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February 2018

Deferred Tax Assets and Liabilities

 

By William R. Stromsem, JD, CPA

The Tax Cuts and Jobs Act of 2017 lowered the corporate income tax rate to a flat 21 percent and provided a one-time deemed repatriation tax on controlled foreign corporations’ current earnings and prior untaxed earnings back to 1986. The repatriation rate is 15.5 percent on liquid assets and 8 percent on illiquid assets instead of the prior 35 percent rate. Many large corporations are reporting radical changes to their bottom line from adjustments to their deferred tax assets and liabilities.

It is difficult to estimate the book income effect of the repatriation tax because we do not know how management may have initially accounted the deferred tax, with many companies assuming that earnings would be perpetually reinvested overseas and not booking deferred tax liabilities. Also, there is uncertainty as to when repatriation will be recognized with the new tax law allowing the tax to be paid over up to eight years. Some companies will pick up the tax expense immediately, with Apple announcing that it will pay $38 billion to repatriate its foreign earnings of $252.3 billion that have not been previously taxed in the U.S. It is estimated that more than $2.6 trillion in corporate profits are sitting in foreign bank accounts. 

For tax rate changes, recent reports in the press show major companies taking hits: Amgen, $6-6.5 billion; Bank of America, $3 billion; and Credit Suisse, $2.32 billion. Fannie Mae and Freddie Mac had net operating losses from the financial meltdown and will have to adjust the value of their deferred assets downward by a combined total of $10-$20 billion. However, about two-thirds of the companies in the Dow Jones Industrial Average will have a boost in income as a result of reducing deferred tax liabilities. These include Verizon, $18.4 billion; Exxon, $12 billion; Pfizer, $17.5 billion; and Apple, $11 billion.   

These valuation changes flow through the income statement, but most savvy analysts view this as not important and a distraction from real operating results. On the first page of his annual letter to shareholders, Warren Buffet commented on the $24 billion increase in Berkshire Hathaway income from adjusting its deferred taxes, saying that it distracted from operating results and, “For analytical purposes, Berkshire’s ‘bottom-line’ will be useless.”

Smaller corporations have less dramatic dollar amounts, but they still must make required valuation adjustments to their deferred taxes and be prepared to explain unexpected results to owners and lenders.  

Accounting for taxes is a generally shared responsibility for financial accounting and tax experts, but often they each look at the other as having the primary responsibility. Financial accountants sometimes see tax accounting as tax, and tax experts see tax accounting as having FINs (financial interpretations). The important thing is for everyone to know what is required at this point. Accounting Standards Codification (ASC) 740, Income Taxes, requires adjustments to the beginning of the year balance of a valuation allowance if there is a change in circumstances that causes a change in management’s judgment about the realizability of the recognized deferred tax assets. A valuation allowance is required if it is more likely than not that some or all of the deferred tax asset will not be realized in the future. ASC 740 also requires analysis and disclosure of changes to deferred tax assets, which will help in seeing how corporations are managing their deferred tax assets and liabilities. 

 

William R. Stromsem, JD, CPA, is a technical writer for TSCPA’s Federal Tax Policy Committee and an assistant professor at George Washington University School of Business.

 


Secure Access for e-Services

 

As you probably know, the IRS has revamped e-Services to make it more secure. In the IRS’ words:

 

Starting Dec. 10, 2017, all e-Services users must register through a new, more rigorous identity proofing process called Secure Access.

 

Any e-Services user who has not previously created a Secure Access account through Get Transcript Online, IP PIN tool, View Balance or by exception processing in recent days must validate their identity through this more rigorous process. This also includes all TIN Matching users and users who received Letter 5903 last December and authenticated by telephone.

 

This new process is not optional on the part of the IRS or its online users. We apologize for the short notice, but as you know we’ve been planning this move for more than a year. The IRS must make this change to meet federal information system standards. Additionally, cybercriminals increasingly are targeting tax professionals to steal e-Services usernames and passwords, putting taxpayer data at risk.

 

In recent years, we authenticated each e-Services user individually. When you registered for e-Services, you were asked for your name, address, Social Security number, your date of birth, adjusted gross income and filing status. That limited amount of information no longer is enough to meet federal information system standards. Users will continue to be authenticated as individuals.

 

Here’s how Secure Access helps –

 

·        First, it strengthens the initial identity proofing process to make sure the person registering is who they say they are.

