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2015 Federal Tax Update Book

NSTP's Federal Tax Update and Review Courses provide the seasoned professional and the developing tax practitioner alike with an array of detailed studies in federal tax law issues. NSTP's course builds on basic principles of taxation in order to relate fundamental principles to practical real life issues. At the same time the course focuses on the development of the professional. The Federal Update and Review Course also provides a general review of new developments in the tax community while introducing legislative, judicial and administrative updates.

NSTP's Federal Tax Update and Review Courses provide the seasoned professional and the developing tax practitioner alike with an array of detailed studies in federal tax law issues.

NSTP's course builds on basic principles of taxation in order to relate fundamental principles to practical real life issues. At the same time the course focuses on the development of the professional. The Federal Update and Review Course also provides a general review of new developments in the tax community while introducing legislative, judicial and administrative updates.

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NATIONAL SOCIETY OF TAX PROFESSIONALS<br />

<strong>2015</strong> <strong>Federal</strong> <strong>Tax</strong> <strong>Update</strong> & Review Course<br />

NSTP guiding you through the<br />

changing landscape of the tax world


The<br />

National Society of<br />

<strong>Tax</strong> Professionals<br />

Where the Crossroads of <strong>Tax</strong> Education and<br />

Service to the <strong>Tax</strong> Professional Meet<br />

Presents<br />

The <strong>2015</strong><br />

<strong>Federal</strong> <strong>Tax</strong> <strong>Update</strong><br />

and Review<br />

Seminar<br />

Instructors:<br />

Barry Iacono, EA, NTPI Fellow, CFP<br />

Glenda E. Irizarry-Toro, CPA, MBA<br />

Paul La Monaca, CPA, MST<br />

Isaac McRae III, MST, EA, NTPI Fellow<br />

Anita Robinson, EA, Oregon LTC<br />

Nina Tross, MBA, EA<br />

C.J. Wade, CPA<br />

Developed and Written by<br />

Paul La Monaca, CPA, Master of Science in <strong>Tax</strong>ation,<br />

NSTP Director of Education


Seminar materials and seminar presentations are intended to stimulate thought and<br />

discussion and to provide attendees with useful ideas and guidance in the areas of federal<br />

taxation and administration. These materials as well as the comments of the instructors do not<br />

constitute and should not be treated as tax advice regarding the use of any particular tax<br />

procedure, tax planning technique or device or suggestion or any of the tax consequences<br />

associated with them.<br />

Although the author has made every effort to ensure the accuracy of the materials and the<br />

seminar presentation, neither the author, the presenter nor the National Society of <strong>Tax</strong><br />

Professionals assumes any responsibility for any individual’s reliance on the written or oral<br />

information presented during the presentation. Each attendee should verify independently all<br />

statements made in the materials and during the seminar presentation before applying them to<br />

a particular fact pattern and should determine independently the tax and other consequences of<br />

using any particular device, technique or suggestion before recommending the same to a client<br />

or implementing the same on a client’s or on his or her own behalf.<br />

Copyright © Paul La Monaca <strong>2015</strong>. All Rights Reserved.<br />

These materials may not be reproduced without the express written permission of<br />

Paul La Monaca.


Chapters<br />

I. Reviewing, Understanding and Analyzing the Importance of Adjusted Gross<br />

Income (AGI) and the Impact on the Rest of the Form 1040<br />

II.<br />

III.<br />

IV.<br />

The Year 2016 <strong>Tax</strong> Season Emergency Room: Data at the <strong>Tax</strong> Professional’s<br />

Finger Tips<br />

Introduction to Passive Activity Loss Issues Relating to Real Estate Transactions<br />

Taking a Closer Look at the <strong>Federal</strong> Income <strong>Tax</strong> Issues of the Affordable Care Act<br />

(ACA): It’s Not Going Away!<br />

V. Review of Selected Provisions from <strong>Tax</strong> Legislation of the 21 st Century Needed<br />

to Prepare <strong>2015</strong> <strong>Tax</strong> Returns and Beyond<br />

VI.<br />

VII.<br />

VIII.<br />

IX.<br />

Issues Concerning the “Repair Regulations” and the Impact on Small Business<br />

(T.D. 9636)<br />

Capital Gain and Loss Transaction Issues<br />

<strong>Federal</strong> <strong>Tax</strong> Court Cases<br />

IRS Announcements, Rulings, Revenue Procedures, Etc.<br />

Self-Study Course Questions and Answer Sheet<br />

Supplement: <strong>2015</strong> Draft Forms<br />

Glossary


TABLE OF CONTENTS<br />

Page<br />

I. Reviewing, Understanding, and Analyzing the Importance of Adjusted<br />

Gross Income (AGI) and the Impact on the Rest of the Form 1040 ......................... 1-1<br />

A. The <strong>Tax</strong> Professional’s Role: Focus on AGI ....................................................... 1-1<br />

B. AGI: The Most Important Number on the <strong>Tax</strong> Return ....................................... 1-2<br />

C. Defining Gross Income and Adjusted Gross Income (AGI) ................................ 1-3<br />

D. Partial Chart of Provisions Affected by AGI or Modified AGI<br />

for the Year <strong>2015</strong> ................................................................................................. 1-5<br />

E. §151 Personal Exemption Amounts and the Issue of Phase-out ........................ 1-13<br />

F. §68 Adjusted Gross Income Thresholds for Reduction of Schedule A<br />

Itemized Deductions .......................................................................................... 1-14<br />

G. §151 Phase-Out Provision for Exemptions ........................................................ 1-16<br />

H. §135 Interest from U.S. Savings Bonds Used to Pay Higher Education<br />

Tuition and Fees ................................................................................................. 1-17<br />

I. §6654 Safe Harbor Rules for Required Estimated <strong>Tax</strong> Payments ..................... 1-21<br />

J. §25B <strong>Tax</strong> Credit for Retirement Plans: Saver’s Credit .................................... 1-22<br />

K. §530 Coverdell Education Savings Plans .......................................................... 1-24<br />

L. §221 Student Loan Interest Deduction .............................................................. 1-27<br />

M. §222 Deduction for Qualified Higher Education Expenses ............................... 1-28<br />

N. §219 Traditional IRA Contribution Limits ........................................................ 1-30<br />

O. §408A Roth IRA Contribution Limits ............................................................... 1-32<br />

P. §23 Nonrefundable Adoption Credit and §137 Employer<br />

Adoption Assistance Exclusion ......................................................................... 1-33<br />

Q. Medicare Part B Premiums: Rules For Beneficiaries With<br />

Higher Incomes .................................................................................................. 1-36<br />

i


II.<br />

Page<br />

The Year 2016 <strong>Tax</strong> Season Emergency Room: Data at the<br />

<strong>Tax</strong> Professional’s Finger Tips ..................................................................................... 2-1<br />

A. §1 <strong>Tax</strong> Rate Schedules for <strong>2015</strong> and Proposed <strong>Tax</strong> Rate Schedules<br />

for 2016 ................................................................................................................ 2-1<br />

B. §63 Standard Deduction Amounts ....................................................................... 2-1<br />

C. §32 Earned Income Credit Limitations ................................................................ 2-2<br />

D. Gift <strong>Tax</strong> and Estate Exclusion Amounts .............................................................. 2-4<br />

E. Threshold Amounts for Social Security and Specific Pension<br />

Contribution Provisions ....................................................................................... 2-4<br />

F. §6654 Safe Harbor Rules and Waiver of Penalty for Required<br />

Estimated <strong>Tax</strong> Payments ...................................................................................... 2-5<br />

G. §162(1) Health Insurance Premium Deduction for the Self-Employed<br />

<strong>Tax</strong>payer .............................................................................................................. 2-6<br />

H. §213(d)(10) Long Term Insurance Premium Deductions Based on Age ........... 2-7<br />

I. §101(g)(D)(3) Excluded Benefits from Qualified Long-Term Care<br />

Coverage .............................................................................................................. 2-8<br />

J. §274(n)(3) Meal Allowance Deduction for Certain <strong>Tax</strong>payers ........................... 2-8<br />

K. §280F Year <strong>2015</strong> Luxury Auto Depreciation Dollar Limits and<br />

Lease Inclusion Add-Back Amounts ................................................................... 2-9<br />

L. §162 Standard Mileage Rates ............................................................................ 2-13<br />

M. §6159 Administrative Relief for Entering Into an Installment<br />

Agreement with the IRS ..................................................................................... 2-14<br />

N. Retirement Fund Portability Rules Provide <strong>Tax</strong>payers More Choices .............. 2-16<br />

O. Definition of Limited Partner for Purposes of Self-Employment <strong>Tax</strong>:<br />

(Proposed Reg. §1.1402-(a)-2(h)(3) ................................................................. 2-18<br />

P. Notice of Inconsistent Treatment: Form 8082 .................................................. 2-19<br />

Q. §465 At Risk Limitations: Schedule C and Schedule E Issues and<br />

Form 6198 Reporting Requirements ................................................................. 2-20<br />

ii


Page<br />

R. Education Program Comparison Sheet .............................................................. 2-24<br />

S. Other Important Threshold Amounts ................................................................. 2-25<br />

T. Helping the <strong>Tax</strong> Professional in Understanding and Responding to<br />

IRS CP 2000 Notices ......................................................................................... 2-26<br />

U. §213(d) Eligible Medical Expenses ................................................................... 2-29<br />

V. Worksheets for Aiding Clients in Gathering Deductible <strong>Tax</strong> Data By Types<br />

and Professions: Modeled and Presented through Courtesy of CFS<br />

<strong>Tax</strong> Tools ........................................................................................................... 2-31<br />

• Airline Personnel Deductions ................................................................ 2-32<br />

• Automobile Salesperson Deductions ..................................................... 2-33<br />

• Business Professional Deductions ......................................................... 2-34<br />

• Clergy Deductions ................................................................................. 2-35<br />

• Construction Worker Deductions .......................................................... 2-36<br />

• Day Care Provider Deductions .............................................................. 2-37<br />

• Direct Seller Deductions ........................................................................ 2-38<br />

• Educator Deductions .............................................................................. 2-39<br />

• Entertainer Deductions ........................................................................... 2-40<br />

• Firefighter Deductions ........................................................................... 2-41<br />

• Hairstylist/Manicurist Deductions ......................................................... 2-42<br />

• Law Enforcement Deductions ................................................................ 2-43<br />

• Long Haul Trucker/Overnight Driver Deductions ................................. 2-44<br />

• Medical Professional Deductions .......................................................... 2-45<br />

• Realtor Deductions................................................................................. 2-46<br />

• Self-Employed Individual Deductions ................................................... 2-47<br />

• Vehicle, Travel & Entertainment Expenses ........................................... 2-48<br />

• Missing Information Sheet ..................................................................... 2-49<br />

iii


Page<br />

III.<br />

Introduction to Passive Activity Loss Issues Relating to Real Estate<br />

Transactions ................................................................................................................... 3-1<br />

A. §469: Passive Activity Loss Limitations ............................................................. 3-1<br />

B. Active Participation in Rental Real Estate Activities .......................................... 3-4<br />

C. Real Estate Professionals and the Exception to the Amount $25,000<br />

Special Allowance Limitation .............................................................................. 3-5<br />

D. Self-Rental Rule Issues ........................................................................................ 3-6<br />

E. Disposition of a Passive Activity via Sale ........................................................... 3-7<br />

F. Disposition of a Passive Activity at Death .......................................................... 3-8<br />

G. Disposition of a Passive Activity by Gift .......................................................... 3-10<br />

H. Transfer of a Passive Activity Due to Divorce .................................................. 3-11<br />

I. Disposition of a Passive Activity via Installment Sale .................................... 3-12<br />

J. Sale of a Passive Activity to a Related Party ................................................... 3-13<br />

K. Passive Activity Changes to Active Participation ............................................. 3-14<br />

L. §1031 Deferred Like-Kind Exchange Transactions and the Treatment<br />

of a Suspended PAL........................................................................................... 3-15<br />

M. Utilizing Passive Losses .................................................................................... 3-15<br />

N. <strong>Tax</strong> Court Rules Real Estate Agent Equals Real Estate Professional. (SHRI<br />

and Sudha Agarwal vs. Commissioner, T.C. Summary Opinion 2009-29)<br />

Docket No. 12670-072. Filed March 2, 2009 .................................................... 3-16<br />

O. <strong>Tax</strong> Court Rules Real Estate Agent Not a Real Estate Professional (Gregory<br />

John Bahas and Linda A. Bahas v. Commissioner U.S. <strong>Tax</strong> Court, T.C.<br />

Summary Opinion 2010-115) Docket No. 29381-092.<br />

Filed August 16, 2010 ........................................................................................ 3-22<br />

P. 9 th Circuit Upholds §469 Self-Rental Regulations (Beecher, CA9, 3/23/2007,<br />

99 AFTR 2d 2207-712) .................................................................................... 3-27<br />

iv


Page<br />

IV.<br />

Taking a Closer Look at the <strong>Federal</strong> Income <strong>Tax</strong> Issues of the Affordable Care<br />

Act (ACA): It’s Not Going Away! ................................................................................ 4-1<br />

A. Introduction to the Legislation ............................................................................. 4-1<br />

B. <strong>Tax</strong> Changes and the Universal Health Care Coverage Requirements ................ 4-1<br />

C. Health Coverage Exemptions .............................................................................. 4-2<br />

D. §36B Premium Assistance Credit ........................................................................ 4-5<br />

E. §36B Details....................................................................................................... 4-12<br />

F. <strong>2015</strong> Congressional Research Service Report to Congress ............................... 4-24<br />

G. Claiming an Exemption from the Mandate ........................................................ 4-28<br />

H. Household Income: 100% - 400% of “<strong>Federal</strong> Poverty Level” (FPL) .............. 4-28<br />

I. Premium Credit In <strong>2015</strong> ..................................................................................... 4-29<br />

J. Premium Credit Examples: Self Only And Family Coverage ........................... 4-32<br />

K. Discussion of “Self Only Coverage” Examples................................................. 4-35<br />

L. Discussion of “Family Coverage” Examples ..................................................... 4-36<br />

M. Reconciliation of Advanced Premium Credits on IRS Form 8962<br />

Premium <strong>Tax</strong> Credit ........................................................................................... 4-36<br />

N. Exchange Plan Selection and Premium Credits ................................................. 4-38<br />

O. §4980H Shared Responsibility for Employers Regarding Health Coverage ..... 4-39<br />

P. Partial Chart of <strong>Tax</strong> Provisions by Code Section .............................................. 4-57<br />

Q. Partial Chart of <strong>Tax</strong> Provisions by Effective Date ............................................. 4-58<br />

V. Review of Selected Provisions from <strong>Tax</strong> Legislation of the 21 st Century<br />

Needed to Prepare <strong>2015</strong> <strong>Tax</strong> Returns and Beyond ..................................................... 5-1<br />

A. Congress Enacts <strong>Tax</strong> Provisions in a Non <strong>Tax</strong> Legislative Bill .......................... 5-1<br />

B. §25A Hope Scholarship Credit Gets Some Temporary Modifications ............... 5-8<br />

v


Page<br />

C. §24(d)(4) Refundable Portion of Child <strong>Tax</strong> Credit ........................................... 5-10<br />

D. §32(b)(3)(A) Earned Income Credit Percentage for Families<br />

with Three or More Qualifying Children ........................................................... 5-12<br />

E. Alternative Minimum <strong>Tax</strong> (AMT) Issues .......................................................... 5-13<br />

F. Pension Plan Issues: Employer Deferral Plans .................................................. 5-15<br />

G. Employer Deferral Plans and the §401(k), §403(b), §457(b) Roth<br />

Elections ............................................................................................................. 5-17<br />

H. Profit Sharing Plans ........................................................................................... 5-18<br />

I. §408(d)(8) Individuals Retirement Accounts and Qualified<br />

Charitable Distributions ..................................................................................... 5-18<br />

J. §408A(e) Allows More Rollovers to Roth IRA Plans ....................................... 5-21<br />

K. §402(I) Limited Exclusion from Government Pension Plans<br />

Available for Retired Public Safety Officers (PSO) .......................................... 5-22<br />

L. §401(a)(36) Distributions During Working Retirement .................................... 5-25<br />

M. §414(d) Distributions to Qualified Public Safety Employees ........................... 5-26<br />

N. §108 Home Mortgage Debt Relief Expired After 12/31/2014 .......................... 5-27<br />

O. §6050W Returns Relating to Payments Made in Settlement of<br />

Payment Card and Third Party Network Reporting: Form 1099-K .................. 5-31<br />

P. §164(b)(5) Election to Claim an Itemized Deduction for State and<br />

Local Sales <strong>Tax</strong> .................................................................................................. 5-32<br />

Q. §62(a)(2)(D) Above-The-Line Deduction For Teachers’ Classroom<br />

Expenses ............................................................................................................ 5-32<br />

R. §6721 Penalties for Failure to File Correct Information Returns ...................... 5-33<br />

S. §6722 Penalties for Failure to Furnish Correct Payee Statements ..................... 5-34<br />

T. Dependent Health Benefits Extended for Adult Children Until<br />

Date of 26 th Birthday .......................................................................................... 5-35<br />

vi


Page<br />

U. Employees Get An Exclusion from Income for Employer-Provided Health<br />

Coverage Extended to Cover Adult Children Under Age 27 ............................ 5-36<br />

V. Self-Employed Individuals May Deduct Health Insurance Premiums<br />

Paid for Children Under Age 27 ....................................................................... 5-37<br />

W. 7 ½% Floor on Schedule A Medical Expense Deduction Increased<br />

to 10% with Transaction Rules for Seniors ....................................................... 5-38<br />

X. Annual Contribution to Health Flexible Spending Accounts (FSA)<br />

Capped ............................................................................................................... 5-39<br />

Y. Reimbursements and Distributions of Qualified Medical Expenses<br />

from FSA, HSA, HRA, and Archer MSA Plans Limited for Purposes of<br />

Over-the-Counter Medicines and Drugs ............................................................ 5-40<br />

Z. Additional Medicare <strong>Tax</strong> Imposed on Wages: Hospital Insurance (HI) ........... 5-41<br />

AA. Additional HI <strong>Tax</strong> Imposed on Self-Employment Income ............................... 5-45<br />

BB. §164(f) No Income <strong>Tax</strong> Deduction for the §1401(b)(2) HI <strong>Tax</strong> ....................... 5-48<br />

CC. Individual <strong>Tax</strong>payer’s Net Investment Income Subject to Medicate <strong>Tax</strong> ......... 5-48<br />

DD. Estates and Trusts Subject to Medicare <strong>Tax</strong> on Net Investment Income .......... 5-56<br />

EE.<br />

American <strong>Tax</strong>payer Relief Act of 2012 Partial Chart of Provision<br />

Changes .............................................................................................................. 5-58<br />

VI.<br />

Issues Concerning the “Repair Regulations” and the Impact on Small Business<br />

(T.D. 9636) ...................................................................................................................... 6-1<br />

A. Background Issues of Current Year Deductibility vs. Capitalization and<br />

Depreciation ............................................................................................................... 6-1<br />

B. Final Regulation Issues .............................................................................................. 6-2<br />

C. <strong>Tax</strong>payers with Applicable Financial Statements (AFS) vs <strong>Tax</strong>payers<br />

without AFS ............................................................................................................... 6-4<br />

D. Understanding the Deductibility of Materials and Supplies ...................................... 6-7<br />

vii


Page<br />

VII. Capital Gain and Loss Transaction Issues .................................................................. 7-1<br />

A. §1(h) Long Term Capital Gains and Qualified Dividends Provided<br />

Preferential <strong>Tax</strong> Rates .......................................................................................... 7-1<br />

B. §1(h)(10) Pass-through Entities and the Capital Gain Provisions ....................... 7-5<br />

C. §1250 Unrecaptured Depreciation on the Sales of Rental Real Estate ................ 7-5<br />

D. §55(b)(3) Alternative Minimum <strong>Tax</strong> (AMT) Rates ............................................ 7-6<br />

E. §1211 Limitation on Capital Losses .................................................................... 7-6<br />

F. §1091 Wash Sale Transactions ............................................................................ 7-7<br />

G. §1233 Gains and Losses from Short Sale Security Transactions ........................ 7-9<br />

H. Character of Capital Gain or Loss on Short Sales ............................................. 7-10<br />

I. §1244 Losses on Small Business Stock ............................................................. 7-11<br />

J. Nonqualified Use of a Principal Residence Disallows §121 Exclusion<br />

of Income ........................................................................................................... 7-13<br />

VIII. <strong>Federal</strong> <strong>Tax</strong> Court Cases ............................................................................................... 8-1<br />

A. Individual’s Consulting Activity Not for Profit: Deductions Disallowed and<br />

Penalties Imposed (Kurt Anthony Strode vs. Commissioner, TC Memo,<br />

<strong>2015</strong>-117) (June 25, <strong>2015</strong>) .................................................................................. 8-1<br />

B. Individual’s Unsubstantiated Business Expense Deductions Denied: Penalties<br />

Imposed (E.W. Lau, TC Memo <strong>2015</strong>-137) (July 31, <strong>2015</strong>) .............................. 8-5<br />

C. Accountant’s Unsubstantiated Deductions Denied: Penalties Imposed (S. Flying<br />

Hawk, TC Memo <strong>2015</strong>-139) (August 5, <strong>2015</strong>) ................................................. 8-7<br />

D. Poor Substantiation Kills Charitable Deduction for $27,000 of Non-Cash<br />

Contributions (Thad Deshawn vs. Commissioner 108 T.C.M. 384, TC Memo<br />

2014-203) (October 2, 2014) .............................................................................. 8-9<br />

E. <strong>Tax</strong> Court Denies Individual’s §170 Non-Cash Charitable Contributions<br />

(Roberta Lee Howe vs. Commissioner, U.S. <strong>Tax</strong> Court, T.C. Summary<br />

Opinion <strong>2015</strong>-26) (April 9, <strong>2015</strong>). ................................................................... 8-15<br />

viii


Page<br />

F. Noncustodial Parent Denied Dependency Exemption, Child <strong>Tax</strong> Credit and<br />

Head of Household Filing Status (H.L. Porter, TC Memo <strong>2015</strong>-151)<br />

(August 6, <strong>2015</strong>) ................................................................................................ 8-23<br />

G. Deduction for Officer Compensation Disallowed Because Check Was Not<br />

Payable due to Insufficient Funds: (Vanney Associates, Inc. v. Commissioner,<br />

U.S. <strong>Tax</strong> Court, Dkt. No. 25684-11, TC Memo. 2014-184, 108 T.C.M. 265)<br />

(September 11, 2014). ...................................................................................... 8-24<br />

H. Payments to Ex-Spouse Disallowed as Deductible Alimony Payments:<br />

(Fred D. Murray v. Commissioner, U.S. <strong>Tax</strong> Court, T.C. Summary<br />

Opinion 2013-103) (December 12, 2013) ........................................................ 8-30<br />

I. <strong>Tax</strong>payers Denied Deduction for Farmhouse Expenses (D.B. Meinhardt,<br />

CA-8, 2014-250,430 September 12, 2014. Donald B. Meinhardt and<br />

Arvella Meinhardt v. Commissioner, U.S. <strong>Tax</strong> Court Docket No. 21903-09,<br />

T.C. Memo., 2013-85) (March 27, 2013) ........................................................ 8-41<br />

IX. IRS Announcements, Rulings, Revenue Procedures, Etc. ......................................... 9-1<br />

A. IRS Announcement 2014-32, I.R.B. 2014-48, November 10, 2014 §408<br />

Individual Retirement Accounts: Rollovers: One-Per-Year Rule:<br />

Transition Relief: ................................................................................................. 9-1<br />

B. Alimony-Separate Maintenance Payments: IRS Letter Ruling <strong>2015</strong>31013<br />

(April 30, <strong>2015</strong>) ................................................................................................... 9-4<br />

C. IRS Collection Launches Early Interaction Initiative: Headliner Volume 351<br />

(August 7, <strong>2015</strong>) .................................................................................................. 9-7<br />

D. Subchapter S Corporation and §1362 Inadvertent Terminations Due to<br />

Ineligible Shareholders: Private Letter Ruling <strong>2015</strong>36014 (09/04/<strong>2015</strong>) ....... 9-10<br />

E. §6035 Basis Information to Persons Acquiring Property from Decedent:<br />

Required Statements and Filing Due Date: Notice <strong>2015</strong>-57, <strong>2015</strong>-36 IRB,<br />

(8/21/<strong>2015</strong>) ......................................................................................................... 9-13<br />

F. <strong>Tax</strong>payer Receives Waiver of §72(t) penalty for Medical Reasons: §408<br />

Individual Retirement Account Rollover Contribution: IRS Letter Ruling<br />

201431035 (May 06, 2014) ............................................................................... 9-16<br />

G. The Simplified Option for Claiming a Home Office Deduction:<br />

Rev. Proc. 2013-13............................................................................................ 9-20<br />

ix


Page<br />

H. TIGTA Says IRS Needs to Improve Correspondence Audit Selection Process:<br />

(Reference Number: 2013-30-077) (September 6, 2013) ................................ 9-23<br />

Self-Study Course Questions and Answer Sheet<br />

Supplement: Draft Forms<br />

x


I. Reviewing, Understanding<br />

and Analyzing the<br />

Importance of<br />

Adjusted Gross Income<br />

(AGI)<br />

and the Impact on the Rest of<br />

the Form 1040


I. Reviewing, Understanding And Analyzing The Importance Of Adjusted Gross<br />

Income (AGI) And The Impact On The Rest Of The Form 1040<br />

A. The <strong>Tax</strong> Professional’s Role: Focus On AGI<br />

1. Most taxpayers know that there are deductions available which reduce their<br />

taxable income. Generally these deductions are those that are usually<br />

deductible on Schedule A as specific elected itemized deductions. The tax<br />

professional, however, should be looking for deductions which reduce AGI<br />

on page 1 of Form 1040.<br />

2. In the creation of the <strong>Tax</strong> Reform Act of 1986 Congress shifted its focus to<br />

provisions affected by AGI. The initial attack was the creation of the §469<br />

passive activity loss rules which disallows rental losses for taxpayers with a<br />

modified AGI greater than $100,000. It is important for the tax professional<br />

to remember that this threshold amount of $100,000 has never been indexed<br />

to inflation.<br />

3. The <strong>Tax</strong> Reform Act of 1986 also provided for the disallowance of<br />

deductible IRA contributions under §219 when a taxpayer’s modified AGI is<br />

above a certain threshold amount based on the taxpayer's filing status.<br />

4. From there, the pattern continued with subsequent legislative action in the<br />

Budget Reconciliation Act of 1990. This was the legislation which provided<br />

for the phase-out of §68 itemized deductions and phase-out of §151 personal<br />

and dependency exemptions.<br />

5. The <strong>Tax</strong>payer Relief Act of 1997 was presented to the American taxpayer as<br />

tax relief to the middle-class. However, Congress did not define middle-class<br />

by standard of living; but, instead by levels of AGI and tied it to the taxpayer’s<br />

filing status.<br />

1-1


6. Many of the provisions of the Economic Growth and <strong>Tax</strong> Relief<br />

Reconciliation Act of 2001 focused on AGI and increased threshold amounts<br />

for many middle class taxpayers who were left behind by the 1997 Act.<br />

Subsequent legislation including the American Recovery and Reinvestment<br />

Act of 2009, the 2010 Health Care Act, and the 2010 <strong>Tax</strong> Relief Act and<br />

Job Creation Act of 2010 created provisions subject to AGI and modified<br />

AGI phase-out rules. As a result of the 2010 Health Care Act some<br />

taxpayers with an AGI beyond specified thresholds based on filing status will<br />

be subject to an additional Medicare tax of 0.9% on earned income and 3.8%<br />

on their net investment income. Some will even lose their §36B Premium<br />

Assistance Credit which is reported on Form 8962 Premium <strong>Tax</strong> Credit<br />

(PTC).<br />

7. As a result of the manner in which legislation is crafted, tax professionals<br />

should focus, review and analyze their planning issues around the importance<br />

of AGI. If income can be shifted to a future year in order to take advantage of<br />

current year opportunities, then the taxpayer may be able to save significant<br />

tax dollars.<br />

8. In some cases, a taxpayer may want to shift the income to the current tax year<br />

in order to balance AGI in two tax periods and not hinder the threshold levels<br />

in either year.<br />

B. AGI: The Most Important Number on the <strong>Tax</strong> Return<br />

1. Because of the various number of phase-out provisions in the law, today’s tax<br />

professional must be more conscious of changes in a client’s tax life than ever<br />

before. The tax professional has to be able to foresee and explain the true tax<br />

effect of an increase or decrease to their client’s AGI.<br />

2. Because of the various phase-in and phase-out provisions in the law, the tax<br />

bracket itself should not be the only focus. The planning of a transaction and<br />

the actual calculations should be taking place well before the time of<br />

preparing the client’s tax return.<br />

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TAX PROFESSIONAL ALERT: The phase-in and phase-out of tax<br />

provisions can result in substantial tax liability that has nothing to do with the<br />

rates themselves. It could be especially critical for Social Security recipients<br />

who normally have little or no inclusion of their Social Security benefits but<br />

could find that a $10,000 capital gain taxed at a zero tax rate catapults their<br />

Social Security benefits into higher tax liability which could cause them to be<br />

severely underpaid for the current year and subject to increased withholding<br />

or estimated tax responsibilities for the next year.<br />

<strong>Tax</strong> Professional’s Focal Point: The tax professional needs to analyze how<br />

an increase or decrease in a particular client’s AGI affects the net tax<br />

liability for that particular client.<br />

C. Defining Gross Income and Adjusted Gross Income (AGI)<br />

1. Before tax professionals can understand the effects of changes in a taxpayer’s<br />

AGI, they must first understand what is included in gross income and how the<br />

law defines adjusted gross income.<br />

2. §61(a) provides a general rule that gross income means all income from<br />

whatever source derived unless there is a specific exception.<br />

3. §62(a) provides a general rule that the term “adjusted gross income” means<br />

gross income minus the following deductions:<br />

a. §62(a)(1) Trade or business deductions<br />

b. §62(a)(2) Certain trade and business deductions of employees<br />

i. Reimbursed expenses of employees<br />

ii.<br />

iii.<br />

iv.<br />

Certain expenses of performing artists<br />

Certain expenses of officials<br />

Certain expenses of elementary and secondary school teachers<br />

v. Certain expenses of members of reserve components of the Armed<br />

Forces of the United States<br />

c. §62(a)(3) Losses from sale or exchange of property<br />

1-3


d. §62(a)(4) Deductions attributable to rents and royalties<br />

e. §62(a)(5) Certain deductions of life tenants and income beneficiaries<br />

of property<br />

f. §62(a)(6) Pension, profit sharing and annuity plans of self-employed<br />

individuals<br />

g. §62(a)(7) Retirement savings under §219<br />

h. §62(a)(8) Repealed<br />

i. §62(a)(9) Penalties incurred because of premature withdrawal of funds of<br />

time savings accounts or deposits<br />

j. §62(a)(10) Alimony allowed under §215<br />

k. §62(a)(11) Reforestation expenses allowed under §194<br />

l. §62(a)(12) Certain required payments of supplemental unemployment<br />

compensation benefits<br />

m. §62(a)(13) Jury duty pay remitted to employer<br />

n. §62(a)(14) Deduction for clean-fuel vehicles and certain refueling<br />

property under §179A<br />

o. §62(a)(15) Moving expenses allowed under §217<br />

p. §62(a)(16) Archer MSAs allowed under §220<br />

q. §62(a)(17) Interest on education loans allowed under §221<br />

r. §62(a)(18) Higher education expenses allowed under §222<br />

s. §62(a)(19) Health Savings Accounts allowed under §223<br />

t. §62(a)(20) Costs involving discrimination suits involving a claim of<br />

unlawful discrimination as defined under §62(e)<br />

u. §62(a)(21) Attorney’s fees relating to awards to whistle-blowers<br />

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D. Partial Chart of Provisions Affected By AGI or Modified AGI for the Year <strong>2015</strong><br />

The following is a partial chart presenting the provisions subjected to the limitations of AGI<br />

and modified AGI as defined for each separate provision:<br />

<strong>Tax</strong> Provision<br />

Filing Status<br />

1. §23 Adoption Credit (1)(A) Married Joint/<br />

Surviving Spouse<br />

Single & Head of<br />

Household<br />

Phase-out<br />

Begins<br />

Phase-out<br />

Ends<br />

Range<br />

$201,010 $241,010 $40,000<br />

2. §24 Child <strong>Tax</strong> Credit (2)<br />

(1 child) Form 1040, Page 2<br />

(WS)<br />

3. §25A Lifetime Learning<br />

Credit (1) Form 8863<br />

4. §25A American Opportunity<br />

<strong>Tax</strong> Credit (2)(C)<br />

Form 8863<br />

5. §68 Phase-out of Itemized<br />

Deductions Schedule A<br />

(1)(WS)<br />

6. §135 Exclusion of U.S.<br />

Savings Bond Interest for<br />

Qualified Education Expenses<br />

(1) Form 8815<br />

7. §137 Employer Adoption<br />

Assistance (1) Form 8839<br />

Married Separate<br />

Married Joint<br />

Single & Head of<br />

Household<br />

Married Separate<br />

Married Joint<br />

Single & Head of<br />

Household<br />

Married Separate<br />

Married Joint<br />

Single & Head of<br />

Household<br />

Married Separate<br />

Married Joint<br />

Married Separate<br />

Single<br />

Head of Household<br />

Married Joint<br />

Single & Head of<br />

Household<br />

Married Separate<br />

Married Joint/<br />

Surviving Spouse<br />

No credit allowed N/A N/A<br />

$110,000 $129,001 $19,001<br />

$ 75,000 $ 94,001 $19,001<br />

$ 55,000 $ 74,001 $19,001<br />

$110,000 $130,000 $20,000<br />

$ 55,000 $ 65,000 $10,000<br />

No credit allowed N/A N/A<br />

$160,000 $180,000 $20,000<br />

$ 80,000 $ 90,000 $10,000<br />

No credit allowed N/A N/A<br />

$309,900 N/A N/A<br />

$154,950 N/A N/A<br />

$258,250 N/A N/A<br />

$284,050 N/A N/A<br />

$115,750 $145,750 $ 30,000<br />

$ 77,200 $ 92,200 $ 15,000<br />

N/A N/A N/A<br />

$201,010 $241,010 $40,000<br />

Single & Head of<br />

Household<br />

Married Separate<br />

No credit allowed<br />

N/A<br />

N/A<br />

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8. §151 Phase-out of<br />

Exemptions (1) Form 1040,<br />

Page 2 (WS)<br />

9. §219 Deductible IRA (1)<br />

Form 1040, Page 1 (WS)<br />

10. §219 Deductible IRA for<br />

Spouses who are Not Active<br />

Participants (1) Form 1040,<br />

Page 1 (1) (WS)<br />

11. §221 Student Loan Interest<br />

Deduction Form 1040, Page<br />

(1) (WS)<br />

12. §408A Roth IRA<br />

Contribution (1)(WS)<br />

13. §469 Passive Activity Loss<br />

(2) Form 8582<br />

14. §530 Coverdell Educational<br />

Savings Plans (2)(WS)<br />

Married Joint<br />

Single<br />

Head of Household<br />

Married Separate<br />

Married Joint<br />

Single & Head of<br />

Household<br />

Married Separate<br />

$309,900<br />

$258,250<br />

$284,050<br />

$154,950<br />

$ 98,000<br />

$ 61,000<br />

$ -0-<br />

$432,400<br />

$380,750<br />

$406,550<br />

$216,200<br />

$118,000<br />

$ 71,000<br />

$ 10,000<br />

$122,500<br />

$122,500<br />

$122,500<br />

$ 61,250<br />

$ 20,000<br />

$ 10,000<br />

$ 10,000<br />

Married Joint $183,000 $193,000 $ 10,000<br />

Married Joint<br />

Single & Head of<br />

Household<br />

Married Separate<br />

Married Joint<br />

Single & Head of<br />

Household<br />

Married Separate<br />

Married Joint<br />

Single, Head of<br />

Household or<br />

Married Separate<br />

Married Joint<br />

Single & Head of<br />

Household<br />

Married Separate<br />

$130,000<br />

$ 65,000<br />

N/A<br />

$183,000<br />

$116,000<br />

N/A<br />

$100,000<br />

No deduction allowed<br />

$190,000<br />

$ 95,000<br />

N/A<br />

$160,000<br />

$ 80,000<br />

N/A<br />

$193,000<br />

$131,000<br />

N/A<br />

$150,000<br />

N/A<br />

$220,000<br />

$110,000<br />

N/A<br />

$ 30,000<br />

$ 15,000<br />

N/A<br />

$ 10,000<br />

$ 15,000<br />

N/A<br />

$ 50,000<br />

N/A<br />

$ 30,000<br />

$ 15,000<br />

N/A<br />

Other Provisions Affected by AGI or Modified AGI:<br />

Provision<br />

1. §21 Dependent Care Credit (2) Form 2441<br />

2. §22 Credit for the Elderly or Permanently and Totally Disabled (2) Schedule<br />

R<br />

3. §25B Retirement Contributions Savings Credit (1) Form 8880<br />

4. §32 Earned Income Credit (1) Schedule EIC<br />

5. §36B Premium Assistance Credit Form 8962<br />

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6. §67 Miscellaneous Itemized Deduction Allowance after 2% of AGI<br />

disallowance (2) Schedule A (WS)<br />

7. §86 Social Security benefits (2) Form 1040, Page 1 (WS)<br />

8. §165 Casualty and Theft Loss Allowance after 10% of AGI disallowance (2)<br />

Form 4684<br />

9. §213 Medical Deduction Allowance after 10% of AGI (2) Schedule A (B)<br />

(WS)<br />

10. §222 Deduction for qualified higher education expenses (2) Form 8917 (A)<br />

11. §1411(a) Medicare <strong>Tax</strong> on Net Investment Income of 3.8% Form 8960<br />

12. §3101(b)(2) Medicare tax on wages and self-employment income of 0.9%<br />

Form 8959<br />

13. §6654 Quarterly estimated tax payments safe harbor rules (110%) (2) Form<br />

2210<br />

Legend:<br />

(1) Indexed annually to inflation<br />

(2) Not indexed to inflation<br />

(A) Provision expired after 2014 as of this writing<br />

(B) 10% beginning in 2013 for taxpayers under 65 years old. However, still at<br />

7.5% for taxpayers or spouses 65 and older during 2013-2016<br />

(C) Provision is scheduled to expire as of December 31, 2017<br />

(WS) Worksheet calculation<br />

TAX PROFESSIONAL ALERT: Throughout this course the tax professional should<br />

be aware of AGI and the modifications to AGI as they affect the various provisions<br />

pertaining to each of their clients. While this course discusses the reduction of tax rates<br />

in general and the favorable treatment of capital gains, qualified dividends, accelerated<br />

depreciation, etc., the tax professional cannot lose sight of the big picture. After the tax<br />

professionals educate themselves on focusing on AGI, they must pass this critical<br />

knowledge on to each and every one of their clients. The best surprise is no surprise!<br />

1-7


Scenarios illustrating the importance of AGI<br />

The following are simple examples of how you the tax professional can assist the client<br />

in understanding the issues of AGI and the importance of planning transactions and<br />

preventing unpleasant surprises:<br />

In <strong>2015</strong> Blue and Sunny Skies, a married couple, file a joint return. They have two<br />

children: Bright (age 1) and Not-So-Bright (age 28) who is not a student but qualifies as<br />

a dependent.<br />

Scenario #1<br />

The Skies’ only income is Blue’s salary of $95,000 and the couple takes the<br />

standard deduction. Their situation results in a net tax liability as follows:<br />

Salary ................................................................................................................................................... $95,000<br />

Capital Gain .......................................................................................................................................... - 0 -<br />

AGI ........................................................................................................................................................ 95,000<br />

Less: Basic Standard Deduction ......................................................................................................... (12,600)<br />

