Potential Revenue Raisers in the Reconciliation Bill

On Sept. 15, the House Ways and Means Committee (HWM) approved a proposal to increase taxes by $2 trillion over 10 years to fund the broader budget reconciliation bill proposed by Democrats. Because it is a reconciliation bill, it requires only a simple majority to become law and the Democrats have a slight majority in both chambers. However, at this point, it has literally no support among the Republicans and the Democratic majority is so minimal, passage of the reconciliation bill is in some doubt as the legislative process unfolds.

That said, being aware of these proposed tax increases is particularly important given the concerns of both parties for the need to fund the government to avoid a shutdown and to address the government’s significant deficit.

The following is a brief description of the HWM tax proposal:

• Raise the top marginal tax rates:
  • Corporations – 26.5%
  • Individuals – 39.6% (plus a 3.8% surtax)
  • Capital gains – 25% (plus a 3.8% surtax)
  • Expand the 3.8% tax on net investment income
• Limit the interest deduction
• Repeal the exclusion of gains from disposition of qualified small businesses
• Reduce the estate and gift tax exclusion by one half the current amounts
• Various changes to the international tax rules: GILTI, FDII and BEAT
• Limit the Section 199A passthrough 20% deduction for owners of sole proprietorships, S corporations and partnerships, to $400,000 for single and $500,000 for married filing joint

Generally, the HWM proposal would have these tax increases effective for tax years beginning in 2022. However, the bill currently lists the capital gains’ higher rate retroactive to Sept. 13, 2021, with transition relief for sales subject to a written binding contract.

The proposal does not include relief from the $10,000 cap on deductions for state and local taxes (SALT), although SALT relief negotiations continue. It does not include repeal of oil and gas tax incentives. Also, a controversial proposal was dropped that would require a new financial reporting framework for individual and business accounts with flows of more than $600.

This tax measure will be combined with spending bills reported out of other House committees for an entire reconciliation package on the House floor as early as next week.

Get your popcorn ready! No one can predict how pending legislation will shape year-end tax planning.

NTA Update on the 2020 and 2021 Filing Season Challenges

A recent blog by National Taxpayer Advocate Erin Collins indicates that the IRS has reduced its 2020 tax return inventory from 35 million in May to 17.6 million as of Sept. 11. This includes 10 million returns in the queue and 5.7 million suspended while awaiting further information from taxpayers (possibly in that unprocessed mail). The IRS expects another four million 2020 returns to be filed by Oct. 15.

Oh, The Frustration!

We know that the IRS has been facing numerous hurdles and additional job functions since the start of the pandemic. However, the tax professional community’s patience is about equal to the IRS’ responsiveness at this point. Preparers and their clients are frustrated with the high volume of manually processed returns, limited information available on return status, erroneous notices, refund delays and the difficulty reaching IRS employees. To manage expectations, the public needs transparency along with clear and concise updates on the processing of returns and status of refunds.

Faulty Math Error Notices

The NTA also expressed a concern that the IRS had omitted on some notices critical language providing taxpayers the right to request an abatement. In notices to 6.5 million taxpayers on potential Recovery Rebate Credit math errors, the IRS failed to acknowledge that taxpayers have 60 days to question it, a significant compromise of taxpayers' rights. Preparers know this but, generally, taxpayers may not know their right to challenge the IRS’ position. The IRS plans to fix the procedural problem with a supplemental notice to these taxpayers by Oct. 1, 2021, with the abatement language and restart the 60-day clock. The Taxpayer Advocate Service (TAS) will be proposing a legislative change to require that the abatement language be included in all math error notices for clear notification of taxpayer rights.

 Let’s Go Back a Year

If a practitioner or taxpayer filed an original return during 2020 and has “confirmed” that the IRS has no record of receiving it, TAS recommends refiling the original return on paper, attaching a cover letter and/or a note across the top that the return is being resubmitted, and including information about when the first return was filed. If there is an outstanding tax due, the resubmission may trigger the failure-to-file and failure-to-pay penalties and interest. TAS is asking the IRS to consider applying an abatement that will not result in the use of the taxpayer’s first-time abatement, thereby preserving it for future use.

NTA Blog: Bumps in the Road Sequel: Update on the Filing Season Challenges: Part I - Taxpayer Advocate Service (irs.gov)

NTA Blog: Bumps in the Road Sequel: Update on the Filing Season Challenges: Part II - Taxpayer Advocate Service (irs.gov)

Significant Concern with the IRS Correspondence Audit Function

David R. Stubblefield, EA, Smith Jackson Boyer & Bovard PLLC

A correspondence audit is generally considered the simplest and least invasive type of an IRS audit, conducted remotely through letters and phone calls with the IRS examiner. However, practitioners and taxpayers have encountered a breakdown in the process relating to correspondence audits with no fix in sight.