 

·        Second, it strengthens security through a two-factor authentication process for returning users that helps prevent account takeover by cybercriminals. Two-factor authentication means you must have your credentials (username and password) plus a security code sent to your mobile phone or generated by your IRS2Go app each time you log in.

 

Once you have authenticated your identity and established a Secure Access account for e-Services, there is no further action required. Please note: under Secure Access, you can no longer script the login process.

 

Learn more about the steps you must take to successfully complete the Secure Access process, alternatives to online processing and how to use the IRS2Go app. See “Important Update about Your e-Services Account” at www.irs.gov/eservices.

 

We have heard that the new protocol is not going very smoothly for many e-Services users. The National Taxpayer Advocate reported last year that the verification rate was about 30 percent.

 

One member shared that every time she tried to log in, an error message indicated that the site was down for maintenance (although the IRS had not issued any alerts). After several weeks of trying, she gained access, but the system could not confirm her mobile number. If this happens, the IRS will mail a PIN within five to 10 calendar days (according to its website). Count on 10 days.

 

The good news is that once authentication is re-established, it works well. You will receive a six-digit security code on your cell phone each time you log in. When you enter this code, a page titled “Online Security Information” shows your recent login history. You can retrieve transcripts for clients for whom you have a Power of Attorney on file and perform other tasks. 

 

If you were not a user before this change was implemented, you can register as a new user. Just be patient!

 

https://www.irs.gov/individuals/secure-access-how-to-register-for-certain-online-self-help-tools


Safe Harbor Methods for Determining Natural Disaster Casualty Losses

 

By David P. Donnelly, CPA-Houston, and Lindsay Verbit, CPA

With the natural disasters that occurred in 2017, many CPAs are helping their clients with casualty loss deductions. Some of these clients may expect the CPA to assist in determining the amount of the loss. However, this is not a service that CPAs are licensed to perform.

The IRS has issued guidance for these taxpayers by providing safe harbors for determining the amounts of these losses in Revenue Procedures 2018-8 and 2018-9.

Revenue Procedure 2018-8 provides safe harbors for estimating casualty losses for personal-use residential property and personal belongings.

For personal-use residential property, taxpayers, regardless of their location, can use the following methods:

  • Estimated repair cost: A taxpayer may use the lesser of two repair estimates from licensed contractors to determine their loss. This method cannot be used for casualty losses greater than $20,000.
  • De minimis: A taxpayer may estimate the cost of the repairs required to restore the personal-use residential real property to the condition existing immediately prior to the casualty. This method cannot be used for casualty losses greater than $5,000 and must be based on a good-faith estimate.
  • Insurance: The taxpayer may use an insurance company’s estimate of loss.

For taxpayers in federally declared disaster areas, in addition to the above, the following methods are acceptable:

  • Contractor safe harbor: A taxpayer can use the repair cost from an independent licensed or registered contractor, or
  • Disaster loan appraisal: The taxpayer may use the damage estimate from a federal disaster loan.

In all cases, the taxpayer can only use repair estimates that restore the property to the standard and condition immediately before the casualty. Any cost used to increase the value above its original state may not be included.

For personal belongings, the taxpayer can use:

  • A good faith estimate of the loss, if the loss is less than $5,000.
  • Current replacement cost: The taxpayer may use the current replacement cost, decreased by 10 percent per year of ownership to a minimum of 10 percent of the replacement cost. See the table below:

            o   Specifically excluded are boats, aircrafts, vehicles, trailers, mobile homes and antiques

Personal Belongings Valuation Table

 

Year

Percentage of Replacement Cost to Use

1

90%

2

80%

3

70%

4

60%

5

50%

6

40%

7

30%

8

20%

9+

10%

 

Revenue Procedure 2018-9 provides a cost index method for taxpayers to determine their losses to personal residential property due to the 2017 Harvey, Irma and Maria federally declared disaster areas.