Personal Exemptions (4 x $4,000) ............................................................................... (16,000)<br />

<strong>Tax</strong>able Income ........................................................................................................... $66,400<br />

Calculation of Income <strong>Tax</strong>:<br />

<strong>Tax</strong>able<br />

Income<br />

<strong>Tax</strong><br />

10% Bracket on first $18,450 $1,845<br />

15% Bracket on next 47,950 7,193<br />

Total $66,400 $9,038<br />

Less:<br />

§25A Education Credit ...................................................................................... ( -0- )<br />

§24 Child <strong>Tax</strong> Credit .......................................................................................... (1,000)<br />

Net <strong>Tax</strong> Liability ............................................................................................................. $8,038<br />

Result: Their marginal tax bracket is 15%. The effective tax rate is 12.11%<br />

($8,038/$66,400)<br />

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Scenario #2<br />

In <strong>2015</strong>, Not-So-Bright, who is an off and on lifetime student, went off to graduate school.<br />

The tuition is $10,000 which was paid from a savings account. This results in a §25A<br />

Education Credit of $2,000 reported on Form 8863 using the election for the Lifetime<br />

Learning Credit. The Lifetime Learning Credit is 20% of the first $10,000 of qualified<br />

education expenditures. As a result, the AGI, taxable income and tax remain the same.<br />

However, the §25A $2,000 Lifetime Learning Credit reduces the net tax liability.<br />

Scenario #1 Scenario #2 Change<br />

AGI $95,000 $95,000 $ -0-<br />

<strong>Tax</strong>able Income $66,400 $66,400 $ -0-<br />

<strong>Tax</strong> $ 9,038 $ 9,038 $ -0-<br />

Less:<br />

§25A Education ( -0- ) ( 2,000 ) ( 2,000 )<br />

Credit<br />

§24 Child <strong>Tax</strong> (1,000) ( 1,000 ) - 0 -<br />

Credit<br />

Net <strong>Tax</strong> Liability $ 8,038 $ 6,038 ( $2,000 )<br />

Result: The $10,000 did not increase gross income. The effective tax rate is 9.09%<br />

($6,038/$66,400). The net tax liability decreases by $2,000.<br />

Scenario #3<br />

Instead of withdrawing money from a savings account, the $10,000 is now the result of<br />

the taxpayers cashing in stock with a zero basis which results in long-term capital gain.<br />

Scenario #1 Scenario #3 Change<br />

Salary $95,000 $ 95,000 $ -0-<br />

Long-Term Capital Gain - 0 - 10,000 10,000<br />

AGI $95,000 $105,000 $10,000<br />

<strong>Tax</strong>able Income $66,400 $ 76,400 $10,000<br />

<strong>Tax</strong> $ 9,038 $ 9,263 $ 225<br />

Less:<br />

§25A Education Credit ( -0- ) ( 2,000) (2,000)<br />

§24 Child <strong>Tax</strong> Credit ( 1,000) ( 1,000) ( -0- )<br />

Net <strong>Tax</strong> Liability $ 8,038 $ 6,263 ($ 1,775)<br />

The $10,000 of long-term capital gain is taxed at preferential rates.<br />

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The overall effective rate is now 8.2% ($6,263/$76,400). However, the net tax liability<br />

drops by $1,775 because of the $2,000 Lifetime Learning Credit.<br />

Scenario #4<br />

Income <strong>Tax</strong> Calculation: <strong>Tax</strong>able Income <strong>Tax</strong><br />

10% Bracket on first $18,450 $1,845<br />

15% Bracket on next 47,950 7,193<br />

0% <strong>Tax</strong> rate on LTCG in 15% tax bracket 8,500 -0-<br />

Subtotal $74,900 $9,038<br />

15% <strong>Tax</strong> rate on LTCG in 25% tax bracket $ 1,500 $ 225<br />

Totals $76,400 $9,263<br />

Instead of cashing in the stock, Blue gets a part-time job where he makes $10,000 in<br />

salary which results as follows:<br />

Scenario #1 Scenario #4 Change<br />

Salary $95,000 $105,000 $10,000<br />

Capital Gain -0- -0- -0-<br />

AGI $95,000 $105,000 $10,000<br />

<strong>Tax</strong>able Income $66,400 $ 76,400 $10,000<br />

<strong>Tax</strong> $ 9,038 $ 10,688 $ 1,650<br />

Less:<br />

§25A Education Credit ( -0- ) ( 2,000 ) ( 2,000 )<br />

§24 Child <strong>Tax</strong> Credit ( 1,000 ) ( 1,000 ) ( -0- )<br />

Net <strong>Tax</strong> Liability $ 8,038 $ 7,688 $ ( 350 )<br />

Before the education credit is taken, the first $8,500 of increased salary is taxed at 15%<br />

and the remaining $1,500 is taxed at 25%.<br />

Result: The effective rate on the $10,000 is 16.5%. However, because of the credit, the<br />

net tax decreases by $350 between Scenario #1 and Scenario #4. The overall effective<br />

rate is now 10.06% ($7,688/$76,400).<br />

Income <strong>Tax</strong> Calculation: <strong>Tax</strong>able Income <strong>Tax</strong><br />

10% bracket on first $18,450 $ 1,845<br />

15% bracket on next 56,450 8,468<br />

Subtotals $74,900 $10,313<br />

25% bracket on next $ 1,500 $ 375<br />

Totals $76,400 $10,688<br />

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Scenario #5<br />

The taxpayers are so amazed at the results in Scenario #4 that they decide to work even<br />

harder for the next $10,000 of salary and get the following results:<br />

Scenario #1 Scenario #5 Change<br />

Salary $95,000 $115,000 $20,000<br />

Capital Gain -0- -0- -0-<br />

AGI $95,000 $115,000 $20,000<br />

<strong>Tax</strong>able Income $66,400 $ 86,400 $20,000<br />

<strong>Tax</strong> $ 9,038 $ 13,188 $ 4,150<br />

Less:<br />

§25A Education Credit ( -0- ) (1,500) (1,500)<br />

§24 Child <strong>Tax</strong> Credit ( 1,000 ) ( 750) 250<br />

Net <strong>Tax</strong> Liability $ 8,038 $ 10,938 $2,900<br />

Now the $20,000 increase in salary causes the phase-out of the §25A Lifetime Learning<br />

Credit which begins being phased out at $110,000 of AGI over a range of $20,000 for a<br />

married couple filing a joint return. Therefore the credit is reduced by $500 because of<br />

the phase-out range.<br />

AGI $115,000<br />

Threshold amount (110,000)<br />

Phase-out amount $ 5,000<br />

Phase-out amount = $ 5,000 = 25% x $2,000 = $500<br />

Phase-out range $ 20,000<br />

Total credit $ 2,000<br />

Less: phase-out (500)<br />

Available credit $ 1,500<br />

At this point the §24 Child <strong>Tax</strong> Credit (CTC) is also subject to phase out which begins<br />

beyond $110,000 of AGI and is phased out $50 for each $1,000 above $110,000 or<br />

fraction theory. Therefore at $115,000 of AGI the taxpayer will lose $250 of their $1,000<br />

Child <strong>Tax</strong> Credit giving them only $750 of credit.<br />

Result: The marginal tax rate on the first $10,000 is 16.5% and the next $10,000 is still<br />

taxed at 25% therefore resulting in a $2,500 tax.<br />

The effective rate is 20.75% ($4,150/$20,000).<br />

1-11


The overall effective rate is 12.66% ($10,938/$86,400).<br />

Income <strong>Tax</strong> Calculation:<br />

10% on $18,450 = $1,845<br />

15% on 56,450 = 8,468<br />

25% on 11,470 = 2,868<br />

Total $86,400 $13,181<br />

TAX PROFESSIONAL ALERT: The real issue dealing with AGI for these taxpayers<br />

is the phase-out of the Lifetime Learning Credit when comparing the ordinary income<br />

increase between Scenario #4 and #5 as follows:<br />

Scenario #4 Scenario #5 Change<br />

Salary $105,000 $115,000 $10,000<br />

Capital Gain -0- -0- -0-<br />

AGI $105,000 $115,000 $10,000<br />

<strong>Tax</strong>able Income $ 76,400 $ 86,400 $10,000<br />

<strong>Tax</strong> $ 10,688 $ 13,188 $ 2,500<br />

Less:<br />

§25A Education Credit ( 2,000 ) ( 1,500 ) 500<br />

§24 Child <strong>Tax</strong> Credit ( 1,000 ) ( 750 ) 250<br />

Net <strong>Tax</strong> Liability $ 7,688 $ 10,938 $ 3,250<br />

Result: Now the $10,000 increase in salary causes a $3,250 tax increase at the 25%<br />

marginal brackets and the increase in AGI causes the phase-out of the education credit<br />

and reduces it by $500 causing an effective rate of 12.66% and phases out the §24 Child<br />

<strong>Tax</strong> Credit by $250.<br />

1-12


Comparison of all Scenarios<br />

Scenario #1 Scenario #2 Scenario #3 Scenario #4 Scenario #5<br />

Salary $95,000 $95,000 $ 95,000 $105,000 $115,000<br />

Capital Gain - 0 - - 0 - - 0 - - 0 - - 0 -<br />

AGI $95,000 $95,000 $105,000 $105,000 $115,000<br />

Less: Standard Deduction ( 12,600 ) ( 12,600 ) ( 12,600 ) ( 12,600 ) ( 12,600 )<br />

Personal Exemptions ( 16,000 ) ( 16,000 ) ( 16,000 ) ( 16,000 ) ( 16,000 )<br />

<strong>Tax</strong>able Income $66,400 $66,400 $ 76,400 $ 76,400 $ 86,400<br />

Income <strong>Tax</strong> $ 9,038 $ 9,038 $ 9,263 $ 10,688 $ 13,188<br />

Less: §25A Education Credit ( - 0 - ) ( 2,000 ) ( 2,000 ) ( 2,000 ) ( 1,500 )<br />

§24 Child <strong>Tax</strong> Credit ( 1,000 ) ( 1,000 ) ( 1,000 ) ( 1,000 ) ( 750 )<br />

Net <strong>Tax</strong> Liability $ 8,038 $ 6,038 $ 6,263 $ 7,688 $ 10,938<br />

Effective <strong>Tax</strong> Rate 12.11% 9.09% 8.29% 10.06% 12.66%<br />

E. §151 Personal Exemption Amounts and the Issue of Phase-Out<br />

1. The personal exemption amounts are indexed annually for inflation based on<br />

the average of the Consumer Price Index (CPI) for all urban consumers<br />

published by the Department of Labor for each month in the 12-month period<br />

ending on August 31, <strong>2015</strong>. Official figures are required to be released by<br />

December 15, <strong>2015</strong>. For tax years 2012-2016 these amounts are as follows:<br />

Year<br />

Amount<br />

2012 $3,800<br />

2013 $3,900<br />

2014 $3,950<br />

<strong>2015</strong> $4,000<br />

2016 $4,050<br />

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2. The phase-out of the personal exemptions for 2012-2016 begins at the<br />

following threshold amounts:<br />

Filing Status 2012 2013 2014 <strong>2015</strong> 2016<br />

Married Joint/Surviving Spouse N/A $300,000 $305,050 $309,900 $311,300<br />

Married Separate N/A $150,000 $152,525 $154,950 $155,650<br />

Single N/A $250,000 $254,200 $258,250 $259,400<br />

Head of Household N/A $275,000 $279,650 $284,050 $285,350<br />

F. §68 Adjusted Gross Income Thresholds for Reduction of Schedule A<br />

Itemized Deductions<br />

1. §68(a) provides a general rule that in the case of an individual whose adjusted<br />

gross income (AGI) exceeds the applicable amount, the amount of itemized<br />

deductions otherwise allowable for the taxable year shall be reduced by the<br />

lesser of:<br />

a. 3% of the excess of AGI over the applicable amount, or<br />

b. 80% of the amount of the itemized deductions otherwise allowable for<br />

such tax year.<br />

2. §68(b) provides that the term “applicable amount” means $100,000 ($50,000<br />

for a married individual filing a separate return). The “applicable amount” is<br />

indexed to inflation for tax years beginning after 1991.<br />

3. §68(c) provides exceptions for certain itemized deductions because they each<br />

have separate limitations under their own provisions. Therefore for purposes<br />

of the §68(a) limitation, the term “itemized deductions” does not include:<br />

a. §213 medical deductions<br />

b. §163(d) investment interest<br />

c. §165(a) casualty or theft losses<br />

d. §165(d) wagering losses<br />

1-14


4. §68(d) provides that the application of the 3% limitation shall be applied after<br />

the application of the allowance of any itemized deduction.<br />

5. The threshold amounts that phase out itemized deductions are adjusted<br />

annually. The adjusted gross income threshold amounts for tax years 2012-<br />

2016 are as follows:<br />

Filing Status 2012 2013 2014 <strong>2015</strong> 2016<br />

Married Joint/Surviving Spouse N/A $300,000 $305,050 $309,900 $311,300<br />

Married Separate N/A $150,000 $152,525 $154,950 $155,650<br />

Single N/A $250,000 $254,200 $258,250 $259,400<br />

Head of Household N/A $275,000 $279,650 $284,050 $285,350<br />

EXAMPLE: In tax years 2012-2016, the taxpayer has the same AGI of $349,000<br />

and total itemized deductions of $20,000. His total itemized deductions are<br />

reduced as follows:<br />

2012 2013 2014 <strong>2015</strong> 2016<br />

AGI $349,000 $349,000 $349,000 $349,000 $349,000<br />

Less: Threshold Amount ( N/A ) ( 300,000 ) ( 305,050 ) ( 309,900 ) $311,300<br />

Excess Over AGI $ N/A $ 49,000 $ 43,950 $ 39,100 $37,700<br />

3% Limitation Test 3% 3% 3% 3% 3%<br />

Phase-out of Itemized<br />

Deductions $ N/A $ 1,470 $ 1,319 $ 1,173 $ 1,131<br />

Total Deductions $ 20,000 $ 20,000 $ 20,000 $ 20,000 $ 20,000<br />

Less: Lost Deductions ( -0- ) ( 1,470 ) ( 1,319 ) ( 1,173 ) $ 1,131<br />

Deductible Itemized Amount<br />

After Limitation $ 20,000 $ 18,350 $ 18,681 $ 18,827 $ 18,831<br />

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G. §151 Phase-Out Provisions for Exemptions<br />

1. Beginning in 2006 the law began to provide some relief for taxpayers with<br />

high-income affected by the 1990 Budget and Reconciliation Act which<br />

prevented them from fully benefitting from their §151 deduction for personal<br />

exemptions.<br />

2. For years 2010-2012, §151(d)(3) provided that personal exemptions were<br />

not phased out based on AGI.<br />

3. For purposes of the exemption phase-out, §151(d)(3)(E) provided that a<br />

taxpayer did not lose any exemption amounts in 2010-2012.<br />

4. Beginning in 2013 the law reinstated the phase-out of personal exemptions.<br />

EXAMPLE #1: For <strong>2015</strong>, a married couple with two dependents had an AGI<br />

of $349,000. Their total deduction amount for exemptions (before applying<br />

the phase out rule) is $16,000 which is the <strong>2015</strong> basic exemption amount of<br />

$4,000 times 4 exemptions. Since the couple’s AGI of $349,000 exceeds the<br />

applicable inflation adjusted threshold amount of $309,900, their total<br />

deduction for exemptions of $16,000 must be reduced to $10,800 under the<br />

phase out rule as follows:<br />

a. <strong>Tax</strong>payers’ AGI: $349,000<br />

b. Applicable threshold amount for <strong>2015</strong> ($309,900)<br />

c. $349,000 - $309,900 = excess AGI over the threshold amount of $39,100<br />

d. Excess AGI in multiples of $2,500<br />

($39,100/$2,500 = 15.64, rounded up = 16)<br />

e. Reduction percentage (.02 x multiple of 16 = .32)<br />

f. Reduction amount (.32 x $16,000 = $5,120)<br />

g. Reduced exemption allowance: $16,000 - $5,120 = $10,800<br />

<strong>Tax</strong> Professional Research Recommendation: For more information refer<br />

to IRS Publications: 3, 501, 505, and 554.<br />

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H. §135 Interest from U.S. Savings Bonds Used To Pay Higher Education<br />

Tuition and Fees<br />

1. §135(a) provides a general rule that in the case of an individual who pays<br />

qualified higher education expenses during the taxable year, no amount shall<br />

be includible in gross income by reason of the redemption during such year of<br />

any qualified United States Savings Bond. The exclusion is phased out based<br />

on modified AGI.<br />

2. §135(d)(3) provides that no exclusion is available for married taxpayers filing<br />

separately.<br />

3. §135(b)(2) provides that the phase-out level is adjusted annually for inflation.<br />

The starting and ending thresholds for 2012-2016 are as follows:<br />

Single<br />

Joint<br />

Year Begins Ends Range Begins Ends Range<br />

2012 $72,850 - $87,850 = $15,000 $109,300 - $139,300 = $30,000<br />

2013 $74,700 - $89,700 = $15,000 $112,050 - $142,050 = $30,000<br />

2014 $76,000 - $91,000 = $15,000 $113,950 - $143,950 = $30,000<br />

<strong>2015</strong> $77,200 - $92,200 = $15,000 $115,750 - $145,750 = $30,000<br />

2016 $77,550 - $92,550 = $15,000 $116,300 - $146,300 = $30,000<br />

4. §135(c)(1) defines the term “qualified United States savings bond” to mean<br />

any United States savings bond issued:<br />

a. after December 31, 1989,<br />

b. to an individual who has attained age 24 before the date of issuance,<br />

and<br />

c. it is a Series EE or Series I bond.<br />

NOTE: A bond acquired by a parent or a grandparent issued in the name<br />

of a child under age 24 does not qualify for the exclusion by the parent,<br />

grandparent or child.<br />

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5. §135(c)(2)(A) provides that “qualified higher educational expenses” means<br />

tuition and fees required for enrollment or attendance for the taxpayer, spouse,<br />

or dependent (for whom you can claim an exemption) at an eligible<br />

educational institution.<br />

6. §135(c)(2)(C) provides that qualified expenses include any contribution made<br />

to a §529 qualified tuition program or to a §530 Coverdell Education Savings<br />

Account (ESA).<br />

7. §135(c)(2)(B) provides that qualified expenses do not include expenses for<br />

room and board or for courses involving sports, games, or hobbies that are not<br />

part of a degree or certificate granting program.<br />

8. §135(c)(3) provides that “eligible educational institution” means most<br />

public, private, and nonprofit universities, colleges and vocational schools that<br />

are accredited and are eligible to participate in student aid programs run by<br />

the Department of Education. This is the same meaning as under §529.<br />

9. §135(d) provides for the reduction for certain benefits. The taxpayer must<br />

reduce the qualified higher educational expenses by all of the following taxfree<br />

benefits:<br />

a. <strong>Tax</strong>-free part of scholarships and fellowships,<br />

b. Expenses used to calculate the tax-free portion of distributions from a<br />

§530 Coverdell ESA,<br />

c. Any tax-free payments (other than gifts or inheritances) received for<br />

educational expenses, such as:<br />

i. Veterans’ educational assistance benefits,<br />

ii. qualified tuition reductions,<br />

iii. employer-provided educational assistance, or<br />

iv. any expense used in calculating the §25A Hope and Lifetime<br />

Learning Credits as well as the §25A American Opportunity <strong>Tax</strong><br />

Credit.<br />

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10. If the total proceeds (interest and principal) from the qualified U.S. Savings<br />

Bonds redeemed during the year are not more than the adjusted qualified<br />

higher educational expenses for the year, then the taxpayer may be able to<br />

exclude all of the interest. If the proceeds are more than the expenses, then the<br />

taxpayer may be able to exclude only part of the interest.<br />

In order to determine the excludable amount, the taxpayer uses the following<br />

formula:<br />

Total<br />

Interest<br />

Received<br />

x<br />

Qualified Higher Educational<br />

Expenses (QHEE)<br />

Total Proceeds (TP)<br />

= Exclusion<br />

Amount<br />

EXAMPLE #1: In February <strong>2015</strong>, Don and Donna cashed a qualified Series<br />

EE U.S. Savings Bond they bought in April 1999. They received proceeds of<br />

$7,512, representing principal of $5,000 and interest of $2,512. In <strong>2015</strong>, they<br />

paid $4,000 for their daughter’s college tuition. They are not claiming an<br />

education credit for that amount, and their daughter does not have any tax-free<br />

educational assistance. They can exclude $1,338 of interest in <strong>2015</strong>. The<br />

exclusion amount is calculated on Form 8815 as follows:<br />

Total Amount<br />

Received<br />

$2,512 x QHEE<br />

TP<br />

$4,000<br />

$7,512<br />

= $1,338 Exclusion<br />

Amount<br />

They must include the remaining interest of $1,174 in gross income calculated<br />

as follows:<br />

Form 1099 INT Box 3 Amount - Schedule B, line 1 $ 2,512<br />

Less: §135 Exclusion Amount - Schedule B, line 3 (1,338)<br />

Inclusion for Gross Income - Schedule B, line 4 $ 1,174<br />

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11. §135(b) provides for a limitation of excludable interest. In <strong>2015</strong> the interest<br />

exclusion is limited if modified adjusted gross income (modified AGI) is<br />

$77,200 - $92,200 for taxpayers filing single or head of household, and<br />

$115,750 - $145,750 for married taxpayers filing jointly or for a qualifying<br />

widow(er) with dependent child.<br />

The taxpayer will not qualify for the interest exclusion if the modified AGI is<br />

equal to or more than the upper limit for a filing status.<br />

12. §135(c)(4) provides that modified AGI, for purposes of this exclusion, is<br />

adjusted gross income calculated before the interest exclusion and modified<br />

by adding back any:<br />

a. §137 Exclusion for adoption benefits received under an employer’s<br />

adoption assistance program,<br />

b. §199 Deduction for domestic production activities,<br />

c. §221 Deduction for student loan interest,<br />

d. §222 Deduction for tuition and fees,<br />

e. §911 Foreign earned income exclusion,<br />

f. §911 Foreign housing exclusion and deduction,<br />

g. §931 Exclusion of income for bona fide residents of American Samoa, or<br />

h. §933 Exclusion for income from Puerto Rico.<br />

<strong>Tax</strong> Professional Education Point: The phase-out range for a married couple<br />

filing jointly is $30,000. Use the worksheet in the instructions for line 9, Form<br />

8815, in order to calculate the modified AGI and the phase out of the<br />

excludable interest.<br />

EXAMPLE #2: In the example above, if Don and Donna had a modified AGI<br />

of $115,750 or less, then all of the $1,338 would be excludable from gross<br />

income. However, if their modified AGI was greater than $145,750, then they<br />

would have no exclusion. But, if their modified AGI was $125,750, then only<br />

part of the $1,338 would be excluded and the amount would be calculated on<br />

Form 8815 as follows:<br />

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Modified AGI<br />

Less: Beginning of phase-out for <strong>2015</strong><br />

$125,750<br />

(115,750)<br />

Excess $ 10,000<br />

Excess $10,000 x $1,338 = includible = $ 446<br />

Range $30,000<br />

Total interest allowable for exclusion $ 1,338<br />

Less: Exclusion amount phase-out (446)<br />

Excluded amount reported on<br />

Schedule B, line 3<br />

$ 892<br />

<strong>Tax</strong> Professional Record Keeping Recommendation: If the taxpayer claims<br />

the interest exclusion, then they must keep a written record of the qualified<br />

U.S. Savings Bonds redeemed. The record must include the serial number,<br />

issue date, face value and total redemption proceeds (principal and interest) of<br />

each bond. You can use Form 8818, Optional Form to Record Redemption of<br />

Series EE and I U.S. Savings Bonds Issued after 1989, to record this<br />

information. The taxpayer should also keep bills, receipts, canceled checks, or<br />

other documentation such as Form 1098-T that show the paid qualified higher<br />

educational expenses during the year.<br />

I. §6654 Safe Harbor Rules for Required Estimated <strong>Tax</strong> Payments<br />

1. For purposes of avoiding an estimated tax penalty the law provides for a safe<br />

harbor amount to be paid which is the lesser of:<br />

a. 100% of the prior year tax, or<br />

b. 90% of the current year tax.<br />

2. For individuals whose adjusted gross income for the preceding tax year was<br />

more than $150,000, the 100% is increased to 110%.<br />

<strong>Tax</strong> Professional Education Point: Since this is an easy method for the government<br />

to raise revenue without raising tax rates, many states have followed this practice and<br />

have imposed the same provisions or a similar provision<br />

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J. §25B <strong>Tax</strong> Credit for Retirement Plans: Saver’s Credit<br />

§25B <strong>Tax</strong> Credit for Retirement Plan Contributions<br />

• <strong>Tax</strong> credit for contributions to retirement plans, including Traditional<br />

IRAs and Roth IRAs<br />

• Credit equals 10% to 50% of contribution depending on adjusted gross<br />

income and filing status<br />

• Maximum credit is $1,000 per person<br />

• Form 8880 Credit for Qualified Retirement Savings Contributions<br />

• Permanent provision as a result of the Pension Protection Act of 2006<br />

• Indexed to inflation since 2007<br />

• Eligible for married filing separate status<br />

1. §25B was created in the 2001 <strong>Tax</strong> Act and it introduced a provision aimed at<br />

encouraging taxpayers with low levels of income to contribute to IRAs or<br />

employer-sponsored retirement plans. This credit is popularly known as the<br />

“saver’s credit.”<br />

2. The Pension Protection Act of 2006 provided that the provision is now<br />

permanent.<br />

3. Eligible taxpayers can claim a nonrefundable tax credit for contributions or<br />

elective deferrals made to any of the following retirement plans:<br />

a. §219 traditional IRA,<br />

b. §401(k),<br />

c. §403(b),<br />

d. §408 Roth IRA,<br />

e. §408 SIMPLE plans,<br />

f. §408 SEPs, or<br />

g. §457 plans.<br />

TAX PROFESSIONAL ALERT: Because a Roth IRA contribution is not a<br />

reportable entry on the tax return, the credit could be lost. Therefore, the tax<br />

professional should inquire if a Roth IRA contribution was made. A<br />

recommendation is to consider asking this question on a client questionnaire<br />

or client organizer.<br />

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4. The credit is in addition to any income tax deduction, deferral or<br />

exclusion that otherwise applies.<br />

5. The rate of the credit is 10% to 50% of the contribution, however no more<br />

than $2,000 of contributions per person can be considered. Therefore, the<br />

maximum credit is $1,000 per person.<br />

6. The allowable credit is reduced if the taxpayer receives any distributions:<br />

a. from these retirement plans during the current or prior two tax years, or<br />

b. through the due date for filing the current year return (including<br />

extensions).<br />

7. In order to claim the credit, the taxpayer:<br />

a. must be over age 17, and<br />

b. cannot be a full-time student or claimed as a dependent on another<br />

taxpayer’s return.<br />

8. In <strong>2015</strong> the credit is not available when a married couple’s modified AGI<br />

exceeds $61,000 and when a single taxpayer’s modified AGI exceeds<br />

$30,500. For head of household, the amount is $45,750.<br />

EXAMPLE: A married couple’s modified AGI is $40,000 and each<br />

contributes $2,000 to their own traditional IRA. For the contributions, the<br />

couple deducts $4,000 and claims a tax credit of $400. Based on their modified<br />

AGI, the credit equals 10% of contributions.<br />

9. The provision has been indexed to inflation since 2007, with the indexed<br />

amounts rounded to the nearest multiple of $500.<br />

<strong>Tax</strong> Credit for Retirement Plan Contributions in <strong>2015</strong><br />

• Credit amount is based on modified AGI as follows:<br />

Joint Filers Single & Separate Head of Household Credit Rate<br />

$ -0- - $36,500 $ -0- - $18,250 $ -0- - $27,375 50%<br />

$36,501 - $39,500 $18,251 - $19,750 $27,376 - $29,625 20%<br />

$39,501 - $61,000 $19,751 - $30,500 $29,626 - $45,750 10%<br />

Over $61,000 Over $30,500 Over $45,750 0%<br />

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<strong>Tax</strong> Credit for Retirement Plan Contributions in 2016<br />

• Credit amount is based on Modified AGI as follows:<br />

Joint Filers Single & Separate Head of Household Credit Rate<br />

$ -0- - $37,000 $ -0- - $18,500 $ -0- - $ 27,750 50%<br />

$37,001 - $40,000 $18,501 - $20,000 $27,751 - $30,000 20%<br />

$40,001 - $61,500 $20,001 - $30,750 $30,001 - $46,125 10%<br />

Over $ 61,500 Over $30,750 Over $46,125 0%<br />

<strong>Tax</strong> Professional Research Recommendation: For more information refer to<br />

IRS Publication 590.<br />

K. §530 Coverdell Education Savings Plans<br />

§530 Coverdell Education Savings Plans<br />

• Maximum $2,000 nondeductible annual contribution limit for beneficiaries under age 18<br />

• <strong>Tax</strong>-deferred growth on contributions<br />

• <strong>Tax</strong>-free distributions for qualified expenses<br />

• Funds can be used to pay qualifying education expenses for K-12 plus post-secondary<br />

education<br />

• Qualified Education Expenses include room and board<br />

• Contribution deadline: April 15th after the close of the tax year<br />

• Subject to phase-out provisions<br />

• Beneficiary owns and retains ownership of account<br />

• Permanent provision as the result of American <strong>Tax</strong>payer Relief Act<br />

• Not indexed to inflation<br />

1. The <strong>Tax</strong>payer Relief Act of 1997 created a provision which allowed<br />

taxpayers to contribute to an education plan called an “Educational IRA” with<br />

a maximum annual contribution of $500 which had to be deposited into the<br />

account by December 31 of the tax year.<br />

2. The 2001 <strong>Tax</strong> Act changed the name to Coverdell Education Savings Plan<br />

and made significant changes which include:<br />

a. increasing the annual contribution limit to $2,000 per beneficiary, and<br />

b. allowing the contribution to be made up to the due date of the return<br />

without extensions.<br />

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3. The $2,000 amount is not indexed to inflation.<br />

4. §530(c)(1) provides that the contributions are phased-out as modified AGI<br />

increases beyond certain thresholds. The phase-out range for a married couple<br />

begins as modified AGI rises above $190,000 which is twice the $95,000<br />

amount allowed for single taxpayers. The threshold amounts are not indexed<br />

to inflation.<br />

Coverdell Phase-Out Ranges<br />

Filing Status<br />

Phase-Out<br />

Begins<br />

Phase-Out<br />

Ends<br />

Range<br />

Married Joint $190,000 $220,000 $30,000<br />

Married Separate N/A N/A N/A<br />

Single $ 95,000 $110,000 $15,000<br />

Head of Household $ 95,000 $110,000 $15,000<br />

<strong>Tax</strong> Professional Note: For purposes of this test modified AGI adds back the<br />

amounts excluded under §911, §931 or §933 as follows:<br />

§911 Excluded income of citizens or residents of the United States living<br />

abroad<br />

§931 Income from sources within Guam, American Samoa or the Northern<br />

Mariana Islands<br />

§933 Income from sources within Puerto Rico<br />

5. The 2001 <strong>Tax</strong> Act expanded the definition of qualified education costs to<br />

include not only college costs but also tuition, fees and expenses for<br />

kindergarten through 12th grades. This education can be provided at a public,<br />

private or religious school. It also includes uniforms, transportation and<br />

supplementary items or services.<br />

6. The law also provides that the cost to purchase computers or other<br />

technological equipment used by the student while in school will be qualified<br />

educational expenses. This cost includes internet access and related services.<br />

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7. The 2001 <strong>Tax</strong> Act also repealed the rule that prevented contributions to<br />

Coverdell Plans in the same year that contributions are made to a §529<br />

Qualified Tuition Program for the same beneficiary.<br />

8. The law allows a taxpayer to take tax-free distributions from a Coverdell<br />

Plan and still claim the Hope or Lifetime Learning Credits in the same tax<br />

year. This provision applies only if they are not the same expenses.<br />

9. The law provides that the deadline for making Coverdell Savings Plan<br />

contributions is April 15th of the following tax year which is the due date of<br />

the original return.<br />

Provisions For Special Needs Beneficiaries:<br />

1. §530(b)(1)(E) provides a general rule that funds remaining in a Coverdell Plan<br />

after the beneficiary reaches age 30 must be distributed to the beneficiary<br />

within 30 days after the beneficiary reaches age 30.<br />

2. There is an exception for a “special needs beneficiary” and the distribution<br />

deadline is not applicable.<br />

3. In addition, Congress also provided that the rule prohibiting contributions to<br />

a Coverdell Plan after the beneficiary reaches age 18 does not apply to a<br />

“special needs beneficiary.”<br />

4. Regulations define “special needs beneficiary” to include an individual who<br />

requires additional time to complete education because of a physical, mental<br />

or emotional condition including a learning disability.<br />

<strong>Tax</strong> Professional Research Recommendation: For more information refer to<br />

IRS Publication 970: <strong>Tax</strong> Benefits for Education.<br />

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L. §221 Student Loan Interest Deduction<br />

§221 Student Loan Interest Deduction<br />

• AGI phase-out ranges: Begins at $60,000 for singles and head of households, and $130,000 for joint<br />

filers in <strong>2015</strong> and 2016<br />

• Permanent provisions as a result of the American <strong>Tax</strong>payer Relief Act of 2012<br />

• Maximum deduction $2,500 for all taxpayers except married filing separate<br />

• Student Loan Interest Deduction Phase-Out Ranges:<br />

<strong>2015</strong> 2016<br />

Filing Status Begins Ends Range Begins Ends Range<br />

Married Joint $130,000 $160,000 $30,000 $130,000 $160,000 $30,000<br />

Married Separate N/A N/A N/A N/A N/A N/A<br />

Single and Head<br />

of Household<br />

$ 65,000 $ 80,000 $15,000 $ 65,000 $ 80,000 $15,000<br />

1. §221 provides that taxpayers can claim an above-the-line deduction of up<br />

to $2,500 for interest paid on qualified education loans.<br />

2. In <strong>2015</strong> the deduction phase-out begins at $65,000 of modified AGI for<br />

single taxpayers and $130,000 for joint filers.<br />

<strong>Tax</strong> Professional Note: The maximum deduction that can be claimed is the<br />

same $2,500 for both joint and single filers.<br />

<strong>Tax</strong> Professional Education Point: For purposes of this deduction modified<br />

AGI means AGI determined without regard to:<br />

§199 Income attributable to domestic production activities,<br />

§222 Deduction for qualified tuition and fees,<br />

§911 Excluded income of citizens or residents of the U.S. living<br />

abroad, and<br />

§933 Excluded income from sources within Puerto Rico;<br />

and after the application of:<br />

§86 Social Security and Tier 1 Railroad Retirement Benefits,<br />

§135 Income from U.S. Savings Bonds used to pay higher education<br />

tuition and fees,<br />

§137 Exclusion of amounts received for adoption assistance programs,<br />

§219 Deductible IRA contributions, and<br />

§469 Passive activity loss deductions.<br />

1-27


<strong>Tax</strong> Professional Research Recommendation: For more information refer to<br />

IRS Publication 970 <strong>Tax</strong> Benefits for Education.<br />

M. §222 Deduction for Qualified Higher Education Expenses<br />

§222 Deduction for Qualified<br />

Higher Education Expenses*<br />

*As of this writing this provision has expired; awaiting legislation<br />

• Above-the-line deduction for college tuition and required fees<br />

• Amount of deduction depends:<br />

o $2,000: Partial Deduction<br />

o $4,000: Full Deduction<br />

• AGI restrictions apply: a step phase-out range<br />

• Form 8917<br />

1. §222 provides that taxpayers who meet certain modified adjusted gross<br />

income threshold limitations and pay college tuition and related expenses<br />

can claim an “above-the-line” deduction for a limited amount of the<br />

qualified expenses.<br />

2. In 2014, the maximum deduction is $4,000. However, for married taxpayers<br />

filing a joint return with a modified AGI between $130,000 and $160,000,<br />

the deduction was reduced to $2,000. When the modified AGI is greater<br />

than $160,000 the deduction was completely phased out.<br />

<strong>Tax</strong> Professional Education Point: This provision includes a “step” phase-out<br />

range. The deduction could be an all or nothing for some taxpayers depending<br />

on their modified AGI. For other taxpayers, it is a partial deduction.<br />

As a result, tax planning is especially critical here if the modified AGI is at or<br />

near the threshold amount and the taxpayer is going to have qualified college<br />

expenses.<br />

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2014 Modified AGI Limits for Determining AGI<br />

for §222 Qualified Education Expenses Based on Filing Status<br />

Single<br />

Maximum<br />

Head of Household Married Joint Deduction<br />

Modified AGI < $65,000 $130,000 $4,000<br />

Modified ><br />

$65,000 but <<br />

Modified AGI ><br />

$130,000 but <<br />

$80,000 N/A $2,000<br />

N/A $160,000 $2,000<br />

Modified AGI > $80,000 N/A $ -0-<br />

Modified AGI > N/A $160,000 $ -0-<br />

EXAMPLE: Don is single and has a modified AGI of exactly $65,000 and has<br />

qualified education expenses of exactly $4,000. As a result, he can deduct the<br />

full $4,000 on page 1 of Form 1040. Before completing the return Don informs<br />

you that he has received a statement from his credit union that he earned $1.12<br />

of interest. This increases his modified AGI to $65,001. Because this amount is<br />

greater than $65,000 he can only deduct the partial amount of $2,000. If Don is<br />

in the 25% marginal bracket, then this will cause the extra $1.12 of income to<br />

increase his tax by $500.<br />

<strong>Tax</strong> Professional Education Point: For purposes of this deduction modified<br />

AGI is determined without regard to this section §222 and:<br />

§199 Income attributable to domestic production activities,<br />

§911 Excluded income of citizens or residents of the U.S. living abroad, and<br />

§933 Excluded income from sources within Puerto Rico;<br />

and after the application of:<br />

§86 Social Security and Tier 1 Railroad Retirement benefits,<br />

§135 Income from U.S. Savings Bonds used to pay higher education tuition and<br />

fees,<br />

§137 Exclusion of amounts received for adoption assistance programs,<br />

§219 Deductible IRA contributions,<br />

§221 Interest on education loans, and<br />

§469 Passive activity loss deductions.<br />

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<strong>Tax</strong> Professional Research Recommendation: For more information refer to<br />

IRS Publication 970 <strong>Tax</strong> Benefits for Education.<br />

N. §219 Traditional IRA Contribution Limits<br />

§219 IRA Contribution Limits<br />

• The maximum deductible contribution amount is $5,500 in <strong>2015</strong><br />

• No increase for 2016: $5,500<br />

• Additional contribution of $1,000 for age 50 and above<br />

• Phase-out ranges adjusted for inflation beginning in 2007 in $1,000<br />

multiples as a result of 2006 Pension Protection Act<br />

1. §219(b)(5)(D) provides that the contribution limit is adjusted for inflation in<br />

multiples of $500. There is no adjustment for <strong>2015</strong> so the maximum<br />

contribution is $5,500 for <strong>2015</strong>. For a married couple filing a separate return,<br />

the phase-out range is $ -0- to $10,000.<br />

2. §219(g)(8) provides that the contribution phase-out limit will be rounded to<br />

the nearest multiple of $1,000. The other limitations for making IRA<br />

contributions still apply. These limitations include the requirement that the<br />

taxpayer (or spouse) have earned income and modified AGI limits applied as<br />

follows:<br />

Phase-Out Range Based on Filing Status<br />

Year Married Joint Range<br />

Single/Head of<br />

Household<br />

Range<br />

2012 $92,000 - $112,000 $20,000 $58,000 - $68,000 $10,000<br />

2013 $95,000 - $115,000 $20,000 $59,000 - $69,000 $10,000<br />

2014 $96,000 - $116,000 $20,000 $60,000 - $70,000 $10,000<br />

<strong>2015</strong> $98,000 - $118,000 $20,000 $61,000 - $71,000 $10,000<br />

2016 $98,000 - $118,000 $20,000 $61,000 - $71,000 $10,000<br />

Note: For a married couple filing separate returns, the phase out range is $-0- to $10,000<br />