When a Substitute for Return (SFR) or other audit activity produces an Examination Report, the cover letter contains the name of the Correspondence Audit Unit representative—or examiner—as a contact person. However, during the COVID-19 operational shifts, it appears that these examiners no longer have their direct contact phone lines, which impedes timely communication from practitioners or taxpayers who have questions or want to discuss their case. A central number is listed on the cover letter but, when called, indicates a “high call volume” statement and the call is terminated. Also, there is no e-fax number given for the taxpayer or their representative to reach the examiner with questions or to provide information on the discrepancy.

The Correspondence Audit Unit is sending out automated form letters that are not customized to address the case status. For example, a requested Form 1040 tax return was certified mailed to the Ogden Correspondence Audit Unit in May 2021 and not opened until August 2021. In the interim, the IRS sent a letter to the taxpayer that the information had been submitted and reviewed and the SFR audit report would still be used to assess additional tax, penalties and interest. It was only when the envelope was opened in August that someone from the IRS called the taxpayer’s representative to acknowledge receipt.

With the IRS increasing the number of correspondence audits, it is imperative that the assigned examiner have a direct line as well as an assigned e-fax number. If a certified mail envelope containing information is important enough to be sent in that manner, there must be some priority within the IRS to expedite opening the envelope and take appropriate action.

Another area of concern with the correspondence audit process is that while the initial contact letter to the taxpayer assigns an IRS examiner to the case, there is no guarantee that the taxpayer/representative will be talking to that individual. If a correspondence audit takes 3-4 months to complete, the taxpayer or representative might talk to four different examiners who will have to rely on the quality of the case notes by prior examiners. There is no continuity of case knowledge on the part of the IRS. The Taxpayer Advocate Service continues to support a single point of contact for all correspondence audits.

NTA Blog: Lifecycle of a Tax Return: Correspondence Audits

TXCPA Committee Urges Improved Taxpayer Services

TXCPA’s Federal Tax Policy Committee, in its continuing effort to assist practitioners in their dealings with the IRS by putting taxpayers first, has issued a letter outlining some specific instances of problematic and troubling actions on the part of the IRS. The committee asks that the IRS stop collection efforts and other administrative actions against taxpayers while related correspondence is unread or unresolved, address inaccessibility of the IRS phone system, and implement the National Taxpayer Advocate’s recommendations for more efficient communications.

https://www.tx.cpa/docs/default-source/comment-letters/federal-tax-policy/2021/irs-backlog-notices-9-15-21.pdf?sfvrsn=cd47d4b1_2

Correcting Errors in Employee Plans

The IRS has made it easier to correct errors in employee plans. The IRS issued Rev. Proc. 2021-30, which updates the IRS Employee Plans Compliance Resolution System (EPCRS). The Rev. Proc. is applicable to all errors that caused the plan to be non-compliant with the requirements of Code Sections 401(a), 403(a), 403(b), 408(k) and 408(p). Accordingly, the Rev. Proc. now enables employee plan sponsors to correct plan document failures, failures in the operation of the plan, demographic failures and employer eligibility failures.  

Depending on the type of plan failure, the 140-page Rev. Proc. provides guidance for the Self-Correction Program, the Voluntary Correction Program or the Audit Closing Agreement Program.

The changes made by the Rev. Proc. were generally effective July 16, 2021, and include:

• Generally, plan sponsors do not have to require repayments from plan participants that received overpayments and, generally, the plan sponsors do not have to reimburse the plan for these overpayments.
• The correction period for correction of errors under the “self-correction” category has been extended from two to three years.
• It facilitates the correction of operational failures by eliminating the requirement that all participants in the plan benefit by the retroactive amendment.
• It raises the threshold amount for when a sponsor is required to correct an error from $100 to $250.
• Beginning Jan. 1, 2022, plan sponsors can request an anonymous, no-cost conference with the IRS to discuss their intent to do a voluntary correction.

Updated IRS Correction Principles and Changes to VCP Outlined in EPCRS Revenue Procedure 2021-30 | Internal Revenue Service

IRS Notice 2021-49, Reporting of 2020 ERC Credits and ERC Eligible Shareholder Wages

By Chris Keegan, CPA-Austin

The IRS recently provided Notice 2021-49 to address various outstanding issues and questions related to the employee retention credit (ERC). One item of note deals with the requirements related to income tax reporting of credits claimed for 2020 wages paid.

