal Tax Update program in W. Springfield and in Waltham in January where I expect to collect our $1 bet!!!
Our thanks to Peter Birkholz, MST for the following email!
As you may know the long awaited 1.168(i)-8 final regulation were published under TD 9689 dated 8/14/2014. Current law on structural components of a building require a retirement to be maintained on your depreciation schedule along with the replacement structural component. While it looks strange to see two or three roofs on a depreciation schedule for the same building, this is correct. The final Regulations under 1.168(i)-8(d)(2)(ii) provide an election to write-off a retired or abandoned structural component. This election may be used on 2012 and 2013 returns if done within 180 days of the extended due date including extensions (too late for 2012).
The final Regulations under 1.263(a)-1, 2, and 3 contained some significant changes from last year. I will be covering the new law and providing class participants with a methodology to resolve Repair vs Improvement issues prior to the IRS audits expected in this area. We also will provide reliable information as to when a Form 3115 is required, contrary to misinformation provided in published accounts by several commercial tax services. These final regulations will be discussed in detail on 11/12 in Peabody, 11/13 in Seekonk, 11/19 in Marlboro, and 11/21 in Waltham.
Today, the United States District Court for the District of Columbia dismissed the lawsuit brought by the AICPA (and supported by the MA Society) that sought to enjoin the IRS from pursuing its voluntary program of augmenting the skills of unenrolled preparers. As correctly predicted by one of our esteemed faculty members, the District Court held that the AICPA lacked standing to bring the suit. The District Court described the challenge to the Service's voluntary program as coming "from a surprising source" (the AICPA). Apparently the District Court was as astonished as I was that the AICPA would try to thwart the Service's attempt to upgrade the tax preparation skills of unenrolled preparers through a voluntary program. What will the AICPA attack next - motherhood and apple pie???
On October 23, 2014, the AICPA's Accounting and Review Services Committee (ARSC) issued new SSARS 21 under its Clarity Project. SSARS 21 rewrites all of the compilation and review standards (except one) that are currently in effect and represents the most significant changes to compilation and review standards since the issuance of SSARS No. 1 in 1978. Any practitioners who perform compilation and review engagements must become familiar with these new rules which are effective for calendar year 2015 engagements. Practitioners may apply the new rules to any client early for 2014 year end as long as all changes found in SSARS 21 are applied early.
SSARS 21 does the following:
Replaces ALL existing compilation and review standards (except one) with new standards.
Introduces a new preparation engagement under which an accountant may prepare financial statements and issue them to a client or third party without a report.
Changes existing standards to make the preparation of financial statements a nonattest service that is separate from a compilation, review or audit engagement.
Changes the compilation report and engagement letter for a compilation engagement.
Changes the review report, engagement letter and management representation letter for a review engagement.
Carries over to the compilation and review standards certain auditing terminology relates to tax-basis financial statements and other language.
Clarifies and simplifies some of the compilation and review standards consistent with the simplifying changes that were made to auditing standards in 2012.
Although SSARS 21's changes to existing compilation and review standards are significant, the most dramatic change is the preparation of financial statements standard found in new AR-C 70 that is added to the compilation and review standards. The AICPA's peer review committee has issued a proposal under which the preparation engagement would not be subject to peer review provided no compilation, review or audit engagements are conducted.
Practitioners have until year ended 2015 to understand and apply SSARS 21 and may choose to issue it on a client-by-client basis for 2014 year end.
SSARS 21 and other accounting and auditing topics will be discussed at the 2014 FASB/SSARS/SAS Update presented by Jack Armstrong on 11/07 in Seekonk, on 11/13 in Marlboro, and 11/20 in Randolph, and by Steven Fustolo on 11/25 in Waltham.
In addition to the health care matters discussed in our email appearing immediately below, you also may want to come back up to speed with respect to Passive Activity Losses, Real Estate Professionals, the 3.8% Tax on Net Investment Income, and the Tax Treatment of Rental Real Estate for Purposes of the 3.8% Tax. It is very difficult to understand the application of the 3.8% tax to rental real estate if you do not have a good understanding of the passive activity loss rules. Please remember that net rental income is per se passive unless your client falls within one of four basic exceptions to make the net rental income nonpassive. Just today we stumbled onto a situation on a 2013 individual return where the net rental income from self-rented property was subjected unnecessarily to the 3.8% tax. Also please remember that if the net rental income is passive, the gain on sale probably is subject to the 3.8% tax as well. Our Passive Activity Loss seminar which ill include a discussion of GROUPING will be presented this fall only on 11/05 in Seekonk and on 11/06 in Waltham which is only about two weeks from now. We hope to see you there!!!