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3. §219(g)(7) provides that if an individual is not an active participant in an<br />

employer-sponsored retirement plan but his spouse is, then the deduction for<br />

the contribution to the traditional IRA is phased out if the joint return reports<br />

modified AGI between $183,000 - $193,000 in <strong>2015</strong>.<br />

4. §219(g)(8) provides that this provision is indexed to inflation beginning in<br />

2007 using 2005 as a base for the indexing. Therefore, the amount in <strong>2015</strong> is<br />

$183,000 and in 2016 is $184,000.<br />

Married Joint Phase-Out Range<br />

Year Begins Ends Range<br />

2012 $173,000 $183,000 $10,000<br />

2013 $178,000 $188,000 $10,000<br />

2014 $181,000 $191,000 $10,000<br />

<strong>2015</strong> $183,000 $193,000 $10,000<br />

2016 $184,000 $194,000 $10,000<br />

<strong>Tax</strong> Professional Education Fact: For purposes of this provision, §219(g)(3)<br />

provides that AGI is determined after the application of:<br />

§86 Social Security and Tier 1 Railroad Retirement benefits and<br />

§469 Passive activity losses;<br />

and without regard to:<br />

§135 Income from U.S. Savings Bonds used to pay higher education tuition<br />

and fees,<br />

§137 Exclusion of amounts received for adoption assistance programs,<br />

§199 Income attributable to domestic production activities,<br />

§219 Deductible IRA contributions,<br />

§221 Interest on education loans,<br />

§222 Deduction for qualified tuition and fees, and<br />

§911 Excluded income of citizens or residents of the U.S. living abroad.<br />

<strong>Tax</strong> Professional Research Recommendation: For more information refer<br />

to IRS Publications 590-A Individual Retirement Accounts (IRAs).<br />

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O. §408A Roth IRA Contribution Limits<br />

• Contribution amount: $5,500 in <strong>2015</strong><br />

§408A Roth IRA Contribution Limits<br />

• Additional contribution of $1,000 for age 50 and above<br />

• The threshold amounts for phase-out: adjusted for inflation in $1,000 increments<br />

• <strong>2015</strong> phase-out range:<br />

Filing Status Begins Ends Range<br />

Married Joint $183,000 $193,000 $10,000<br />

Single $116,000 $131,000 $15,000<br />

• 2016 phase-out range:<br />

Filing Status Begins Ends Range<br />

Married Joint<br />

$184,000 $194,000 $10,000<br />

Single<br />

$117,000 $132,000 $15,000<br />

• No contribution allowed for spouses filing separately if they lived together on any day<br />

during the tax year.<br />

1. §408A(c)(3)(C)(i) provides that a taxpayer may make a contribution to a Roth<br />

IRA as long as the modified AGI does not exceed the “applicable dollar<br />

amount.”<br />

2. The contribution amount is $5,500 in <strong>2015</strong>.<br />

3. The “applicable dollar amounts” are indexed to inflation rounded to the<br />

nearest increment of $1,000. The phase-out amount in <strong>2015</strong> begins at<br />

$183,000 for married joint and $116,000 for all others except married<br />

separate. For 2016 these amounts are $184,000 and $117,000.<br />

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P. §23 Nonrefundable Adoption Credit and §137 Employer Adoption<br />

Assistance Exclusion<br />

Adoption Benefits<br />

• §23 and §137 benefits are permanent provisions<br />

• Nonrefundable credit with a 5 year carryforward period<br />

• Indexed to inflation since 2003<br />

• Phase-out based on modified AGI<br />

• Higher phase-out ranges as the result of indexing:<br />

Year Phase-out Threshold Range<br />

2012 $189,710 - $229,710 $40,000<br />

2013 $194,580 - $234,580 $40,000<br />

2014 $197,880 - $237,800 $40,000<br />

<strong>2015</strong> $201,010 - $241,010 $40,000<br />

2016 $201,920 - $241,920 $40,000<br />

• Form 8839<br />

• IRS Publication 968<br />

1. In 2002 the provisions allowing the §23 adoption credit and the §137<br />

employer-provided adoption assistance exclusion were made permanent and<br />

the maximum amount of the adoption credit or exclusion increased to $10,000<br />

per eligible child (including special needs children). The $10,000 amount was<br />

indexed to inflation beginning in year 2003.<br />

2. In 2003 the income threshold at which taxpayers began to lose these adoption<br />

benefits increased to $150,000 and were indexed to inflation. The threshold<br />

amount for <strong>2015</strong> is $201,010 and increases to $201,920 for 2016.<br />

3. The credit is not allowed for taxpayers with a modified AGI greater than<br />

$241,010 in <strong>2015</strong> and $241,920 in 2016.<br />

Year Modified AGI Ranges Maximum<br />

2012 $189,710 - $229,710 = $40,000 $12,650*<br />

2013 $194,580 - $234,580 = $40,000 $12,970<br />

2014 $197,880 - $237,880 = $40,000 $13,190<br />

<strong>2015</strong> $201,010 - $241,010 = $40,000 $13,400<br />

2016 $201,920 - $241,920 = $40,000 $13,460<br />

*Indexed for inflation after 2012.<br />

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4. §23(a)(3) provides that the credit for a special needs adoption is allowed in<br />

the year the adoption is final regardless of whether the taxpayer has qualified<br />

adoption expenses. No credit is allowed for the adoption of a special needs<br />

child if the adoption is not finalized.<br />

EXAMPLE: Don and Donna adopt a special needs child and the adoption<br />

becomes final in <strong>2015</strong>. Their actual expenses totaled $5,325. Their total<br />

adoption credit is the full $13,400 maximum amount.<br />

When to Take the Credit or Exclusion:<br />

The year in which a taxpayer can take the adoption credit or exclusion<br />

depends on whether the eligible child is a citizen or resident of the United<br />

States (including U.S. possessions) at the time the adoption effort begins.<br />

Child who is a U.S. citizen or resident: If the eligible child is a U.S. citizen<br />

or resident, then the taxpayer can take the adoption credit or exclusion even if<br />

the adoption never becomes final. The taxpayer can take the credit or the<br />

exclusion as shown in the following tables:<br />

If taxpayer pays qualifying expenses in: Then take the §23 credit in:<br />

1. Any year before the year the<br />

1. The year after the year of the payment<br />

adoption becomes final<br />

2. The year the adoption becomes final 2. The year the adoption becomes final<br />

3. Any year after the year the adoption 3. The year of the payment<br />

becomes final<br />

If the employer pays for qualifying expenses under an adoption assistance<br />

program in any year, then the exclusion is taken in the year of the payment.<br />

Foreign child: If the eligible child is not a U.S. citizen or resident, then the<br />

taxpayer cannot take the adoption credit or exclusion unless the adoption<br />

becomes final. The taxpayer takes the credit or exclusion as shown in the<br />

following tables:<br />

If taxpayer pays qualifying expenses Then take §23 the credit in:<br />

i<br />

1. Any year before the year the<br />

1. The year the adoption becomes final<br />

adoption becomes final<br />

2. The year the adoption becomes final 2. The year the adoption becomes final<br />

3. Any year after the year the adoption<br />

becomes final<br />

1-34<br />

3. The year of the payment


If the employer pays for qualifying<br />

expenses under a §137 adoption<br />

1. Any year before the year the<br />

adoption becomes final<br />

Then take the §137 exclusion in:<br />

1. The year the adoption becomes final<br />

2. The year the adoption becomes final 2. The year the adoption becomes final<br />

3. Any year after the year the adoption<br />

becomes final<br />

3. The year of payment<br />

1. If the employer makes adoption assistance payments in a year before the<br />

adoption of a foreign child is final, then the taxpayer must include the<br />

payments in income in the year of payment. On the return for the year the<br />

adoption becomes final, the taxpayer can make an adjustment to take the<br />

exclusion. See Form 8839 and its instructions.<br />

TAX PROFESSIONAL ALERT: The employer is not required to withhold<br />

income tax on payments for qualifying expenses under a §137 adoption<br />

assistance program. If the taxpayer must include the payments in income in<br />

the year paid because the adoption of a foreign child is not final, then the<br />

withholding may not be enough to cover the tax on those payments. The<br />

taxpayer may need to give the employer a new Form W-4 to adjust<br />

withholding, or make estimated tax payments to avoid a penalty for<br />

underpayment of estimated tax.<br />

Finality of Foreign Adoption Safe Harbor Provided (Ann. 2005 45; Rev.<br />

Proc. 2005-31)<br />

The IRS has provided a safe harbor for determining the finality of a foreign<br />

adoption for purposes of the adoption expenses credit under §23 and §137. The<br />

procedure finalized the procedure proposed in Notice 2003-15, 2003-9 IRB with<br />

some modification made to address various comments received.<br />

The procedure modifies Notice 2003-15 by providing that a foreign-born child<br />

who receives an IR-2, IR-3 or IR-4 visa and enters the United States under a<br />

decree of simple adoption from the child’s home country will be treated as finally<br />

adopted either:<br />

1. In the tax year in which competent authority enters the decree of adoption, or<br />

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2. In the tax year in which a state enters a decree of re-adoption or otherwise<br />

enters an order recognizing the adoption decree of the child’s home country,<br />

if that occurs within two tax years after competent authority enters its decree.<br />

<strong>Tax</strong>payers may rely on either Notice 2003-15 or this procedure to determine when<br />

the adoption of a foreign-born child is final for purposes of taking the adoption<br />

expenses credit.<br />

TAX PROFESSIONAL ALERT: This procedure does not apply to adoptions<br />

the finality of which are determined by the Intercountry Adoption Act of 2000<br />

(P.L. 106-279) or the Hague Convention on Protection of Children and Cooperation<br />

in respect to Intercountry Adoption.<br />

This procedure is effective for qualified adoption expenses paid or incurred after<br />

June 15, 2005. In addition, the IRS will not challenge taxpayers who claim the<br />

credit using Notice 2003-15.<br />

NOTE: IRS Notice 2003-15, 2003-9 IRB also provided definitions to the safe<br />

harbor visa rules for the status of IR-2, IR-3 and IR-4.<br />

Q. Medicare Part B Premiums: Rules for Beneficiaries with Higher Incomes<br />

1. The Medicare Modernization Act of 2003 changed how Medicare Part B<br />

premiums are calculated for some higher income beneficiaries. According to<br />

the Social Security Administration (SSA) the majority of Medicare<br />

beneficiaries are not affected.<br />

2. For most beneficiaries the government pays 75% of Part B standard<br />

premiums and the beneficiary pays 25% of the premium.<br />

3. Since 2007, higher income beneficiaries have been paying a larger percentage<br />

of their Part B premium based on the income they reported to the IRS on their<br />

tax return from two years prior to when the premiums are due. Therefore a<br />

Medicare beneficiary’s <strong>2015</strong> premiums are based on their modified AGI<br />

reported on their 2013 Form 1040. If the SSA does not have information from<br />

a 2013 return, then they will use the information from the 2012 return.<br />

1-36


4. In <strong>2015</strong> higher income beneficiaries are paying a monthly premium equal to<br />

35-80% of the total premium cost depending on their AGI from 2013.<br />

According to the SSA less than 5% of Medicare beneficiaries are affected.<br />

5. Modified AGI is defined as AGI plus:<br />

a. <strong>Tax</strong>-exempt interest,<br />

b. §135 excluded EE Bond interest, and<br />

c. §911 foreign earned income and housing exclusion.<br />

6. The IRS gives the taxpayer’s filing status and modified AGI to the Social<br />

Security Administration to determine if the taxpayer has an “income related<br />

monthly adjustment amount” (IRMAA). The Social Security Administration<br />

will then assess any additional monthly premium.<br />

The <strong>2015</strong> standard premium is $104.90. The following chart reports the amounts<br />

of monthly Medicare Part B Premiums for <strong>2015</strong> based on modified AGI and<br />

filing status from the taxpayer’s 2013 Form 1040:<br />

Filing<br />

Modified AGI<br />

Monthly<br />

Premiums<br />

Increase Per<br />

Beneficiary<br />

Cumulative<br />

Increase<br />

Single & Head $214,000 $335.70 $ 63.00 $230.80<br />

Married Joint: $428,000 $335.70 $125.90 $230.80<br />

Married Separate: $129,000 $335.70 $ 63.00 $335.70<br />

<strong>Tax</strong> Professional Note: If the taxpayer is affected by the IRMAA, then they are<br />

also subject to increased Part D premiums.<br />

1-37


<strong>Tax</strong> Professional Educational Point: For more information on issues dealing<br />

with appeals, subsequent changes in income, filing status and one-time increases<br />

to income go to the Social Security Administration website at<br />

www.ssa.gov/Pubs/10536.html or call toll-free at 1-800-772-1213.<br />

<strong>Tax</strong> Professional Detail: What if the beneficiary disagrees with the additional<br />

assessment?<br />

If the beneficiary disagrees with the decision regarding income-related monthly<br />

adjustment amounts, then they have the right to appeal. Request an appeal in<br />

writing by completing a Request for Reconsideration (Form SSA-561-U2) or<br />

contact the local Social Security office to file an appeal. The appeal form is online<br />

at www.socialsecurity.gov/online or request a copy through the toll-free number<br />

at 1-800-772-1213 (TTY 1-800-325-0778). The recipient does not need to file an<br />

appeal if they are requesting a new decision because they experienced one of the<br />

events listed below and it made the income go down or if the recipient has shown<br />

the Social Security Administration the information used is incorrect.<br />

If one disagrees with the amount of MAGI received from the IRS, then the<br />

information has to be corrected with the IRS. If the SSA determines that the<br />

beneficiary must pay a higher amount for Medicare prescription drug coverage<br />

and the beneficiary does not have this coverage, then call the Centers for Medicare<br />

& Medicaid Services (CMS) at 1-800-MEDICARE (1-800-633-4227; TTY 1-<br />

877-486-2048) to make a correction. Social Security receives the information<br />

about prescription drug coverage from CMS.<br />

What If the Beneficiary’s Income has gone down?<br />

If the beneficiary’s income has gone down due to any of the following situations<br />

and the change makes a difference in the income level that SSA considers, then<br />

contact the SSA to explain the new information. The beneficiary may need a new<br />

decision about the income-related monthly adjustment amount if:<br />

• Beneficiary married, divorced, or became widowed;<br />

• Beneficiary or spouse stopped working or reduced work hours;<br />

• Beneficiary or spouse lost income-producing property due to a disaster or<br />

other event beyond their control;<br />

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• Beneficiary or spouse experienced a scheduled cessation, termination, or<br />

reorganization of an employer’s pension plan; or<br />

• Beneficiary or spouse received a settlement from an employer or former<br />

employer because of the employer’s closure, bankruptcy, or reorganization.<br />

If any of the above applies, then the SSA needs to see documentation verifying<br />

the event and the reduction in income. The documentation provided should relate<br />

to the event and may include a death certificate, a letter from an employer about<br />

retirement, or something similar. If the beneficiary filed a federal income tax<br />

return for the year in question, then a signed copy of the return needs to be shown<br />

to the SSA.<br />

Chapter I - Review Questions<br />

1. Which of the following expenses are allowed to be paid with a Coverdell<br />

distribution?<br />

a. School uniforms<br />

b. Computers and internet expenses<br />

c. Fees for attending college<br />

d. All of the above<br />

Answer:<br />

a. is correct. The 2001 Act expanded the definition of qualified education<br />

costs to include uniforms, transportation and supplementary items or<br />

services.<br />

b. is correct. The cost to purchase computers or other technological<br />

equipment used by the student while in school is a qualified educational<br />

expense. This cost includes internet access and related services.<br />

c. is also correct. The 2001 Act expanded the definition of qualified<br />

education costs to include not only college costs but also tuition, fees and<br />

expenses for kindergarten through 12th grades.<br />

1-39


Therefore, d. is the correct answer. The 2001 Act expanded the<br />

definition of qualified education costs to include not only college costs<br />

but also tuition, fees and expenses for kindergarten through 12 th grades.<br />

This education can be provided at a public, private or religious school. It<br />

also includes uniforms, transportation and supplementary items or<br />

services. The law also provides that the cost to purchase computers or<br />

other technological equipment used by the student while in school will<br />

be qualified educational costs. This cost includes internet access and<br />

related services<br />

2. Which of the following is a correct statement?<br />

a. The taxpayer can take the adoption credit in the year the adoption<br />

effort begins.<br />

b. If the eligible child is a U.S. citizen or resident, then the taxpayer can<br />

take the adoption credit or exclusion even if the adoption never<br />

becomes final.<br />

c. If the employer pays for qualifying expenses under an adoption<br />

assistance program in any year then the taxpayer is also eligible to<br />

take the credit.<br />

d. If the child is not a U.S. citizen or resident, then the taxpayer cannot<br />

take the adoption credit or exclusion.<br />

Answer:<br />

a. is partially correct. The year in which a taxpayer can take the adoption<br />

credit or exclusion depends on whether the eligible child is a citizen or<br />

resident of the United States (including U.S. possessions) at the time the<br />

adoption effort begins.<br />

b. is correct. If the eligible child is a U.S. citizen or resident, then the<br />

taxpayer can take the adoption credit or exclusion even if the adoption<br />

never becomes final.<br />

c. is incorrect. If the employer pays for qualifying expenses under an<br />

adoption assistance program in any year then the exclusion is taken in the<br />

year of the payment, and the credit is not allowed.<br />

1-40


d. is incorrect. If the eligible child is not a U.S. citizen or resident, then the<br />

taxpayer cannot take the adoption credit or exclusion unless the adoption<br />

becomes final.<br />

3. In <strong>2015</strong> a 65 year old taxpayer may claim a medical deduction on<br />

Schedule A for any amount in excess of<br />

a. 2% of AGI.<br />

b. 7.5% of AGI.<br />

c. 10% of AGI.<br />

d. None of the above<br />

Answer:<br />

a. is incorrect. 2% is the threshold for miscellaneous deductions on<br />

Schedule A.<br />

b. is correct. For tax years 2013 through 2016 taxpayers over age 65 can<br />

deduct medical expenses in excess of 7.5 % of AGI.<br />

c. is incorrect. Beginning in 2013 taxpayers under the age of 65 may deduct<br />

medical expenses in excess of 10% of AGI.<br />

d. is incorrect because b is the correct answer, therefore it cannot be ‘none<br />

of the above’<br />

1-41


II. The Year 2016 <strong>Tax</strong> Season<br />

Emergency Room:<br />

Data at The <strong>Tax</strong> Professional’s<br />

Fingertips


II. The Year 2016 <strong>Tax</strong> Season Emergency Room: Data at the <strong>Tax</strong> Professional’s Fingertips<br />

A. §1 <strong>Tax</strong> Rate Schedules for <strong>2015</strong> and Proposed <strong>Tax</strong> Rate Schedules for 2016<br />

Filing Status<br />

<strong>2015</strong> <strong>Tax</strong>able Incomes and Bracket Threshold<br />

10% 15% 25% 28% 33% 35% 39.6%<br />

Single $ 9,225 $37,450 $ 90,750 $189,300 $411,500 $413,200 >$413,200<br />

Head of Household $13,150 $50,200 $129,600 $209,850 $411,500 $439,000 >$439,000<br />

Married Joint &<br />

Surviving<br />

Spouse<br />

$18,450 $74,900 $151,200 $230,450 $411,500 $464,850 >$464,850<br />

Married Separate $ 9,225 $37,450 $ 75,600 $115,225 $205,750 $232,425 >$232,425<br />

Estates & Trust $ -0- $ 2,500 $ 5,900 $ 9,050 $ 12,300 N/A >$ 12,300<br />

Filing Status<br />

2016 <strong>Tax</strong>able Incomes and Bracket Threshold Limits*<br />

10% 15% 25% 28% 33% 35% 39.6%<br />

Single $ 9,275 $37,650 $ 91,150 $190,150 $413,350 $415,050 >$415,050<br />

Head of Household $13,250 $50,400 $130.150 $210,800 $413,350 $441,000 >$441,000<br />

Married Joint &<br />

Surviving Spouse $18,550 $75,300 $151,900 $231,450 $413,350 $466,950 >$466,950<br />

Married Separate $ 9,275 $37,650 $ 75,950 $115,725 $206,675 $233,475 >$233,475<br />

Estates & Trust N/A $ 2,550 $ 5,950 $ 9,050 $ 12,400 N/A >$ 12,400<br />

*Required to be finalized by December 15, <strong>2015</strong>.<br />

B. §63 Standard Deduction Amounts<br />

1. The basic standard deduction amounts are indexed to inflation and for years<br />

2012-2016 as follows:<br />

Filing Status 2012 2013 2014 <strong>2015</strong> 2016<br />

Joint return or Surviving Spouse $11,900 $12,200 $12,400 $12,600 $12,600<br />

Single (other than Head of<br />

Household or Surviving Spouse)<br />

$ 5,950 $ 6,100 $ 6,200 $ 6,300 $ 6,300<br />

Head of Household $ 8,700 $ 8,950 $ 9,100 $ 9,250 $ 9,300<br />

Married Filing Separate Returns $ 5,950 $ 6,100 $ 6,200 $ 6,300 $ 6,300<br />

2-1


2. For purposes of the unearned income of a minor child taxed at the parent’s<br />

rate (Kiddie <strong>Tax</strong>) §63(c)(5)(A) and §1(g)(4)(A)(ii) provide that for an<br />

individual who can be claimed as a dependent on another's return, the basic<br />

standard deduction for <strong>2015</strong> and 2016 will be the greater of:<br />

<strong>2015</strong> 2016<br />

a. $1,050 $1,050<br />

or<br />

or<br />

b. $ 350 $ 350<br />

plus the individual's earned income.<br />

However, the standard deduction may not exceed the regular standard<br />

deduction for that individual which is $6,300 in <strong>2015</strong> and in 2016.<br />

3. The additional standard deduction for married taxpayers 65 or over or blind<br />

is $1,250 in <strong>2015</strong> and 2016.<br />

4. For a single taxpayer or head of household who is 65 or over or blind the<br />

additional standard deduction is $1,550 in <strong>2015</strong> and 2016.<br />

C. §32 Earned Income Credit Limitations<br />

1. The following is the minimum amount of earned income for which the<br />

maximum Earned Income <strong>Tax</strong> Credit is allowed:<br />

Number of<br />

Qualifying Children<br />

Credit<br />

Percentage<br />

Earned<br />

Income<br />

Amount<br />

Maximum<br />

Credit<br />

0 7.65% $ 6,580 $ 503<br />

1 34% $ 9,880 $3,359<br />

2 40% $13,870 $5,548<br />

3 or more 45% $13,870 $6,242<br />

2-2


2. The phase-out of allowable EIC for single, head of household, and surviving<br />

spouse taxpayers begins and ends as follows:<br />

Number of Phase-out Phase-out Begins and Ends<br />

Qualifying Children Percentage Begins Ends<br />

0 7.65% $ 8,240 $ 870<br />

1 15.98% $18,110 $39,131<br />

2 21.06% $18,110 $44,454<br />

3 or more 21.06% $18,110 $47,747<br />

3. The phase-out of allowable EIC for joint filers begins and ends as follows:<br />

Number of Phase-out Phase-out Begins and Ends<br />

Qualifying Children Percentage Begins Ends<br />

0 7.65% $13,760 $20,330<br />

1 15.98% $23,630 $44,651<br />

2 21.06% $23,630 $49,974<br />

3 or more 21.06% $23,630 $53,267<br />

4. §32(i) provides that in <strong>2015</strong> the amount of disqualified income (generally<br />

investment income) that a taxpayer may have before losing the entire EIC is<br />

$3,400.<br />

<strong>Tax</strong> Professional Educational Point: Those taxpayers without a qualifying<br />

child must be age 25 but under age 65 at the end of the tax year and may not<br />

qualify as a dependent of another taxpayer.<br />

<strong>Tax</strong> Professional Research Recommendation: For more information refer<br />

to IRS publications:<br />

Pub. 3:<br />

Pub. 596:<br />

Pub. 596SP:<br />

Armed Forces <strong>Tax</strong> Guide<br />

Earned Income Credit (EIC)<br />

Earned Income Credit in Spanish<br />

2-3


D. Gift <strong>Tax</strong> and Estate <strong>Tax</strong> Exclusion Amounts<br />

1. The general rule states that taxpayers are required to file Form 709 U.S. Gift<br />

<strong>Tax</strong> Return for transfers of property to any donee.<br />

2. There is an annual gift tax exclusion per donee of $14,000 in <strong>2015</strong> in 2016.<br />

3. Married couples can exclude up to $28,000 in <strong>2015</strong> and in 2016.<br />

4. The exclusion amount is indexed annually but subjected to an incremental<br />

increase amount of $1,000 before the exclusion amount is increased. These<br />

annual exclusion amounts can be transferred without filing a gift tax return<br />

Form 709. Transfers of gifts to citizen spouses have an unlimited exclusion<br />

amount and Form 709 is not required to be filed.<br />

5. In <strong>2015</strong> gifts to non-citizen spouses are limited to $147,000. The amount is<br />

$148,000 in 2016.<br />

6. The estate and gift tax applicable exclusion is $5,430,000 in <strong>2015</strong> and<br />

$5,450,000 in 2016.<br />

7. §6039F(a) provides that for <strong>2015</strong>, a U.S. person receiving aggregate foreign<br />

gifts exceeding $100,000 from a nonresident alien individual or a foreign<br />

estate of more than $15,601 from foreign corporations or partnerships must<br />

file Form 3520. In 2016, the amount is increased to $15,671.<br />

E. Threshold Amounts for Social Security and Specific Pension Contribution<br />

Provisions<br />

1. Social Security wage base in <strong>2015</strong> is $118,500. The maximum FICA tax is<br />

$7,347.<br />

2. §401(k) Elective deferral is $18,000 in <strong>2015</strong> and $__________ in 2016.<br />

3. §403(b) Elective deferral is $18,000 in <strong>2015</strong> and $__________ in 2016.<br />

<strong>Tax</strong> Professional Note: For §401(k) and §403(b) plans, a catch-up<br />

contribution provision is available for those taxpayers who are age 50 or older<br />

by the last day of tax year. The amount is $6,000 in <strong>2015</strong> and $_______ in<br />

2016.<br />

2-4


4. §457(b)(2) and §457(c)(1) <strong>Tax</strong>-exempt and government plans: The<br />

limitation on deferrals under deferred compensation plans of state and local<br />

governments and tax-exempt organizations increased to $18,000 in <strong>2015</strong> and<br />

$__________ in 2016.<br />

5. §415(c)(1)(A) Defined contribution plan limit is $53,000 in <strong>2015</strong> and<br />

$__________ in 2016. This includes self-employed SEPs.<br />

6. §401(a)(17) Annual compensation limit on the amount of a plan participant's<br />

compensation that can be eligible in determining contributions and benefits is<br />

$265,000 in <strong>2015</strong> and $_________ in 2016.<br />

7. §408(k)(2)(C) SEP participation threshold: The amount of compensation<br />

an otherwise eligible employee must have in order to be a simplified employee<br />

pension plan participant is $600 in <strong>2015</strong> and $_________ in 2016.<br />

8. §408(p)(2)(A)(ii) SIMPLE plans: The maximum elective employee salary<br />

reduction contribution to a SIMPLE plan is increased to $12,500 in <strong>2015</strong>.<br />

In <strong>2015</strong> the age 50 and older catch-up provision allows an additional<br />

contribution of $3,000.<br />

<strong>Tax</strong> Professional Research Recommendation: For more information refer<br />

to IRS Publication 560 Retirement Plans for Small Business (SEP, SIMPLE<br />

and Qualified Plans.)<br />

F. §6654 Safe Harbor Rules and Waiver of Penalty for Required Estimated <strong>Tax</strong><br />

Payments<br />

1. Individuals will not incur a penalty for underpayment of estimated tax if the<br />

total liability for the year is less than $1,000.<br />

• For purposes of avoiding an estimated tax penalty the law also provides<br />

for a safe harbor amount which is the lesser of:<br />

a. 100% of the prior year tax, or<br />

b. 90% of the current year tax.<br />

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• For individuals whose adjusted gross income for the preceding tax year<br />

was more than $150,000, the 100% is increased to 110%.<br />

2. §6654(e)(3) provides for a “waiver” of penalty for an individual who has:<br />

a. retired after attaining age 62, or<br />

b. become disabled in the tax year for which the estimated tax payment was<br />

due or in the preceding tax year. It is required that the underpayment was<br />

due to reasonable cause and not to willful neglect.<br />

TAX PROFESSIONAL ALERT: The waiver is requested on Form 2210 by<br />

checking the box marked “reasonable cause” and by attaching a document that<br />

shows the date of the retirement and age or the date the taxpayer was<br />

determined to be disabled.<br />

3. The penalty can also be eliminated or reduced if the taxpayer’s income is<br />

annualized and Form 2210 page 3 is attached reporting the calculations.<br />

<strong>Tax</strong> Professional Research Recommendation: For more information refer<br />

to IRS Publication 505 <strong>Tax</strong> Withholding and Estimated <strong>Tax</strong>.<br />

G. §162(l) Health Insurance Premium Deduction for the Self-Employed<br />

<strong>Tax</strong>payer<br />

1. §162(l)(1)(A) provides that health insurance premiums for a self-employed<br />

taxpayer are deductible as an adjustment for determining AGI on Form 1040<br />

page 1.<br />

2. §162(l)(2)(C) provides that long-term care insurance premiums are deemed to<br />

be health insurance premiums and, therefore, are also deductible as an<br />

adjustment for determining AGI for a self-employed taxpayer subject to the<br />

age limitation amounts in §213(d)(10) (see section H in this chapter).<br />

2-6


3. In 2010 the IRS changed its position on deductibility of Medicare premiums<br />

by self-employed individuals as an adjustment in calculating Adjusted Gross<br />

Income. Publication 535 now states that Medicare premiums that the taxpayer<br />

voluntarily pays to obtain insurance that is similar to qualifying private health<br />

insurance can be used to calculate the deduction on Form 1040, line 29.<br />

For Medicare recipients all Medicare parts and supplemental premiums are<br />

considered self-employed premiums under §162(e)<br />

4. The publication also states that if the taxpayer previously filed a return without<br />

using Medicare premiums to calculate the deduction, an amended return can<br />

be filed to recalculate the deduction for any tax year where the statute of<br />

limitations has not expired.<br />

H. §213(d)(10) Long-Term Care Insurance Premium Deductions Based on Age<br />

§213(d)(10) provides a general rule that the amounts paid for insurance that<br />

cover the costs of qualified long-term care services are deductible as medical<br />

expenses up to a specified dollar amount based on the taxpayer’s age at the<br />

end of the tax year. Those limits for years 2012-2016 are as follows:<br />

Age<br />

Limit<br />

2012 2013 2014 <strong>2015</strong> 2016<br />

70 $4,370 $4,550 $4,660 $4,750 $4,870<br />

<strong>Tax</strong> Professional Research Recommendation: For more information refer to<br />

IRS Publication 502 Medical and Dental Expenses.<br />

2-7


I. §101(g)(3)(D) Excluded Benefits from Qualified Long-Term Care Coverage<br />

1. §101(g)(3)(D) provides that amounts received under a qualified long-term<br />

care insurance contract are generally excluded as amounts received for<br />

personal injuries and sickness subject to a per diem limitation for years 2012-<br />

2016 as follows:<br />

Year<br />

Amount<br />

2012 $310<br />

2013 $320<br />

2014 $330<br />

<strong>2015</strong> $330<br />

2016 $330<br />

Note: If payments are specific reimbursements, then these limits do not apply.<br />

The gross LTC Benefits paid are reported to the taxpayer on Form 1099-LTC<br />

in Box 1.<br />

J. §274(n) Meal Allowance Deductions for Certain <strong>Tax</strong>payers<br />

1. §274(n)(1) provides a general rule that the amount allowable as a deduction<br />

for food or beverages and entertainment shall not exceed 50% of the amount<br />

of such expense.<br />

2. §274(n)(2)(B) provides that the 50% limitation does not apply in the case of<br />

an expense for food or beverages provided to employees as a de minimis<br />

fringe benefit. Therefore, the allowable deduction is 100%.<br />

3. In addition, the deductible percentage of the cost of meals consumed by<br />

employees subject to the Department of Transportation (DOT) hours of<br />

service rules is 80%.<br />

2-8


4. The meal deduction is available for food or beverages consumed while away<br />

from their tax home by an individual during, or incident to, a period of duty<br />

subject to the DOT's hours of service limitations. Individuals subject to the<br />

hours of service limitations include:<br />

a. certain air transportation employees, such as pilots, crew, dispatchers,<br />

mechanics, and control tower operators;<br />

b. interstate truck operators and interstate bus drivers;<br />

c. certain railroad employees, such as engineers, conductors, train crews,<br />

dispatchers, and control operations personnel; and<br />

d. certain merchant mariners.<br />

<strong>Tax</strong> Professional Research Recommendation: Refer to IRS Publication 463<br />

Travel, Entertainment, Gift and Car Expenses.<br />

K. §280F Year <strong>2015</strong> Luxury Auto Depreciation Dollar Limits and Lease<br />

Inclusion Add-Back Amounts<br />

1. The IRS annually issues the inflation-adjusted depreciation limits for business<br />

autos placed in service during the current tax year and the annual income<br />

inclusion amounts for business autos first leased during the current tax year.<br />

The information is updated in Rev. Proc. <strong>2015</strong>-19.<br />

2. There are separate amounts for business autos running primarily on electricity.<br />

3. §280F provides that annual depreciation and expensing deductions for luxury<br />

autos are limited to specific dollar amounts. These amounts are adjusted each<br />

year for changes to the automobile component of the Consumer Price Index.<br />

4. The depreciation limits for luxury autos placed in service during 2013-<strong>2015</strong><br />

are as follows:<br />

2013 2014 <strong>2015</strong><br />

1 st tax year $3,160 $3,160 $3,160<br />

2 nd tax year $5,100 $5,100 $5,100<br />

3 rd tax year $3,050 $3,050 $3,050<br />

Each succeeding year $1,875 $1,875 $1,875<br />

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<strong>Tax</strong> Professional Note: The applicable first-year depreciation limit is $3,160.<br />

The $8,000 for qualifying vehicles under §168(k) bonus depreciation expired<br />

for tax years after December 31, 2014. The provision is being considered for<br />

extension for <strong>2015</strong>.<br />

5. For light trucks and vans (defined as those passenger autos built on a truck<br />

chassis, including minivans and sport utility vehicles (SUVs) built on a truck<br />

chassis) placed in service in calendar years 2013-<strong>2015</strong> the amounts are as<br />

follows:<br />

If placed in service in 2013 – <strong>2015</strong><br />

2013 2014 <strong>2015</strong><br />

1 st tax year $3,360 $3,460 $3,460<br />

2 nd tax year $5,400 $5,500 $5,600<br />

3 rd tax year $3,250 $3,350 $3,350<br />

Each succeeding year $1,975 $1,975 $1,975<br />

<strong>Tax</strong> Professional Note: The applicable first-year depreciation limit is $3,460.<br />

The $8,000 for qualifying vehicles under §168(k) bonus depreciation expired<br />

as of December 31, 2014 and is being considered for reinstatement as of this<br />

writing.<br />

<strong>Tax</strong> Professional Reminder: Heavy SUVs (defined as those that are built on<br />

a truck chassis and are rated at more than 6,000 pounds gross loaded vehicle<br />

weight) are exempt from the luxury-auto dollar caps because they fall outside<br />

of the §280F(d)(5) definition of a passenger auto.<br />

Under §179(b)(6), not more than $25,000 of the cost of a heavy SUV placed<br />

in service after October 22, 2004 and used 100% for business may be<br />

expensed under §179. The balance of the heavy SUVs cost may be depreciated<br />

under the regular rules that apply to 5-year MACRS property (e.g., a 20%<br />

first-year depreciation allowance if the half-year convention applies for the<br />

placed in service year). However, SUVs are MACRS property and therefore<br />

the 50% bonus depreciation rules apply.<br />

2-10


6. Luxury auto dollar limits must be reduced proportionately if business and/or<br />

investment use is less than 100%.<br />

EXAMPLE: If a self-employed person places a luxury auto in service during<br />

<strong>2015</strong> and uses it 60% for business and 40% for personal driving, then the first<br />

year dollar limit would be $1,896 (60% of $3,160).<br />

7. If qualified business use of a luxury auto in its placed-in-service year does not<br />

exceed 50% of total use, then it must be depreciated via straight-line ADS<br />

instead of accelerated MACRS. The luxury auto dollar caps still apply.<br />

EXAMPLE: If a self-employed person uses her $25,000 car 40% for<br />

business, then the first year cost-recovery allowance using the half-year<br />

convention would be $1,000 which is the lesser of:<br />

a. $1,000 (which is 10% first year straight-line allowance for 5-year property<br />

applied to the $10,000, which is the 40% business-use portion of the<br />

$25,000 cost of the car), or<br />

b. $1,264 (40% of the $3,160 first-year dollar cap).<br />

NOTE: The dollar limits artificially cap the depreciation deductions normally<br />

available for five-year property. For example, without the dollar caps, first<br />

year MACRS depreciation on a $25,000 non-electric auto used 100% for<br />

business generally would be $5,000 (i.e., 20% of $25,000).<br />

8. §280F(b)(2) provides that if qualified business use declines to 50% or less of<br />

total use after the first year, then the taxpayer must switch to straight-line<br />

depreciation in that year, and there may be some recapture as well. The<br />

recapture amount is reported on Form 4797, Page 2, Part IV. The result is<br />

then reported on the “other income” line of all business returns. If the taxpayer<br />

is a sole proprietorship, then the inclusion amount is reported as “other<br />

income” on Schedule C, line 6, which would then increase the selfemployment<br />

income.<br />

2-11


9. If a taxpayer leases a business auto, then they may deduct the part of the lease<br />

payment representing its business/investment use. If the business/investment<br />

use is 100%, then the full lease cost is deductible. However, §280F(c)<br />

provides that taxpayers must include a certain amount in income during each<br />

year of the lease to partially offset the lease deduction. The add-back amount<br />

varies with the initial fair market value of the leased auto and the year of the<br />

lease, and is adjusted for inflation each year.<br />

10. Tables are available that report the lease income inclusion amount for<br />

passenger autos, light trucks and vans with a lease term beginning in <strong>2015</strong>.<br />

The lease income inclusion tables do not apply at all unless the FMV of a<br />

passenger auto exceeds $17,500. For trucks and vans the amount is also<br />

$18,500. (See Rev. Proc. <strong>2015</strong>-19, Table 3 and 4.)<br />

11. The inclusion amount is reported on the “other income” line of all business<br />

returns. If the taxpayer is a sole proprietorship then the inclusion amount is<br />

reported on Schedule C, line 6, and also increases the self-employment<br />

income. If the taxpayer is an employee then it is reported on Form 2106, line<br />

24(b).<br />

EXAMPLE: Don leases an automobile beginning April 1, <strong>2015</strong>, for 24<br />

months and the FMV of the auto on the date placed in service is $26,000.<br />

According to the table provided in the Revenue Procedure by the IRS, the<br />

inclusion amount is $15 in the first year of the lease and $34 in the second<br />

year of the lease if the vehicle were to be used 100% business. His total miles<br />

driven were 10,000 and Don uses the vehicle 90% for business according to<br />

his records. Therefore, his inclusion amount for the period April 1, <strong>2015</strong> to<br />