Timing of Qualified Wages Deduction Disallowance

Any credit claimed through the ERC program will result in a reduction of wage expense claimed to the extent of the credit amount (Section 280C). This treatment is common with wage-based credits. Due to timing issues of eligibility for the 2020 ERC and release of related IRS guidance, many taxpayers did not claim the ERC on their 2020 wages until 2021, if they have yet at all. Many 2020 returns have already been filed and other taxpayers and preparers have been waiting to file their 2020 taxes pending guidance on 2020 ERC reporting. 

The IRS has taken the position that any 2020 credit claimed based on 2020 wages paid must be reported as a reduction of the deduction allowed for qualified wages in the year the wages were paid. If taxpayers are claiming the ERC on their 2020 wages through the filing of amended 2020 Forms 941, those credits must be reflected on their 2020 income tax returns. If 2020 returns have already been filed, amended returns or administrative adjustment requests, if applicable, will need to be filed to reflect the credit being claimed. This has the potential to lead not just to the need for amended business returns, but also amended returns for Schedule K1 recipients. 

              Eligible Shareholder Wages

Notice 2021-49 also addresses the issue of eligible wages for a greater than 50% shareholder, including issues related to attributed ownership. Based on the guidance in this notice, wages paid to a more-than 50% owner are not eligible for the ERC if the owner has any living relative regardless of them being employed by the business. This includes a child, sibling, parent, grandparent, grandchildren, aunt, uncle, niece, nephew and/or in-law. This guidance has made it exceedingly difficult for an owner’s wages to be qualified for the ERC. TXCPA’s Federal Tax Policy Committee is monitoring IRS correspondence for any additional guidance that might grant relief to these rules.

IRS Notice 2021-49 also includes guidance on various other ERC issues, including:

• Definition of “full-time equivalents” for purposes of the ERC,
• Guidance on determining gross receipts drop,
• Recovery startup business claims for the ERC, and
• Treatment of tips and application of tip credit.

Potential Legislation Could Eliminate Q4 Benefit

H.R. 3684, the Infrastructure Investment and Jobs Act, contains a “pay-for” provision that would terminate the ERC at the end of Q3 2021 (except for recovery startup businesses) instead of letting it run through Q4. The House is set to consider the infrastructure bill on Sept. 27, so the fate of the last quarter remains uncertain. Stay tuned.

https://www.irs.gov/pub/irs-drop/n-21-49.pdf

https://www.irs.gov/newsroom/faqs-employee-retention-credit-under-the-cares-act

https://www.journalofaccountancy.com/news/2021/aug/irs-updates-employee-retention-tax-credit.html

IRS Memo Clarifies Some Additional Child Tax Credit Issues

In an internal memo, the IRS has clarified some issues regarding the additional Child Tax Credit.

Additional Child Tax Credit

Generally, the additional Child Tax Credit (CTC) is the refundable portion of the CTC. To claim the additional CTC, a taxpayer must have at least $2,500 in taxable income and one qualifying child. The CTC is usually limited to $2,000 per qualifying child and the additional CTC is usually limited to $1,400.

However, for 2021, the American Rescue Plan Act temporarily increased the CTC to $3,000 ($3,600 for qualifying children under age 6) and made the credit 100% refundable.

Also, for 2021, eligible taxpayers can receive an additional CTC even if they have no taxable income.

IRS Clarifies Issues

The IRS' memo clarifies the following issues regarding the additional CTC:

1. Certain individuals are entitled to the additional CTC if they get less than the full amount of the CTC. The additional CTC may result in a refund even if no tax is owed.
2. To be a qualifying child for the CTC, the taxpayer must claim the child as a dependent and the child's taxpayer identification number (TIN) must be reported on the taxpayer's tax return.
3. There are special rules for taxpayers claiming a religious (e.g., Amish/Mennonite) or conscience-based objection to obtaining a TIN for themselves and their children.
4. For tax years after 2015, taxpayers who file Form 2555, Foreign Earned Income, cannot claim the additional CTC.
5. If a bona fide resident of Puerto Rico has U.S. government wages, they cannot exclude those wages under Code Sec. 933, which applies to income derived from sources within Puerto Rico. Such taxpayers must file Form 1040 or Form 1040-SR, and use Schedule 8812, Additional Child Tax Credit, to claim the additional CTC.
6. For 2018 and 2019, taxpayers affected by a disaster may elect to use their prior year earned income when calculating the additional CTC. Generally, to use prior year earned income (PYEI), the taxpayer's main home must have been in a Presidentially Declared Disaster that occurred in 2018 or 2019.
7. For 2020, the Taxpayer Certainty and Disaster Tax Relief Act of 2020 allows taxpayers to figure their additional CTC using their 2019 earned income if it is more than their 2020 earned income. Taxpayers should enter PYEI and the dollar amount of their 2019 earned income on the dotted line for additional CTC. Taxpayers electing to use PYEI when figuring their 2020 additional CTC and who also claim the Earned Income Tax Credit (EITC) may also elect to use PYEI when figuring their 2020 EITC, but they are not required to do so.