The tables establish a cost per foot value for different losses on a personal residence under the circumstances listed below:

  • Total losses
  • Near total losses
  • Interior flooding over one foot
  • Structural damage from wind, rain or debris
  • Roof covering damage from wind, rain or debris
  • Damage to a detached structure
  • Damage to decking

Cost indexes are provided for each category of loss, for each of the different geographical areas and for different sizes of residential property. See the table below as an example for total losses:

 

Personal Residence Size and Location

Texas

Louisiana

Florida

Georgia

South Carolina

Puerto Rico

U.S. Virgin Islands

Small Personal Residence (Personal residence is less than 1,500 square feet)

$231

$231

$235

$231

$231

$231

$293

Medium Personal Residence (Personal residence is between 1,500 and 3,000 square feet)

$195

$195

$208

$195

$195

$195

$248

Large Personal Residence (Personal residence is greater than 3,000 square feet)

$174

$175

$193

$174

$175

$175

$222

 

For the taxpayer, the methodology to use Rev Proc 2018-9 appears to be:

  1. Determine the type of loss based on the information in Section 3.03(1-7). This prescribes which tables should be used. Certain tables may be used in combinations with one another.
  2. Ascertain the total number of square feet in the property. This information may be available from the taxpayer or some appraisal districts have this on their websites.
  3. Based on the size and location of the property, determine which section of the table to use.
  4. Multiply the number of square feet by the allowance for the location and compare to the basis of the property. The smaller of these amounts is the loss.

In all cases, whether using Rev Proc 2018-8 or 2018-9, losses must be reduced by insurance reimbursements and the value of no-cost repairs.

These two Rev Procs appear to be very useful to clients who are not willing to pay the cost of a before and after appraisal of their property and who otherwise may pressure their tax professional to help them estimate those losses. 

Disclaimer: This is a summary of some of the information provided in the revenue procedures. Practitioners are cautioned to read and understand the guidance before advising clients on how to use these safe harbors.

https://www.irs.gov/individuals/tax-law-provisions-for-disaster-areas

https://www.irs.gov/pub/irs-drop/rp-18-08.pdf

https://www.irs.gov/pub/irs-drop/rp-18-09.pdf

 


TSCPA Committee Urges Congress to Support IRS Funding

This week, TSCPA’s Federal Tax Policy Committee urged Congress to support the IRS budget at a level to properly fund taxpayer services and to implement recent significant tax law changes. The committee believes a newly appointed commissioner (awaiting confirmation), along with a well-funded budget to support tax compliance, fund taxpayer information security, and to administer the revised tax laws, could bring change and restore congressional and public confidence in our tax system. Without adequate funding, both taxpayers and the tax system will continue to suffer.

https://www.tscpa.org/docs/default-source/comment-letters/federal-tax-policy/2018/letter-to-congress-on-irs-funding-feb-2018.pdf?sfvrsn=2


Responding to Subpoena for Client Records

 

IRS Office of Professional Responsibility Director Stephen Whitlock recently reminded tax professionals that in situations where a client is a party in civil litigation regarding a non-tax matter, a preparer should not disclose, pursuant to a subpoena, client tax returns or the associated workpapers used or obtained in connection with the preparation of those returns except:

 

·        After obtaining the client’s written consent to the disclosure; or

 

·        Upon receipt of a valid court order requiring disclosure of the client’s tax returns to an attorney representing an opposing party in a lawsuit filed by or against the preparer’s client or former client.

 

We note that the Rules of Conduct of the Texas State Board of Public Accountancy (Section 501.75) contain substantially similar restrictive rules limiting any disclosure of client information and a CPA’s workpapers, whether or not tax related, and include specific provisions as to when disclosure is permissible.

 

Because of the general authority of an attorney issued subpoena, despite the applicability of these types of restrictions on disclosures, if the CPA ignores the subpoena he/she does so at considerable legal risk. The CPA should consider whether to seek legal counsel. However, the CPA or his/her attorney should inform the attorney issuing the subpoena that he/she is prohibited by federal law, IRC Section 7216 (or state law), from complying with the subpoena. These federal rules and the parallel state rules prohibit disclosure of tax returns, tax return information or any other confidential client information without the taxpayer’s (client’s) consent unless an exception applies. The preparer or his/her counsel should notify the attorney to, instead, obtain a court order signed by a judge for the records. If necessary, the CPA or his/her counsel may need to file a motion to quash the subpoena or take other appropriate legal action to protect the CPA from adverse legal action.

 

https://www.irs.gov/tax-professionals/section-7216-frequently-asked-questions

http://texreg.sos.state.tx.us/public/readtac$ext.TacPage?sl=R&app=9&p_dir=&p_rloc=&p_tloc=&p_ploc=&pg=1&p_tac=&ti=22&pt=22&ch=501&rl=75