December 31, <strong>2015</strong> (which is 275 days) is only $10 using the worksheet<br />

provided in IRS Publication 463.<br />

2-12


§280F(c) AUTO LEASE INCLUSION AMOUNT<br />

NAME: Don<br />

ID#: XXX-XX-1234<br />

Vehicle Description:<br />

1. Date of lease 4/1/<strong>2015</strong><br />

2. Term of lease (months) 24<br />

3. Current tax year <strong>2015</strong><br />

4. Fair market value (FMV) $26,000<br />

5. Number of days leased in current tax year 275<br />

6. Business/investment mileage 9,000<br />

7. Total mileage 10,000<br />

8. Dollar amount from table $ 15<br />

9. Business/investment mileage percentage (L6/L7) 90%<br />

10. Percent of days leased in current tax year (L5/365) 75%<br />

11. Lease inclusion amount for tax year (L8 X L9 X L10) $ 10<br />

L. §162 Standard Mileage Rates:<br />

Mileage<br />

2013 2014 <strong>2015</strong> 2016<br />

Business 56.5 cents 56 cents 57.5 cents ?<br />

Medical 24 cents 23.5 cents 23 cents ?<br />

Moving 24 cents 23.5 cents 23 cents ?<br />

Charitable 14 cents 14 cents 14 cents ?<br />

<strong>Tax</strong> Professional Research Recommendation: For more information refer to<br />

IRS Publication 463 Travel, Entertainment, Gift and Car Expenses.<br />

2-13


M. §6159 Administrative Relief for Entering Into an Installment Agreement<br />

with the IRS<br />

1. §6159(a) provides that individual taxpayers have a right to pay their taxes in<br />

installments provided the liability is not more than $10,000.<br />

2. §6159(c) provides that the taxes must be paid in three years and that the<br />

taxpayer is current on all other taxes due.<br />

3. The IRS provides a more liberal administrative policy. It grants installment<br />

payments to taxpayers who agree to pay a balance due of $50,000 or less in<br />

tax, penalties and interest within a six-year period and these agreements<br />

do not require a collection manager's approval and do not involve the filing<br />

of liens. Businesses must owe $25,000 or less in payroll taxes and have filed<br />

all required returns.<br />

4. <strong>Tax</strong>payers may enter into an agreement in person, by phone, by<br />

correspondence or online.<br />

5. <strong>Tax</strong>payers may ask for an installment plan using Form 9465 Installment<br />

Agreement Request. The taxpayer should list the proposed monthly payment<br />

amount and the payment day on Form 9465. Alternatively, taxpayers may<br />

choose to have the payments taken automatically from their bank account. IRS<br />

normally responds to an installment payment request within 30 days.<br />

<strong>Tax</strong> Professional Reminder: In order to be able to enter into an installment<br />

agreement all current tax returns must be filed and all current taxes must be<br />

paid.<br />

6. Generally, there is a $120 fee for setting up the installment agreement.<br />

However, the fee is only $52 if the payments are directly deducted from a<br />

taxpayer’s bank account.<br />

TAX PROFESSIONAL ALERT: If the amount due is greater than $25,000,<br />

but not more than $50,000, then the taxpayer must make payments by direct<br />

debit from their checking account. In addition a taxpayer can make payments<br />

by a payroll deduction by completing and attaching Form 2159 Payroll<br />

Deduction Agreement to Form 9465.<br />

2-14


7. The regulations allow a low-income taxpayer exception which assesses only<br />

a $43 fee for qualifying taxpayers. A qualifying taxpayer is defined as one<br />

whose income falls at or below 250% of the dollar poverty level established<br />

by the U.S. Department of Health and Human Services.<br />

8. <strong>Tax</strong>payers on an installment agreement also must pay interest, compounded<br />

daily. Regulation §300.1(b) states that the fee to restructure an existing or<br />

reinstate a defaulted installment agreement is $50 in all cases.<br />

TAX PROFESSIONAL ALERT: Under the general rule taxpayers must pay<br />

a monthly late penalty payment charge of .5% of the balance due. This<br />

monthly penalty drops to .25% for taxpayers with an installment agreement,<br />

provided the taxpayer filed on time and did not receive a notice that IRS<br />

intended to enforce collection through a levy.<br />

9. The application for Online Payment Agreement (OPA) use can be prepared<br />

by the taxpayer or an authorized representative who has a Power of Attorney<br />

on file with the IRS. When applying for an online payment agreement the<br />

application reminds taxpayers and representatives that the total amount owed<br />

must be $50,000 or less in combined tax, penalties and interest.<br />

• The following data is required to be entered:<br />

a. Social security number or individual TIN,<br />

b. Date of birth,<br />

c. Caller ID number, shown at the top of the taxpayer’s recent IRS<br />

notice,<br />

d. PIN, if there is one. If not, then AGI for the year involved,<br />

e. Highest amount that can be paid and when it can be paid, and<br />

f. Have the tax return available to verify information.<br />

• When those steps are satisfied the application is submitted and an<br />

immediate notification of approval will be received if all is correct.<br />

<strong>Tax</strong> Professional Research Recommendation: Refer to IRS Publication<br />

594: What You Should Know About the IRS Collection Process.<br />

2-15


N. Retirement Fund Portability Rules Provide <strong>Tax</strong>payers More Choices<br />

1. With the enactment of the Pension Protection Act of 2006, the law has come<br />

close to achieving the goal of assuring that taxpayers have flexibility in<br />

deciding the type of vehicle for their tax-favored retirement funds (e.g.,<br />

qualified plan, IRA, Roth IRA, etc.) and how these funds are invested.<br />

2. With flexibility comes complexity. The rollover choices (and the conditions<br />

attached to them) are numerous, making it difficult to track.<br />

3. The rollover chart below is adapted from a chart posted on the IRS website. It<br />

summarizes the rollover choices available for each type of tax-favored<br />

retirement vehicle, and the basic conditions that may apply.<br />

4. Many of the types of allowable rollovers are subject to complex conditions<br />

that a chart of this nature cannot address. For example, §408(d)(3)(B) provides<br />

that a rollover from a regular IRA to another regular IRA must be completed<br />

in 60 days, and may be made only once in a 12-month period.<br />

<strong>Tax</strong> Professional Research Recommendation: For additional details on<br />

pension rollover issues the IRS website provides “Retirement Topics-<br />

Rollovers of Retirement Plan Distributions” which provides data on rollover<br />

and waiver issues in certain situations: www.IRS.gov/retirement.<br />

2-16


Pension and Retirement Fund Portability Chart<br />

Roll From<br />

Roll To<br />

IRA SEP-IRA SIMPLE<br />

IRA<br />

Roth IRA<br />

457(b)<br />

(Government)<br />

403(b)<br />

Qualified<br />

Plan<br />

(Pre-<strong>Tax</strong>)<br />

Designated<br />

Roth<br />

Account<br />

§401(k)<br />

§403(b)<br />

§457(b)<br />

IRA YES YES NO YES, must<br />

include in<br />

income.<br />

SEP-IRA YES YES NO YES, must<br />

include in<br />

income.<br />

YES, must<br />

have separate<br />

accounts.<br />

YES, must<br />

have separate<br />

accounts.<br />

YES YES NO<br />

YES YES NO<br />

SIMPLE<br />

IRA<br />

YES, after<br />

two years.<br />

YES, after<br />

two years.<br />

YES<br />

YES, after<br />

two years.<br />

Must include<br />

in income.<br />

YES, after<br />

two years.<br />

Must have<br />

separate<br />

accounts.<br />

YES, after<br />

two years.<br />

YES, after<br />

two years.<br />

Roth IRA NO NO NO YES NO NO NO NO<br />

NO<br />

457(b)<br />

(Government)<br />

YES YES NO YES<br />

Must include<br />

in income.<br />

YES YES YES YES<br />

Must<br />

include in<br />

income.<br />

Must be an<br />

in-plan<br />

rollover.<br />

403(b)<br />

(Pre-<strong>Tax</strong>)<br />

YES YES NO YES<br />

Must include<br />

in income.<br />

YES<br />

Must have<br />

separate<br />

accounts.<br />

YES YES YES<br />

Must<br />

include in<br />

income.<br />

Must be an<br />

in-plan<br />

rollover.<br />

Qualified<br />

Plan<br />

(Pre-<strong>Tax</strong>)<br />

YES YES NO YES. Must<br />

include in<br />

income.<br />

YES. Must<br />

have separate<br />

accounts.<br />

YES YES YES<br />

Must<br />

include in<br />

income.<br />

Must be an<br />

in-plan<br />

rollover.<br />

Designated<br />

Roth<br />

Account<br />

§401(k)<br />

§403(b)<br />

§457(b)<br />

NO NO NO YES NO NO NO YES, if a<br />

direct<br />

trustee to<br />

trustee<br />

transfer.<br />

2-17


O. Definition of Limited Partner for Purposes of Self-Employment <strong>Tax</strong>:<br />

(Proposed Reg. §1.1402-(a)-2(h)(3))<br />

1. IRS proposed regulations provide guidance as to whether a member of an LLC<br />

is considered a “limited partner” for purposes of self-employment tax.<br />

2. The regulations adopt an approach which depends on the relationship between<br />

the member, the LLC and the LLC’s business.<br />

NOTE: State law characterizations of an individual as a “limited partner” are<br />

not determinative.<br />

3. Generally, an individual will be treated as a “limited partner” under the<br />

proposed regulation unless the individual:<br />

a. Has personal liability for the debts of or claims against the LLC by reason<br />

of being a member, or<br />

b. Has authority to contract on behalf of the LLC under the statute or law<br />

pursuant to which the partnership is organized, or<br />

c. Participates in the LLC’s trade or business for more than 500 hours during<br />

the taxable year.<br />

4. If, however, substantially all of the activities of the LLC involve the<br />

performance of services (Service Partnerships) in the fields of:<br />

a. Health,<br />

b. Law,<br />

c. Engineering,<br />

d. Architecture,<br />

e. Accounting,<br />

f. Actuarial science, or<br />

g. Consulting,<br />

then any individual (service partner) who provides services as part of that<br />

trade or business will not be considered a limited partner for purposes of the<br />

self-employment tax.<br />

2-18


5. By adopting these functional tests, the proposed regulations ensure that<br />

similarly situated individuals owning interests in entities formed under<br />

different statutes or different jurisdictions will be treated similarly.<br />

6. A functional approach is necessary to ensure that the self-employment tax<br />

consequences to similarly situated taxpayers do not differ depending where<br />

the partnership or LLC is organized.<br />

Service Partner Defined:<br />

1. A “service partner” is a partner who provides services to or on behalf of the<br />

“service partnership’s” trade or business.<br />

2. A partner is not considered to be a service partner if that partner only provides<br />

a de minimis amount of services to or on behalf of a partnership.<br />

<strong>Tax</strong> Professional Note: The proposed regulations do not define a de minimis<br />

amount.<br />

<strong>Tax</strong> Professional Research Recommendation: Refer to IRS Publication 533<br />

Self-Employment <strong>Tax</strong>.<br />

P. Notice of Inconsistent Treatment: Form 8082<br />

1. Pass-through entities such as partnerships, Subchapter S corporations, estates<br />

and trusts require that the result of any net income, net loss deductions or<br />

credits, etc. are reported to the partners, S Corporation shareholders and<br />

beneficiaries. These items of income, loss and/or credits, etc. are required to<br />

be reported to the owners and beneficiaries on a Schedule K-1 and these<br />

recipients are required to report these items in a consistent manner with the<br />

way they were reported by the entity on the Schedule K-1. However, there<br />

may be reasons that the recipient may wish to report these items differently<br />

and if this is the case, then the recipient could use Form 8082 for this purpose.<br />

2. Form 8082 is used to notify the IRS of any inconsistency between the<br />

taxpayer’s treatment of an item reported by the entity on Schedule K-1 and<br />

how the taxpayer is actually reporting that particular item on their return.<br />

2-19


3. The taxpayer would also use Form 8082 if a Schedule K-1 was not received<br />

from the entity.<br />

4. A taxpayer would use Form 8082 if they believed that:<br />

a. An item was not properly reported on Schedule K-1, or<br />

b. An item was reported on Schedule K-1 that should not be reported on<br />

the taxpayer’s return.<br />

5. For example, if the taxpayer believes that the percentage shown as the<br />

ownership percentage of capital at the end of the year was not properly<br />

reflected on Schedule K-1, then file Form 8082 even though the taxpayer is<br />

not otherwise required to report that percentage on the tax return.<br />

6. If the issue of inconsistency is discovered after filing the original return, then<br />

a taxpayer could file an amended return to report it. In the space provided on<br />

the amended return for writing an explanation enter “See Attached Form<br />

8082.” If the correction does not affect the tax return, then no amounts need<br />

to be reported on the amended return if the Form 8082 is the only purpose for<br />

filing the amended return.<br />

7. The taxpayer would also file a Form 8082 if the pass-through entity has not<br />

filed a tax return or provided the taxpayer with the required Schedule K-1 by<br />

the time that the taxpayer is required to file his tax return (including<br />

extensions) and there are items of income, loss, deductions and credits that the<br />

taxpayer is required to report on his return.<br />

Q. §465 At Risk Limitations: Schedule C and Schedule E Issues and Form<br />

6198 Reporting Requirements<br />

1. §465(a)(1) provides a general rule that in the case of an individual engaged in<br />

an activity to which this section applies, any loss from such entity for the<br />

taxable year shall be allowed only to the extent of the aggregate amount with<br />

respect to which the taxpayer is at risk for such activity at the close of the<br />

taxable year.<br />

2-20


2. §465(a)(2) provides that any loss from an activity not allowed in the current<br />

year shall be treated as a deduction in the succeeding year if the taxpayer is<br />

then at risk at the end of the tax year.<br />

3. §465(b) addresses the amounts which are considered at risk and in §465(b)(1)<br />

provides that in general a taxpayer shall be considered at risk for an activity<br />

with respect to amounts including:<br />

a. The amount of money and the adjusted basis of other property contributed<br />

to the activity, and<br />

b. Amounts borrowed with respect to such activity.<br />

4. §465(b)(2) provides that for purposes of this section, a taxpayer shall be<br />

considered at risk with respect to amounts borrowed for use in an activity to<br />

the extent that the taxpayer:<br />

a. Is personally liable for the repayment of such amount, or<br />

b. Has pledged property, other than property used in such activity, as security<br />

for such borrowed amount (to the extent of the net fair market value of the<br />

taxpayer’s interest in such property).<br />

5. If the debt on property contributed is nonrecourse debt, then no property shall<br />

be taken into account as security if such property is directly or indirectly<br />

financed by indebtedness which is secured only by the property.<br />

6. §465(b)(3)(A) provides that certain borrowed amounts are excluded and shall<br />

not be considered to be at risk with respect to an activity if such amounts are<br />

borrowed from any person who has an interest in such activity or from a<br />

related person.<br />

7. §465(b)(3)(C) defines a related person for this purpose to be any person if the<br />

person bears a relationship to the taxpayer as specified in §267(b) or<br />

§707(b)(1).<br />

2-21


8. §267(b) addresses the issue of various relationships to the taxpayer.<br />

§267(b)(1) specifically provides rules dealing with a member of the<br />

taxpayer’s family which would include only the taxpayer’s brothers and<br />

sisters (whether by whole or half-blood) spouse, ancestors and lineal<br />

descendants.<br />

<strong>Tax</strong> Professional Education Point: Recourse debt means that the taxpayer<br />

has an obligation to repay the debt in full even if the underlying property’s<br />

value on the date of enforcement of the loan is insufficient to cover the loan.<br />

With a nonrecourse debt the taxpayer is not responsible for paying an amount<br />

greater than the value of the underlying property.<br />

EXAMPLE #1: In <strong>2015</strong> Ennis T. Pea borrows $25,000 from his brother to<br />

finance his Schedule C business which had a net loss of $40,000. Of this<br />

$40,000 only $15,000 is considered at risk because the money borrowed from<br />

his brother is not considered at risk.<br />

Ennis would be required to check box 32b of Schedule C and attach Form<br />

6198, entering $40,000 as the current year ordinary loss in Part I on line 1<br />

and calculating his investment of everything except the $25,000 he borrowed<br />

from his brother, which in this example is $15,000. Part IV of Form 6198<br />

would report that his deductible loss is the lower of the ordinary loss of<br />

$40,000 or his personal investment of $15,000. In 2016 when Ennis repays<br />

his brother $4,000 he will be allowed to increase his amount at risk only by<br />

the actual $4,000 repaid.<br />

EXAMPLE #2: In 2016 Ennis has a net loss of $40,000 and he borrowed<br />

$25,000 from ABC Bank. He will report a net loss of $44,000 which includes<br />

the $4,000 repayment to his brother. Ennis will continue to increase his<br />

deductible loss as he makes payments on the loan to his brother. If he never<br />

repays the loan to his brother, then he will never be able to deduct the<br />

additional $21,000.<br />

2-22


EXAMPLE #3: Same data as Example #1 except Ennis borrowed the money<br />

from ABC Bank and his brother co-signed the loan. Ennis is at risk for the full<br />

$25,000 as long as his brother does not pay for any of the debt. If the brother<br />

made a $1,000 payment, then Ennis would not be at risk for the $1,000 paid<br />

to the bank by his brother.<br />

<strong>Tax</strong> Professional Educational Fact: §267(b) addresses other relationships to<br />

the taxpayer such as corporate ownership, fiduciary issues, partnership, etc.<br />

§707(b)(1) addresses the relationship of partners to a partnership.<br />

<strong>Tax</strong> Professional Note: These at-risk rules will apply equally to borrowed<br />

amounts which are used for operating a rental property.<br />

2-23


R. Education Program Comparison Sheet<br />

2014 Comparison of: §25A American Opportunity <strong>Tax</strong> Credit, §25A<br />

Lifetime Learning Credit, §222 Higher Education Deduction, §529<br />

Qualified Tuition Program, and §530 Coverdell Savings Plan<br />

American<br />

Opportunity<br />

<strong>Tax</strong> Credit (A)<br />

Lifetime<br />

Learning Credit<br />

Higher<br />

Education<br />

Deduction<br />

(B)<br />

Qualified<br />

Tuition<br />

Program<br />

Coverdell Savings<br />

Plan<br />

Internal Revenue Code §25A(i) §25A(c) §222 §529 §530<br />

Benefit phased out at<br />

certain level of AGI<br />

Yes Yes Yes No Yes<br />

Phase-out range based<br />

on AGI:<br />

Married taxpayers filing<br />

joint return<br />

$160,000 - $180,000 $110,000-$130,000 $130,000 5 N/A $190,000 - $220,000<br />

Single and Head<br />

of Household<br />

$ 80,000 - $ 90,000 $ 55,000-$ 65,000 $ 65,000 5 N/A $ 95,000 - $110,000<br />

Married Separate No credit allowed No credit allowed No deduction<br />

allowed<br />

Maximum annual credit,<br />

investment or deduction<br />

Qualified education<br />

expenses include room<br />

and board<br />

Qualified education<br />

expenses include<br />

elementary and<br />

secondary costs<br />

Can claim credits in<br />

same year as distribution<br />

or deduction<br />

Can use in same year as<br />

distribution from §530<br />

Coverdell Plan<br />

Can use in same year as<br />

distribution from §529<br />

plan<br />

$2,500 credit $2,000<br />

Lifetime<br />

Learning credit<br />

$2,000 part<br />

deduction<br />

$4,000 full<br />

deduction<br />

Yes<br />

N/A<br />

No No No Yes Yes<br />

No No No No Yes<br />

N/A N/A No Yes 2 Yes 2<br />

Yes 2 Yes 2 Yes 2 Yes N/A<br />

Yes 2 Yes 2 Yes 4 N/A Yes<br />

No contribution<br />

allowed<br />

$2,000 investment<br />

1<br />

Per Prop. Reg. 1.25A-1(g), parents may elect to forego claiming student as dependent to allow the<br />

education credit in child’s return<br />

2<br />

Same tuition and fee expenses cannot be used for both provisions.<br />

3<br />

Except no higher education deduction is allowable for amounts distributed from a §530 Coverdell<br />

Plan.<br />

4<br />

Except no higher education deduction is allowable for amounts distributed from a §529 plan.<br />

5<br />

Full deduction with partial deduction allowed at different thresholds of $80,000 and $160,000.<br />

(A) Extended through December 31, 2017.<br />

(B) Expired after 2014 (awaiting legislative update)<br />

6<br />

If required or provided by a public, private or religious school in connection with such enrollment of<br />

alterdence §530(b)(3)(A)(i.i)<br />

2-24


S. Other Important Threshold Amounts<br />

1. Health Savings Accounts: In <strong>2015</strong> and 2016, the annual limitation on<br />

deductions for an individual with self-only coverage under a high deductible<br />

plan is $3,350. The annual limitation for an individual with family coverage<br />

under a high deductible plan is $6,650. In 2016 the amount is $6,750 (Rev.<br />

Proc. <strong>2015</strong>-30). The catch up provisions for those taxpayers 55 and older is<br />

$1,000.<br />

2. Flexible spending arrangements (FSA) limitations: the limitation on the<br />

amount of salary reductions that an employee may elect to contribute to a §125<br />

Cafeteria plan is $2,550 for <strong>2015</strong> and 2016.<br />

3. §911 Foreign earned exclusion and foreign housing deduction: For <strong>2015</strong>,<br />

the foreign earned income exclusion is $100,800 and the housing deduction<br />

maximum is $30,240. In 2016, foreign earned income inclusion amount is<br />

increased to $101,300 and the housing deduction maximum is increased to<br />

$30,390. The maximum housing deduction is generally 30% of the §911<br />

Foreign Income Exclusion Amount. These limit are increased for high cost<br />

areas. See instructions to Form 2555 for more information.<br />

4. Qualified transportation fringe benefits: In <strong>2015</strong>, an employee is allowed<br />

to exclude up to $250 a month for qualified parking expenses. In 2016 it is<br />

$255. In addition, employees are also allowed an exclusion from gross income<br />

of up to $130 a month of the combined value of travel passes and<br />

transportation in a commuter highway vehicle for <strong>2015</strong> and 2016. Employees<br />

are also able to exclude up to $20 per month for each qualified bicycle<br />

commuting month (but only if they do not receive any of the other<br />

transportation benefits).<br />

2-25


T. Helping the <strong>Tax</strong> Professional in Understanding and Responding to IRS CP<br />

2000 Notices<br />

1. The Internal Revenue Service issues millions of notices to taxpayers each year<br />

and when a taxpayer receives any correspondence from the IRS it generally<br />

causes tremendous alarm. There is anxiety because the client anticipates a<br />

change in the tax bill. Also, the client sometimes assumes that the tax<br />

professional did something wrong requiring the tax professional to provide<br />

assurances to the taxpayer that the issue can be resolved in an orderly and<br />

timely manner.<br />

2. The Collection Process (CP) notice that most taxpayers and tax professionals<br />

will encounter is the CP 2000. It is a computer generated document which is<br />

issued by the IRS’s Automated Under-Reporter (AUR) group. The CP 2000<br />

normally involves document matching. They report the differences between<br />

information reported to the IRS by 3rd party documents and the information<br />

reported on the actual return that was filed.<br />

3. According to the IRS, the correspondence examinations efficiently address<br />

non-compliance with the tax law. It constitutes a significant percentage of the<br />

Service’s audit coverage. Since year 2000 it has increased significantly.<br />

Correspondence audits in year 2000 were about 375,000, while in 2014 it is<br />

about 1,400,000. The role of the correspondence audit is to limit potential need<br />

for a face-to-face interview or discussion with the taxpayer or the tax<br />

professional.<br />

4. The CP 2000 is initially issued as “proposed changes” to the return. In most<br />

cases a human being has not looked at the return. The Service refers to the<br />

CP2000 as ICL (Initial Contact Letter). The ICL is used to notify the taxpayer<br />

of the opening of an audit without proposing a balance due. The Service<br />

generally starts to send them in April for the returns filed in the prior year. For<br />

example, in April 2014 the Service began sending CP 2000 notices for year<br />

2012 returns filed in 2013. The CP 2000 is a 30-day letter.<br />

2-26


TAX PROFESSIONAL ALERT: If the taxpayer receives a “Combo<br />

Letter,” then there is more to be concerned about because the “Combo<br />

Letter” includes an examination report with the notification of the audit. It is<br />

used where the Service is reasonably certain of a potential liability.<br />

5. If the tax professional does not have a Power of Attorney (POA) on file for<br />

the client, then one should be prepared and submitted to the client immediately<br />

and then sent to the IRS immediately upon receiving signature(s) from the<br />

client. The IRS will enter the POA in the CAF (consolidated agent’s file) of<br />

the tax professional. If the POA is faxed, then it is currently taking the Service<br />

up to 15 days to enter it into the system.<br />

6. In situations where the tax professional has already filed IRS Form 2848, a<br />

Power of Attorney (POA) for a client, the tax professional is supposed to<br />

receive a copy of any correspondence and may be able to remove much of the<br />

anxiety and stress immediately by being able to contact the client before the<br />

client contacts the tax professional.<br />

<strong>Tax</strong> Professional Note: Form 2848 requires that a box is checked<br />

requesting such correspondence be sent to the holder of the POA.<br />

7. By reviewing the issue prior to the client contact, the understanding of the<br />

issue addressed in the correspondence or notice will help put the client at ease<br />

even if the client may owe additional tax, interest and penalty.<br />

8. If the tax professional has copies of documents referred to in the client file,<br />

then the process of responding could be easier because the time requirements<br />

could be better satisfied. If the matter at hand requires additional<br />

documentation not in the client file, then the time requirement to respond by<br />

the stated deadline begins to be more of an issue.<br />

9. If there is a POA on file, then the tax professional should attempt to contact<br />

the client within a 24 hour period to make the client aware that the notice is<br />

something to be taken seriously even when the tax professional knows that the<br />

issue can be resolved without an assessment.<br />

2-27


10. Since automated systems are used by the IRS, the system generates a second<br />

response within a given time period. Telephone contact is encouraged by the<br />

IRS. Audit contacts with no response are systematically advanced through the<br />

audit process. Receipt of mail by the IRS precludes subsequent notices from<br />

being issued. If the first notice is not acknowledged, then the severity of the<br />

next notice increases. The IRS encourages the taxpayer to respond by the due<br />

date listed in the notice.<br />

11. Each IRS notice is identified using a CP, which stands for “collection<br />

process.” This name by itself signifies importance because the Service sends<br />

it out to “collect” data or money. Each CP notice number is found in the upper<br />

right hand corner with a title in bold print in the center of page one of the<br />

notice.<br />

12. Each notice is specific and generally offers specific instructions on what the<br />

Service requires to satisfy the matter at hand and close the case.<br />

13. The tax professional must remember that many of the IRS employees<br />

receiving responses to notices are not well rounded in understanding the tax<br />

law since their role is to process and administer. Therefore, it is important that<br />

the tax professional detail the response in the clearest and most concise<br />

manner using the proper terms and references so that the reader can<br />

understand the response and have confidence that the response is correct. <strong>Tax</strong><br />

examiners use judgment when evaluating responses.<br />

14. If a response has the proper attachments enclosed, then the IRS representative<br />

will be able to follow the trail and close the case, making their job easier.<br />

15. Make sure all issues in the notice are addressed for both “agreed” and<br />

“disagreed” items. The tax professional needs to remember that this is an exam<br />

so it should be treated as if the IRS representative was sitting in front of you<br />

asking for details.<br />

16. If it is a “disagreed” item, then state it up front. Provide the reasons why,<br />

thoroughly detail the reasons, support them with verification and enclose with<br />

the response.<br />

2-28


17. List the issues in the same order that the CP notice has followed whenever you<br />

can. The IRS encourages responders to answer all questions on the notice and<br />

enclose the response page from the CP notice. The IRS encourages the<br />

responder to provide a good telephone number, use the envelope enclosed<br />

whenever possible and use the complete address shown on the notice.<br />

U. §213(d) Eligible Medical Expenses<br />

An eligible expense is defined as those expenses paid for care as described in<br />

§213(d) of the Internal Revenue Code. Below are two lists which may help<br />

determine whether an expense is eligible.<br />

For more detailed information, please refer to IRS Publication 502 titled,<br />

“Medical and Dental Expenses.” If tax advice is required, you should seek the<br />

services of a competent professional.<br />

2-29


Deductible Medical Expenses<br />

• Abdominal Supports<br />

• Abortion<br />

• Acupuncture<br />

• Air Conditioner (when necessary<br />

for relief from difficulty in<br />

breathing)<br />

• Alcoholism treatment<br />

• Ambulance<br />

• Anesthetist<br />

• Arch Supports<br />

• Artificial limbs<br />

• Autoette (when used for relief of<br />

sickness/disability)<br />

• Birth control pills (by<br />

prescription)<br />

• Blood tests<br />

• Blood transfusions<br />

• Braces<br />

• Cardiographs<br />

• Chiropractor<br />

• Christian Science practitioner<br />

• Contact lenses<br />

• Contraceptive devices (by<br />

prescription)<br />

• Convalescent home (for medical<br />

treatment only)<br />

• Crutches<br />

• Dental treatment<br />

• Dental X-rays<br />

• Dentures<br />

• Dermatologist<br />

• Diagnostic fees<br />

• Diathermy<br />

• Drug addiction therapy<br />

• Drugs (prescription)<br />

• Elastic hosiery (prescription)<br />

• Eyeglasses<br />

• Fees paid to health institute<br />

prescribed by a doctor<br />

• FICA and FUTA tax paid for<br />

medical care service<br />

• Fluoridation unit<br />

• Guide dog<br />

• Gum treatment<br />

• Gynecologist<br />

• Healing services<br />

• Hearing aids and batteries<br />

• Hospital bills<br />

• Hydrotherapy<br />

• Insulin treatment<br />

• Lab tests<br />

• Lead pain removal<br />

• Legal fees<br />

• Lodging (away from home for<br />

outpatient care)<br />

• Metabolism tests<br />

• Neurologist<br />

• Nursing (including board and<br />

meals)<br />

• Obstetrician<br />

• Operating room costs<br />

• Ophthalmologist<br />

• Optician<br />

• Optometrist<br />

• Oral surgery<br />

• Organ transplant (including<br />

donor’s expenses)<br />

• Orthopedic shoes<br />

• Osteopath<br />

• Oxygen and oxygen equipment<br />

• Pediatrician<br />

• Physician<br />

• Physiotherapist<br />

• Podiatrist<br />

• Postnatal treatments<br />

• Practical nurse for medical<br />

services<br />

• Prenatal care<br />

• Prescription medicines<br />

• Psychiatrist<br />

• Psychoanalyst<br />

• Psychologist<br />

• Psychotherapy<br />

• Radium therapy<br />

• Registered nurse<br />

• Special school costs for the<br />

handicapped<br />

• Spinal fluid test<br />

• Splints<br />

• Sterilization<br />

• Surgeon<br />

• Telephone or TV equipment to<br />

assist the hard-of-hearing<br />

• Therapy equipment<br />

• Transportation expenses<br />

• Ultra-violet ray treatment<br />

• Vaccines<br />

• Vasectomy<br />

• Vitamins (if prescribed)<br />

• Wheel chair<br />

• X-rays<br />

Non-Deductible Medical Expenses<br />

• Advance payment for services to be rendered next<br />

year<br />

• Athletic Club membership<br />

• Automobile insurance premium allocable to medical<br />

coverage<br />

• Boarding school fees<br />

• Bottled water<br />

• Commuting expenses of a disabled person<br />

• Cosmetic surgery and procedures<br />

• Cosmetic, hygiene products and similar items<br />

• Funeral, cremation, or burial expenses<br />

• Health programs offered by resort hotels, health clubs,<br />

and<br />

gyms<br />

• Illegal operations and treatments<br />

• Illegally procured drugs<br />

• Maternity clothes<br />

• Non-prescription medication<br />

• Premiums for life insurance, income protection,<br />

disability, loss of limbs, sight or similar benefits<br />

• Scientology counseling<br />

• Social activities<br />

• Special foods and beverages<br />

• Specially designed car for the handicapped other than an<br />

autoette or special equipment<br />

• Stop-smoking programs<br />

• Swimming pool<br />

• Travel for general health improvement<br />

• Tuition and travel expenses to send a problem child to a<br />

particular school<br />

• Weight loss program<br />

2-30


V. Worksheets for Aiding Clients in Gathering Deductible <strong>Tax</strong> Data by Types<br />

and Professions: Modeled and Presented through Courtesy of CFS <strong>Tax</strong> Tools<br />

The following contain data on:<br />

• Airline personnel deductions<br />

• Automobile salesperson deductions<br />

• Business professional deductions<br />

• Clergy deductions<br />

• Construction worker deductions<br />

• Day care provider deductions<br />

• Direct seller deductions<br />

• Educator deductions<br />

• Entertainer deductions<br />

• Firefighter deductions<br />

• Hairstylist/manicurist deductions<br />

• Law enforcement deductions<br />

• Long haul trucker/overnight driver deductions<br />

• Medical professional deductions<br />

• Realtor deductions<br />

• Self-employed individual deductions<br />

• Vehicle, travel & entertainment expenses<br />

• Missing information sheet<br />

2-31


AIRLINE PERSONNEL DEDUCTIONS<br />

Client: ID# <strong>Tax</strong> Year<br />

Uniforms<br />

Alterations/Repairs<br />

Belts<br />

Emblems/Insignia/Wings<br />

Gloves<br />

Hat<br />

Jacket/Overcoat<br />

Laundry/DryCleaning<br />

Pants<br />

Shirts/Blouses<br />

Shoes/Boots<br />

Sweater/Vest<br />

Ties/Scarf<br />

Other<br />

Other<br />

Total<br />

Professional<br />

Bidding/Software/Fees<br />

<strong>Book</strong>s/Manuals/Tapes<br />

Business Cards<br />

Internet<br />

FAA Medical Exam<br />

ID Replacement<br />

Licenses<br />

Passport/Photo/Visa<br />

Professional dues<br />

Subscriptions/Publications<br />

Training Expense<br />

Union dues/Assessments<br />

Union Ofcr./Committee<br />

Other<br />

Other<br />

Total<br />

FAA Physical<br />

Company Physical<br />

Training<br />

Other<br />

Total<br />

Mileage<br />

Miles<br />

Miles<br />

Miles<br />

Miles<br />

Other Information<br />

The purpose of this worksheet is to help you organize your<br />

tax deductible business expenses. In order for an expense<br />

to be deductible, it must be considered an ''ordinary and<br />

necessary'' expense. You may include other applicable<br />

expenses. Do not include expenses for which you have been<br />

reimbursed, expect to be reimbursed, or are reimbursable.<br />

Vehicle & Travel<br />

See Vehicle, Travel & Entertainment Worksheet<br />

Equipment<br />

Alarm Clock/Portable<br />

Calculators<br />

Cockpit Keys<br />

Ear Piece/Protectors<br />

Flashlight/Batteries<br />

Flight Bag<br />

Jet Bridge Keys<br />

Log <strong>Book</strong><br />

Luggage/Garmet Bag<br />

Maps/Charts<br />

Name Tags<br />

Portable Security Device<br />

Sunglasses<br />

Translators<br />

Voltage Converter<br />

Watch/Batteries<br />

Other<br />

Other<br />

Other<br />

Other<br />

Other<br />

Total<br />

Second Line<br />

Long distance<br />

Pay phone<br />

Cellular<br />

Answering machine<br />

Fax line<br />

Pager<br />

Other<br />

Total<br />

Telephone<br />

Prepared By:<br />

2-32


AUTOMOBILE SALESPERSON DEDUCTIONS<br />

Client: ID# <strong>Tax</strong> Year<br />

Sales Expenses<br />

Advertising<br />

Agency Charges<br />

Bank Charges<br />

Batteries - Pager, Flashlight<br />

Business Cards<br />

Clerical<br />

Client Gifts<br />

Commission<br />

Courier Service<br />

Customer Refreshments<br />

Entertainment, Tickets<br />

Film/Processing<br />

Flashlight<br />

Flowers/Cards<br />

Food & Beverages<br />

Gasoline, Customer's Vehicle<br />

Office Expense<br />

Postage<br />

Printing<br />

Promotional Items<br />

Referrals<br />

Repairs<br />

Sales Assistants<br />

Sales Inducements<br />

Signs, Flags, Banners<br />

Stationery<br />

Support Shoes & Hosiery<br />

Team Sales Incentives<br />

Tips - Lot Porters & Detailer<br />

Tools<br />

Travel - Overnight<br />

Uniforms - Dealer Required<br />

Washes/Waxes, Customer<br />

Other<br />

Other<br />

Total<br />

Continuing Ed<br />

Dues<br />

E & O Insurance<br />

Legal Fees<br />

Licenses<br />

Memberships<br />

Other Information<br />

The purpose of this worksheet is to help you organize your<br />

tax deductible business expenses. In order for an expense<br />

to be deductible, it must be considered an ''ordinary and<br />

necessary'' expense. You may include other applicable<br />

expenses. Do not include expenses for which you have been<br />

reimbursed, expect to be reimbursed, or are reimbursable.<br />

Publications<br />

Resumes<br />

Seminars<br />

Other<br />

Other<br />

Other<br />

Attache Case<br />

Calculator<br />

Camera<br />

Cell Phone<br />

Telephone<br />

Pager<br />

Other<br />

Total<br />

Other<br />

Total<br />

Cellular Phone<br />

Long Distance<br />

Pay Phone<br />

Other<br />

Total<br />

Vehicle & Travel<br />

See Vehicle, Travel & Entertainment Worksheet<br />

Professional<br />

Equipment<br />

Telephone<br />

Prepared By:<br />

2-33


BUSINESS PROFESSIONALS DEDUCTIONS<br />

Client: ID# <strong>Tax</strong> Year<br />

2014<br />

The purpose of this worksheet is to help you organize your tax deductible business expenses. In order for an expense<br />

to be deductible, it must be considered an ''ordinary and necessary'' expense. You may include other applicable<br />

expenses. Do not include expenses for which you have been reimbursed, expect to be reimbursed, or are reimbursable.<br />

