Streamlining the Section 754 Election – No Signature Required

By Tom Ochsenschlager, J.D., CPA

The IRS recently issued final regulations regarding the requirements for partnerships to make a section 754 election. The major change from the proposed regulations is that the final regulations remove from regulation 1.754-1(b) the requirement that a partner had to sign the election statement in order to implement the 754 election. This change is effective for tax years ending on or after the Aug. 5, 2022.

As in the proposed regulation, once the election is made, it is applicable to the beginning of the year in which it is filed and all subsequent years until the partnership revokes the election.

The 754 election is particularly important where a partnership has a low basis in its assets that have appreciated to a high value when a new partner enters the partnership.

For example, let’s say five partners each contribute $100,000 for their partnership interest and that the $500,000 is used to acquire land. After several years, the land appreciates in value to $1 million. If a new partner acquires one of the five partners’ interest in the partnership for $200,000 (1/5 of the $1 million value) without a 754 election, the new partner acquires the selling partner’s share of the partnership’s basis in the property - $100,000. The new partner steps literally in the shoes of the partner who sold his/her interest. And therefore, if the property is sold for $1 million, all the partners, including the new partner who acquired his/her interest for $200,000, would have a gain of $100,000. A 754 election enables the partnership to increase its “inside” basis for the property as $200,000 for just the new partner and, accordingly, the partnership would report no gain from the sale for the new partner. In effect, the 754 election equates the partnership’s inside basis for the partner’s “outside” basis.

The revised regulations make this fairness result more efficient by making the 754 election easier.

https://www.govinfo.gov/content/pkg/FR-2022-08-05/pdf/2022-16271.pdf

TXCPA Committee Recommends Congress Direct the IRS to Implement Scanning Technology

In a letter this week to U.S. House Ways and Means Chairman Richard Neal (D-MA) and Ranking Member Kevin Brady (R-TX), TXCPA’s Federal Tax Policy Committee urges Congress to require the implementation of more modern technology for processing federal income tax returns. The technical tools the committee discussed are the same tools that the National Taxpayer Advocate advised the IRS to implement in her 2023 Objectives Report to Congress and includes use of bar coding and optical character recognition. This technology should alleviate the reported 20% error rate due to manually processing the estimated 8 million paper returns that the IRS receives annually.

irs_scanning_tech.pdf (tx.cpa)

IRS is Aware of Sending Some Erroneous CP14 Notices

TXCPA received this alert from an IRS senior stakeholder liaison.

Statement on balance due notices (CP-14)

The IRS is aware that some payments made for 2021 tax returns have not been correctly applied to joint taxpayer accounts, causing these taxpayers to receive erroneous balance due notices (CP14 notices) or notices showing the incorrect amount.

Who is affected:

Generally, these are payments made by the spouse (second taxpayer listed) on a married filed joint (MFJ) return submitted through their Online Account. Some other taxpayers may also be affected outside of this group. 

No immediate action or phone call needed: 

Taxpayers who receive a notice but paid the tax they owed in full and on time, electronically or by check, should not respond to the notice at this time. The IRS is researching the matter and will provide an update as soon as possible. Taxpayers who paid only part of the tax reported due on their 2021 joint return should pay the remaining balance or follow instructions on the notice to enter into an installment agreement or request additional collection alternatives. The IRS indicates that taxpayers can ensure that their payment is on their account by checking Online Account under the Social Security number that made the payment. Any assessed penalties and interest should be automatically adjusted when the payment(s) are applied correctly.

Additional information for tax professionals

In general, when certain payments are processed, programming does not move the payment to the MFJ account when the payment is:

• not electronic and is made by the secondary spouse,

• electronic made by the secondary spouse and posts before the joint return indictor is present to identify the primary taxpayer, or
• made by the secondary spouse using the Online Account (OLA) Make a Payment functionality.