Congratulations on surviving another brutal tax season!!! As you begin to recharge your batteries, you might want to start thinking about some of the issues that will confront you in preparing 2014 individual income tax returns including issues under the Affordable Care Act such as the section 36B credit for individuals whose household income equals or exceeds 100% but does not exceed 400% of the federal poverty level (using amounts for 2013) and who purchased health insurance through a state or federal exchange. Exchanges are obligated to report certain information regarding such insurance on Form 1095-A, and applicable taxpayers will compute their section 36B credit (referred to as the Premium Tax Credit) on Form 8962. Individuals who are exempt from having to purchase such insurance will file Form 8965 (Health Coverage Exemption) with their Form 1040 returns. If they are not exempt, individuals must compute their penalty (referred to as a shared responsibility payment) for not having purchased health insurance pursuant to section 5000A using a Shared Responsibility Payment Worksheet. We now understand how complicated these two provisions are, and it is unlikely that we can help you learn everything that you need to know about them in Current Tax Developments or our Form 1040 Workshops. Instead, we believe that two 1/2 day seminars are needed to discuss these provisions: a 1/2 day seminar on the Section 36B credit in the morning and a 1/2 day seminar on Health Coverage Exemptions and Penalty in the afternoon. We are considering offering these two 1/2 day seminars first in the Waltham area on either Friday (11/7) or on Tuesday (11/11, which is Veterans Day). We would be interested in knowing whether you think that these two 1/2 day seminars are necessary and which of the two dates serves you better. You might want to look at Forms 8962 and 8965 and their accompanying instructions before expressing a view on this subject. I just spent the better part of a three day weekend learning these two new provisions and still do not feel comfortable with them! We are very interested in your views on this matter!!!
As you go into the waning days of the 2013 tax season, if you are taking a position on a tax return for which you may not have substantial authority (approximately a 40% likelihood of success on the merits) but you appear to have a reasonable basis for your position (approximately a 20% likelihood of success on the merits), you may want to consider attaching Form 8275 to the return in order to reduce the risk of taxpayer and preparer penalties being asserted in the event that the return is examined and your client's position is not sustained. We have proven in dozens of classes involving hundreds of attendees that attaching a Form 8275 to a return will NOT cause the return to be chosen for examination. If this is true, which it is, and in light of the fact that 99.5% of income tax returns are NOT examined by the Service, why not consider attaching Form 8275 in order to cut your risk and your client's risk of a penalty in half (20% likelihood of success on the merits versus 40% likelihood) in the event that the position is not sustained? Form 8275 and preparer and taxpayer penalties are discussed in detail in our 1/2 day seminars entitled Preparer Penalties/Circular 230 (in the morning) and Taxpayer Penalty Relief (in the afternoon) on 12/09 at The Chateau Restaurant in Waltham. p.s. Preparer Penalties/Circular 230 also is designed to qualify for 4 credit hours of instruction on Professional Ethics!!!
The purpose of this email is to remind you to be careful with respect to the net income from rental real estate for individual taxpayers who are over the applicable thresholds of $250,000, $125,000 or $200,000. As you may recall, the net income from rents generally is considered passive income and is subject to the 3.8% tax on net investment income unless there is an exception that makes it not passive. Generally speaking, there are four exceptions when net rental income is not passive: first, in the case of property rented at a profit to a trade or business in which the individual materially participates; second, in the case of property that is properly grouped with a trade or business in which the individual materially participates; third, in the case of a real estate professional who materially participates in his rental real estate activities; and fourth, when one of the six exceptions applies so that the activity of renting is not considered a "rental activity" such as when the property is rented for seven days or less. These four exceptions will be discussed in detail in many of our seminars that begin in November including Passive Activity Losses, The 3.8% Tax on Net Investment Income, Real Estate Professionals (1/2 day), and the Treatment of Rental Real Estate for Purposes of the 3.8% Tax. Lucien Gauthier, Esq., CPA is available to consult in this complicated area if you wish to do so between now and October 15th!
In Vanney Associates, Inc. v. Comm., TCM 2014-184 (09/11/14), the U. S. Tax Court denied a deduction to a cash method C corporation for a year end bonus of $815,000 because the sole employee-shareholder endorsed the check for his net wages of $460,000 back to the corporation because there was insufficient funds in the corporation's checking account to cover the amount of the check. The reasonableness of his total compensation of $1,055,000 was not in dispute. Have any of us done something like this previously, would any of us have spotted this issue if we represented this client, and why would a sole shareholder in a service business remain a C corporation in any event! This case will be discussed in detail in our seminars on Current Tax Developments which begin in November in various locations.