Miscellaneous<br />

Business Cards<br />

Clerical<br />

Computer Supplies<br />

Customer Lists<br />

Gifts<br />

Office Supplies<br />

Postage<br />

Photocopying<br />

Printing<br />

Repairs<br />

Shipping<br />

Stationery<br />

Other<br />

Other<br />

Total<br />

Dues<br />

E & O Insurance<br />

Legal & Professional<br />

Licenses<br />

Memberships<br />

Publications<br />

Seminars<br />

Continuing Ed<br />

Resumes<br />

Other<br />

Other<br />

Total<br />

Professional<br />

Other Information<br />

Long Distance<br />

Faxes<br />

Pay phone<br />

Cellular<br />

2nd Line<br />

Beeper/Pager<br />

Answering Service<br />

Other<br />

Other<br />

Total<br />

Attache Case<br />

Calculator<br />

Camera<br />

Desk<br />

Chair<br />

Filing Cabinet<br />

Cell Phone<br />

Software<br />

Tape Recorder<br />

Telephone<br />

Other<br />

Other<br />

Total<br />

Telephone<br />

Equipment<br />

Vehicle & Travel<br />

See Vehicle, Travel & Entertainment Worksheet<br />

Prepared By:<br />

2-34


.<br />

CLERGY DEDUCTIONS<br />

Client: ID# <strong>Tax</strong> Year<br />

Parsonage Allowance<br />

Interest - home<br />

Allowance received<br />

<strong>Tax</strong>es - home<br />

Rent - home<br />

Repairs - home<br />

Insurance - home<br />

Utilities - home<br />

Other_______________<br />

Other_______________<br />

Other_______________<br />

Other_______________<br />

Other_______________<br />

Other_______________<br />

Total<br />

Professional dues<br />

Religous subscriptions<br />

Business Associations<br />

Secretarial<br />

<strong>Book</strong>keeper<br />

Other<br />

Other<br />

Total<br />

Professional<br />

Continuing Education<br />

Correspondence Course<br />

Course Registration<br />

Materials & supplies<br />

Photocopy<br />

Reference material<br />

Seminar fees<br />

Textbooks<br />

Other<br />

Other<br />

Total<br />

Equipment<br />

Other<br />

Total<br />

Insurance<br />

Other Information<br />

The purpose of this worksheet is to help you organize your<br />

tax deductible business expenses. In order for an expense<br />

to be deductible, it must be considered an ''ordinary and<br />

necessary'' expense. You may include other applicable<br />

expenses. Do not include expenses for which you have been<br />

reimbursed, expect to be reimbursed, or are reimbursable.<br />

See Vehicle, Travel & Entertainment Worksheet<br />

Supplies/Equipment<br />

Music books<br />

Theology books<br />

Business cards<br />

Clerical service<br />

Greeting cards<br />

Insurance<br />

Legal & professional fees<br />

Map book<br />

Pager<br />

Photocopy<br />

Postage<br />

Software<br />

Office equipment<br />

Office supplies<br />

Computer<br />

Vestments<br />

Vestments - cleaning<br />

Vestments - repair<br />

Other______________<br />

Other______________<br />

Other<br />

Other<br />

Total<br />

Answering machine<br />

Answering Service<br />

Cellular<br />

Pay Phone<br />

Toll Calls<br />

Fax line<br />

Other<br />

Total<br />

Vehicle & Travel<br />

Telephone<br />

Prepared By:<br />

2-35


CONSTRUCTION WORKERS DEDUCTIONS<br />

Client: ID# <strong>Tax</strong> Year<br />

Equipment/Supplies<br />

Batteries (Non - Automotive)<br />

Bed Liner, Truck<br />

Blades, Replacement<br />

Brooms, Mops, etc.<br />

Brushes<br />

Buckets<br />

Chain Saw, Electric/Gas<br />

Cleaning Supplies<br />

Compressor, Air<br />

Equipment Rentals<br />

Flashlght<br />

Gasoline, Equipment<br />

Gear, Rain<br />

Generator<br />

Hammers, All Types<br />

Ladders<br />

Propane, All Types<br />

Repairs, All Types (Attach List)<br />

Rope, All Types<br />

Safety Equipment (Attach List)<br />

Saws, Electric/Gas<br />

Shovels<br />

Tape<br />

Tool Bags, All Types<br />

Tool Boxes, All Types<br />

Tools<br />

Other<br />

Other<br />

Other<br />

Other<br />

Other<br />

Other<br />

Other<br />

Other<br />

Total<br />

Other Information<br />

The purpose of this worksheet is to help you organize your<br />

tax deductible business expenses. In order for an expense<br />

to be deductible, it must be considered an ''ordinary and<br />

necessary'' expense. You may include other applicable<br />

expenses. Do not include expenses for which you have been<br />

reimbursed, expect to be reimbursed, or are reimbursable.<br />

Licenses & Permits<br />

Subscriptions<br />

Union Dues<br />

Other<br />

Other<br />

Other<br />

Other<br />

Other<br />

Coveralls<br />

Hardhats, etc.<br />

Uniforms, Shirts, Pants<br />

Safety Boots<br />

Other<br />

Other<br />

Other<br />

Total<br />

Pager<br />

Other<br />

Other<br />

Other<br />

Total<br />

Cell Phone<br />

Long Distance<br />

Total<br />

Vehicle & Travel<br />

See Vehicle, Travel & Entertainment Worksheet<br />

Professional<br />

Uniforms<br />

Telephone<br />

Prepared By:<br />

2-36


DAY CARE PROVIDER<br />

Client: ID# <strong>Tax</strong> Year<br />

The purpose of this worksheet is to help you organize your tax deductible business expenses. In order for an expense<br />

to be deductible, it must be considered an ''ordinary and necessary'' expense. You may include other applicable<br />

expenses. Do not include expenses for which you have been reimbursed, expect to be reimbursed, or are reimbursable.<br />

Ordinary Supplies<br />

Advertising<br />

<strong>Book</strong>s & Magazines<br />

Business <strong>Tax</strong><br />

Child Proofing Devices<br />

Continuing Education (child care)<br />

CPR Training<br />

Food & Snacks<br />

Insurance: Bond<br />

Insurance: Business<br />

Insurance: Liability<br />

License & Permits<br />

Payroll: Wages<br />

Payroll: <strong>Tax</strong>es<br />

Professional Fees: Legal<br />

Professional Fees: <strong>Tax</strong> Preparation<br />

Repairs<br />

Replacements<br />

Supplies: Art<br />

Supplies: Bottles, Formulas, Diapers<br />

Supplies: Cleaning<br />

Supplies: Household<br />

Supplies: Laundry<br />

Supplies: Office<br />

Supplies: Party<br />

Telephone: Cell<br />

Telephone: House<br />

Telephone: Pager<br />

Tickets, Fees, etc. - Field Trips<br />

Toys<br />

Video Rentals<br />

Other:<br />

Other:<br />

Total<br />

Vehicle & Travel<br />

See Vehicle, Travel & Entertainment Worksheet<br />

Major Purchases<br />

Car Seats<br />

Cribs<br />

High Chairs<br />

Riding Equipment<br />

Swing Set/Slides<br />

Other:<br />

Other:<br />

Purchases (Subject to Percentage of Business Use)<br />

Computer Equipment<br />

Dishwasher<br />

Dryer<br />

Fencing<br />

Refrigerator<br />

Television<br />

VCR<br />

Washer<br />

Other:<br />

Other:<br />

Total<br />

Business Use of Home<br />

Total Square Feet of Home<br />

Business Area of Home<br />

Business Hours (Total for Year)<br />

Home Mortgage Interest<br />

Property <strong>Tax</strong>es<br />

Insurance<br />

Rents<br />

Allocated Expenses (Subject to Percentage of Business Use)<br />

Cleaning Service<br />

Gardner<br />

Maintenance & Repairs<br />

Pool Service & Supplies<br />

Repairs<br />

Utilities: Cable<br />

Utilities: Gas & Electric<br />

Utilities: Trash<br />

Utilities: Water<br />

Other:<br />

Other:<br />

Total<br />

Other Information<br />

Prepared By:<br />

2-37


DIRECT SELLER DEDUCTIONS<br />

Client: ID# <strong>Tax</strong> Year<br />

Inventory<br />

Inventory at Beginning of Year<br />

Purchases<br />

Cost of Items for Personal Use<br />

Other Costs<br />

Inventory at End of Year<br />

Sales Expenses<br />

Advertising<br />

Business Cards<br />

Bank Charges<br />

Catalogues<br />

Commissions<br />

Demos<br />

Freight<br />

Gifts<br />

Kits<br />

Map <strong>Book</strong>s<br />

Postage<br />

Refunds<br />

Sales Aids<br />

Sales Assistants<br />

Samples & Promotional Items<br />

Seminars & Trade Shows<br />

Service Charges<br />

Snacks & Beverages<br />

Storage Containers<br />

Storage Fees<br />

Supplies - Meeting\Party<br />

Supplies - Misc<br />

Supplies - Office<br />

Other<br />

Other<br />

Total<br />

Vehicle & Travel<br />

See Vehicle, Travel & Entertainment Worksheet<br />

Other Information<br />

The purpose of this worksheet is to help you organize your<br />

tax deductible business expenses. In order for an expense<br />

to be deductible, it must be considered an ''ordinary and<br />

necessary'' expense. You may include other applicable<br />

expenses. Do not include expenses for which you have been<br />

reimbursed, expect to be reimbursed, or are reimbursable.<br />

Dues<br />

Insurance<br />

License<br />

Publications<br />

Other<br />

Other<br />

Total<br />

Long Distance<br />

Faxes<br />

Pay phone<br />

Cellular<br />

2nd Line<br />

Beeper/Pager<br />

Answering Service<br />

Other<br />

Other<br />

Total<br />

Attache Case<br />

Calculator<br />

Desk<br />

Display Tables<br />

Camera<br />

Filing Cabinet<br />

Cell Phone<br />

Telephone<br />

Other<br />

Other<br />

Total<br />

Professional<br />

Telephone<br />

Equipment<br />

Prepared By:<br />

2-38


EDUCATOR DEDUCTIONS<br />

Client: ID# <strong>Tax</strong> Year<br />

Classroom<br />

Attendance <strong>Book</strong>s<br />

Arts & Crafts<br />

Audio Visual<br />

<strong>Book</strong>s<br />

Decorations<br />

Food<br />

Grade <strong>Book</strong>s<br />

Rentals<br />

Software<br />

Film/Processing<br />

Photocopying/Printing<br />

Publications<br />

Party Supplies<br />

Tools<br />

Trophies, Prizes & Awards<br />

Stationery<br />

Other<br />

Total<br />

Professional<br />

Conventions<br />

Dues<br />

E & O Insurance<br />

Job Seeking<br />

Legal Fees<br />

Licenses<br />

Memberships<br />

Seminars/Continuing Education<br />

Continuing Education<br />

Resumes<br />

School Functions<br />

Total<br />

Telephone<br />

Long Distance<br />

Faxes<br />

Pay Phone<br />

Cellular<br />

Beeper/Pager<br />

Answering Service<br />

Other<br />

Total<br />

Equipment<br />

Calculator<br />

Camera<br />

Desk<br />

Chair<br />

Filing Cabinet<br />

Cell Phone<br />

Tape Recorder<br />

Other<br />

Total<br />

Uniforms<br />

Dry Cleaning<br />

Laundry<br />

Lab Coats<br />

Other<br />

Total<br />

Other Costs<br />

Postage<br />

Storage<br />

Other<br />

Total<br />

Vehicle & Travel<br />

See Vehicle, Travel & Entertainment Worksheet<br />

2-39


ENTERTAINER DEDUCTIONS<br />

Client: ID# <strong>Tax</strong> Year<br />

Promotional<br />

Agent Commission<br />

Audition Expense<br />

Business Cards<br />

Film Processing<br />

Fan Mail Service<br />

Paging Service<br />

Photos – Professional<br />

Portfolio Expense<br />

Publicity Agent<br />

Resume<br />

Other<br />

Other<br />

Total<br />

Professional<br />

Office Supplies<br />

Photocopy – Scripts, etc.<br />

Professional Dues<br />

Secretarial<br />

Trade Publications<br />

Union Dues<br />

Other<br />

Other<br />

Total<br />

Continuing Education<br />

Coaching<br />

Dance Training<br />

Music Arrangement<br />

Music Tapes, Recordings<br />

Music Training<br />

Rents – Rehearsal Hall<br />

Voice Training<br />

Other<br />

Other<br />

Total<br />

Insurance<br />

Equipment<br />

Other<br />

Total<br />

Vehicle & Travel<br />

See Vehicle, Travel & Entertainment Worksheet<br />

Supplies/Equipment<br />

Alternations – Repairs<br />

Cleaning (Costumes)<br />

Hair Care<br />

Makeup<br />

Manicure<br />

Props, Stunt Supplies<br />

Equipment Repairs<br />

Amplifier<br />

Audio Systems<br />

Musical Instruments<br />

Pager<br />

Recorder<br />

Speaker Systems<br />

Shoes – Special<br />

Tapes<br />

Tools<br />

Wigs<br />

Other<br />

Other<br />

Total<br />

Telephone<br />

Answering Machine<br />

Answering Service<br />

Cellular<br />

Pay Phone<br />

Toll Calls<br />

Fax Line<br />

Other<br />

Total<br />

2-40


FIREFIGHTER DEDUCTIONS<br />

Client: ID# <strong>Tax</strong> Year<br />

Uniforms<br />

Belts<br />

Boots, shoes<br />

Gloves<br />

Hat, helmet<br />

Jacket<br />

Pants<br />

Shirts<br />

Ties<br />

Emblems, insignia<br />

Dry Cleaning<br />

Laundry<br />

Other<br />

Other<br />

Total<br />

Union dues<br />

Association dues<br />

Professional dues<br />

Subscriptions<br />

Other<br />

Other<br />

Total<br />

Seminars<br />

Workshops<br />

<strong>Book</strong>s, manuals<br />

Supplies<br />

Other<br />

Other<br />

Uniforms<br />

Professional<br />

Continuing Education<br />

Total<br />

Insurance<br />

Errors & Omissions<br />

Other<br />

Total<br />

Other Information<br />

The purpose of this worksheet is to help you organize your<br />

tax deductible business expenses. In order for an expense<br />

to be deductible, it must be considered an ''ordinary and<br />

necessary'' expense. You may include other applicable<br />

expenses. Do not include expenses for which you have been<br />

reimbursed, expect to be reimbursed, or are reimbursable.<br />

See Vehicle, Travel & Entertainment Worksheet<br />

Equipment<br />

Badges, name tags<br />

Briefcase<br />

Binoculars<br />

Flashlight, bulbs, batteries<br />

Maps<br />

Notebook<br />

Pager, beeper<br />

Equipment repairs<br />

Safety equipment<br />

Tape recorder<br />

Tapes<br />

Other<br />

Other<br />

Total<br />

Meals<br />

House dues<br />

Business meals on-the-job<br />

Other<br />

Other<br />

Total<br />

2nd Line<br />

Long distance<br />

Pay phone<br />

Cellular<br />

Answering machine<br />

Fax line<br />

Other<br />

Total<br />

Vehicle & Travel<br />

Telephone<br />

Prepared By:<br />

2-41


HAIRSTYLIST/MANICURIST DEDUCTIONS<br />

Client: ID# <strong>Tax</strong> Year<br />

The purpose of this worksheet is to help you organize your tax deductible hairstylist/manicurist expenses. In order for an<br />

expense to be deductible, it must be considered an ''ordinary and necessary'' expense. You may include other applicable<br />

expenses. Do not include expenses for which you have been reimbursed, expect to be reimbursed, or are reimbursable.<br />

Miscellaneous<br />

Business Cards<br />

Public Relations/Photos<br />

Refreshments for Customers<br />

Client Gifts<br />

Office Supplies<br />

Postage<br />

Rent<br />

Assistant Fees<br />

Shampoo Person Expenses<br />

Laundry<br />

Cleaning Expense<br />

Other<br />

Other<br />

Total<br />

Professional<br />

Dues & Professional Fees<br />

Liability Insurance<br />

Legal & Professional<br />

Licenses<br />

Business <strong>Tax</strong><br />

Memberships<br />

Publications<br />

Hair Shows<br />

Seminars<br />

Other<br />

Other<br />

Total<br />

Other Information<br />

Telephone<br />

Answering Service<br />

Pager/Voice mail<br />

Cellular Phone<br />

Pay Phone<br />

Long Distance<br />

Other<br />

Other<br />

Telephone<br />

Total<br />

Equipment & Supplies<br />

Hairdryers, Drills, etc.<br />

Hair Products<br />

Nail Products<br />

Misc. Supplies<br />

Telephone<br />

Cell Phone<br />

Pager<br />

Equipment Repairs<br />

Equipment Rental<br />

Other<br />

Other<br />

Total<br />

Vehicle & Travel<br />

See Vehicle, Travel & Entertainment Worksheet<br />

Prepared By:<br />

2-42


LAW ENFORCEMENT DEDUCTIONS<br />

Client: ID# <strong>Tax</strong> Year<br />

Uniforms<br />

Belts<br />

Boots, shoes<br />

Gloves<br />

Hat, helmet<br />

Jacket<br />

Pants<br />

Shirts<br />

Ties<br />

Emblems, insignia<br />

Dry Cleaning<br />

Laundry<br />

Rain gear<br />

Other<br />

Other<br />

Total<br />

Registration<br />

Fingerprinting<br />

Licenses & permits<br />

Union dues<br />

Association dues<br />

Professional dues<br />

Range dues<br />

Subscriptions<br />

Textbooks<br />

Seminars<br />

Workshops<br />

<strong>Book</strong>s, manuals<br />

Supplies<br />

Other<br />

Other<br />

Total<br />

Bond<br />

Errors & Omissions<br />

Other<br />

Other<br />

Total<br />

Uniforms<br />

Professional<br />

Insurance<br />

Other Information<br />

The purpose of this worksheet is to help you organize your<br />

tax deductible business expenses. In order for an expense<br />

to be deductible, it must be considered an ''ordinary and<br />

necessary'' expense. You may include other applicable<br />

expenses. Do not include expenses for which you have been<br />

reimbursed, expect to be reimbursed, or are reimbursable.<br />

See Vehicle, Travel & Entertainment Worksheet<br />

Equipment/Supplies<br />

Ammo pouch<br />

Ammunition<br />

Badges, name tags<br />

Baton<br />

Briefcase<br />

Bulletproof vest<br />

Ear protectors<br />

Camera<br />

Film & processing<br />

Flashlight, bulbs, batteries<br />

Guns<br />

Mace<br />

Maps<br />

Notebook<br />

Pager, beeper<br />

Equipment repairs<br />

Safety equipment<br />

Tape recorder<br />

Tapes<br />

Whistle<br />

Other<br />

Other<br />

Total<br />

2nd Line<br />

Long distance<br />

Pay phone<br />

Cellular<br />

Answering machine<br />

Fax line<br />

Other<br />

Other<br />

Total<br />

Vehicle & Travel<br />

Telephone<br />

Prepared By:<br />

2-43


LONG HAUL TRUCKER/OVERNIGHT DRIVER<br />

Client: ID# <strong>Tax</strong> Year<br />

The purpose of this worksheet is to help you organize your tax deductible business expenses. In order for an expense<br />

to be deductible, it must be considered an ''ordinary and necessary'' expense. You may include other applicable<br />

expenses. Do not include expenses for which you have been reimbursed, expect to be reimbursed, or are reimbursable.<br />

Out of Town Travel Expenses<br />

Baggage & Shipping<br />

Bath/Shower<br />

Car Rental & Gas<br />

Laundry/Laundry Supplies<br />

Locker Fees<br />

Lodging<br />

Meals (Actual Cost)<br />

Parking & Tolls<br />

<strong>Tax</strong>i, Commuter Bus, Shuttles<br />

Telephone/Fax<br />

Tips<br />

Toiletries<br />

Transportation-Air Fare, Bus, Train<br />

Other<br />

Owner Operator Truck Expenses<br />

Description of Truck<br />

Date Placed in Service<br />

Odometer-Beginning of Year<br />

Odometer-End of Year<br />

Interest Paid<br />

Gas, Lube, Oil<br />

Repairs & Maintenance<br />

Tires<br />

Insurance<br />

License/Registration Fee<br />

Other<br />

Dues & Fees<br />

License<br />

Permits/Fees<br />

Security Bond<br />

Trade Association Dues<br />

Travel Card Fees<br />

Union Dues<br />

Other<br />

Other Information<br />

Miscellaneous Expenses<br />

Business Cards & Stationary<br />

Delivery Expenses-Postage<br />

Insurance-Business<br />

Legal & Professional Services<br />

Office Supplies<br />

Safety Classes<br />

Secretarial Services<br />

Testing-Job Related<br />

Other<br />

Supplies<br />

Back Supporter<br />

Batteries<br />

Cellular Phone<br />

Citizens Band Radio<br />

Compass/GPS<br />

Fire Extinguisher<br />

First Aid Kit<br />

Flares<br />

Flashlight<br />

Glasses-Safety & Sun<br />

Gloves<br />

Ice Chest/Thermos<br />

Map/Map <strong>Book</strong><br />

Radio<br />

Safety Boots/Shoes<br />

Seat Cushion<br />

Tools<br />

Trade Publications<br />

Uniforms & Maintenance<br />

Weather Receiver<br />

Other<br />

Other<br />

Other<br />

Other<br />

.<br />

Prepared By:<br />

2-44


.<br />

MEDICAL PROFESSIONAL DEDUCTIONS<br />

Client: ID# <strong>Tax</strong> Year<br />

Uniforms<br />

Alterations & repairs<br />

Dry cleaning<br />

Hat, cap<br />

Laundry<br />

Pants<br />

Scrubs<br />

Shoes<br />

Other<br />

Other<br />

Total<br />

Professional<br />

Alumni dues<br />

Medical Association dues<br />

Professional dues<br />

Referral service<br />

Subscriptions<br />

Union dues<br />

Other<br />

Other<br />

Total<br />

Continuing Education<br />

Correspondence courses<br />

Lab fees<br />

Materials & supplies<br />

Photocopy<br />

Reference material<br />

Registration fees<br />

Seminars<br />

Transcripts<br />

Tuition<br />

Textbooks<br />

Other<br />

Other<br />

Other<br />

Total<br />

Other Information<br />

The purpose of this worksheet is to help you organize your<br />

tax deductible business expenses. In order for an expense<br />

to be deductible, it must be considered an ''ordinary and<br />

necessary'' expense. You may include other applicable<br />

expenses. Do not include expenses for which you have been<br />

reimbursed, expect to be reimbursed, or are reimbursable.<br />

Bag - medical<br />

Briefcase<br />

Business cards<br />

Medical equipment<br />

Office supplies<br />

Pager, beeper<br />

Equipment repairs<br />

Stationery<br />

Tape recorder, tapes<br />

Other<br />

Other<br />

Other<br />

Total<br />

Malpractice insurance<br />

Legal fees<br />

Liability insurance<br />

Other<br />

Other<br />

2nd Line<br />

Long distance<br />

Pay phone<br />

Cellular<br />

Answering machine<br />

Fax line<br />

Other<br />

Vehicle & Travel<br />

See Vehicle, Travel & Entertainment Worksheet<br />

Total<br />

Total<br />

Supplies<br />

Other Expenses<br />

Telephone<br />

Prepared By:<br />

2-45


REALTOR DEDUCTIONS<br />

Client: ID# <strong>Tax</strong> Year<br />

Advertising<br />

Appraisal Fees<br />

Business cards<br />

Bank charges<br />

Clerical<br />

Client Gifts<br />

Courier Service<br />

Fees:<br />

Commissions Paid<br />

Escrow/Loan Fees<br />

Referrals<br />

Film/Processing<br />

Flowers/Cards<br />

Keys/Locksmith<br />

Lock Boxes<br />

Map <strong>Book</strong>s<br />

Office Expense<br />

Open House<br />

Rent<br />

Sales Assistants<br />

Repairs<br />

Signs, Flags, Banners<br />

Food<br />

Software<br />

Photocopying<br />

Printing<br />

Tools<br />

Stationery<br />

Other<br />

Other<br />

Total<br />

Dues<br />

E & O Insurance<br />

Legal Fees<br />

Licenses<br />

Memberships<br />

Multiple Listing<br />

Publications<br />

Sales<br />

Professional<br />

Other Information<br />

The purpose of this worksheet is to help you organize your<br />

tax deductible business expenses. In order for an expense<br />

to be deductible, it must be considered an ''ordinary and<br />

necessary'' expense. You may include other applicable<br />

expenses. Do not include expenses for which you have been<br />

reimbursed, expect to be reimbursed, or are reimbursable.<br />

Seminars<br />

Continuing Ed<br />

Resumes<br />

Other<br />

Other<br />

Total<br />

Long Distance<br />

Faxes<br />

Pay phone<br />

Cellular<br />

2nd Line<br />

Beeper/Pager<br />

Answering Service<br />

Other<br />

Other<br />

Total<br />

Attache Case<br />

Calculator<br />

Desk<br />

Camera<br />

Chair<br />

Filing Cabinet<br />

Cell Phone<br />

Tape Recorder<br />

Telephone<br />

Other<br />

Other<br />

Total<br />

Professional<br />

Telephone<br />

Equipment<br />

Vehicle & Travel<br />

See Vehicle, Travel & Entertainment Worksheet<br />

Prepared By:<br />

2-46


SELF-EMPLOYED INDIVIDUAL DEDUCTIONS<br />

Client: ID# <strong>Tax</strong> Year<br />

Advertising<br />

Bank Charges<br />

Business Cards<br />

Catalogues<br />

Cleaning & Maintenance<br />

Commissions<br />

Demos<br />

Depreciation & Sect. 179<br />

Employee Benefits<br />

Freight<br />

Gifts<br />

Interest<br />

Map <strong>Book</strong>s<br />

Office Expense<br />

Pension/Profit Sharing<br />

Operating Expenses<br />

Postage/Delivery Expenses<br />

Printing<br />

Refunds<br />

Rent (Machinery/Equip)<br />

Rent (Other)<br />

Repairs<br />

Sales<br />

Samples & Promotional<br />

Seminars & Trade Shows<br />

Service Charges<br />

Software<br />

Storage Fees<br />

Supplies<br />

<strong>Tax</strong>es<br />

Tools<br />

Utilities<br />

Wages<br />

Other<br />

Other<br />

Other<br />

Other<br />

Total<br />

Other Information<br />

The purpose of this worksheet is to help you organize your<br />

tax deductible business expenses. In order for an expense<br />

to be deductible, it must be considered an ''ordinary and<br />

necessary'' expense. You may include other applicable<br />

expenses. Do not include expenses for which you have been<br />

reimbursed, expect to be reimbursed, or are reimbursable.<br />

Cost Of Goods<br />

Cost of Items for Personal Use<br />

Cost of Labor<br />

Inventory at Beginning of Year<br />

Inventory at End of Year<br />

Materials and Supplies<br />

Outside Service<br />

Purchases<br />

Other<br />

Other<br />

Total<br />

Equipment<br />

Furniture<br />

Other<br />

Total<br />

Dues<br />

Insurance<br />

Legal & Professional<br />

License<br />

Publications<br />

Other<br />

Other<br />

Total<br />

Cellular Phone<br />

Long Distance<br />

Pay Phone<br />

Other<br />

Total<br />

Vehicle & Travel<br />

See Vehicle, Travel & Entertainment Worksheet<br />

Equipment<br />

Professional<br />

Telephone<br />

Prepared By:<br />

2-47


VEHICLE, TRAVEL, & ENTERTAINMENT EXPENSES<br />

Client: ID# <strong>Tax</strong> Year<br />

Vehicle Information<br />

Description of Vehicle<br />

Date Placed in Service<br />

Odometer Reading – Beginning of Year<br />

Odometer Reading – End of Year<br />

Total Miles<br />

Business Miles<br />

Commute Miles<br />

Daily Average Round-Trip Commute<br />

Personal Miles<br />

Is Car Leased?<br />

Is Car Owned?<br />

Was this vehicle depreciated in a prior year?<br />

Vehicle Expenses<br />

Gas, Lube, Oil<br />

Repairs & Maintenance<br />

Tires<br />

Towing<br />

Insurance<br />

Auto License/Registration<br />

Personal Property <strong>Tax</strong><br />

Lease Payments<br />

Interest<br />

Auto Club<br />

Warranty<br />

Washes<br />

Smog Certificate<br />

Other<br />

Total<br />

Yes__________<br />

No___________<br />

Yes__________<br />

No___________<br />

Travel & Entertainment Expense<br />

Airfare, Train<br />

Car Rental & Gas<br />

Parking & Tolls<br />

<strong>Tax</strong>i, Bus, Shuttles<br />

Lodging<br />

Meals<br />

Entertainment<br />

Tips<br />

Telephone<br />

Dry Cleaning<br />

Other<br />

Total<br />

2-48


Missing Information Sheet<br />

Name:<br />

Tel. (Home):<br />

Tel. (Work):<br />

Fax:<br />

Date:<br />

09/25/<strong>2015</strong><br />

2014<br />

<strong>Tax</strong> Year:<br />

The following information is required to complete your return:<br />

INCOME<br />

W-2's<br />

1099R's (Pensions, IRAs, etc.)<br />

INTEREST:<br />

DIVIDENDS (1099DIV, 1099-B)<br />

K-1 FORMS: (Partnerships, etc.)<br />

OTHER INCOME: (unemployment, jury duty, etc.)<br />

HEALTH INSURANCE: (1095-A, 1095-B, 1095-C)<br />

Medical<br />

Sales <strong>Tax</strong> paid on vehicle, boat, etc.<br />

DEDUCTIONS<br />

Interest Paid:<br />

Real Estate <strong>Tax</strong>es<br />

Charitable contributions:<br />

Personal Property <strong>Tax</strong><br />

Other deductions:<br />

Other <strong>Tax</strong>es<br />

Dependent Care: Name<br />

Address<br />

Name<br />

Address<br />

Child's Name<br />

Child's Name<br />

Escrow Settlement/Closing Statement for<br />

Escrow Settlement/Closing Statement for<br />

Other Information:<br />

OTHER DEDUCTIONS<br />

ID#<br />

Amount $<br />

ID#<br />

Amount $<br />

Amount $<br />

Amount $<br />

Prepared By:<br />

2-49


Chapter II - Review Questions<br />

1. Which of the following statements about contributions to qualified tuition programs<br />

(QTPs) is true?<br />

a. There is no annual limit to the amount that can be contributed.<br />

b. No contributions can be made once the beneficiary is 18.<br />

c. Contributions are deductible on your federal tax return.<br />

d. Contributions are phased out if the contributor’s modified AGI is between<br />

$95,000 and $110,000 ($190,000 and $220,000 MFJ).<br />

Answer:<br />

a. is correct. Unlike Coverdell Education Savings Accounts, there is no annual limit<br />

on the amount that can be contributed to a QTP.<br />

b. is incorrect. This is a provision for a Coverdell Education Savings Account. There is<br />

no age limit to contribute to a QTP.<br />

c. is incorrect. Contributions do not qualify for a federal tax deduction; however they<br />

might qualify as a deduction on some state tax return.<br />

d. is incorrect. There are no AGI limits for contributions to QTPs.<br />

2-50


2. A self-employed taxpayer pays the following for medical insurance:<br />

$420 dental insurance<br />

$516 Alfac cancer policy<br />

$$6,444 medical insurance for his spouse<br />

$3,800 long-term care insurance<br />

$4,884 Medicare Part A<br />

$1258.80 Medicare Part B<br />

How much if any may the taxpayer deduct as self-employed health insurance?<br />

a. $6,562.80<br />

b. $7,702.80<br />

c. $10,362.80<br />

d. $17,322.80<br />

Answer:<br />

a. is incorrect. $6,562.80 represents only dental and Medicare A and B.<br />

b. is incorrect. $7,702.80 represents dental, cancer policy, long-term care insurance,<br />

and Medicare Part A. Medicare Part B and the medical insurance for the spouse are also<br />

deductible, however the Aflac cancer policy is not deductible as self-employed health<br />

insurance.<br />

c. is correct. §162(I)(1)(A) provides that health insurance premiums for a selfemployed<br />

taxpayer are deductible as an adjustment to income. This includes dental<br />

insurance, medical insurance for the spouse and any dependents, long-term care<br />

insurance (§162(l)(2)(C)) and all parts of Medicare (Pub 535).<br />

d is incorrect. $17,322.80 represents the sum of all the amounts above. Because Aflac<br />

is not medical insurance the premiums are not deductible.<br />

2-51


3. How much can an employee exclude from taxable wages for education assistance<br />

provided by the employer?<br />

a. $ 130<br />

b. $2,550<br />

c. $5,000<br />

d. $5,250<br />

Answer:<br />

a. is incorrect. §132(f) provides a $130 exclusion per month for employer provided<br />

transportation cost.<br />

b. is incorrect, §125 provides a $2,550 exclusion for flexible spending accounts.<br />

c. is incorrect. §129 provides a $5,000 exclusion for dependent care benefits.<br />

d. correct. §127 provides a $5,250 education assistance exclusion.<br />

2-52


III. Introduction to<br />

Passive Activity Loss<br />

Issues Relating to Real<br />

Estate Transactions


III. Introduction to Passive Activity Loss Issues Relating to Real Estate Transactions<br />

A. §469: Passive Activity Loss Limitations<br />

1. §469(a) provides a general rule that passive activity losses are not allowed to<br />

offset income from non-passive activities. If the passive activity losses are not<br />

deducted in the current tax year, then they are carried forward indefinitely.<br />

The passive activity losses can only be offset against passive income.<br />

2. §469(c) generally defines a passive activity as:<br />

a. Any activity which involves the conduct of a trade or business in which<br />

the taxpayer does not materially participate, and<br />

b. Any rental activity regardless of the level of participation.<br />

3. The law provides a general rule that after the taxpayer has classified all items<br />

of passive rental income and loss, the excess passive losses can not offset<br />

income from active and portfolio sources.<br />

4. §469(a)(2) provides that passive loss rules apply to individuals, estates, trusts,<br />

closely-held corporations, and personal service corporations.<br />

5. Although passive activity losses cannot be used to offset income from nonpassive<br />

activities, passive losses are allowed to offset income or net profit<br />

from other passive activities.<br />

6. There is an exception to the general rule that excess passive losses cannot<br />

offset other sources of income. There is a maximum $25,000 special<br />

allowance for rental real estate activities with active participation which<br />

allows additional losses even if the losses exceed passive income.<br />

7. Losses associated with passive activities that are disallowed because of the<br />

passive loss limitation rules are "suspended" and carried forward indefinitely.<br />

They are treated as a passive activity deduction in subsequent years.<br />

8. “Suspended” passive activity losses are also allowed to be deducted in full in<br />

the tax year that the entire interest in the passive activity is disposed of and<br />

the transaction results in a fully taxable event.<br />

3-1


9. §469(i) provides special relief and allows taxpayers to offset up to $25,000 of<br />

non-passive income by utilizing losses from rental real estate activities.<br />

10. In order to qualify for the $25,000 special allowance for rental real estate the<br />

taxpayer must:<br />

a. be a natural person (an individual or his estate for the tax years ending<br />

less than two years after the date of his death);<br />

b. have a 10% ownership interest in the rental real estate activity at all<br />

times during the tax year; and<br />

c. actively participate in the rental real estate activity.<br />

11. The $25,000 special allowance is phased out by a reduction equal to 50% of<br />

the taxpayer's modified adjusted gross income in excess of $100,000.<br />

<strong>Tax</strong> Professional Note: Married taxpayers filing separately must reduce the<br />

allowance from $25,000 to $12,500 and also reduce the modified AGI from<br />

$100,000 to $50,000. Even after these amounts are reduced the taxpayers must<br />

live apart for the entire year in order to be eligible for the special allowance<br />

of $12,500. If they did not live apart for the entire year, then the allowance is<br />

zero.<br />

12. §469(i)(3)(F) defines modified adjusted gross income as AGI computed<br />

without regard to:<br />

a. §86 <strong>Tax</strong>able social security or railroad retirement benefits income<br />

b. §135 U.S. Bond interest exclusion for qualified education<br />

c. §137 Employer adoption assistance exclusion<br />

d. §164(f) Deduction for one-half of self-employment tax<br />

e. §199 Domestic production activities deduction<br />

f. §219 IRA or SEP contributions<br />

g. §221 Student loan interest deduction<br />

h. §222 Tuition and fees deduction<br />

i. §469 Any passive losses<br />

j. §469 Any overall loss from a publicly traded partnership (PTP)<br />

k. §469 Any real estate losses allowable under the real estate professional<br />

rules<br />

3-2


EXAMPLE #1: Ennis T. Pea has $35,000 in losses from rental property in which<br />

there is active participation in the management of such property. His AGI is<br />

$90,000 before the $35,000 loss on the rental property computed as follows:<br />

• Calculation of Modified A G I:<br />

Gross income $140,000<br />

Less: adjustments ( 50,000)<br />

AGI $ 90,000<br />

Regular AGI before considering passive activities $ 90,000<br />

Plus: §469(i)(3)(F) modifications 50,000<br />

Modified AGI $140,000<br />

• Calculation of allow able and suspended PAL:<br />

Total rental loss $35,000<br />

AGI phase-out ceiling $150,000<br />

Less: modified AGI (140,000)<br />

Excess 10,000<br />

Statutory phase-out percentage x 50%<br />

Allowable rental real estate PAL<br />

in current year ( 5,000)<br />

Suspended PAL carried forward $30,000<br />

EXAMPLE #2: In the current tax year Ennis T. Pea had a salary of $120,000 and<br />

a $31,000 loss from rental real estate activities in which he actively participated.<br />

His current year special real estate allowance and carryforward of PAL is<br />

calculated as follows:<br />

Modified AGI........................................................................................... $120,000<br />

Less: Amount not subject to phase out rules .......................................... (100,000)<br />

Excess subject to phase-out provision ......................................................... 20,000<br />

Statutory phase-out percentage ........................................................................ 50%<br />

Required reduction to special allowance ................................................... $10,000<br />

Maximum special ....................................................................................... $25,000<br />

Less: Required reduction to special allowance ......................................... (10,000)<br />

Adjusted special allowance for current year ............................................ $15,000<br />

Total PAL from rental ................................................................................ $31,000<br />

Less: Adjusted special allowance in current year ..................................... (15,000)<br />

Suspended PAL carried forward ............................................................. $16,000<br />

3-3


B. Active Participation in Rental Real Estate Activities<br />

1. The difference between active participation and material participation is that<br />

active participation can be satisfied without regular, continuous, and<br />

substantial involvement in operations as long as the taxpayer participates in<br />

the making of management decisions in a significant and bona fide sense.<br />

2. In this context, relevant management decisions include such decisions as<br />

approving new tenants, deciding on rental terms, and approving capital or<br />

repair expenditures.<br />

3. The $25,000 special allowance is available after all active participation rental<br />

losses and gains are netted against each other and applied to other passive<br />

income.<br />

4. If a taxpayer has a real estate rental loss in excess of the amount that can be<br />

deducted under the real estate rental exception, then that excess is treated as a<br />

passive loss.<br />

EXAMPLE: Ennis T. Pea has $90,000 of modified AGI before considering<br />

rental activities and has $85,000 of losses from a real estate rental activity in<br />

which he actively participates. He also actively participates in another real<br />

estate rental activity from which he has $25,000 of profits.<br />

He has other passive income of $36,000 from investments in limited<br />

partnerships. The net rental loss of $60,000 is offset by the $36,000 of passive<br />

income, leaving $24,000 that can be deducted against other income as follows:<br />

Rental real estate losses with active participation ....... $(85,000)<br />

Rental real estate profits with active participation ........... 25,000<br />

Net rental real estate active participation ...................... (60,000)<br />

Other passive activity income ......................................... 36,000<br />

Net passive rental losses available .............................. $(24,000)<br />

3-4


C. Real Estate Professionals and the Exception to the Annual $25,000 Special<br />

Allowance Limitation<br />

1. §469(c)(7)(A) provides special rules for taxpayers in a real property business.<br />

This is an exception to the general rule that real estate is a “passive activity.”<br />

2. If the taxpayer qualifies as a “real estate professional” and materially<br />

participates in the specific separate rental real estate activity, then the activity<br />

is not treated as passive.<br />

3. §469(c)(7)(B) defines a "real estate professional" as a taxpayer who meets<br />

both of the following tests:<br />

a. More than one-half of the personal services performed in a trades or<br />

businesses by the taxpayer during the tax year are performed in real<br />

property trades or businesses in which the taxpayer materially<br />

participates, and<br />

b. Such taxpayer performs more than 750 hours of services during the<br />

taxable year in real estate trades or businesses in which the taxpayer<br />

materially participates.<br />

<strong>Tax</strong> Professional Note: Any services that are performed as an employee in a<br />

real estate trade or business do not count toward the tests unless the taxpayer<br />

is an employee who owns 5% or greater of the business.<br />

4. If the taxpayer files a joint return, then the spouse's personal services are not<br />

included in determining meeting these qualifications.<br />

5. §469(c)(7)(C) defines a real estate trade or business as any real property trade<br />

or business that involves:<br />

a. Development,<br />

b. Redevelopment,<br />

c. Construction,<br />

d. Reconstruction,<br />

e. Acquisition,<br />

f. Conversion,<br />

g. Rental,<br />

h. Operation,<br />

i. Management,<br />

j. Leasing, or<br />

k. Brokerage.<br />

3-5


EXAMPLE #1: Laura owns a real estate sales office in which she materially<br />

participates. She also personally owns 3 rental real estate properties in which<br />

she materially participates. The net rental losses for these properties is $26,000<br />

and her modified AGI is $150,000 before the losses. Because the real estate<br />

sales office qualifies as a real estate trade or business the $26,000 of active<br />

real estate losses are fully deductible in the current year against her other<br />

sources of income.<br />

EXAMPLE #2: Same details as in Example #1 above except one of the<br />

properties that she owns is owned with 2 other investors who are the active<br />

participants. Although Laura is a natural person and owns 10% or more of the<br />

interest in the rental activity at all times during the tax year she cannot deduct<br />

the losses from that specific rental activity since she is not a material<br />

participant.<br />

<strong>Tax</strong> Professional Note: Review the court cases in sections N and O in this<br />

chapter for tax court cases distinguishing real estate agents who attempt to<br />

qualify as real estate professionals. Section N is the Agarwal case and Section<br />