This alert has been updated on the IRS’ website in the following places, IRS Statement on CP14s:

• IRS Operations During COVID-19: Mission-critical functions continue | Internal Revenue Service

• Help for taxpayers and tax pros: Tax season alerts and planning ahead for 2023 | Internal Revenue Service (irs.gov)

Circuit Split Could Have Substantial Implications on ’Proceeds’ Regulations

By Leo Unzeitig, JD, CPA-San Antonio

The Sixth Circuit denied a taxpayer’s rehearing in Oakbrook Land Holdings LLC v. Commissioner earlier this month. The result is that there is now a split between the Sixth and Eleventh Circuits on the validity of certain conservation easement regulations. See Hewitt v. Commissioner, 21 F.4^th 1336 (11^th Cir. 2021). The more important result is the extent to which Treasury is required to consider comments by the public in drafting rules that have the force of law. If you are a taxpayer in the Sixth Circuit, Treasury regulations are more likely to have the force of law even though they ignore comments. In the Eleventh Circuit, the same regulations may not be enforceable if they ignore material comments made by the public. Until the Supreme Court addresses the issue, it is unclear where taxpayers in the rest of the country fall and whether comments made to Treasury are significant and require consideration.

To read more, click here and here. 

TAS Has a Four-Week Delay in Initial Response Time

By Kathy Ploch, CPA-Houston

In a joint meeting last week with TXCPA, the IRS and other professional organizations, Local Taxpayer Advocate-Dallas Bill Roberts and Local Taxpayer Advocate-Houston Gina Smith stated that due to their workload, it is taking up to four weeks for TAS to return phone calls or to reply to initial contacts. This is unprecedented for the TAS office to have such a long delay.

The TAS website:

The Taxpayer Advocate Service is currently experiencing a high volume of assistance requests due to tax return processing delays. As a result, you may experience lengthy wait times while trying to connect with an advocate or while waiting for a return call. We ask for your patience as it may take up to four weeks before we will be able to return your call or reply to your request. We apologize for these delays and are taking steps to reduce hold and response times to better serve you.

TAS has always provided prompt service to taxpayers whose problems are causing financial difficulty. Please be understanding as their offices work through the backlog.

Tax Changes Effective for 2022 Returns

By Tom Ochsenschlager, JD, CPA

Several tax changes are effective in 2022. Some of the more significant changes are:

Child Tax Credits

• Child tax credit reverts back to $2,000 per child under the age of 17 and is only refundable up to $1,500 for low-income parents, and
• Child and dependent care credit for working parents reverts back to $1,050 (was $4,000 in 2021) if one child and $2,100 (was $8,000) if two or more children.

Charitable Contribution Limitations

• Taxpayers who do not itemize are no longer able to deduct up to $300 in cash donations to a charity,
• 60% of AGI limitation on charitable gifts of cash is back, effective in 2022, and
• C corporation’s charitable deductions are again limited to 10% taxable income.

 Health Savings Accounts

• Deduction increased to $3,650 for single and $7,300 for family coverage plus $1,000 for people born before 1968.

Expired Tax Benefits

• Itemized deduction for mortgage insurance premiums,
• Credit for energy efficient doors and windows,
• Tax incentives for qualified fuel-cell motor vehicles and two-wheel plug-ins, and
• Shorter depreciable lives for racehorses and business property located on Native American reservations.

Standard Deduction and Capital Gains Adjustments

• Standard deduction increases:
  • Joint return $25,900 plus $1,400 for each if 65 or older,
  • Single $12,950 plus $1,750 if 65 or older, and
  • Head of household $19,500 plus $1,750 if 65 or older.
• Capital gains thresholds increase:
  • 0% rate if taxable income is less than:
    • Single tax returns $41,675,
    • Head of household $55,800, and
    • Joint return $83,350.
  • 15% rate if taxable income is over the 0% limit but less than the relevant taxable income for the 20% rate,
  • 20% rate starts at taxable income in excess of:
    • Single $459,751,
    • Head of household $488,501, and
    • Joint return $517,201.
  • 3.8% surtax on net investment income is applicable if modified AGI is in excess of:
    • Single $200,000, and
    • Joint $250,000.