You may be interested in knowing that a Motion for Reconsideration has been filed in the Scott Wesley Williams case which was featured in a prior Boston Tax Alert and is discussed six paragraphs below. The case involved whether a business activity and an airplane activity constitute an "appropriate economic unit" for purposes of measurement of gain or loss (i.e. grouping) under Reg. 1.469-4(c). Reg. 1.469-4 will be discussed in detail in our seminar entitled Passive Activity Losses on 11/05 in Seekonk and 11/06 in Waltham. These two dates present you with a great opportunity to learn about grouping and passive activity losses once and for all!!!
The purpose of this email is to remind you to consider requesting a First Time Abate Administrative Waiver when attempting to have virtually any late file or late pay or late deposit penalty rescinded/abated. All the Service can say is that FTA does not apply. You are not any worse off for having requested FTA. To qualify for FTA, the taxpayer has to show that the taxpayer filed timely and paid timely in each of the three prior years. Also when requesting penalty relief, always end your letter by saying that if the penalty is not rescinded/abated, the taxpayer respectfully requests a face-to-face hearing with an Appeals Officer in Boston (or other appropriate office). BTI would be very interested in knowing whether anybody has been successful in avoiding a late filing penalty with DOL using FTA for the late filing of a Form 5500 series form.
On 08/20/14, the United States Tax Court in Charles E. Wade v. Comm., TCM 2014-169, held that a stockholder in two S corporations that were treated as one economic unit because they were interdependent and shared common ownership and control and that had losses of $3,808,709 met the seventh test of material participation in Reg. 1.469-5T (regular, substantial, and continuous) by participating in nonmanagement and noninvestment activities of product development and customer retention for more than 100 hours. This is one of only a few cases involving a trade or business (as opposed to a rental real estate activity) wherein the Service has tried to disallowed losses under section 469. While the taxpayer in this case was able to prove that he participated for more than 100 hours in a trade or business activity, you might want to advise your clients of the desirability of keeping a log in this regard. This may become even more important with the enactment of the 3.8% tax on net investment income which was effective on 01/01/2013 which includes within its scope the income from a trade or business in which you client does NOT materially participate!
The purpose of this email is to remind you that if you are grouping under Reg. 1.469-4 for the first time for a tax year beginning on or after 01/25/2010 such as 2013, you must report your new grouping as required by Rev. Proc. 2010-13. You might be grouping two businesses together or you might be grouping a rental activity such as a partially rented building with a business activity such as an S corporation in which you materially participate.
Our thanks to Laurence M. Perlmutter, CPA for calling our attention to the fact that we should be using the July 2014 version of Form 2848 when representing taxpayers before the IRS. Also, please remember that if the taxpayers filed a joint return, you need a separate Power of Attorney for each of the taxpayers.
In Michael G. Moreno, et al. v. U.S., USDC, W.D. LA, Lafayette Div.; Civ. 6:12CV2920 (05/19/14), on a motion for partial summary judgment, the court concluded that the taxpayer was at risk with respect to a loan to an LLC of which he was the sole member, except to the extent that he had a right of contribution pursuant to the corporate guaranty of a related entity. The court further concluded that the airplane activity was not a rental activity under section 469 because pursuant to the terms of the lease agreement as interpreted by LA law, the average period of customer use was 7 days or less. It is interesting to note that the Service is pursuing at risk and section 469 issues in both an LLC and S corporation context.
In Scott Wesley Williams v. Comm., TC Memo 2014-158 (08/05/14), the Tax Court held that the taxpayer could not group an airplane rental activity with a trade or business activity in which T materially participated under Regs. 1.469-4(c). The Court further held that the rental activity was per se passive; but even if were not because the airplane was rented for 7 days or less, the taxpayer did not materially participate in the airplane activity and could not deduct the losses. Unless I am mistaken, this is the first case to discuss the five factors involved in determining whether two or more activities are an appropriate economic unit for purposes of measurement of gain or loss. Even though there was common control, common ownership, and geographic location, and even though the taxpayer actually used the airplane in his trade or business, the Tax Court held that the two activities could not be grouped together as a single activity. This was a pro se case. Perhaps the grouping argument could have been better developed if the taxpayers was represented by experienced tax counsel.