Interim IRM Procedural Update

Taxpayers and Tax Pros Should be Ready to Verify Their Identity When Calling the IRS

In IRS Tax Tip 2021-110, the IRS indicates that taxpayers and tax professionals will be asked to verify their identity whenever they call the IRS.

IRS phone assistors only discuss personal information with the taxpayer or a representative. To ensure that taxpayers do not have to call back, they should have the following information ready:

• Social Security numbers (SSN) and birth dates for those who were named on the tax return,
• An Individual Taxpayer Identification Number (ITIN) letter if the taxpayer has one instead of an SSN,
• Filing status: single, head of household, married filing joint or married filing separate,
• Copy of the tax return in question,
• Prior-year tax return if phone assistor needs to verify taxpayer identity with info from the return before answering certain questions, and
• Any IRS letters or notices received by the taxpayer.

Before calling about a third-party, tax professionals should have the following information available:

• Verbal or written authorization from the third-party to discuss the account,
• Ability to verify the taxpayer's name, SSN or ITIN, tax period and tax forms filed,
• Preparer Tax Identification Number (PTIN) if a third-party designee, and
• Current, completed and signed Form 8821, Tax Information Authorization or Form 2848, Power of Attorney and Declaration of Representative.

NTA Updates Guidance on Case Issues Accepted for Public Policy Reasons

In internal Memo TAS-13-0721-0008, the National Taxpayer Advocate (NTA) issued interim guidance authorizing four new issues that will be accepted for public policy reasons under TAS Criteria 9, Public Policy.

TAS case acceptance criteria.

Generally, the TAS (Taxpayer Advocate Service) accepts cases when a taxpayer is seeking help with any of the following:

1. Is experiencing economic harm or is about to suffer economic harm due to the IRS,  
2. Is facing an immediate threat of adverse action from the IRS,  
3. Will incur significant costs if TAS does not provide help (including fees for professional representation),
4. Will suffer irreparable injury or long-term adverse impact if TAS does not provide help,  
5. Has experienced a delay of more than 30 days to resolve a tax account problem,
6. Has not received a response or resolution to a tax account problem or inquiry by the date promised, 
7. Has been failed by a system or procedure that did not operate as intended, or that failed to resolve the taxpayer’s problem or dispute with the IRS, 
8. Has had their rights impaired, or those rights will be impaired, by the way the IRS is administering the tax laws, or
9. Has been determined by the NTA to warrant assistance for compelling public policy reasons (TAS Criteria 9, Public Policy). (IRM 13.1.7.1).

TAS will accept four new issues for public policy reasons.

The TAS will accept the following four issues under Criteria 9, Public Policy:

1. Cases involving the tax-exempt status of organizations subject to an IRS automatic revocation of the organization’s tax-exempt status for failure to file an annual return or notice for three consecutive years,
2. Cases involving any tax account-related issue referred to TAS from a Congressional office, except for Economic Impact Payment (EIP) issues, unemployment compensation exclusion issues and Advance Child Tax Credit issues,
3. Cases involving revocation, limitation or denial of a passport under Code Section 7345,
4. Cases that have been referred to a private collection agency for collection of a federal tax debt under Code Section 6306.

The Memo notes that TAS should accept, under Criteria 9, Public Policy, a case with one of these four issues listed above only if the case does not meet any of the TAS Criteria 1-8.

The Memo supersedes TAS-13-0521-0005 and the guidance expires July 5, 2023. It will not be incorporated into IRM 13.1.7 because new guidance on issues authorized for acceptance under Criteria 9 is issued at least once every two years.

IRS Released Draft Form 941-X

The IRS has issued a revised draft of Form 941-X, Adjusted Employer's Quarterly Federal Tax Return or Claim for Refund. The revision adds lines to allow for the correction of various credits reported on the most recent version of Form 941 for 2021, Employer's Quarterly Federal Tax Return (Rev. June 2021).

Lines 18a-d of the draft Form 941-X are used to correct the reporting of the nonrefundable portion of the employee retention credit, the nonrefundable portion of credit for qualified sick and family leave wages for leave taken after March 31, 2021, the nonrefundable portion of COBRA premium assistance credit and the number of individuals provided COBRA premium assistance.

Lines 26a-c of the draft Form 941-X are used to correct the reporting of the refundable portion of employee retention credit, the refundable portion of credit for qualified sick and family leave wages for leave taken after March 31, 2021, and the refundable portion of COBRA premium assistance credit. 

https://www.irs.gov/pub/irs-dft/f941x--dft.pdf