Retirement Matters

• Social Security annual wage base increases to $147,000,
• Dollar limits for contributions to retirement plans:
  • 401(k), 403(b) and 457 plans $20,500 plus $6,500 if born before 1973,
  • IRAs and Roth IRAs $6,000 plus $1,000 for “catch up” contributions for individuals 50 or older
• Phase out of IRA and Roth IRA benefits:
  • IRA deduction phases out for AGI between:
    • $109,000 - $129,000 couples, and
    • $68,000 - $78,000 singles.
  • Roth contributions phase out:
    • $204,000 - $214,000 couples, and
      • $129,000 - $144,000 singles.
    • Required minimum distributions of IRAs:
      • Based on new revised life expectancies that reduce the annual RMD.
    • Estate tax:
      • Exemption increased to $12,060,000 in 2022,
      • As much as $1,230,000 of farm or business real estate is eligible for a discount valuation based on its current use rather than fair market value, and
      • If more than 35% of estate value consists of closely held businesses, as much as $656,000 of the tax can be deferred with only 2% interest rate on the amount of the deferral.
    • Gift tax:
      • Annual exclusion increased to $16,000 per donee.

Business Matters

• Research and development expenses are no longer fully deductible – must be amortized over five years (15 years if accomplished outside the U.S.),
• 20% deduction for income from self employment and owners of pass-through entities:
  • Limitations applicable if taxable income exceeds $340,100 joint or $170,050 single,
• Expensing assets:
  • Increased to $1,080,000 but phased out if more than $2,700,000 acquired,
• Cash method availability increased:
  • C corporations and partnerships and LLCs that have C corporations as owners can use the cash method in 2022 if their average gross receipts are no more than $27 million, and
• Employees can deduct up to $280/month for reimbursements their employer provides for parking, mass transit passes and commuter vans.

Tax Changes for 2022 | Kiplinger

Rev. Proc. 2022-32 Five-year Relief for Portability

Roopa Srikanth, CPA-Houston

The IRS issued Rev. Proc. 2022-32 on July 8, 2022 to provide relief for election of portability of a deceased spouse to be elected in five years instead of two years. The two-year relief was previously provided by Rev. Proc. 2017-34. 

Since Dec. 31, 2010, the estate tax lifetime exemption that is unused by the deceased spouse can be elected to be transferred to the surviving spouse by filing Form 706, United States Estate (and Generation-Skipping Transfer) return.

Such a relief is only available if the decedent:

• was survived by a spouse;
• died after Dec. 31, 2010; and
• was a citizen or resident of the U.S. on the date of death.

For example, if in 2022 a deceased spouse had assets worth $7.5 million, the executor or administrator of the deceased taxpayer can file the Form 706 and make a portability election. Since the estate tax exemption in 2022 is $12.06 million, the surviving spouse will get to add $12.06 million - $7.5 million = $4.56 million to their lifetime estate tax exemption. 

Such an exemption can be utilized by the surviving spouse in making taxable gifts during the lifetime or upon death. If used for making gifts, the deceased spouse estate tax exemption that was added will be utilized first before the surviving spouse lifetime exemption. 

The relief provided by the IRS becomes important now more than ever since the current estate and gift tax exemption is scheduled to sunset along with a slew of other Tax Cuts & Jobs Act (TCJA) provisions by Dec. 31, 2025. The lifetime exemption for estates and gifts is supposed to go back to pre-TCJA exemption limits of $5 million cap, which adjusted for inflation will be around $6.2 million. 

This sunset provision makes the portability election very attractive. But one must bear in mind that the portability election does not happen automatically and that the Form 706 has to be filed. Though the Form 706 is much simpler for the portability election estate returns, it is not always practical if the surviving spouse was not actively involved in the financial planning and was not aware of all the assets the deceased spouse had or if there are stepchildren and multiple marriages involved. There can also be the scenario where a surviving spouse might not be aware of the portability election. 