On 07/03/14, the Service released Chief Counsel Advice (CCA) 201427016 dated 04/28/14. The question presented was whether a taxpayer's status as a real estate professional (REP or a "qualifying taxpayer" according to the regulations) under section 469(c)(7)(B) was affected by an election under Reg. 1.469-9(g) to treat all interests in rental real estate as a single rental real estate activity. The CCA said no which appears to be the correct answer. A taxpayer is a REP (qualifying taxpayer) if more than one-half of the personal services performed in trades or businesses by the taxpayer during such taxable year are performed in real property trades or businesses in which the taxpayer materially participates and such taxpayer performs more than 750 hours of services during the taxable year in real property trades or businesses in which the taxpayer materially participates. These two requirements are separate and distinct from the issue of whether the taxpayer should elect to treat two or more rental real estate activities as a single rental real estate activity. Please note that the term "real property trade or business" is not the same as "rental real estate activity." If one is not careful, it is easy to mix these two terms up and treat them as being the same, which they are not.
The purpose of this email is to remind you and your clients of what can happen to you/them if you/they fail to obtain Form W-9 before paying someone for services: 28% backup withholding for failure to obtain Form W-9 for payments of $600 or more, a $100 penalty for failure to file each Form 1099 for payments of $600 or more, and a $100 penalty for failure to furnish each Form 1099 to recipients of payments of $600 or more. If you think that this cannot happen to you or your clients, think again. One taxpayer in the Boston area and one in W. Springfield just had their butts handed to them for tens of thousands of dollars for dereliction in these areas.
Our thanks to Edward DeFranceschi, Esq. for the following email! Please note that our 1/2 day seminar entitled Preparer Penalties/Circular 230 qualifies for four credit hours of instruction on Professional Ethics!!!
On June 9, the IRS released final regulations that amend Circular 230.
The new regulations eliminate many of the complex rules governing "covered opinions" in Reg. 10.35 while expanding the requirements for written advice under Reg. 10.37.
Tax opinions classified as "covered opinions" were subject to detailed rules and led to the absurd use of the "Circular 230 disclaimer" on everything that everyone wrote notwithstanding BTI warnings to the contrary. These detailed rules are abandoned for the most part and rules for "written advice" under Reg. 10.37 are expanded and made mandatory for all practitioners rendering written advice.
Also, Reg. 10.36 has been amended to clarify and expand provisions to ensure compliance by practitioners with Circular 230 generally. Further, the final standard in 10.35 clarifies that "competence" requires the appropriate level of knowledge, skill, thoroughness, and preparation necessary for the matter in which the practitioner is engaged. This standard applies to all advice provided by a practitioner to a client on a matter within the scope of Circular 230.
Our thanks to Paul Plourde, Esq., CPA for the following email!:
An issue that is considered from time to time is whether an individual can be a partner (e.g., a member of an LLC that is treated as a partnership) and an employee of the same partnership at the same time. Since the issuance of Rev. Rul. 69-184, the Internal Revenue Service has consistently barred the dual status of partner and an employee at the same time. Riether, 112 AFTR 2d 2013-6074 (DC N.M., 2012) apparently is the first court case to confirm the position taken in Rev. Rul. 69-184 that an individual member is a partner for self-employment tax purpose at least on all of the income. The Internal Revenue Service is actively considering the issue of whether an individual can be both an employee and a partner of the same partnership. This issue is a very tough and important issue.
Our thanks to Philip R. Dardeno, CPA, MST for the following email!
People often ask me about the taxability of pension income. This issue had been a source of great controversy among the states until the Federal Government passed
4 U.S.C. § 114. This section states that only the state of a person's domicile can tax a "qualified pension". Qualified pension is income from one of the many retirement plans that are of a type enunciated in and covered by the Internal Revenue Code.
Thus 4 U.S.C. § 114 provides that only the state of a person's domicile can tax the following pensions:
1. a qualified trust under section 401(a) of the Code that is exempt from taxation under section 501(a) of the Code;
2. a simplified employee pension as defined in section 408(k) of the Code;
3. an annuity plan described in section 403(a) of the Code;
4. an annuity contract described in section 403(b) of the Code;
5. an individual retirement plan described in section 7701(a)(37) of the Code;
6. an eligible deferred compensation plan as defined in section 457 of the Code;
7. a governmental plan as defined in section 414(d) of the Code;
8. a trust described in section 501(c)(18) of the Code; and
9. any plan, program, or arrangement described in section 3121(v)(2)(C) of the Code, under the conditions provided in 4 U.S.C. § 114.