O is the Bahas case.<br />

D. Self-Rental Rule Issues<br />

1. While the exception to the general rule provides that passive income can offset<br />

a passive activity loss (PAL), there is an exception for the taxpayer who<br />

creates their own passive income generator (PIG).<br />

EXAMPLE: Don has $17,000 of suspended passive activity losses from two<br />

rental properties in which he actively participates. At the same time he owns<br />

a building which he rents to his corporation at a fair market rent and has net<br />

rental income of $20,000. At first blush it would appear that the $17,000 of<br />

passive rental losses would be freed up by the $20,000 of commercial rental<br />

income. However, because of IRS Reg. 1.469-2(f)(6) Don has “self-rental”<br />

income because he owns more than 50% of his corporation. As a result the<br />

$17,000 of suspended PALs from the other two properties remains suspended<br />

and the $20,000 is reported as non-passive rental income on Schedule E in<br />

the current tax year.<br />

3-6


<strong>Tax</strong> Professional Note: Review the Beecher case presented in Section P of<br />

this chapter.<br />

E. Disposition of a Passive Activity via Sale<br />

1. When a taxpayer disposes of the entire interest in a passive activity, the actual<br />

economic gain or loss on the investment can be determined.<br />

2. Under the passive loss rules, when there is a fully taxable disposition, any<br />

loss from the activity is recognized and allowed against any other source of<br />

income.<br />

3. A fully taxable disposition generally includes a sale of the property to a third<br />

party at arms' length. Gain recognized upon a transfer of an interest in a<br />

passive activity generally is treated as passive and is first offset by the prior<br />

suspended PAL from that activity.<br />

EXAMPLE: Don sold an apartment house with an adjusted basis of $100,000<br />

for $180,000. In addition, Don has a suspended PAL associated with that<br />

specific apartment house of $60,000. The recognized capital gain of $80,000,<br />

allowable suspended PAL of $60,000 and the net recognized gain, $20,000,<br />

are calculated and reported as follows:<br />

Net sales price $180,000<br />

Less: Adjusted basis (100,000)<br />

Recognized capital gain on sale $ 80,000 Schedule D<br />

Less: Allowable suspended PAL (60,000) Schedule E<br />

Net recognized income $ 20,000 Net effect on AGI<br />

Because the suspended PAL retains its character, the $60,000 allowable<br />

suspended PAL is now offset against Don's other ordinary income and<br />

portfolio income.<br />

<strong>Tax</strong> Professional Reminder: The gain on the sale of the passive activity<br />

could include §1250 unrecaptured depreciation which will be subject to a<br />

maximum long-term capital gain rate of 25% reported on Schedule D page 2,<br />

line 19.<br />

3-7


4. If the current and suspended losses of the disposed passive activity exceed the<br />

gain realized on the sale, then any loss from the activity for the tax year and<br />

any loss realized on the disposition in excess of net income or gain for the tax<br />

year from all passive activities is treated as a loss that is not from a passive<br />

activity.<br />

EXAMPLE: Don sold an apartment house with an adjusted basis of $100,000<br />

for $150,000. In addition, Don has current and suspended losses associated<br />

with that specific apartment house of $60,000 and has no other passive<br />

activities. The recognized capital gain, $50,000, allowable suspended PAL of<br />

$60,000, and the net recognized loss, $10,000, are calculated and reported as<br />

follows:<br />

Sales price $150,000<br />

Less: Adjusted basis (100,000)<br />

Recognized capital gain $ 50,000 Schedule D<br />

Less: Allowable suspended PAL ( 60,000) Schedule E<br />

Net recognized loss on sale $(10,000) Net effect on AGI<br />

Because the suspended PAL retains its character, the $60,000 allowable<br />

suspended PAL is now offset against Don's other ordinary income and<br />

portfolio income.<br />

F. Disposition of a Passive Activity at Death<br />

1. §469(g)(2) provides that a transfer of a taxpayer's interest in a passive<br />

activity by reason of the taxpayer's death results in a suspended PAL being<br />

allowed to the decedent to the extent that the PAL exceeds the amount of the<br />

step-up in basis allowed under §1014.<br />

2. A suspended PAL is lost to the extent of the amount of the §1014 basis<br />

increase. Any excess allowed is reported on the final Form 1040 of the<br />

deceased taxpayer.<br />

3-8


EXAMPLE #1: A taxpayer dies with passive activity property having an<br />

adjusted basis of $40,000, suspended PAL of $10,000, and a fair market value<br />

at the date of the decedent's death of $75,000. The §1014 step-up in basis is<br />

$35,000. The $10,000 suspended PAL is not deductible on the decedent's<br />

Final 1040 because the suspended PAL of $10,000 did not exceed the §1014<br />

step-up in basis $35,000.<br />

Fair market value on date of death ........................................ $75,000<br />

Less: Adjusted basis of passive activity property .................. (40,000)<br />

§1014 Step-up ............................................................................... $35,000<br />

Suspended PAL ...................................................................... $10,000<br />

Less: §1014 Step-up ............................................................. (35,000)<br />

D eductible on final Form 1040 ............................................... $ -0-<br />

EXAMPLE #2: A taxpayer dies with a passive activity property having an<br />

adjusted basis of $40,000, suspended PAL of $10,000, and a fair market value<br />

at the date of the decedent's death of $47,000. Since the basis increase under<br />

§1014 would be only $7,000, the suspended PAL allowed is limited to $3,000.<br />

The $3,000 loss available to the decedent is reported on the decedent's final<br />

income tax return.<br />

Fair market value on date of death .......................................... $47,000<br />

Less: Adjusted basis of passive activity property .................... (40,000)<br />

§1014 Step-u p in basis .................................................................... $ 7,000<br />

Suspended PAL .................................................................... (10,000)<br />

L ess: §1014 Step-up .................................................................... 7,000<br />

D eductible on final Form 1040 ................................................ $ 3,000<br />

3. The §469(g)(2) provision is an activity by activity test and the determination<br />

of how much suspended passive activity loss is allowed as a deduction on the<br />

final Form 1040 of the decedent must be individually measured and not a<br />

cumulative calculation.<br />

3-9


EXAMPLE #3: Based on all the data in Examples #1 and #2 above the<br />

calculation would be as follows:<br />

Fair market value on date of death $75,000 $47,000<br />

Less: Adjusted basis (40,000) (40,000)<br />

§1014 Step-u p $35,000 $ 7,000<br />

Suspended PAL $10,000 $10,000<br />

Less: §1014 Step-up (35,000) ( 7,000)<br />

D eductible on final Form 1040 $ -0- $ 3,000<br />

G. Disposition of a Passive Activity by Gift<br />

1. §469(j)(6) provides that in a disposition of a taxpayer's interest in a passive<br />

activity by a gift, the suspended PAL is added to the basis of the property to<br />

the donee.<br />

EXAMPLE: Don makes a gift of real property with a cost of $60,000 and an<br />

adjusted basis of $40,000. There is a suspended PAL of $10,000. The fair<br />

market value at the date of the gift is $100,000. Don cannot deduct the<br />

suspended PAL in the year of the transfer. Instead, the suspended PAL is<br />

transferred with the property and is added to the adjusted basis of the gifted<br />

property. The donee's adjusted basis for purposes of sale is $50,000<br />

calculated as follows:<br />

Donor’s basis on date of gift ................................................................ $40,000<br />

Add: Transferred suspended PAL ......................................................... 10,000<br />

Donee’s adjusted basis for sale ............................................................ $50,000<br />

<strong>Tax</strong> Professional Note: This increase to basis is only for the purpose of<br />

determining the donee's gain or loss on the sale of the passive activity. The<br />

basis for depreciation is a carryover from the donor. Therefore, the donee's<br />

basis for purposes of depreciation remains at $60,000. Also, since this is a gift,<br />

the donee retains the donor's holding period, accumulated depreciation and<br />

method of depreciation.<br />

3-10


H. Transfer of a Passive Activity Due To Divorce<br />

1. §1041(a) provides that no gain or loss shall be recognized on a transfer of<br />

property from an individual to (or in trust for the benefit of) a:<br />

a. spouse, or<br />

b. former spouse, but only if the transfer is incident to a divorce.<br />

2. §1041(b) provides that the property acquired by the transferee spouse is<br />

deemed to be acquired by gift; therefore the receiving spouse has a carryover<br />

basis in the property received.<br />

3. Because of the carryover rule of §1041 and the §469(j)(6) provision of a<br />

disposition of a passive activity by gift the recipient spouse receives a<br />

carryover basis in a suspended passive loss.<br />

EXAMPLE: John and Mary jointly own a rental property that has an<br />

accumulated suspended PAL of $20,000 on the date of their divorce. Mary<br />

transfers her ownership interest to John. The original cost of the property was<br />

$150,000 and the accumulated depreciation is $50,000. The FMV on the date<br />

of the divorce is $200,000. When Mary transfers the property she does not<br />

recognize any gain or loss. When John receives Mary's 1/2 ownership interest<br />

he has a carryover of her basis and her method of depreciation. He also<br />

receives her 1/2 interest in the PAL which is added to his adjusted basis only<br />

for purposes of gain or loss on the disposition of the property.<br />

• It is important to note that his basis does not increase for purposes of<br />

calculating depreciation.<br />

3-11


Mary John Total<br />

Cost $75,000 $75,000 $150,000<br />

Less: Depreciation (25,000) (25,000) ( 50,000)<br />

Adjusted basis $50,000 $50,000 $100,000<br />

Suspended PAL ($10,000) ($ 10,000) ($ 20,000)<br />

Original ½ Cost – John ................................................................. $ 75,000<br />

Original ½ Cost – Mary .................................................................... 75,000<br />

Basis for depreciation ................................................................... $150,000<br />

Less: Depreciation ½ John ............................................................ (25,000)<br />

Depreciation ½ Mary ........................................................... (25,000)<br />

Adjusted basis to John before Mary’s PAL ................................. $100,000<br />

Add: ½ Mary’s suspended PAL ..................................................... 10,000<br />

Adjusted basis for disposition by John ......................................... $110,000<br />

John’s suspended PAL (retains character) ..................................... ($10,000)<br />

I. Disposition of a Passive Activity via Installment Sale<br />

1. §469(g)(3) provides that an installment sale of a taxpayer's entire interest in<br />

a passive activity triggers the recognition of the suspended losses.<br />

2. The losses are allowed in each year of the installment obligation in the ratio<br />

that the gain recognized in each year bears to the total gain on the sale.<br />

EXAMPLE: Don sold his entire interest in a passive activity for $100,000.<br />

His adjusted basis in the property was $60,000.<br />

Sale price $100,000<br />

Less: Adjusted basis ( 60,000)<br />

Gross profit $ 40,000<br />

If Don uses the installment method, then his gross profit ratio is 40%<br />

($40,000/$100,000).<br />

Gross profit $ 40,000 = 40%<br />

Selling price $100,000<br />

3-12


If Don received a $20,000 down payment, then he would recognize a gain of<br />

$8,000 (40% of $20,000). If the activity had a suspended loss of $25,000, then<br />

Don would deduct $5,000 [($8,000 ÷ $40,000) x $25,000] of the suspended<br />

loss in the first year.<br />

PAL $25,000 x Current year gain $ 8,000 = $5,000<br />

Total gain $40,000<br />

TAX PROFESSIONAL ALERT: If the property had been depreciable real<br />

estate and §1250 unrecaptured depreciation must be recognized as part of the sale,<br />

then the regulations require that §1250 gain is recognized before the §1231 gain.<br />

Therefore, if in the above example there was $20,000 of §1250 unrecaptured<br />

depreciation, then all of the $8,000 recognized gain would be taxed as §1250 gain<br />

which has a maximum capital gain rate of 25% instead of 15% or 20%. Therefore<br />

as the installment note proceeds are received the next $12,000 of gain recognized<br />

would also be §1250 unrecaptured depreciation. The §1231 gain at 15% or 20%<br />

is not recognized until all §1250 gain is included in gross income by the taxpayer.<br />

J. Sale of a Passive Activity to a Related Party<br />

1. While the law provides a general rule that the disposition of a passive activity<br />

in a fully taxable event will allow the use of the PAL, there is also an exception<br />

to the release of the PAL if the property is sold to a related party.<br />

2. In this event the seller keeps the suspended PAL suspended until the activity<br />

is either:<br />

a. Disposed of in a taxable event by the related party to a nonrelated party,<br />

or<br />

b. The taxpayer has other sources of passive income.<br />

3. For purposes of this test a related party is defined under the provisions of<br />

§267(b) which includes ancestors, descendants, brothers, sisters and spouse.<br />

It also includes an entity in which the taxpayer has a greater than 50%<br />

ownership interest.<br />

3-13


EXAMPLE: Don sells a rental property in which he has a suspended PAL of<br />

$40,000 to his daughter. Don recognizes a $50,000 long-term capital gain on<br />

the property of which $37,000 is §1250 unrecaptured depreciation. Because<br />

his daughter is a related party, Don must recognize his gains without the<br />

allowance of the $40,000 PAL in the year of sale. If the daughter does not sell<br />

the property until after Don’s death, then the PAL is lost at the time of death.<br />

As a result Don can only use his losses if he has other passive income from<br />

other activities during his lifetime.<br />

K. Passive Activity Changes to Active Participation<br />

1. §469(f) provides that if a former passive activity changes to active, then the<br />

suspended PAL is allowed to the extent of income from the now active<br />

investment.<br />

2. If any of the suspended PAL remains, then it continues to be treated as a loss<br />

from a passive activity.<br />

3. The excess suspended PAL can be deducted from passive income or carried<br />

over to the next tax year and deducted to the extent of income from the now<br />

active business in the succeeding year(s). The activity must continue to be<br />

the same activity.<br />

EXAMPLE: Don owns 3 separate rental real estate activities. He actively<br />

participates in 2 of the activities but not the 3rd activity. The 3rd activity has<br />

a suspended passive loss of $15,000 at the end of 2014. On January 1, <strong>2015</strong><br />

he changes from not active to an active participant and incurs another $4,000<br />

PAL in <strong>2015</strong> for a total loss of $19,000. He is eligible to deduct up to $25,000<br />

of PAL under the general rule. However, for the current year his PAL<br />

deduction will be limited to $4,000. His suspended PAL of $15,000 remains<br />

suspended until he has passive income from any passive activity in a future<br />

period.<br />

3-14


L. § 1031 Deferred Like-Kind Exchange Transactions and the Treatment of a<br />

Suspended PAL<br />

1. In a deferred like-kind exchange transaction, the taxpayer keeps the suspended<br />

losses, which generally become deductible when the acquired property is sold.<br />

2. Since the activities of the old and new properties are both like-kind properties<br />

the suspended losses cannot be used and therefore stay suspended at the time<br />

of the exchange.<br />

EXAMPLE: In a §1031 exchange, a taxpayer exchanges a duplex (rental<br />

activity) for an apartment house. The suspended PAL from the duplex is<br />

deductible against future taxable income from the apartment house. The same<br />

rental activity exists for the apartment house because the apartment house is<br />

used in a rental activity.<br />

M. Utilizing Passive Losses<br />

1. A taxpayer who has a suspended passive activity loss (PAL) should adopt a<br />

strategy of generating passive activity income that can be sheltered by the<br />

existing passive loss. One planning approach is to acquire an interest in any<br />

passive activity that is generating income. This is referred to as a "passive<br />

income generator" (PIG).<br />

2. As a result, the PAL can offset income from the PIG. From a tax perspective,<br />

it would be unwise to buy a loss-generating passive activity (PAL) unless one<br />

has other passive income (PIG) to shelter, or the activity is rental real estate<br />

that can qualify for the $25,000 exception.<br />

3. A taxpayer with an existing suspended PAL might consider buying a rental<br />

property. If a large down payment is made or there is no debt at all, then a<br />

passive net income could be realized to offset the PAL.<br />

4. Future gain realized upon the sale of the rental property could be sheltered by<br />

existing suspended passive losses.<br />

3-15


5. <strong>Tax</strong>payers with passive losses should consider all other trades or businesses<br />

in which they have an interest. If they show that they do not materially<br />

participate in the activity, then the activity becomes a passive activity.<br />

<strong>Tax</strong> Professional Note: Any income generated could be sheltered by existing<br />

passive losses and suspended losses. Family partnerships in which certain<br />

members do not materially participate would qualify. The silent partner in any<br />

general partnership engaged in a trade or business would also qualify.<br />

<strong>Tax</strong> Professional Research Recommendation: For more information refer to<br />

IRS Publication 925 Passive Activity and Risk Rules and IRS Form 8582.<br />

N. <strong>Tax</strong> Court Rules Real Estate Agent Equals Real Estate Professional (Shri<br />

and Sudha Agarwal vs Commissioner T.C. Summary Opinion 2009- 29)<br />

Docket No. 12670-072. Filed March 2, 2009<br />

This case was heard pursuant to the provisions of §7463 in effect when the petition<br />

was filed. Pursuant to §7463(b), the decision to be entered is not reviewable by<br />

any other court, and this opinion shall not be treated as precedent for any other<br />

case.<br />

Facts<br />

1. The IRS determined deficiencies of $15,066 and $6,649 in taxpayers’ 2001<br />

and 2002 <strong>Federal</strong> income taxes, respectively. The IRS also determined<br />

accuracy-related penalties under §6662(a) of $3,013.20 and $1,329.80 for<br />

2001 and 2002, respectively.<br />

2. The issue for decision was whether the taxpayers were entitled to deduct<br />

losses of $40,104 and $19,656 for 2001 and 2002, respectively, as qualifying<br />

taxpayers in real property trades or businesses on Schedule E.<br />

Background of the Case<br />

1. During 2001 and 2002 Shri Agarwal (Mr. Agarwal) worked full time as an<br />

engineer. During 2001 and 2002 Sudha Agarwal (Mrs. Agarwal) worked full<br />

time as a real estate agent at “Century 21 Albert Foulad Realty” (brokerage<br />

firm). The brokerage firm is a licensed broker under California law. The<br />

brokerage firm is franchised by a broker, Albert Foulad.<br />

3-16


2. During 2001 and 2002 Mrs. Agarwal was licensed as a real estate agent under<br />

California law; she was not licensed as a broker. She worked for a brokerage<br />

firm pursuant to an “Independent Contractor Agreement (Between Broker and<br />

Associate Licensee)”.<br />

3. The contract provided that she was an independent contractor, not an<br />

employee of the brokerage firm. Consistent with Mrs. Agarwal’s independent<br />

contractor status, the brokerage firm issued a Form 1099 to her for each year,<br />

and it did not pay her a salary; rather, she received commissions. The contract<br />

also required Mrs. Agarwal to sell, exchange, lease, or rent properties and<br />

solicit additional listings, clients, and customers diligently and with her best<br />

efforts.<br />

4. During 2001 and 2002 the taxpayers owned two rental properties. Together<br />

they spent approximately 170 hours managing the “Wanda Property” and<br />

approximately 170 hours managing the “Mohave Property” during 2001 and<br />

2002. They were the only persons who managed their rental properties. Mrs.<br />

Agarwal spent a total of 1,400 and 1,600 hours managing the rental properties<br />

and selling real estate in 2001 and 2002, respectively.<br />

5. For 2001 Mrs. Agarwal reported commissions of $13,912 as gross receipts on<br />

her Schedule C. She also reported total expense of $14,084 for a $172 loss<br />

with respect to her Schedule C real estate business.<br />

6. For 2002 she reported commissions of $14,119 as gross receipts on Schedule<br />

C and total expenses of $13,401 for a profit of $718.<br />

7. For 2001 taxpayers reported total rents of $36,367 on Schedule E. They also<br />

reported total expenses of $76,472 for a loss of $40,105. For 2002 they<br />

reported total rents of $45,521 on Schedule E and total expenses of $65,177<br />

for a $19,656 loss.<br />

3-17


8. In the notice of deficiency issued the IRS disallowed the Schedule E losses<br />

for each year because:<br />

a. Passive losses are allowed only to the extent that they qualify for the<br />

special allowance for rental real estate; and<br />

b. <strong>Tax</strong>payer’s losses were in excess of their passive income, the special<br />

allowance and the phase-in rule.<br />

<strong>Tax</strong>payers’ Losses and Application of §469<br />

1. §469(a) generally disallows any passive activity loss. §469(d)(1) provides that<br />

a passive activity loss is defined as the excess of the aggregate losses over the<br />

aggregate income from all passive activities.<br />

2. §469(c)(1)(6) provides that a passive activity is any trade or business or an<br />

activity engaged in for the production of income in which the taxpayer does<br />

not materially participate.<br />

3. §469(b) provides that material participation means that the taxpayer is<br />

involved in the activity’s operations on a regular, continuous and substantial<br />

basis. (See also §1.469-5T(a), (Feb. 25, 1988) an individual is treated as<br />

materially participating if the individual satisfies any one of the seven<br />

enumerated tests).<br />

4. §469(c)(2) provides a general rule that a rental activity is treated as a passive<br />

activity regardless of whether the taxpayer materially participates. But under<br />

§469(c)(7), rental activities of a qualifying taxpayer in a real property trade or<br />

business are not passive activities under §469(c)(2). Kosonen v.<br />

Commissioner, T.C. Memo. 2000-107. Rather, the qualifying taxpayer’s<br />

rental activities are treated as a trade or business subject to the material<br />

participation requirements of §469(c)(1) Fowler v. Commissioner, T.C.<br />

Memo. 2002-223; §1.469-9(e)(1).<br />

5. §469(h)(5) provides that in determining whether a taxpayer materially<br />

participates, the participation of the taxpayer’s spouse is taken into account.<br />

3-18


6. §469(c)(7)(B)(i) and (ii) provide that a taxpayer may qualify for the real<br />

property trade or business exception if:<br />

a. More than one-half of the personal services performed in trades or<br />

businesses by the taxpayer during the taxable year are performed in real<br />

property trades or businesses in which the taxpayer materially participates;<br />

and<br />

b. The taxpayer performs more than 750 hours of services during the taxable<br />

year in real property trades or businesses in which the taxpayer materially<br />

participates. §469(c)(7)(B) provides that in the case of a joint return, either<br />

spouse must satisfy both requirements.<br />

7. §469(c)(7)(C) defines the term “real property trade or business” as “any real<br />

property development, redevelopment, construction, reconstruction, acquisition,<br />

conversion, rental, operation, management, leasing, or brokerage trade or<br />

business.”<br />

The Parties’ Arguments<br />

1. <strong>Tax</strong>payers argued that real estate agents should be considered real estate<br />

professionals because real estate agents are engaged in a real property<br />

brokerage business in that real estate agents “bring together buyers and<br />

sellers.”<br />

2. In reply, the IRS argued that Mrs. Agarwal was a licensed real estate agent,<br />

not a licensed real estate broker. Therefore, under California law, according<br />

to the IRS, Mrs. Agarwal could not be engaged in a brokerage trade or<br />

business, and therefore, she was not engaged in a real property trade or<br />

business as defined by §469(c)(7)(C).<br />

Brokerage Defined<br />

1. The term “brokerage” is not defined in §469, within the legislative history of<br />

§469, or by any court decision. Therefore, the Court turned to principles of<br />

statutory construction to determine its meaning. See Baker v.Wash. Group<br />

Intl., Inc., No. 1:06-CV-1878 (M.D. Pa. Mar. 14, 2008); Sierra Club v. Leavitt,<br />

355 F. Supp. 2d 544, 555 (D.D.C. 2005); Weber v. Heitkamp (In re Hopson),<br />

324 Banker. 284, 287 (S.D. Tex. 2005).<br />

3-19


a. “Statutory words are uniformly presumed, unless the contrary appears, to<br />

be used in their ordinary and usual sense, and with the meaning commonly<br />

attributed to them.” Caminetti v. United States, 242 U.S. 470, 485-486<br />

(1917).<br />

b. In addition, a statutory term is construed “in its context and in light of the<br />

terms surrounding it.” Leocal v. Ashcraft, 543 U.S. 1, 9 (2004); see also<br />

Jarecki v. G. D. Searle & Co., 367 U.S.303, 307 (1961) (“a word is known<br />

by the company it keeps”).<br />

c. Legislatures are presumed to have intended that a statute’s terms “be given<br />

a reasonable construction.” Hazlett v. Evans, 943 F. Supp. 785, 788 (E.D.<br />

Ky. 1996) (quoting D.L.C. v. Walsh, 908 S.W. 2d 791 (Mo. Ct. App.<br />

1995)); see also Beck v. No. Natural Gas Co., 170 F.3d 1018, 1024 (10th<br />

Cir. 1999); In re Nofziger, 925 F.2d 428, 435 (D.C. Cir. 1991).<br />

d. A term’s common or approved usage may be established by a dictionary.<br />

Rousey v. Jacoway, 544 U.S. 320 (2005); Smith v. United States, 508 U.S.<br />

223, 228-229 (19943). Webster’s Third New International Dictionary 282<br />

(2002) defines the term “brokerage” as “the business of a broker” or “the<br />

fee or commission for transacting business as a broker.” [Emphasis<br />

added.]<br />

2. The Court concluded that Congress is presumed to have defined the term<br />

“brokerage” in its common or ordinary meaning. The Court further concluded<br />

that for purpose of §469, the “business” of a real estate broker includes, but<br />

is not limited to:<br />

a. Selling, exchanging, purchasing, renting, or leasing real property;<br />

b. Offering to do those activities;<br />

c. Negotiating the terms of a real estate contract;<br />

d. Listing real property for sale, lease, or exchange; or<br />

e. Procuring prospective sellers, purchasers, lessors, or lessees.<br />

3-20


See Hooper v. California, 155 U.S. 648, 657 (1895); Lawrence Gas Co. v.<br />

Hawkeye Oil Co., 165 N.W. 445, 447 (Iowa 1917); Schmidt v. Maples, 289 N.W.<br />

140, 143 (Mich. 1939); Commonwealth v. Jones & Robins, Inc., 41 S.E. 2d 720,<br />

727 (Va. 1947); In re Pipes, 748 A. 2d 188, 121 (N.J. Super. Ct. App. Div. 2000);<br />

Commonwealth v. Fahnestock, 15 Pa. C. 598 (Pa. Quar. Sess. 1895); see also Ky.<br />

Rev. Stat. Ann. sec. 324.010(1) (LexisNexis 2007) (defining “Real estate<br />

brokerage”); Md. Code Ann. Bus. Occ. & Prof. sec 17-101(1) (LexisNexis 2004<br />

& Supp. 2008) (defining “Provide real estate brokerage services”); Wis. Stat. Ann.<br />

sec. 452.01(3e) (West 2006) (defining “Brokerage service”).<br />

Application of the Definition to Mrs. Agarwal’s Activities<br />

1. The Courts stated that as is relevant here, California law defines the term “real<br />

estate broker” as a person who does, or negotiates to do, any one of the<br />

enumerated activities for compensation. Cal. Bus. & Prof. §10131 (West<br />

2008).<br />

2. Similarly, California law also defines the term “real estate salesman” as a<br />

person who is employed by a broker and who does any one of the enumerated<br />

activities. Cal. Bus. & Prof. §10131 (West 2008).<br />

3. But whether Mrs. Agarwal is characterized a broker or a salesperson for State<br />

law purposes is irrelevant for <strong>Federal</strong> income tax purposes because the test is<br />

whether she was engaged in “brokerage” within the meaning of §469.<br />

Consistent with her real estate salesman’s license and pursuant to her contract<br />

with the brokerage firm, Mrs. Agarwal was engaged in “brokerage”; i.e., she<br />

sold, exchanged, leased, or rented real property and solicited listings.<br />

Therefore, Mrs. Agarwal was engaged in a “brokerage” trade or business<br />

within the meaning of §469(c)(7)(C).<br />

4. Because Mrs. Agarwal owned an interest in a rental property, performed more<br />

than one-half of her personal services in real property trades or businesses in<br />

which she materially participated, and performed more than 750 hours of<br />

services in real property trades or businesses in which she materially<br />

participated, she is a qualifying taxpayer. §469(c)(7) and §1.469-9(b)(6),<br />

(c)(1).<br />

3-21


5. Because Mrs. Agarwal is a qualifying taxpayer and she materially participated<br />

with respect to each property, the taxpayers are entitled to deduct their 2001<br />

and 2002 Schedule E losses. (§469(c)(7) and §1.469-9(e)(1), (3), (4)<br />

Example (I), §1.469-5T(a), supra (defining material participation); see<br />

also Fowler v. Commissioner, T .C . Memo. 2002- 223; Shaw v.<br />

Commissioner, T.C. Memo. 2002-35.<br />

Accuracy Related Penalty<br />

1. §6664(c)(1) provides an exception to the §6662(a) penalty: no penalty is<br />

imposed with respect to any portion of an underpayment if it is shown that<br />

there was reasonable cause and the taxpayer acted in good faith.<br />

2. §1.6664-4(b)(1) incorporates a facts and circumstances test to determine<br />

whether the taxpayer acted with reasonable cause and in good faith.<br />

3. The most important factor is the extent of the taxpayer’s effort to assess the<br />

proper tax liability. “Circumstances that may indicate reasonable cause and<br />

good faith include an honest misunderstanding of fact or law that is reasonable<br />

in light of the experience, knowledge, and education of the taxpayer.”<br />

O. <strong>Tax</strong> Court Rules Real Estate Agent Not a Real Estate Professional (Gregory<br />

John Bahas and Linda A. Bahas v. Commissioner, U.S. <strong>Tax</strong> Court, T.C.<br />

Summary Opinion 2010-115) Docket No. 29381-092. Filed August 16, 2010<br />

<strong>Tax</strong> Court Summary Opinion Passive Activities: Real Estate Agent<br />

A licensed real estate agent did not qualify for the exception to the passive activity<br />

loss rules for taxpayers in a real property business as provided in §469(c)(7).<br />

Therefore, she and her husband were not entitled to passive activity deductions<br />

during the years at issue for three rental properties they jointly owned and<br />

managed. She did not establish that she worked for more than 750 hours each year<br />

with respect to the properties. The hours she worked at a real estate corporation<br />

did not qualify as hours worked in a real property trade or business. In addition,<br />

she did not meet the 5-percent ownership requirement of §469(c)(7)(D)(ii).<br />

3-22


Pursuant to §7643(b), This Opinion May Not Be Treated As Precedent for<br />

Any Other Case.<br />

This case was heard pursuant to the provisions of §7463. Pursuant to §7463(b),<br />

the decision to be entered is not reviewable by any other court, and this opinion<br />

shall not be treated as precedent for any other case.<br />

The IRS determined:<br />

• A deficiency in petitioners’ <strong>Federal</strong> income tax of $9,560 and §6662(a)<br />

penalty of $1,912 for 2006.<br />

• A deficiency of $2,408 for 2007.<br />

• The sole issue for decision was whether taxpayers were entitled to claimed<br />

losses of $36,617 for 2006 and $10,874 for 2007 from rental real estate<br />

property. Resolution of this issue depends upon whether §469(c)(7) applies to<br />

the rental real estate activities of Mrs. Bahas.<br />

Background of Case<br />

1. During 2006 and 2007 Mrs. Bahas was a licensed real estate agent, and Mr.<br />

Bahas designed computer networks as a technical applications manager. Mrs.<br />

Bahas worked full-time for Snyder & Snyder Real Estate, Inc. which for tax<br />

purposes elected to be treated as an S Corporation. Barbara Snyder owned all<br />

the stock of Snyder & Snyder.<br />

2. On December 22, 2004, Mrs. Bahas and Ms. Snyder entered into an<br />

employment agreement. At the time Mrs. Bahas did not have a real estate<br />

license. Pursuant to that agreement, Mrs. Bahas was hired to be the office<br />

manager and Ms. Snyder’s assistant. She received an hourly wage ($7.50 per<br />

hour) for her duties as the office manager. As the assistant to Ms. Snyder, Mrs.<br />

Bahas received the same $7.50 hourly wage “during normal business hours”<br />

but no hourly wage “outside of normal business hours.” However, she was<br />

entitled to receive “10% of the gross sales of Barbara Snyder on a bi-weekly<br />

basis.”<br />

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3. Starting January 1, 2006, by which date it was assumed Mrs. Bahas would be<br />

a licensed real estate agent, Mrs. Bahas would receive (as a licensed real estate<br />

agent assistant to Ms. Snyder) “6 percent of the net profits of Snyder & Snyder<br />

to be paid once a year upon completion of the company’s tax return.”<br />

According to pay stubs she received from Snyder & Snyder, Mrs. Bahas<br />

worked there during 2006 for 1,759.5 hours and during 2007 for 1,869.5<br />

hours.<br />

4. During 2006 and 2007 Mr. & Mrs. Bahas jointly owned and managed three<br />

rental properties in Akron, Ohio. Their ownership of these properties was not<br />

related to Mrs. Bahas’s employment at Snyder & Snyder. <strong>Tax</strong>payers spent less<br />

than 750 hours managing these properties during each of 2006 and 2007.<br />

5. <strong>Tax</strong>payers filed tax returns for 2006 and 2007 and reported a loss of $39,154<br />

for 2006 and a loss of $12,195 for 2007 in connection with their rental<br />

properties.<br />

6. IRS determined that:<br />

a. the losses claimed from their rental properties were passive activity<br />

losses;<br />

b. had no passive activity income against which these rental losses could be<br />

offset;<br />

c. did not meet the requirements of §469(c)(7); and<br />

d. $2,537 of the rental loss claimed for 2006 (and none for 2007) was<br />

allowable.<br />

Burden Of Proof<br />

1. In general, the Commissioner’s determinations set forth in a notice of<br />

deficiency are presumed correct, and the taxpayer bears the burden of<br />

proving that the determinations are incorrect.<br />

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2. §7491(a) provides that under certain circumstances, the burden of proof with<br />

respect to factual matters shifts to the Commissioner. <strong>Tax</strong>payers neither<br />

alleged nor proved that this section is herein applicable. Therefore, the<br />

taxpayers bear the burden of proof.<br />

Rental Losses<br />

1. §469(a) provides a general rule that the deduction of passive activity losses is<br />

suspended.<br />

2. §469(c)(1) defines a passive activity as any activity:<br />

a. which involves the conduct of any trade or business, and<br />

b. in which the taxpayer does not materially participate.<br />

3. §469(d)(1) provides that a passive activity loss is defined as the amount by<br />

which:<br />

a. the aggregate losses from all passive activities for the taxable year exceed<br />

b. the aggregate income from all passive activities for such year.<br />

4. §469(c)(2)-(4) provides that a rental real estate activity is generally treated as<br />

a passive activity without regard to whether the taxpayer materially<br />

participates in the activity.<br />

5. §469(i) provides an exception to the general rule where the taxpayer is an<br />

individual and actively participates in rental real estate activities. The<br />

individual may deduct up to $25,000 of losses subject to a phase out if the<br />

individual’s adjusted gross income exceeds $100,000.<br />

6. §469(c)(7)(B) provides another exception where the taxpayer is a real estate<br />

professional who materially participates in a real property trade or business.<br />

A taxpayer qualifies if:<br />

a. more than one-half of the personal services performed in trades or<br />

businesses by the taxpayer during such taxable year are performed in real<br />

property trades or businesses in which the taxpayer materially participates,<br />

and<br />

3-25


. such taxpayer performs more than 750 hours of services during the taxable<br />

year in real property trades or businesses in which the taxpayer materially<br />

participates.<br />

7. In the case of a joint return, the exception applies if either spouse separately<br />

satisfies both requirements.<br />

8. §469(h)(1) provides that a taxpayer is treated as materially participating in a<br />

real property activity only if the taxpayer is involved in the operations of the<br />

activity on a basis which is regular, continuous and substantial.<br />

9. Mrs. Bahas maintains that she was engaged in a real property business in 2006<br />

and 2007 because she worked more than 750 hours per year as a licensed real<br />

estate agent assistant for Ms. Snyder. She asserts that she actively showed and<br />

sold houses to home buyers as an agent for Snyder & Snyder and therefore<br />

should be able to use the hours from Snyder and Snyder to make the 750 hours.<br />

10. The hours Mrs. Bahas worked at Snyder & Snyder do not qualify as hours<br />

worked in a real property trade or business for purposes of §469(c)(7)(B)(ii).<br />

§469(c)(7)(B)(ii) provides that for purposes of subparagraph (B), personal<br />

services performed as an employee shall not be treated as performed in real<br />

property trades or businesses unless the employee owns more than 5% of the<br />

value of the company.<br />

11. Relying on IRS Publication 925, Mrs. Bahas argued that because she was<br />

entitled to receive 6 percent of Snyder & Snyder’s net profits as compensation<br />

for her efforts as a licensed real estate assistant, she owned more than a 5-<br />

percent profits interest in Snyder & Snyder. Mrs. Bahas claims her position is<br />

supported by a passage on page 5 of IRS Publication 925 which stated:<br />

Do not count personal services you performed as an employee in real<br />

property trades or businesses unless you were a 5% owner of your<br />

employer. You were a 5% owner if you owned (or are considered to have<br />

owned) more than 5% of your employer’s outstanding stock, outstanding<br />

voting stock or capital or profits interest.<br />

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12. Mrs. Bahas’s position is flawed. Snyder & Snyder is an Ohio corporation,<br />

owned entirely by Ms. Snyder. A 5-percent owner for purposes of<br />

§469(c)(7)(D)(ii) is defined in §416(i)(1)(B)(i), which provides:<br />

a. if the employer is a corporation, then any person who owns (or is<br />

considered as owning within the meaning of §318) more than 5 percent of<br />

the outstanding stock of the corporation or stock possessing more than 5<br />

percent of the total combined voting power of all stock of the corporation,<br />

or<br />

b. if the employer is not a corporation, then any person who owns more than<br />

5 percent of the capital or profits interest in the employer.<br />

13. Mrs. Bahas’s employment agreement does not provide for the transfer of any<br />

stock to her. Her right to 6 percent of the net profits of Snyder & Snyder would<br />

terminate should her employment with Snyder & Snyder cease. Therefore,<br />

Mrs. Bahas’s employment agreement with Snyder & Snyder only defined how<br />

Mrs. Bahas would be compensated for services rendered; i.e., her<br />

compensation would be based, in part, on the profits of the company.<br />

Therefore, the court concluded that Mrs. Bahas did not meet the 5-percent<br />

ownership requirement of §469(c)(7)(D)(ii).<br />

P. 9th Circuit upholds §469 Self-Rental Regulations (Beecher, CA9, 3/23/2007,<br />

99 AFTR 2d 2007-712)<br />

Affirming the tax court, the Ninth Circuit Court of Appeals has upheld the validity<br />

of §469 regulations recharacterizing self-rental income as nonpassive for purposes<br />

of the passive activity loss (PAL) rules. As a result, the taxpayers could not use<br />

losses from their rental properties to offset rental income earned from their<br />

wholly-owned businesses.<br />

<strong>Tax</strong> Professional Reminder: The Ninth Circuit joins the Seventh (Krukowski,<br />

(CA7, 89 AFTR 2d 2002-827), First (Sidell, CA1, 86 AFTR 2d 2000-6229, and<br />

Fifth Circuits (Fransen, CA5, 84 AFTR 2d 99-6360) in upholding the validity of<br />

the self-rental recharacterization rule.<br />

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Background:<br />

1. Under §469, losses from a passive activity can be used only to offset passive<br />

activity income, not income from other sources such as salary and dividends.<br />

§469(l) gives IRS authority to prescribe “such regulations as may be<br />

necessary or appropriate to carry out provisions of this section.<br />

2. The recharacterization or self-rental rule of Reg. §1.469-2(f)(6), provides that<br />

income from rental realty is not passive income if the property is rented for<br />

use in a trade or business activity in which the taxpayer materially participates<br />

for the tax year.<br />

<strong>Tax</strong> Professional Education Point: The self-rental rule blocks a taxpayer<br />

with passive activity losses from one activity from artificially creating passive<br />

activity income from another activity in order to absorb the losses.<br />

3. The regulations treat a taxpayer as participating in a C corporation subject to<br />

the PAL rules (i.e., a C corporation that is closely held), so the self-rental<br />

recharacterization rule applies if the taxpayer rents property he owns to a<br />

closely held C corporation in which he materially participates. (Reg. §1.469-<br />

11(c)(1)(ii))<br />

Facts:<br />

1. Gary Beecher wholly-owned and worked full-time for a C corporation in the<br />

business of repairing auto interiors, and his wife, Dolores, wholly-owned and<br />

worked full-time for another C corporation in the business of removing dents<br />

from autos.<br />

2. Both corporations’ offices were located in the Beechers’ home. The<br />

corporations paid the Beechers rent for the use of this office space.<br />

3. In addition to renting this portion of their home, the Beechers also owned five<br />

rental properties. On their 1997, 1998 and 1999 returns, the Beechers reported<br />

net income from leasing office space to their C corporations of $39,307,<br />

$23,387 and $22,160, respectively. During these years, the combined losses<br />

from the five other rental properties exceeded the income derived from their<br />

office leases.<br />

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4. On their 1997 through 1999 returns, the Beechers offset the losses from the<br />

rental properties against the income from the office leases and, as a result, paid<br />

no tax on the rental income paid to them by their corporations.<br />

5. IRS said the offset was not allowed under the recharacterization rule in Reg.<br />

§1.469-11(c)(l)(ii), and the <strong>Tax</strong> Court agreed. The Beechers appealed to the<br />

Ninth Circuit but lost again.<br />

Ninth Circuit upholds Self-Rental Rule. Affirming the tax court, the Ninth<br />

Circuit held that IRS’s interpretation of §469 in Reg. §1.469-11(c)(I)(ii) was valid<br />

and was supported by the legislative history of §469. The Ninth Circuit rejected<br />

the Beechers’ claim that Congress’ delegation of authority to issue the self-rental<br />

rule was unconstitutional. It also rejected the Beechers’ claim that §469(1) was<br />

enacted to combat abusive transactions and therefore should not apply to their<br />

situation.<br />

Chapter III - Review Questions<br />

1. Which of the following statements is correct with regards to the exception<br />

to the annual $25,000 special allowance limitation for passive activity<br />

losses?<br />

a. Any employee of a real estate firm may deduct unlimited passive losses,<br />

as long as this employee works at least 750 hours selling real estate<br />

during the year.<br />

b. If the taxpayer does not meet the 750 hour requirement, the spouse’s<br />

hours worked can be used to meet the requirement to deduct unlimited<br />

losses.<br />

c. A real estate professional who materially participates and performs<br />

more than 750 hours in real estate trades may deduct unlimited passive<br />

losses from rental activities.<br />

d. All of the above.<br />

3-29


Answer:<br />

a. is incorrect: Any services that are performed as an employee in a real<br />

estate trade or business do not count toward the tests unless the taxpayer is<br />

an employee who owns 5% or greater of the business.<br />

b. is incorrect: If the taxpayer files a joint return then the spouse's personal<br />

services are not included in determining meeting these qualifications.<br />

c. is correct: §469(c)(7)(B) defines a "real estate professional" as one who<br />

meets both of the following tests:<br />

• more than 50% of the personal services performed in trades or business<br />

by the taxpayer during the tax year are performed in real property trades<br />

or businesses in which the taxpayer materially participates,<br />

and<br />

• such taxpayer performs more than 750 hours of services during the tax<br />

year in real estate trades or businesses in which the taxpayer materially<br />

participates.<br />

2. A taxpayer with sells rental property for $150,000. The property has an<br />

adjusted basis of $120,000. The property also has a suspended Passive<br />

Activity Loss of $50,000. What is the net effect on AGI on Form 1040?<br />

a. $30,000 increase<br />

b. $30,000 decrease<br />

c. $20,000 increase<br />

d. $20,000 decrease<br />

3-30


Answer:<br />

d. is the correct answer:<br />

Sales price $150,000<br />

Less: Adjusted Basis (120,000)<br />

Recognized capital gain $ 30,000 Schedule D<br />

Less: Allowable suspended PAL ( 50,000) Schedule E<br />

Net recognized effect on sale $(20,000) Net Effect on AGI<br />

Because the suspended PAL retains its character, the $50,000 allowable<br />

suspended PAL is now offset against other ordinary income and portfolio<br />

income.<br />

3. A taxpayer sold rental property with an adjusted basis of $100,000 for<br />

$180,000. The taxpayer’s return from the prior year showed $60,000 of<br />

suspended passive activity losses carrying over to the current tax year.<br />

What is the net taxable effect on the current year’s tax return?<br />

a. $20,000 increase<br />

b. $60,00 decrease<br />

c. $80,000 increase<br />

d. None of the above<br />

Answer:<br />

Choice “a” is correct:<br />

Net sales price $180,000<br />

Less: Adjusted basis (100,000)<br />

Recognized capital gain on sale $ 80,000 Schedule D<br />

Less: Allowable suspended PAL (60,000) Schedule E<br />

Net recognized effect $ 20,000 Net Effect on AGI<br />

b. is incorrect. The $60,000 PAL is allowed to offset ordinary income and<br />

reported on Schedule E.<br />

c. is incorrect. $80,000 is the realized gain from the sale, but is offset by<br />

the $60,000 PAL.<br />

3-31


IV. Taking a Closer Look<br />

at the <strong>Federal</strong> Income<br />

<strong>Tax</strong> Issues of the<br />

Affordable Care Act<br />

(ACA): It’s Not Going<br />

Away!