We should also consider the present high rate of inflation and the bear market, where stocks and other investments are losing value and are likely to continue to do so for a while, potentially eroding the assets that the surviving spouse inherits. It is imperative to take into consideration the age and lifestyle of the surviving spouse, as well. 

Considering all these factors, a five-year relief to elect portability is a very attractive option. Generally, a taxable estate must file the estate tax return within nine months of the death of the taxpayer or can get an additional six-month extension. This five-year relief is available only for a non-taxable estate and the election can be made on or before the fifth anniversary of the decedent’s date of death. If making the portability election, the Form 706 should state “filed pursuant to Rev. Proc. 2022-32 to elect portability under Sec. 2010(c)(5)(A)” on the top of the first page.

 

(Roopa Srikanth, CPA, is Tax Manager at Carr, Riggs & Ingram, Houston and can be reached at roopsrik@gmail.com.)

TXCPA Committee Issues Comments on Proposed RMD Regs for Inherited IRAs

The TXCPA Federal Tax Policy Committee issued comments to the IRS on REG-105954-20 proposed regulations related to required minimum distributions (RMDs) for inherited IRAs. The committee urges that these proposed regs be reconsidered, but if not, that the IRS provide penalty relief due to the late guidance.

https://www.tx.cpa/docs/default-source/comment-letters/federal-tax-policy/2022_2023/2022/txcpa-irs-iras071522.pdf?sfvrsn=16d3aeb1_2

New Proposed PFIC Regs Issued by IRS

By Josh Whitworth, CPA-Dallas

Taxpayers and tax practitioners should be aware of the new proposed regulations on Passive Foreign Investment Companies (PFIC) issued in January 2022. If these regs become final, they will potentially increase the compliance obligations of individual taxpayers significantly.

Under current regulations, partnerships are treated as a shareholder under the entity approach. Under the new proposal, domestic partnerships will no longer be treated as shareholders of PFICs. The new proposed regs will treat any partner who is NOT a partnership as a direct shareholder under an aggregate approach. Therefore, if these proposed regs becomes final in their current form, individuals will be responsible for making the applicable elections and complying with the appropriate compliance obligations by filing Form 8621.

Many individual taxpayers may hold extremely small indirect PFIC interests through domestic partnerships. Individuals may have difficulty obtaining the necessary information to make an applicable election such as a Qualifying Electing Fund (QEF) election or complying with disclosure requirements.

This should be concerning to taxpayers and practitioners if the regs become final as the PFIC rules are extremely complex and the individual taxpayer may not be in a position to obtain the necessary information to make the most efficient tax election or even complete the Form 8621 filings. 

AICPA Comments on Proposed Regulations Regarding Passive Foreign Investment Companies & Controlled Foreign Corporations Held by Partnerships & Subchapter S Corporations (REG–118250–20)

2022-00067.pdf (federalregister.gov)

IRA Overcontribution Excise Tax Update

By Janet Hagy, CPA-Austin

The recent tax court case, Couturier v. Commissioner (T.C. Memo, 2022-69), is a timely reminder that excise tax can be retroactively imposed on otherwise closed years. In this case, the taxpayer was determined to have significantly overcontributed to his IRA in 2004. In 2016, the IRS imposed excise tax, penalties and interest on the 2004 overcontribution. The taxpayer tried to argue that the three- and six-year statute of limitations period had expired. The court ruled that, “This excise tax continues to apply to future tax years, until such time as the original excess contribution is distributed to the taxpayer and included in income,” under Sec. 4973(b)(2).

This case is an extreme example of the problem of overcontribution to an IRA, HSA, Coverdell Education Savings or MSA, and the excise taxes that can be assessed. But it also highlights that the IRS’ scrutiny of related prior-year transactions in a future period can result in unfortunate consequences. To start the statute of limitations period, taxpayers should be advised to remove excess contributions and earnings on such excess as soon as possible, and to report any excise tax incurred.

Tax Court in Brief | Couturier v. Commissioner | Taxation of Excess Contributions from IRA - Freeman Law