(f) Federal preemption. Any other income that is the subject of federal preemption on state taxation. This includes income of: certain seafarers and fishers, as set forth at 46 USC § 11108, or its successor; certain employees of interstate rail carriers, as set forth at 49 USC, § 11502, or its successor; certain employees of motor carriers, as set forth at 49 USC § 14503, or its successor; certain employees of air carriers who regularly perform duties on an aircraft, as set forth at 49 USC, § 40116, or its successor.
Number 9 above is a broad catchall catqagory to allow for the possibility of new plans that the federal government may develop.
PRIOR BOSTON TAX ALERTS ARE REPRINTED BELOW AS FOLLOWS:
Our thanks to Steve Bravo, CPA, MST, ASA, CBA, ABV for the following email!
Our Business Valuation seminar on 06/13 in Waltham will cover all business valuation issues confronting business appraisers. The seminar will first discuss standard of value issues and how the courts have interpreted and applied their understanding to specific valuation fact patterns. The seminar will then move to an in-depth review of the income approach and the single year capitalization of cash flows method and the multi-year discounted cash flows method. The guideline company method and transactions method are completely analyzed to help you understand the importance of the market approach and how to properly apply it. There is an extensive case study demonstrating how all valuation methods are calculated to arrive at indications of value, including a redacted business valuation report that will be discussed. Other valuation issues, such as valuation for divorce purposes, the new Duff & Phelps cost of capital yearbook, and the implied private company pricing model also will be discussed.
Most of your C corporation clients probably would benefit from converting from C to S corporation. During this past tax season, I assisted two practitioners in converting their C corporations to S. One was a machine shop and the other was a dental practice. If you are considering converting a client corporation from C to S, you must identify possible tax issues involving the built-in gains tax in section 1374 and deal with them effectively. If you feel a little rusty with S corporations in general and the built-in gains tax in particular, please join us on 06/10 for a spirited discussion of this important area. Please do not wait until your C corporation client is put under examination and the agent raises accumulated earnings tax or unreasonable compensation to convert from C to S! If you need two additional reasons to consider converting from C to S, consider the tax implications of the 0.9% tax on wages and the 3.8% tax on the gain on C corporation stock!!!
Our thanks to Steve Fustolo, CPA for the following email:
There are several new developments that will be discussed at the 2014 FASB, SSARS and SAS Update and Review.
On May 22, 2014, the Accounting and Review Services Committee (ARSC) voted and passed a new standard for review engagements. The new standard will be part of a larger standard to be issued this year under SSARS No. 21 and will be effective for years ending after December 15, 2015 (calendar 2015). The new review standard makes several key changes to current review engagement requirements including a new review report, revised review engagement and representation letters, a new definition of tax basis financial statements, and other new requirements.
Another important change relates to the consolidation of variable interest entities. In 2014, the FASB endorsed an election that is available to nonpublic (private) entities with respect to related-party leasing arrangements involving common ownership. Under the new rules, if certain conditions are satisfied, a lessee may elect not to test and consolidate its related-party lessor into its financial statements.
On May 30, 2014, the FASB issued its long-awaited revenue recognition standard, entitled ASU 2014-09, Revenue from Contracts with Customers.
If you have concluded that the IRS has forgotten about Section 409A - dealing with the taxation of non-qualified deferred compensation -- you are in for a surprise. The Deputy Associate Chief Counsel (Employee Benefits) in IRS's Tax-Exempt and Government Entities Division made a comment recently that makes it clear that this section is very much on the IRS's radar screen. The IRS has a new limited scope audit initiative - which, according the Deputy Associate Chief Counsel, the IRS is going to use to see how it can tie the individual side into the employer side when it finds that an employer has failed to comply with Section 409A. So knowing how to fix 409A failures that you discover will take on more importance, because operational failures cannot be corrected under IRS's correction procedures if an employee's tax return for the year of the failure is under audit. It is also important to know how to report non-compliant deferred compensation on an employee's tax return.
Our thanks to Jeffrey Feingold for the following email on the R & D Credit!
This March, the US Tax Court clarified acceptable versus unacceptable documentation with regard to time spent by owners/officers in qualified research and development activities included in calculation of the Federal R&D tax credit. You can see the decision from Basim Shami and Rania Ardah, Et Al v. Commission at http://www.taxpointadvisors.com/blog/?p=691 (or just go to
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