IV. Taking A Closer Look At The <strong>Federal</strong> Income <strong>Tax</strong> Issues Of The Affordable<br />

Care Act (ACA): It’s Not Going Away!<br />

A. Introduction to the Legislation<br />

1. On March 23, 2010, President Obama signed into law H.R. 3590, The<br />

Patient Protection and Affordable Care Act. H.R. 3590 is generally referred<br />

to as the “2010 Health Care Act.”<br />

2. On March 30, 2010, the President signed an amended bill H.R. 4872, The<br />

Health Care and Education Reconciliation Act of 2010. H.R. 4872 is<br />

generally referred to as the “2010 Reconciliation Act.”<br />

• These two pieces of legislation have come to be known and referred to as<br />

the “Affordable Care Act” (ACA).<br />

B. <strong>Tax</strong> Changes and The Universal Health Care Coverage Requirements<br />

1. The legislation imposes provisions which address the following issues:<br />

a. §5000A Shared Responsibility Payment (PENALTY) for individuals<br />

remaining uninsured (aka: the individual mandate);<br />

b. §36B Premium Assistance Credit for low income taxpayers for<br />

participating in health exchanges (MARKETPLACE);<br />

c. §4980H Employer responsibilities for worker health coverage;<br />

d. §4980D Dependent coverage in employer health plans.<br />

2. The legislation also imposes health related revenue raisers and reporting<br />

responsibilities as follows:<br />

a. §4980I Cadillac Plans Excise tax on high-cost employer sponsored<br />

health coverage (effective date January 1, 2018);<br />

b. §6051(a)(14) Reporting of employer sponsored health coverage on Form<br />

W-2 (Code DD);<br />

c. §3101(b)(2) Additional “Hospital Insurance <strong>Tax</strong>” (HI) for high wage<br />

earners and §1401 (b)(2) self-employed individuals; (Form 8959)<br />

4-1


d. §1411 Surtax on unearned income; (Net investment Income <strong>Tax</strong> on Form<br />

8960)<br />

e. §220(f)(4) Increased tax on nonqualifying HSA or Archer MSA<br />

distributions (Form 5329)<br />

f. §213(a) Modified threshold for claiming medical expense deductions on<br />

Schedule A of Form 1040; (Including transition rules for taxpayers age<br />

65 and older in years 2013-2016)<br />

g. Industry-specific revenue raisers assessed against insurance companies,<br />

imaging companies, medical equipment devices, drug companies, etc.<br />

C. Health Coverage Exemptions<br />

1. For purposes of the penalties for individuals remaining uninsured the law<br />

provides that all “applicable individuals” will have to ensure that they are<br />

covered under a health insurance policy that provides “minimum essential<br />

coverage” beginning January 1, 2014. The taxpayer is now required to file<br />

Form 8965 Health Coverage Exemptions which will require the type of<br />

“coverage exemption” indicated by a “Code” to be reported in Part III,<br />

column C. The “Code for Exemption” ranges from A – H.<br />

<strong>Tax</strong> Professional Note: Several changes have been made to the types of<br />

coverage exemptions available for <strong>2015</strong>. Some coverage exemptions have<br />

been added, clarified or are no longer available. See the TYPES of Coverage<br />

Exemptions chart on Page 3 of From 8965 Instructions.<br />

2. This rule for “minimal essential coverage” applies to all “applicable<br />

individuals” other than an individual who:<br />

a. qualifies for a §5000A(d)(2)(A) religious conscience exemption (for more<br />

information to qualify see Form 8965 Instructions);<br />

b. is a member of a health care sharing ministry under §5000A(d)(2)(B)(ii)<br />

(Code “D”);<br />

c. for the month in question is not a U.S. Citizen or U.S. National or an alien<br />

lawfully present in the U.S. (Code “C”); or<br />

4-2


d. is incarcerated, other than incarceration pending the disposition of charges<br />

(Code “F”).<br />

3. For purposes of the requirement that after 2013 “applicable individuals” will<br />

have to maintain a minimum level of health insurance coverage (“minimum<br />

essential coverage”) the term “minimum essential coverage” will mean any<br />

of the following under §5000(A)(f)(1):<br />

a. Coverage under any of these government-sponsored programs:<br />

i. The Medicare program under part A of title XVIII of the Social<br />

Security Act;<br />

ii.<br />

iii.<br />

iv.<br />

The Medicaid program under title XIX of the Social Security Act;<br />

The CHIP (Children’s Health Insurance Program) program under<br />

Title XXI of the Social Security Act;<br />

The TRICARE Program: TRICARE is the health care program<br />

serving active duty service members, National Guard and Reserve<br />

members, retirees, their families, survivors and certain former<br />

spouses; TRICARE for Life is TRICARE’s Medicare-wrap-around<br />

coverage available to all Medicare-eligible TRICARE beneficiaries;<br />

(Chapter 55 of Title 10, U.S.C.)<br />

v. A health care program under Chapter 17 or 18 of title 38, United<br />

States Code, as determined by the Secretary of Veterans Affairs, in<br />

coordination with the Secretary of Health and Human Services and<br />

IRS; or<br />

vi.<br />

A health plan under §2504(e) of Title 22 of the United States Code<br />

relating to Peace Corps volunteers.<br />

b. Coverage under an eligible employer-sponsored plan under the<br />

provisions of §4980H<br />

c. Coverage under a health plan offered in the individual market within a<br />

state;<br />

4-3


d. Coverage under a grandfathered health plan. The term “grandfathered<br />

health plan” is any group health plan or health insurance coverage to<br />

which §1251 of the Patient Protection and Affordable Care Act (relating<br />

to the preservation of an individual’s right to maintain existing coverage)<br />

applies; and<br />

e. Any other health benefits coverage, such as a state health benefits risk<br />

pool, which the Secretary of Health and Human Services, in coordination<br />

with IRS, recognizes for purposes of the definition of “minimum essential<br />

coverage.”<br />

4. For the <strong>Tax</strong> Year <strong>2015</strong> the IRS will require the following to be reported:<br />

a. Form 1095-A, “Health Insurance Marketplace Statement,” is required to<br />

be issued to individuals on or before January 31, 2016, for coverage in<br />

calendar year <strong>2015</strong>.<br />

b. Insurance Companies and self-insured health plans will provide<br />

taxpayers with Form 1095-B. “Health Coverage,” to each enrollee and<br />

member and will also file a copy along with a transmittal Form 1094-B.<br />

“Transmittal of Health Coverage Information Returns,” to the IRS.<br />

c. <strong>Tax</strong>payers will begin receiving Form 1095-B by January 31, 2016 for<br />

the <strong>2015</strong> tax year.<br />

d. Large employers must file Form 1095-C. “Employer-provided Health<br />

Insurance Offer and Coverage,” to each employee and transmit them<br />

together with transmittal Form 1095-B to the IRS.<br />

*Note that Form 1095-B and Form 1095-C were not mandatory for tax<br />

year 2014 but are mandatory beginning <strong>2015</strong> with an issue date of<br />

January 31, 2016.<br />

See Chart on pages of Form 8965<br />

4-4


5. There are exemptions from the requirement for individuals to maintain<br />

health insurance coverage. §5000A(e) provides exemptions from the<br />

requirement that “applicable individuals” will have to maintain a minimum<br />

level of health insurance coverage (“minimum essential coverage”) after<br />

2013 and will be provided for:<br />

a. Individuals who cannot afford coverage (Code “A”);<br />

b. <strong>Tax</strong>payers with income below the income tax return filing threshold;<br />

c. Members of Indian tribes (Code “E”);<br />

d. Months during short coverage gaps (Code “B”); and<br />

e. Hardships.<br />

<strong>Tax</strong> Professional Educational Fact: Individuals receiving an exemption<br />

from the individual mandate are required to file Form 8965, “Health<br />

Coverage Exemptions”. Also see the chart on page 5 of the instructions for<br />

Form 8965 for the exemptions and codes.<br />

D. §36B Premium Assistance Credit<br />

1. For tax years beginning after December 31, 2013, §36B(a) provides a<br />

general rule that in the case of an “applicable taxpayer,” there shall be<br />

allowed a credit against the tax imposed by “this subtitle,” for any taxable<br />

year, an amount equal to the premium assistance credit (PAC) amount of the<br />

taxpayer for the taxable year.<br />

<strong>Tax</strong> Professional Note: For information purposes “this subtitle” means that<br />

it is the income tax and employment tax of a self-employed person which<br />

means that the credit will be a refundable credit.<br />

<strong>Tax</strong> Professional Education Fact: The §36B credit has become known as<br />

the “Premium <strong>Tax</strong> Credit” (PTC), which is also the title of Form 8962.<br />

4-5


2. §36B(b)(1) provides a general rule that the term “premium assistance credit”<br />

amount will be provided for all “coverage months” of the taxpayer during<br />

the taxable year. §36B(b)(2) provides that the premium assistance credit<br />

amount will be equal to the lesser of :<br />

a. The monthly premiums for such month for 1 or more qualified health plans<br />

offered in the individual market within a state which covers the taxpayer,<br />

the taxpayer’s spouse, or any dependent (as defined in §152) of the<br />

taxpayer and which were enrolled in through an Exchange established by<br />

the state under Section 1311 of the Patient Protection and Affordable Care<br />

Act (ACA); (Supreme Court ruling allows taxpayers the credit provided<br />

by the federal marketplace) or<br />

b. The excess (if any) of:<br />

i. the “adjusted monthly premium” for such month for the applicable<br />

second lowest cost silver plan (SLCSP) with respect to the taxpayer,<br />

over<br />

ii.<br />

an amount equal to 1/12 of the product of the “applicable<br />

percentage” and the taxpayer’s household income for the taxable<br />

year. (Reported on Form 8962, Part I)<br />

<strong>Tax</strong> Professional Research Reference: “Applicable Percentage” is defined<br />

in §36B(b)(3)(A). Applicable Second Lowest Cost Silver Plan is defined in<br />

§36B(b)(3)(B) and Adjusted Monthly Premium is defined in §36B(b)(3)(C).<br />

§36B(b)(3)(A) provides a general rule that “applicable percentage” for any<br />

taxable year shall be the percentage such that the applicable percentage for<br />

any taxpayer whose household income is within a specified income tier.<br />

3. §36B(b)(3)(A)(ii) provides a general rule that in the case of taxable years<br />

beginning in any calendar year after 2014, the initial and final percentages<br />

shall be adjusted to reflect the excess of:<br />

a. The rate of premium growth for the preceding calendar year, over<br />

b. The rate of income growth for the preceding calendar year.<br />

4-6


<strong>Tax</strong> Professional Note: The IRS provided guidance on these items on July<br />

24, 2014 in IRS Rev. Proc. 2014-37<br />

4. Rev. Prov. 2014-37 reports the income tiers for <strong>2015</strong>. These tiers are<br />

specified in the following table and shall increase, on a percentage specified<br />

in such table for such income tier:<br />

In the case of household income<br />

(expressed as a percent of<br />

poverty<br />

line) within the following<br />

income tier:<br />

Initial<br />

premium<br />

percentage<br />

Final premium<br />

percentage<br />

Up to 133% 2.01% 2.01%<br />

133% up to 150% 3.02% 4.02%<br />

150% up to 200% 4.02% 6.34%<br />

200% up to 250% 6.34% 8.10%<br />

250% up to 300% 8.10% 9.56%<br />

300% up to 400% 9.56% 9.56%<br />

5. §36B(b)(3)(B) provides that the “Applicable Second Lowest Cost Silver<br />

Plan” (SLCSP) with respect to any applicable taxpayer is the second lowest<br />

cost Silver Plan of the individual market in the rating area in which the<br />

taxpayer resides (geographic location).<br />

a. Enrollment premiums: The enrollment premiums are the total amount of<br />

the premiums for the month for one or more qualified health plans in<br />

which any individual in the tax family is enrolled. Form 1095-A, Part III,<br />

Column A, reports the enrollment premiums. The taxpayer is not allowed<br />

a monthly credit for the month if the portion of the enrollment premium<br />

for which the taxpayer is responsible for that month has not been paid by<br />

the due date of the tax return (not including extensions). Premiums that<br />

another person pays on behalf of the taxpayer are treated as paid by the<br />

taxpayer.<br />

4-7


. Premium for the applicable SLCSP: The premium for the applicable<br />

SLCSP is the second lowest cost silver plan premium (based on age)<br />

offered through the Marketplace where the taxpayer resides that applies to<br />

the taxpayer’s coverage family (described below). The premium for the<br />

applicable SLCSP is not the same as the enrollment premium, unless the<br />

taxpayer enrolls in the applicable SLCSP. Form 1095-A, Part III, Column<br />

B, reports the premium for the applicable SLCSP.<br />

c. Monthly contribution amount: The taxpayer’s monthly contribution<br />

amount is the amount the taxpayer would be required to pay as the share<br />

of premiums each month if enrolled in the applicable SLCSP in the<br />

Marketplace. The monthly contribution amount is not related to the<br />

amount of premiums paid out of pocket. The monthly contribution amount<br />

is computed on Form 8962, Part 1 on line 8b.<br />

d. Coverage family: A coverage family includes all individuals in the tax<br />

family who are enrolled in a qualified health plan and are not eligible for<br />

minimum essential coverage (other than coverage in the individual<br />

market). The individuals included in the coverage family may change from<br />

month to month. If individuals in the tax family are not enrolled in a<br />

qualified health plan, or are enrolled in a qualified health plan but are<br />

eligible for minimum essential coverage (other than coverage in the<br />

individual market), then generally they are not part of the coverage family.<br />

The applicable SLCSP is the SLCSP that applies to the coverage family.<br />

The PTC is only available to help pay for the coverage of the individuals<br />

included in the coverage family.<br />

4-8


6. §36B(b)(3)(C) provides that the “adjusted monthly premium” for an<br />

applicable second lowest cost Silver Plan is the monthly premium which<br />

would have been charged (for the rating area with respect to which the<br />

premiums under paragraph (2)(A) were determined) for the plan if each<br />

individual covered under a qualified health plan taken into account under<br />

paragraph (2)(A) were covered by such Silver Plan and the premium was<br />

adjusted only for the age of each such individual in the manner allowed under<br />

Section 2791 of the Public Health Service Act. In the case of a state<br />

participating in the wellness discount demonstration project under Section<br />

2705(d) of the Public Health Service Act, the adjusted monthly premium shall<br />

be determined without regard to any premium discount or rebate under such<br />

project.<br />

7. The 2010 Health Care Act provides the refundable credit to qualifying<br />

taxpayers who purchase insurance coverage by enrolling in a “qualified<br />

health plan” (QHP). For purposes of the Premium <strong>Tax</strong> Credit, a “qualified<br />

health plan” is a health plan or policy purchased through a Marketplace at<br />

the Bronze, Silver, Gold or Platinum level.<br />

<strong>Tax</strong> Professional Note: Plans sold as “catastrophic” coverage and plans<br />

sold through the Small Business Health Option Program (SHOP) do not<br />

qualify a taxpayer to take the Premium <strong>Tax</strong> Credit.<br />

8. For some taxpayers the §36B credit will be available and payable in<br />

advance, directly to the insurer and will therefore subsidize the purchase of<br />

certain health insurance plans through an “Exchange.”<br />

9. The 2010 Health Care Act requires that each state was to establish an<br />

“American Health Benefit Exchange” (“Exchange”) by January 1, 2014.<br />

<strong>Tax</strong> Professional Note: Many states did not establish the mandated Exchange<br />

and as a result there has been an Exchange established by the federal<br />

government for those seeking insurance and living in one of those states. The<br />

Supreme Court ruled that the <strong>Federal</strong> Exchange’s granting of the premium<br />

assistance credits was within the intention of the statute.<br />

4-9


10. The Act requires insurers to provide Qualified Health Plans (QHPs) to be sold<br />

on the “Exchanges.” The law states that the “Exchanges” are not the insurers<br />

but are to provide access to insurers’ QHPs.<br />

<strong>Tax</strong> Professional Note: According to the legislation, individuals will be able<br />

to obtain affordable, quality health insurance by enrolling in a QHP through<br />

an Exchange.<br />

11. The §36B credit only applies to QHPs purchased on the Exchange. The<br />

purpose is to allow the qualifying individual to use the credit to reduce the<br />

health insurance premium cost if they acquire the coverage through<br />

enrollment in a QHP.<br />

<strong>Tax</strong> Professional Note: The §36B credit is being referred to in some written<br />

materials as an “exchange subsidy.”<br />

12. §36B(f) provides for a reconciliation of the credit allowable and any advance<br />

credit received. This reconciliation is calculated on Form 8962, Premium <strong>Tax</strong><br />

Credit (PTC) in Part III. §36B(f)(3) provides that the Exchange will be<br />

required to issue an information return (Form 1095-A) to the Secretary and<br />

the taxpayer providing:<br />

a. The level of coverage that was in effect;<br />

b. Total premium for the coverage;<br />

c. Aggregate amount of any advance payment;<br />

d. Name, address and TIN of the primary insured and the name and TIN of<br />

each individual obtaining coverage under the policy;<br />

e. Any information provided by the Exchange, including any change of<br />

circumstances necessary to determine the eligibility for, and the amount<br />

of such credit; and<br />

f. Information necessary to determine whether a taxpayer received excess<br />

advanced payments.<br />

4-10


13. Individual taxpayers will also be permitted to pay the entire premium during<br />

the year directly and claim the credit on their Form 1040 on the line 69 labeled<br />

“Net premium tax credit”. The net credit is required to be calculated on<br />

Form 8962 Premium <strong>Tax</strong> Credit (PTC). Any “excess advance premium tax<br />

credit” will be reported on line 46 of Form 1040 which is labeled “Excess<br />

advance premium tax credit repayment”.<br />

TAX PROFESSIONAL ALERT:<br />

The Health Care Law and You: Nine Facts about Letters Sent by the IRS:<br />

The IRS sent letters to taxpayers this summer who were issued a Form 1095-<br />

A, Health Insurance Marketplace Statement, showing that advance payments<br />

of the premium tax credit were paid on the taxpayer’s behalf in 2014. At the<br />

time, the IRS had no record that the taxpayer filed a 2014 tax return.<br />

Here are nine facts about these letters and the actions you should take:<br />

• IRS letters 5591, 5591A, or 5596 remind you of the importance of filing<br />

your 2014 federal tax return along with Form 8962, Premium <strong>Tax</strong> Credit.<br />

• You must file a tax return to reconcile any advance credit payments you<br />

received in 2014 and to maintain your eligibility for future premium<br />

assistance.<br />

• If you do not file, you will not be eligible for advance payments of the<br />

premium tax credit in 2016.<br />

• Even if you don’t usually file or if you requested an extension to October.<br />

15, you should file your 2014 tax return as soon as possible.<br />

• Until you file a 2014 tax return to resolve the issue with your Marketplace,<br />

you will not be eligible to get advance payments of the premium tax credit<br />

to help pay your health coverage premiums in 2016 from the Marketplace.<br />

• You should have received Form 1095-A, Health Insurance Marketplace<br />

Statement, earlier this year if you or a family member purchased health<br />

insurance coverage through the Marketplace in 2014. This form provides<br />

the information you need to complete Form 8962. You must attach Form<br />

8962 to the income tax return you file.<br />

4-11


• Contact your Marketplace if you have questions about your Form 1095-<br />

A.<br />

• If you have recently filed your 2014 tax return with Form 8962, you do<br />

not need to file another tax return or call the IRS about these letters. In<br />

general, if you filed your tax return electronically, it takes three weeks<br />

before it is processed and your information is avaible. If you mailed your<br />

tax return, it takes about six weeks. However, processing times can vary<br />

based on other circumstances.<br />

• You should follow the instruction on any additional IRS correspondence<br />

that you receive to help the IRS verify information to process you tax<br />

return.<br />

In addition to these letters from the IRS your health insurance company may<br />

contact you to remind you to file your 2014 federal tax return along with Form<br />

8962. In some cases, they may contact you even if you did not receive advance<br />

credit payments in 2014. If you are not otherwise required to file a tax return,<br />

you do not have to file a return if you or anyone on your return did not receive<br />

advance credit payments in 2014.<br />

For more information, see the Affordable Care Act <strong>Tax</strong> Provisions for<br />

individuals and Families Page on IRS.Gov/aca.<br />

E. §36B Details<br />

1. The §36B credit is titled “Refundable Credit for Coverage under a Qualified<br />

Health Plan.”<br />

2. §36B(a) provides a general rule that there is a credit allowed.<br />

4-12


3. §36B(b)(1) provides that the term “premium assistance amount” means with<br />

respect to any taxable year, the sum of the premium assistance amounts for<br />

“all coverage months” for the taxpayer, taxpayer’s spouse or any dependents<br />

who are enrolled through an Exchange offered in the individual market within<br />

a state which covers the taxpayers. (Since many states did not create an<br />

Exchange the <strong>Federal</strong> Market Place qualifies).<br />

4. There are rules pertaining to self-only coverage and family coverage under<br />

§36B(b)(3)(B).<br />

5. §36B(b)(3)(E) provides special rules for pediatric dental coverage. For<br />

purposes of determining the amount of any monthly premium, if an individual<br />

enrolls in both a qualified health plan and a plan described in section<br />

1311(d)(2)(B)(ii)(I) of the Patient Protection and Affordable Care Act for any<br />

plan year, then the portion of the premium for the plan described in such<br />

section that (under regulations prescribed by the Secretary) is properly<br />

allocable to pediatric dental benefits which are included in the essential health<br />

benefits required to be provided by a qualified health plan shall be treated as<br />

a premium payable for a qualified health plan.<br />

6. §36B(c) provides specific definitions as follows:<br />

a. §36B(c)(1) “Applicable <strong>Tax</strong>payer”: 36B(c)(1)(A) provides a general rule<br />

that the term “applicable taxpayer” means, with respect to any taxable<br />

year, a taxpayer whose household income for the taxable year equals or<br />

exceeds 100 percent but does not exceed 400 percent of an amount equal<br />

to the <strong>Federal</strong> Poverty Level (FPL) for a family of the size involved. The<br />

FPL is reported on Form 8962, Part I, Line 4. The FPL is indexed to<br />

inflation<br />

b. §36B(c)(1)(B) Special rule for certain individuals lawfully present in the<br />

United States: If<br />

i. §36B(c)(1)(B)(i) a taxpayer has a household income which is not<br />

greater than 100 percent of an amount equal to the poverty line for<br />

a family of the size involved; and<br />

4-13


ii.<br />

§36B(c)(1)(B)(ii) the taxpayer is an alien lawfully present in the<br />

United States, but is not eligible for the Medicaid program under title<br />

XIX of the Social Security Act by reason of such alien status;<br />

then the taxpayer shall, for purpose of the credit under this section,<br />

be treated as an “applicable taxpayer” with a household income<br />

which is equal to 100 percent of the poverty line for a family of the<br />

size involved. (Therefore they will be eligible to receive the PTC).<br />

c. §36B(c)(1)(C) provides a general rule that married couples must file a<br />

joint return. The law specifies that if the taxpayer is married (within the<br />

meaning of §7703) at the close of the taxable year, then the taxpayer shall<br />

be treated as an “applicable taxpayer” only if the taxpayer and the<br />

taxpayer’s spouse file a joint return for the taxable year.<br />

TAX PROFESSIONAL ALERT: Reg. §1.36B-2T allows an exception<br />

for the filing of a joint return and specifically states an exception for<br />

victims of domestic abuse and abandonment, and states that except as<br />

provided in paragraph (b)(2)(v) of this section, a married taxpayer satisfies<br />

the joint filing requirement of paragraph (b)(2)(i) of this section if the<br />

taxpayer files a tax return using a filing status of married filing separately<br />

and the taxpayer:<br />

• is living apart from the taxpayer’s spouse at the time the taxpayer files<br />

the tax return;<br />

• is unable to file a joint return because the taxpayer is a victim of<br />

domestic abuse or spousal abandonment; and<br />

• Certifies on the return, in accordance with the relevant instructions,<br />

that the taxpayer meets the criteria of being a victim of domestic abuse<br />

or abandonment. The instructions on IRS Form 8962 Premium <strong>Tax</strong><br />

Credit (PTC) state that the taxpayer will be required to check the box<br />

in the top right-hand corner of Form 8962.<br />

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• Note: In 2014 the Form 8962 used a box labeled “Relief.” In <strong>2015</strong> the<br />

line indicates that if the taxpayer is eligible for the exception then they<br />

must check the box in order to claim the PTC. The instructions state<br />

that the documentation does not have to be attached to the return and<br />

that the taxpayer should keep the documentation with their tax records.<br />

IRS Publication 974 “Premium <strong>Tax</strong> Credit” (PTC) provides examples<br />

of what documentation to keep.<br />

d. Reg.§1.36B-2T(iii) defines domestic abuse to include physical,<br />

psychological, sexual, or emotional abuse, including efforts to control,<br />

isolate, humiliate, and intimidate, or to undermine the victim’s ability to<br />

reason independently. All the facts and circumstances are considered in<br />

determining whether an individual is abused, including the effects of<br />

alcohol or drug abuse by the victim’s spouse. Depending on the facts and<br />

circumstances, abuse of the victim’s child or another family member<br />

living in the household may constitute abuse of the victim.<br />

e. Reg. §1.36B-2T(iv) defines abandonment to be included as an exception.<br />

A taxpayer is a victim of spousal abandonment for a taxable year if, taking<br />

into account all facts and circumstances, the taxpayer is unable to locate<br />

his or her spouse after reasonable diligence.<br />

f. Reg. §1.36B-2T(v) states a three-year rule. The exception for victims of<br />

domestic abuse and abandonment does not apply if the taxpayer met the<br />

requirements of paragraph (b)(2)(ii) of this section for each of the three<br />

preceding taxable years.<br />

<strong>Tax</strong> Professional Note: Individuals cannot qualify for relief from the<br />

joint filing requirement for more than three consecutive years, during<br />

which time they must presumably obtain a divorce.<br />

TAX PROFESSIONAL ALERT: <strong>Tax</strong>payers who do not qualify for<br />

relief from filing a joint return cannot take the PTC on a married filing<br />

separate return and must complete lines 1-5 on Form 8962 in order to<br />

calculate their separate household income as a percentage of the <strong>Federal</strong><br />

poverty line.<br />

4-15


g. §36B(c)(1)(D) Denial of credit to dependents: No credit shall be allowed<br />

to any individual with respect to whom a deduction under §151 is<br />

allowable to another taxpayer for a taxable year beginning in the calendar<br />

year in which such individual’s taxable year begins.<br />

h. §36B(c)(2) Coverage month: For purposes of this subsection–<br />

i. §36B(c)(2)(A) provides a general rule that the term “coverage<br />

month” means, with respect to an “applicable taxpayer”, any month<br />

if:<br />

a) §36B(c)(2)(A)(i) as of the first day of such month the taxpayer,<br />

the taxpayer’s spouse, or any dependent of the taxpayer is<br />

covered by a qualified health plan described in subsection<br />

(b)(2)(A) that was enrolled through an Exchange established by<br />

the State under section 1311 of the Patient Protection and<br />

Affordable Care Act; (includes <strong>Federal</strong> Marketplace) and<br />

b) §36B(c)(2)(A)(ii) the premium for coverage under such plan for<br />

such month is paid by the taxpayer (or through advance payment<br />

of the credit under subsection (a) under section 1412 of the<br />

Patient Protection and Affordable Care Act).<br />

ii.<br />

§36B(c)(2)(B) Exception for minimum essential coverage:<br />

a) §36B(c)(2)(B)(i) provides that in general the term “coverage<br />

month” shall not include any month with respect to an individual<br />

if for such month the individual is eligible for minimum essential<br />

coverage other than eligibility for coverage described in<br />

§5000A(f)(1)(C) (relating to coverage in the individual market).<br />

b) §36B(c)(2)(B)(ii) provides that the term “minimum essential<br />

coverage” has the meaning given such term by §5000A(f).<br />

iii.<br />

For tax years beginning after 2014 §36B(c)(2)(C) provides a special<br />

rule for employer-sponsored minimum essential coverage: For<br />

purpose of “minimum essential coverage”<br />

4-16


a) §36B(c)(2)(C)(i) Provides that the coverage must be affordable:<br />

Except as provided in clause (iii) below, an employee shall not<br />

be treated as eligible for minimum essential coverage if such<br />

coverage–<br />

1) consists of an eligible employer-sponsored plan (as defined<br />

in §5000A(f)(2); and<br />

2) the employee’s required contribution within the meaning of<br />

§5000A(e)(1)(B) with respect to the plan exceeds 9.5 percent<br />

of the applicable taxpayer’s household income.<br />

This clause shall also apply to an individual who is eligible to<br />

enroll in the plan by reason of a relationship the individual bears<br />

to the employee.<br />

b) §36B(c)(2)(C)(ii) provides that the coverage must have<br />

minimum value: Except as provided in clause (iii) below, an<br />

employee shall not be treated as eligible for minimum essential<br />

coverage if such coverage consists of an eligible employersponsored<br />

plan (as defined in §5000A(f)(2)) and the plan’s share<br />

of the total allowed cost of benefits provided under the plan is<br />

less than 60 percent of such costs.<br />

c) §36B(c)(2)(C)(iii) provides that the employee or family must not<br />

be covered under an employer plan. Clauses (i) and (ii) above<br />

shall not apply if the employee (or any individual described in<br />

the last sentence or clause (i)) is covered under the eligible<br />

employer-sponsored plan or the grandfathered health plan.<br />

d) §36B(c)(2)(C)(iv) provides for indexing of the applicable<br />

taxpayer’s household income: In the case of plan years<br />

beginning in any calendar year after 2014, the Secretary shall<br />

adjust the 9.5 percent under clause (i)(II) in the same manner as<br />

the percentages adjusted under subsection (b)(3)(A)(ii). For tax<br />

year <strong>2015</strong> this amount is 9.56% and for tax year 2016 it is<br />

9.66%.<br />

4-17


<strong>Tax</strong> Professional Note: The employer will provide the Form 1095-C to<br />

employee to determine the level of coverage.<br />

i. §36B(c)(3)(A) provides that the term “qualified health plan” has the<br />

meaning given such term by section 1301(a) of the Patient Protection and<br />

Affordable Care Act, except that such term shall not include a qualified<br />

health plan which is a catastrophic plan described in section 1302(e) of<br />

such Act.<br />

j. §36B(c)(3)(B) provides that the term “grandfathered health plan” has the<br />

meaning given such term by section 1251 of the Patient Protection and<br />

Affordable Care Act.<br />

7. §36(B)(d) provides more definitions relating to the following items:<br />

a. §36B(d)(1) Family size: The family size involved with respect to any<br />

taxpayer shall be equal to the number of individuals for whom the taxpayer<br />

is allowed a deduction under §151 (relating to allowance of deduction for<br />

personal exemptions) for the taxable year. This is reported on Form 8962,<br />

Part I, Line 1.<br />

b. §36B(d)(2)(A) Household income: The term “household income” means,<br />

with respect to any taxpayer, an amount equal to the sum of:<br />

i. §36B(d)(2)(A)(i) the “modified adjusted gross income” of the<br />

taxpayer, plus<br />

ii.<br />

§36B(d)(2)(A)(ii) the aggregate “modified adjusted gross income”<br />

of all other individuals who–<br />

a) §36B(d)(2)(A)(ii)(I) were taken into account in determining the<br />

taxpayer’s family size under paragraph (1); and<br />

b) §36B(d)(2)(A)(ii)(II) were required to file a tax return for the<br />

applicable tax year. The modified adjusted gross income<br />

amounts are reported on Form 8962, Part I on line 2a and 2b<br />

and the Household Income is reported on line 3.<br />

4-18


<strong>Tax</strong> Professional Note: If a taxpayer has a dependent child who has<br />

income, and the child is required to file a federal income tax return then<br />

the child’s modified AGI is reported on Line 2b of Form 8962.<br />

c. §36B(d)(2)(B) provides that the term “modified adjusted gross income”<br />

means adjusted gross income increased by:<br />

i. §36B(d)(2)(B)(i) any amount excluded from gross income under<br />

§911 (Foreign Earned Income Exclusion reported on IRS Form<br />

2555);<br />

ii.<br />

iii.<br />

§36B(d)(2)(B)(ii) any amount of interest received or accrued by the<br />

taxpayer during the taxable year which is exempt from tax; and<br />

§36B(d)(2)(B)(iii) an amount equal to the portion of the taxpayer’s<br />

social security benefits (as defined in §86(d)) which is excluded<br />

from gross income under §86(d) for the taxable year.<br />

d. §36B(d)(3)(A) provides a general rule that the term “poverty line” has the<br />

meaning given that term in section 2110 (c)(5) of the Social Security Act<br />

(45 U.S.C. 1397j(c)(5)). §36B(d)(3)(B) Poverty line used: In the case of<br />

any qualified health plan offered through an Exchange for coverage during<br />

a taxable year beginning in a calendar year, the poverty line used shall be<br />

the most recently published poverty line as of the 1st day of the regular<br />

enrollment period for coverage during such calendar year.<br />

<strong>Tax</strong> Professional Note: Form 8962, Part I, line 4 uses the term <strong>Federal</strong><br />

Poverty Level (FPL).<br />

4-19


8. §36(B)(e) provides rules for individuals not lawfully present and Secretarial<br />

Authority to prescribe rules to ensure that the least burden is placed on<br />

individuals enrolling in qualified health plans through an Exchange.<br />

a. §36B(e)(1) provides a general rule that if one or more individuals for<br />

whom a taxpayer is allowed a deduction under §151 (relating to allowance<br />

of deduction for personal exemptions) for the taxable year (including the<br />

taxpayer or his spouse) are individuals who are not lawfully present, then<br />

§36B(e)(1)(A) provides that the aggregate amount of premiums otherwise<br />

taken into account under clauses (i) and (ii) of subsection (b)(2)(A) shall<br />

be reduced by the portion (if any) of such premiums which is attributable<br />

to such individuals, and<br />

b. §36B(e)(1)(B) provides that for purposes of applying this section, the<br />

determination as to what percentage a taxpayer’s household income bears<br />

to the poverty level for a family of the size involved shall be made under<br />

one of the following methods:<br />

i. §36B(e)(1)(B)(i) A method under which:<br />

a) §36B(e)(1)(B)(i)(I) the taxpayer’s family size is determined by<br />

not taking such individuals into account; and<br />

b) §36B(e)(1)(B)(i)(II) the taxpayer’s household income is equal to<br />

the product of the taxpayer’s household income (determined<br />

without regard to this subsection) and a fraction–<br />

1) §36B(e)(1)(B)(i)(11)(aa) the numerator of which is the<br />

poverty line for the taxpayer’s family size determined after<br />

application of subclauses (I), and<br />

2) §36B(e)(1)(B)(i)(II)(bb) the denominator of which is the<br />

poverty line for the taxpayer’s family size determined<br />

without regard to subclause (I).<br />

ii.<br />

§36B(e)(1)(B)(ii) A comparable method reaching the same result as<br />

the method under clause (i).<br />

4-20


9. §36(B)(3)(2) defines the term “lawfully present” and for purposes of this<br />

section, an individual shall be treated as “lawfully present” only if the<br />

individual is, and is reasonably expected to be for the entire period of<br />

enrollment for which the credit under this section is being claimed, a citizen<br />

of the United States or an alien lawfully present in the United States.<br />

10. §36B(e)(3) Secretarial authority: The Secretary of Health and Human<br />

Services, in consultation with the Secretary, shall prescribe rules setting<br />

forth the methods by which calculations of family size and household<br />

income are made for purposes of this subsection. Such rules shall be<br />

designed to ensure that the least burden is placed on individuals enrolling in<br />

qualified health plans through an Exchange and taxpayers eligible for the<br />

credit allowable under this section.<br />

11. §36(B)(f) provides for the reconciliation of the allowed credit and the<br />

advanced credit and the need to impose a tax on the excess advance credit.<br />

On Form 8962 the reconciliation is calculated in Part III and is titled<br />

“Repayment of Excess Advance Payment of the Premium <strong>Tax</strong> Credit.”<br />

a. §36B(f)(1) provides a general rule that the amount of the credit allowed<br />

for any taxable year shall be reduced (but not below zero) by the amount<br />

of any “advance payment” of such credit.<br />

b. §36B(f)(2)(A) provides a general rule that if the advance payments to a<br />

taxpayer for a taxable year exceed the credit allowed by this section<br />

(determined without regard to paragraph (1)), then the tax for the taxable<br />

year shall be increased by the amount of such excess.<br />

c. §36B(f)(2)(B) Limitation on increase: §36B(f)(2)(B)(i) provides a general<br />

rule that if a taxpayer has household income that is less than 400 percent<br />

of the poverty line for the size of the family involved for the taxable year,<br />

then the amount of the increase under subparagraph (A) shall in no event<br />

exceed the “applicable dollar amount” determined in accordance with the<br />

following table (one-half of such amount in the case of a taxpayer whose<br />

tax is determined under section 1(c) for the taxable year):<br />

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If the household income<br />

(expressed as a percent of<br />

poverty line) is:<br />

Then the applicable<br />

dollar amount is:<br />

Joint Single<br />

Less than 200% $ 600 $ 300<br />

At least 200% but less than<br />

300% $1,500 $ 750<br />

At least 300% but less than<br />

400% $2,550* $1,250<br />

*Indexed to inflation from $2,500 in 2014<br />

<strong>Tax</strong> Professional Note: If the taxpayer’s Household Income exceeds<br />

400% of the FPL then the full amount of the advanced premium for<br />

credit must be repaid.<br />

d. §36B(f)(2)(B)(ii) Indexing of amount: In the case of any calendar<br />

year beginning after 2014, each of the dollar amounts in the table<br />

above shall be increased by an amount equal to–<br />

i. §36B(f)(2)(B)(ii)(I) such dollar amount, multiplied by<br />

ii.<br />

§36B(f)(2)(B)(ii)(II) the cost-of-living adjustment determined under<br />

section 1(f)(3) for the calendar year, determined by substituting<br />

“calendar year 2013” for “calendar year 1992” in subparagraph (B)<br />

thereof.<br />

If the amount of any increase under clause (i) is not a multiple of $50,<br />

then such increase shall be rounded to the next lowest multiple of $50.<br />

12. §36B(f)(3) Information requirement: Each Exchange (or any person<br />

carrying out 1 or more responsibilities of an Exchange) shall provide the<br />

following information to the Secretary and to the taxpayer with respect to<br />

any health plan provided through the Exchange;<br />

a. §36B(f)(3)(A): The level of coverage described in section 1302(d) of the<br />

Patient Protection and Affordable Care Act and the period such coverage<br />

was in effect.<br />

b. §36B(f)(3)(B): The total premium for the coverage without regard to the<br />

credit under this section or cost-sharing reductions.<br />

4-22


c. §36B(f)(3)(C): The aggregate amount of any advance payment of such<br />

credit or reductions.<br />

d. §36B(f)(3)(D): The name, address, and TIN of the primary insured and<br />

the name and TIN of each other individual obtaining coverage under the<br />

policy.<br />

e. §36B(f)(3)(E): Any other information provided to the Exchange,<br />

including any change of circumstances, necessary to determine eligibility<br />

for, and the amount of, such credit.<br />

f. §36B(f)(3)(F): Information necessary to determine whether a taxpayer<br />

has received excess advance payments.<br />

<strong>Tax</strong> Professional Educational Fact: The reporting of the Information<br />

Requirements by the Exchange will be reported on Form 1095-A, “Health<br />

Insurance Marketplace Statement” which is required to be issued by<br />

January 31, 2016 for <strong>2015</strong> reporting purposes. The information reported on<br />

Form 1095-A provides the data needed to complete the individual<br />

taxpayer’s Form 8962, Premium <strong>Tax</strong> Credit (PTC). The result calculated<br />

on Form 8962 will carry to Form 1040, page 2, line 69, labeled as “Net<br />

premium tax credit, attach Form 8962”.<br />

13. §36B(g) provides that the Secretary of the Treasury shall prescribe such<br />

regulations as may be necessary to carry out the provisions of the law<br />

including regulations which provide for:<br />

a. The coordination of the credit allowed under the advance payment credit;<br />

and<br />

b. The application of the reconciliation where filing status for a taxable year<br />

is different from such status for determining the advance payment of the<br />

credit.<br />

4-23


F. <strong>2015</strong> Congressional Research Service Report To Congress<br />

1. On March 18, <strong>2015</strong> the Congressional Research Service (CRS) updated and<br />

issued a report to Congress on the individual mandate under the Affordable<br />

Care Act (ACA) and provided information and examples of the types of<br />

challenges and issues that we as tax professionals will be addressing.<br />

a. Illustrative individual mandate penalties<br />

i. The following examples illustrate the penalty issues for a taxpayer<br />

who is a single individual and for a taxpayer with a family of four.<br />

The penalty amounts are shown below for 2014, <strong>2015</strong> and 2016. For<br />

those individuals whose household income is above the threshold<br />

amount for filing a federal income tax return, the penalty is the<br />

greater of a flat dollar amount or a percentage of applicable income<br />

(which is the income above the filing threshold). Individuals below<br />

the filing threshold for federal income tax will not pay a penalty.<br />

ii.<br />

In the 2014 examples, the 2014 filing threshold is used, which is<br />

$10,150 for a single individual under age 65 with no dependents with<br />

a single filing status and $20,300 for a married couple filing jointly.<br />

The filing threshold for <strong>2015</strong> is $10,300 and $20,600. For 2016 the<br />

amount has not yet been determined, but because it is linked to an<br />

inflation adjustment based on the CPI-U, they will likely be higher<br />

when implemented in 2016. The examples below use estimated<br />

filing thresholds for 2016. As a result, the numbers for 2016 are<br />

meant for illustrative purposes only. These examples are best used<br />

to show the relative scope of the penalties and the relationship<br />

between the various components of the formulas for calculating the<br />

penalty.<br />

4-24


Example #1 illustrates the individual mandate penalties for a single<br />

individual with no dependents:<br />

a) In 2014, those with income above the filing threshold of $10,150<br />

but at or below $19,650 will pay the $95 flat amount. Those with<br />

income above $19,650 and below the cap at the national average<br />

premium of $2,448 for bronze-level coverage will pay 1% of<br />

applicable income.<br />

b) In <strong>2015</strong>, those with income above the filing threshold of $10,300<br />

but at or below $26,550 will pay the $325 flat amount, and those<br />

with income above $26,550 and below the cap at the national<br />

average premium of $2,484 bronze-level coverage will pay 2% of<br />

applicable income.<br />

<strong>Tax</strong> Professional Educational Fact: Health and Human Services<br />

(HHS) has determined and the IRS has set the amount of the<br />

average cost of a bronze level plan for an applicable family size<br />

for <strong>2015</strong> at a maximum of $2,484 (12 months times $207 per<br />

month) per individual annually, up to a maximum $12,420 for<br />

families of five or more. For a family of four the maximum would<br />

be $9,936 (4 x $2,484). For more details see Rev. Proc. <strong>2015</strong>-15.<br />

c) In 2016, those with income above the filing threshold (estimated<br />

to be $10,450 in 2016) but at or below an estimated $38,250 will<br />

pay the $695 flat amount, and those with income above an<br />

estimated $38,250 and below the cap at the national average<br />

premium for bronze-level coverage will pay 2.5% of applicable<br />

income. The amount of the national average premium cost of a<br />

bronze plan for 2016 will be determined by Health and Human<br />

Services during <strong>2015</strong>.<br />

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iii.<br />

In calculating the penalty for a family, each of the components of the<br />

formula increases for a family, including the filing threshold, flat<br />

dollar amount, and the cost of a bronze-level plan. However, the flat<br />

dollar amount for a family cannot be greater than three times the<br />

amount for an individual. For example, in <strong>2015</strong> the flat dollar<br />

amount is limited to three times $325 or $975. The flat dollar<br />

amount is ½ for children under age 18 so that a married couple with<br />

2 children under 18, a single parent with 4 children under 18 as well<br />

as larger families are all subject to the same maximum flat dollar<br />

amount.<br />

Example #2 illustrates the individual mandate penalties for a family<br />

of four (married couple with two children under age 18):<br />

a) In 2014, those with income above the filing threshold ($20,300 in<br />

2014) but at or below $48,800 pay the $285 flat dollar amount,<br />

those with income above $48,800 and below the cap at the national<br />

average premium for bronze-level family coverage will pay 1% of<br />

applicable income.<br />

b) In <strong>2015</strong>, those with income above the filing threshold of $20,600<br />

but at or below an estimated $69,350 will pay the $975 flat dollar<br />

amount, those with income above $69,350 and below the cap at the<br />

national average premium for bronze-level family coverage will<br />

pay 2% of applicable income.<br />

c) In 2016 those with income above the filing threshold (estimated to<br />

be $20,900 in 2016) but at or below an estimated $104,300 will<br />

pay the $2,085 flat dollar amount, those with income above an<br />

estimated $104,300 and below the cap at the national average<br />

premium for bronze-level family coverage will pay 2.5% of<br />

applicable income.<br />

4-26


Example #3 Single <strong>Tax</strong>payer: The following illustrates the maximum<br />

penalty calculations for <strong>2015</strong> based on different levels of income<br />

imposing the greater of the flat dollar and applicable percentage<br />

penalty amounts:<br />

Income Level $14,800 $26,550 $30,300 $264,650<br />

Filing Threshold (10,300) (10,300) (10,300) (10,300)<br />

Excess $ 4,500 $16,250 $20,000 $254,350<br />

Applicable<br />

x 2% x 2% x 2% x 2%<br />

Percentage<br />

Penalty Amount $ 90 $ 325 $ 400 $ 5,087<br />

Flat Dollar Amount $ 325 $ 325 $ 325 $ 325<br />

Maximum Penalty $ 325 $ 325 $ 400 $ 2,484*<br />

*Maximum for average cost of Bronze Plan in <strong>2015</strong><br />

Example #4 Family of Four: The following illustrates the maximum<br />

penalty calculations for <strong>2015</strong> based on different levels of income<br />

imposing the greater of the flat dollar and applicable percentage<br />

penalty amounts.<br />

Income Level $29,600 $69,350 $79,350 $1,000,000<br />

Filing Threshold (20,600) (20,600) (20,600) (20,600)<br />

Excess $ 9,000 $48,750 $68,750 $ 979,400<br />

Applicable Percentage x 2% x 2% x 2% x 2%<br />

Penalty Amount $ 180 $ 975 $ 1,375 $ 19,588<br />

Flat Dollar Amount $ 975 $ 975 $ 975 $ 975<br />

Maximum Penalty $ 975 $ 975 $ 1,375 $ 9,936*<br />

*Maximum for average cost of Bronze Plan in <strong>2015</strong><br />

<strong>Tax</strong> Professional Note: The penalty is assessed on a monthly basis.<br />

4-27


G. Claiming An Exemption From The Mandate<br />

1. Individuals can be exempt from the mandate and the penalty based on an<br />

individual’s characteristics, financial status, or affiliations (e.g. religious<br />

affiliations). Some individuals who are exempt will not be expected to take<br />

any actions to claim the exemption; others will have to either obtain a<br />

certification of exemption from a health insurance exchange or claim the<br />

exemption through the tax filing process.<br />

2. Individuals who live abroad for more than 330 days in a 12-month period and<br />

those who are bona fide residents of a U.S. possession do not have to take any<br />

action to claim the exemption.<br />

3. Those claiming the short coverage gap, unlawfully present, filing threshold,<br />

or affordability exemptions may only do so on their federal income tax return.<br />

4. In order to claim a religious exemption an individual must obtain an<br />

exemption certificate issued by the exchange serving the area in which the<br />

individual resides.<br />

5. Hardship exemptions must be obtained through the Marketplace.<br />

H. Household Income: 100%-400% of “<strong>Federal</strong> Poverty Level” (FPL)<br />

1. In order to be eligible for premium credits, individuals must have “household<br />

income” within statutorily defined guidelines based on the federal poverty<br />

level (FPL). For purposes of premium credit eligibility, household income is<br />

measured according to the definition for “modified adjusted gross income”<br />

(MAGI). An individual with a MAGI at or above 100% FPL up to and<br />

including 400% FPL may be eligible to receive premium credits.<br />

Table 1 displays the income levels at 400% FPL, the amount beyond which<br />

individuals and families would not be eligible for premium credits in <strong>2015</strong><br />

(using 2014 HHS poverty guidelines).<br />

4-28


Table 1. Income Levels at 400% FPL Applicable to <strong>2015</strong> Premium Credit<br />

Eligibility Based on 2014 HHS Poverty Guidelines<br />

Number of Persons<br />

in Family<br />

48 Contiguous<br />

States and DC Alaska Hawaii<br />

1 $ 46,680 $ 58,320 $ 53,680<br />

2 $ 62,920 $ 78,640 $ 72,360<br />

3 $ 79,160 $ 98,960 $ 91,040<br />

4 $ 95,400 $119,280 $109,720<br />

5 $111,640 $139,600 $128,400<br />

6 $127,880 $159,920 $147,080<br />

7 $144,120 $180,240 $165,760<br />

8 $160,360 $200,560 $184,440<br />

Source: CRS computations based on “Annual <strong>Update</strong> of the HHS Poverty Guidelines,”<br />

79 <strong>Federal</strong> Register 3593, January 22, 2014, http://www.gpo.gov/fdsys/pkg/FR-2014-<br />

01-22/pdf/2014-01303.pdf.<br />

Notes: For <strong>2015</strong>, the income levels used to calculate premium credit eligibility and<br />

amounts are based on 2014 HHS poverty guidelines. The poverty guidelines are updated<br />

annually for inflation. “DC” is the District of Columbia.<br />

I. Premium Credits In <strong>2015</strong><br />

1. Premium tax credits to be used toward paying for health insurance in the<br />

exchanges became available in <strong>2015</strong>. Table 2 displays selected annual income<br />

levels used in the calculation of premium credit amounts and required<br />

premium contributions, as discussed above.<br />

4-29


Table 2. Selected Annual Income Levels Applicable to <strong>2015</strong><br />

Premium Credits Based on 2014 HHS Poverty Guidelines for the<br />

48 contiguous states and the District of Columbia<br />

Percent of <strong>Federal</strong><br />

Poverty Line (FPL)<br />

Family Size<br />

1 Person 2 Persons 3 Persons 4 Persons<br />

100% $11,670 $15,730 $19,790 $23,850<br />

133% $15,521 $20,921 $26,321 $31,721<br />

150% $17,505 $23,595 $29,685 $35,775<br />

200% $23,340 $31,460 $39,580 $47,700<br />

250% $29,175 $39,325 $49,475 $59,625<br />

300% $35,010 $47,190 $59,370 $71,550<br />

350% $40,845 $55,055 $69,265 $83,475<br />

400% $46,680 $62,920 $79,160 $95,400<br />

Source: CRS computations based on “Annual <strong>Update</strong> of the HHS Poverty Guidelines,”<br />

79 <strong>Federal</strong> Register 3593, January 22, 2014, http://www.gpo.gov/fdsys/pkg/FR-2014-<br />

01-22/pdf/2014-01303.pdf.<br />

Notes: For <strong>2015</strong>, the income levels used to calculate premium credit eligibility and<br />

amounts are based on 2014 HHS poverty guidelines. Different income levels, as<br />

measure against the FPL, apply separately to Alaska and Hawaii (see Table 1).<br />

Table 3 displays the maximum monthly premium contributions for individuals<br />

and families who receive premium tax credits provided that they enroll in the<br />

applicable reference plan.<br />

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Table 3. Maximum Monthly Premium Contributions for <strong>Tax</strong> Credit<br />

Recipients Enrolled in the Second-Lowest Cost Silver Plan, <strong>2015</strong> Based on<br />

2014 HHS Poverty Guidelines for the 48 contiguous states and the District of<br />

Columbia<br />

<strong>Federal</strong><br />

Poverty<br />

(FPL)<br />

Maximum<br />

Premium<br />

Contribution<br />

Based on %<br />

of Income<br />

Maximum Monthly Premium Contributions<br />

for <strong>Tax</strong> Credit Recipients, by Family Size<br />

(“Applicable<br />

Percentages”) 1 person 2 persons 3 persons 4 persons<br />

100% 2.01% $ 20 $ 26 $ 33 $ 40<br />

132.99% 2.01% $ 26 $ 35 $ 44 $ 53<br />

133% 3.02% $ 39 $ 53 $ 66 $ 80<br />

150% 4.02% $ 59 $ 79 $ 99 $120<br />

200% 6.34% $123 $166 $209 $252<br />

250% 8.10% $197 $265 $334 $402<br />

300% 9.56% $279 $376 $473 $570<br />

350% 9.56% $325 $439 $552 $665<br />

400% 9.56% $372 $501 $631 $760<br />

Source: CRS computations based on “Annual <strong>Update</strong> of the HHS Poverty<br />

Guidelines,” 79 <strong>Federal</strong> Register 3593, January 22, 2014,<br />

http://www.gpo.gov/fdsys/pkg/FR-2014-01-22/pdf/2014-01303.pdf.<br />

Notes: For <strong>2015</strong>, the income levels used to calculate premium credit eligibility<br />

and amounts are based on 2014 HHS poverty guidelines. If individuals enroll in<br />

more expensive plans than the second-lowest cost Silver Plan in their respective<br />

areas, then they would be responsible for the additional premium amounts. If the<br />

required premium contribution exceeds the actual premium amount, then<br />

individuals would pay the entire premium for exchange coverage. The premium<br />

amounts have been rounded up to the nearest dollar amount.<br />

Table 3 illustrates the cliff effect that occurs at 133% FPL. For individuals with<br />

income below 133% FPL, the credits ensure that such individuals pay no more<br />

than 2.01% of their income for the second-lowest cost Silver Plan. For incomes<br />

at or above 133% FPL, individuals and families may pay up to 3.02% of their<br />

income toward premiums for their reference plan.<br />

4-31


For example, an individual with income at 132.99% FPL (annual income of<br />

$15,520) may be required to pay $26 in monthly premiums for the second-lowest<br />

cost plan in <strong>2015</strong> (see Table 3). Within one additional dollar of income (annual<br />

income of $15,521, equivalent to 133% FL), this person may be required to pay<br />

$39 in monthly premiums. Therefore, the additional $1 in annual income may<br />

lead to an additional $156 in premium contributions for this hypothetical person<br />

in <strong>2015</strong>. Nevertheless, some might observe that prior to implementation of the<br />

ACA premium credits in <strong>2015</strong>, there were no federal subsidies for health coverage<br />

for individuals with income at this level and above, except for some narrowly<br />

defined groups. Therefore, more individuals overall may be eligible for subsidized<br />

private coverage under the ACA, than before enactment of the law.<br />

J. Premium Credit Examples: Self-Only And Family Coverage<br />

1. The hypothetical examples use actual exchange information about premiums,<br />

enrollee contributions, and premium credit amounts. The information was<br />

compiled using the Plan Finder tool at healthcare.gov.<br />

2. In order to facilitate comparisons across hypothetical individuals and families,<br />

the premium and tax credit amounts apply to the same zip code 60647 (the<br />

first state and first county in the drop down menus in the Plan Finder tool).<br />

3. The examples in Table 4 assume that the hypothetical individual (or family)<br />

is enrolled in the reference plan (second-lowest cost silver plan).<br />

As the <strong>2015</strong> premium data indicate, individuals at the same income level will<br />

pay different (pre-credit) premiums based on age. This reflects the limited age<br />

rating allowed for health insurance policies, including those offered in the<br />

individual exchanges. The practical effect of ACA’s age rating requirements<br />

means that, for any given metal-tier plan in a specific geographic area,<br />

premiums vary for adults between 21 and 64+ years of age by a 3:1 ratio. (For<br />

examples that illustrate the 3:1 ratio for adults, see hypothetical persons A, B,<br />

C, and D in Table 4, and the following analysis included under “Discussion<br />

of Self-Only Coverage Examples.”) Moreover, the premium credit amounts<br />

are greater for those with lower incomes, compared with higher-income<br />

individuals of the same age, reflecting their income-based structure of the<br />

premium credits.<br />

4-32


Table 4. Premium Contributions and Credit Amounts for the<br />

Second-Lowest Cost Silver Plans in <strong>2015</strong>, by Selected Coverage Tiers Applicable<br />

to Zip Code 60647<br />

Coverage<br />

Tier<br />

Hypothetical<br />

Person or<br />

Family-Letter<br />

Designation<br />

Annual<br />

Income<br />

<strong>Federal</strong><br />

Poverty<br />

Level<br />

(FPL)<br />

Maximum<br />

Premium<br />

Contribution<br />

as a % of<br />

Income<br />

Age of<br />

Adult(s) a<br />

Monthly<br />

(Pre-<br />

Credit)<br />

Premium<br />

for the<br />

Second-<br />

Lowest<br />

Cost<br />

Silver<br />

Plan b<br />

Monthly<br />

Premium<br />

Contribution<br />

from<br />

Enrollee(s)<br />

Monthly<br />

Credit<br />

Amount<br />

A $17,505 150% 4.02% 21 $ 168 $ 59 $ 109<br />

Self-Only<br />

B $17,505 150% 4.02% 64 $ 506 $ 59 $ 447<br />

C $40,845 350% 9.56% 21 $ 168 $168 $ 0<br />

D $40,845 350% 9.56% 64 $ 506 $325 c $ 181<br />

E $29,685 150% 4.02% 40 $ 538 $ 99 $ 439<br />

F $29,685 150% 4.02% 60 $1,022 $ 99 $923<br />

Family of<br />

Three d G $69,265 350% 9.56% 40 $ 538 $538 e $ 0<br />

H $69,265 350% 9.56% 60 $1,022 $552 $ 470<br />

a. Premiums for exchange plans are age-adjusted to allow for a maximum<br />

3:1 variation for adults between 21 and 64+ years of age. For additional<br />

information about this and other rating restrictions, see CRS Report<br />

R42069, Private Health Insurance Market Reforms in the Affordable Care<br />

Act (AGA).<br />

b. The premiums for the plans that are currently being offered through<br />

exchanges vary according to metal tier, geographic location, family size,<br />

age and other factors.<br />

4-33


c. The maximum premium contribution for an individual whose income is<br />

$40,845 in <strong>2015</strong> is $325 per month. However, the monthly premium is<br />

$201 in this example, which is a lower amount than the maximum<br />

premium contributions. Given this, hypothetical person C pays the entire<br />

premium for coverage in the second-lowest cost silver plan and the credit<br />

amount is zero.<br />

d. Premiums for exchange plans are allowed to vary based on family size. In<br />

this table, hypothetical families E through H are each composed of two<br />

adults of the same age and one child who is age 19. Insurance rates for<br />

children are calculated by considering individuals under age 21 as one<br />

group. For example, if one child who is age 5 and another child who is age<br />

19 enrolled in the same metal-tier plan, their premiums would be the same<br />

amount.<br />

e. The maximum premium contribution for a family of three whose income<br />

is $69,265 in <strong>2015</strong> is approximately $552 per month. However, the<br />

monthly premium in this example is $538, which is lower amount than the<br />

maximum premium contribution for the second-lowest-cost silver plan.<br />

Given this, hypothetical family G pays the entire premium for coverage in<br />

this plan and the credit amount is zero.<br />

Source: Income levels and poverty levels from “Annual <strong>Update</strong> of the HHS<br />

Poverty Guidelines,” 79 <strong>Federal</strong> Register 3593, January 22, 2014,<br />

http:www.gpo.gov/fdsys/pkg/FR-2014-01-22/pdf/2014-01303.pdf. Health plan<br />

premiums and credit amounts were compiled using the health plan finder tool at<br />

https:www.healthcare.gov/fin-premium-estimates/.<br />

Notes: For <strong>2015</strong>, the income levels used to calculate premium credit eligibility<br />

and amounts in this table are based on 2014 HHS poverty guidelines for the 48<br />

contiguous states and the District of Columbia.<br />

4-34


K. Discussion Of “Self-Only Coverage” Examples<br />

1. As indicated in Table 4, the monthly (pre-credit) premiums for self-only<br />

coverage in the second lowest cost Silver Plan in Zip Code 60647 are $168<br />

for a 21-year-old individual and $506 for a 64-year-old individual. Given<br />

the 3:1 age-rating among adults between 21 and 64+ years of age, it follows<br />

that the premium for the same plan in the same county is three times higher<br />

for the older adults (hypothetical persons B and D), than it is for the younger<br />

adults (hypothetical person A and C). However, for premium credit<br />

recipients, age does not determine the amount that a given person contributes<br />

toward her premium.<br />

2. The formula for calculating individual premium contributions from enrollees<br />

is based on income, not age (see Table 3), and such contributions are<br />

calculated prior to determining the credit amount. Therefore, the actual<br />

amount that tax credit recipients will pay toward exchange premiums may be<br />

the same for individuals with the same income level regardless of age;<br />

therefore, their monthly contributions toward premiums are the same amount<br />

($58). Person C is an example of the exception to this general rule. Persons C<br />

and D have the same income level, so you would expect their premium<br />

contributions to be the same amount ($325, see Table 3). However, person<br />

C’s premium ($168) is lower than the maximum premium contribution<br />

allowed for an enrollee at that income level. Therefore, person C pays the<br />

entire premium amount for the second-lowest cost Silver Plan available in that<br />

zip code and as a result does not receive a premium assistance credit.<br />

4-35


L. Discussion Of “Family Coverage” Examples<br />

1. The rules applicable to self-only coverage regarding age-rating for adults and<br />

calculation of enrollee premium contributions based on income likewise apply<br />

to family coverage. Table 4 includes examples for hypothetical families<br />

comprised of two adults of the same age and one child who is age 19. Similar<br />

to the self-only coverage example, the families with the older adults (families<br />

F and H) face a larger (pre-credit) premium than the families with the younger<br />

adults (families E and G). However, the families with the same income pay<br />

the same amount toward premiums. That is, families E and F pay $99 toward<br />

the monthly premium, while families G and H pay $538 and $552 for the<br />

same exchange plan.<br />

M. Reconciliation Of Advanced Premium Credits on IRS Form 8962 Premium<br />

<strong>Tax</strong> Credit<br />

1. Under ACA, the amount received in premium credits is based on the prior<br />

year’s income tax return. These amounts are reconciled when individuals file<br />

tax returns for the actual year in which they received premium credits. If a tax<br />

filing unit’s income decreases during the tax year, and the filer should have<br />

received a larger tax credit, then this additional credit amount will be included<br />

in the tax refund for the year. On the other hand, any excess amount that was<br />

overpaid in premium credits will have to be repaid to the federal government<br />

as a tax payment. However, ACA imposes limits on the excess amounts to be<br />

repaid under certain conditions. For households with incomes below 400%<br />

FPL, the law includes specific limits that apply to single and joint filers<br />

separately, these limits will be indexed by inflation in future years.<br />

2. Since the enactment of ACA, these limits have been amended twice: first<br />

under the Medicare and Medicaid Extenders Act of 2010 (P.L. 111-309), and<br />

then under the Comprehensive 1099 <strong>Tax</strong>payer Protection and Repayment of<br />

Exchange Subsidy Overpayment Act of 2011 (P.L. 112-9). The current<br />

repayment limits are indexed to inflation and vary by income (see Table 5).<br />

4-36


3. For example, assume a family received overpayments for the tax credits they<br />

should have received in a given tax year. They will have to repay the excess<br />

when they file their federal income tax return for that year. However, if such<br />

a family has income below 200% of the FPL, then the IRS may only require<br />

them to repay up to $600 (for excess tax credits received during that tax year).<br />

In other words, while such a family may technically owe a larger amount,<br />

repayment is limited to a maximum of $600 for a family with income below<br />

200% FPL.<br />

Table 5 - Limits on Repayment of Excess Premium Credits Earned by the<br />

Comprehensive 1099 <strong>Tax</strong>payer Protection and Repayment of Exchange<br />

Subsidy Overpayment Act of 2011 (P.L. 112-9)<br />

IF Household Income (Expressed as a percentage<br />

of the <strong>Federal</strong> Poverty Level) is:<br />

The Applicable Dollar Limit for<br />

Joint Filers vs Single<br />

Less than 200% $ 600 $ 300<br />

At least 200% but less than 300% $1,500 $ 750<br />

At least 300% but less than 400% $2,550* $1,250<br />

*Indexed to inflation from $2,500 in 2014<br />

NOTE: THE APPLICABLE DOLLAR LIMIT FOR SINGLE FILERS IS 50%<br />

OF THE JOINT FILER LIMIT.<br />

TAX PROFESSIONAL ALERT: Limited <strong>Tax</strong> Relief for Certain Premium<br />

Credit Recipients<br />

On January 26, <strong>2015</strong>, the IRS announced that premium credit recipients who owe<br />

a payment on their 2014 tax return, as a result of the tax credit reconciliation<br />

process, may receive limited tax relief (see IRS Notice <strong>2015</strong>-9). For the 2014 tax<br />

year only, taxpayers who meet specified eligibility criteria will be given relief<br />

from penalties related to the following scenarios: (1) late payment of taxes owed<br />

(§6651(a)(2)) and (2) underpayment of taxes owed (§6654(a)). In other words,<br />

their relief for 2014 only applies to penalties related to late payment or<br />

underpayment of taxes; the relief does not negate the taxpayer’s obligation to pay<br />

back excess premium credit amounts calculated under the reconciliation process.<br />

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Moreover, this limited relief does not provide taxpayers with an extension to file<br />

their return, nor does it provide relief from any underpayment related to the<br />

penalty for not complying with the ACA’s individual mandate (for more<br />

information on the individual mandate see CRS Report R41331 Individual<br />

Mandate under ACA).<br />

In order to qualify for penalty relief under the first scenario, taxpayers must<br />

otherwise be: (1) in compliance with other tax filing and payment requirements;<br />

(2) owe a tax payment as a result of premium credit overpayment that were<br />

advanced during the 2014 tax year; and (3) report the excess amount of advanced<br />

credit payment on their timely filed 2014 tax return.<br />

In order to qualify for penalty relief under the second scenario, taxpayers must<br />

otherwise be: (1) in compliance with other tax filing and (2) payment<br />

requirements and report the excess amount of advanced credit payments on their<br />

timely filed 2014 tax return.<br />

N. Exchange Plan Selection And Premium Credits<br />

1. On March 10, <strong>2015</strong>, HHS announced that nearly 11.7 million persons selected<br />

a metal plan through the individual exchanges, with 86% determined to be<br />

eligible for premium credits. This reflects exchange plan selections through<br />

the standard open enrollment period as well as the special enrollment period<br />

(SEP) that ended on February 22, <strong>2015</strong>.<br />

2. For <strong>2015</strong> exchange enrollment, HHS is providing another special enrollment<br />

period. This SEP is for individuals residing in states in which the federal<br />

government administers the exchanges and who were uninsured in 2014 and<br />

are subject to the penalty for noncompliance with the individual mandate.<br />

Individuals who met requirements specified in the SEP announcement were<br />

allowed to enroll in exchange plan during the SEP (March 15, <strong>2015</strong> through<br />

April 30, <strong>2015</strong>).<br />

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In its past and current estimates of the ACA’s health coverage provisions,<br />

the Congressional Budget Office (CBO) projects exchange enrollment to be<br />

modest in the first few years, then increase significantly afterwards.<br />

Likewise, the estimates of federal outlays for premium credits are relatively<br />

moderate initially, but increase rapidly after the first few years. According to<br />

its latest estimates, CBO projects exchange enrollment in <strong>2015</strong> to total 12<br />

million persons: 11 million and 1 million persons enrolled in the individual<br />

and SHOP exchanges, respectively<br />

By 2025, CBO estimates that 25 million individuals will be enrolled in<br />

exchange coverage. Of those exchange enrollees who are enrolled in the<br />

individual exchanges (22 million), 16 million are projected to receive<br />

premium credits. CBO estimates that federal outlays for premium credits will<br />

total $599 billion for FY2016 through FY2025.<br />

Notes: The estimate for individuals receiving premium credits includes<br />

individuals who were determined to be eligible for such credits because their<br />

employer plan was either unaffordable or did not provide minimum value<br />

(“inadequate”), per ACA statue. The latest CBO projections for the ACA’s<br />

insurance coverage provisions estimated that individuals with unaffordable or<br />

inadequate employer coverage was less than 1 million total: therefore, counts<br />

for those individuals were not published separately from other individuals<br />

who received premium credits through the standard eligibility process.<br />

O. §4980H Shared Responsibility for Employers Regarding Health Coverage<br />

1. §4980H(a)(1) and (2) provide that if:<br />

a. any applicable large employer (defined as 50 or more full-time<br />

equivalent employees) fails to offer to its full-time employees (and their<br />

dependents) the opportunity to enroll in minimum essential coverage<br />

under an eligible employer-sponsored plan (as defined in §5000A(f)(2))<br />

for any month, and<br />

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. at least one full-time employee of the applicable large employer has<br />

been certified to the employer under section 1411 of the Patient<br />

Protection and Affordable Care Act as having enrolled for such month in<br />

a qualified health plan with respect to which an applicable premium tax<br />

credit or cost-sharing reduction is allowed or paid with respect to the<br />

employee,<br />

then there is hereby imposed on the employer an “assessable payment”<br />

equal to the product of the “applicable payment” amount which is 1/12 of<br />

$2,000 for any month (i.e. $166.77 per month) and the number of<br />

individuals employed by the employer as full-time employees during such<br />

month.<br />

2. §4980H(b)(1)(A) and (B) provide a general rule that if:<br />

a. an applicable large employer offers to its full-time employees (and their<br />

dependents) the opportunity to enroll in minimum essential coverage<br />

under an eligible employer-sponsored plan (as defined in section<br />

5000A(f)(2)) for any month, and<br />

b. 1 or more full-time employees of the applicable large employer has been<br />

certified to the employer under section 1411 of the Patient Protection and<br />

Affordable Care Act as having enrolled for such month in a qualified<br />

health plan with respect to which an applicable premium tax credit or costsharing<br />

reduction is allowed or paid with respect to the employee,<br />

then there is hereby imposed on the employer an “assessable payment”<br />

equal to the product of the number of full-time employees of the applicable<br />

large employer receiving a premium tax credit or a cost sharing subsidy<br />

for the purchase of health insurance through an exchange for the month.<br />

The amount for such month is equal to 1/12 of $3,000 (i.e. $250 per<br />

month).<br />

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3. §4980H(b)(2) Provides an overall limitation: The aggregate amount of tax<br />

determined under paragraph (1) with respect to all employees of an applicable<br />

large employer for any month shall not exceed the product of the applicable<br />

payment amount and the number of individuals employed by the employer as<br />

full-time employees during such month.<br />

4. §4980H(c) Provides definitions and special rules: For purposes of this section<br />

§4980H(c)(1) “applicable payment amount”. The term “applicable payment<br />

amount” means, with respect to any month, 1/12 of $2,000 (i.e. $167.67 per<br />

month).<br />

5. §4980(c)(2)(a) Provides that in general term “applicable large employer”<br />

means, with respect to a calendar year, an employer who employed an average<br />

of at least 50 full-time employees on business days during the preceding<br />

calendar year.<br />

6. §4980H(c)(2)(B) provides for exemptions for certain employers and<br />

§4980H(c)(2)(B)(i) provides a general rule that an employer shall not be<br />

considered to employ more than 50 full-time employees if:<br />

a. the employer’s workforce exceeds 50 full-time employees for 120 days or<br />

fewer during the calendar year, and<br />

b. the employees in excess of 50 employed during such 120-day period were<br />

seasonal workers.<br />

7. §4980H(c)(2)(B)(ii) provides a definition of seasonal workers: the term<br />

“seasonal worker” means a worker who performs labor or services on a<br />

seasonal basis as defined by the Secretary of Labor, including workers<br />

covered by section 500.20(s)(1) of title 29, code of <strong>Federal</strong> Regulations and<br />

retail workers employed exclusively during holiday seasons.<br />

8. §4980H(c)(2)(C) defines rules for determining employer size:<br />

§4980H(c)(2)(C)(i) provides application of aggregation rule for employers.<br />

All persons treated as a single employer under subsection (b), (c), (m) or (o)<br />

of §414 of the Internal Revenue Code of 1986 shall be treated as 1 employer.<br />

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9. §4980H(c)(2)(C)(ii) discusses issues for employers not in existence in<br />

preceding year: In the case of an employer who was not in existence<br />

throughout the preceding calendar year, the determination of whether such<br />

employer is an applicable large employer shall be based on the average<br />

number of employees that is reasonably expected such employer will employ<br />

on business days in the current calendar year.<br />

<strong>Tax</strong> Professional Note: §4980H(c)(2)(C)(iii) Predecessors: Any reference<br />

in this subsection to an employer shall include a reference to any predecessor<br />

of such employer.<br />

10. §4980H(c)(2)(D) Application of employer size to assessable penalties.<br />

§4980H(c)(2)(D)(i) Provides in general that the number of individuals<br />

employed by an applicable large employer as full-time employees during any<br />

month shall be reduced by 30 solely for purposes of calculating:<br />

a. §4980H(c)(2)(D)(i)(I) the assessable payment under subsection (a), or<br />

b. §4980H(c)(2)(D)(i)(II) the overall limitation under subsection (b)(2).<br />

11. §4980H(c)(2)(D)(ii) addresses aggregation: In the case of persons treated as<br />

one employer under subparagraph (C)(i), only one reduction under subclause<br />

(I) or (II) shall be allowed with respect to such persons and such reduction<br />

shall be allocated among such persons ratably on the basis of the number of<br />

full-time employees employed by each such person.<br />

12. §4980H(c)(2)(E) discusses the issues of full-time equivalents treated as fulltime<br />

employees: Solely for purposes of determining whether an employer is<br />

an applicable large employer under this paragraph, an employer shall, in<br />

addition to the number of full-time employees for any month otherwise<br />

determined, include for such month a number of full-time employees<br />

determined by dividing the aggregate number of hours of service of employees<br />

who are not full-time employees for the month by 120.<br />

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13. §4980H(c)(3) addresses the issues of the applicable premium tax credit and<br />

cost-sharing reduction: The term “applicable premium tax credit and costsharing<br />

reduction” means –<br />

a. §4980H(c)(3)(A) any premium tax credit allowed under §36B<br />

b. §4980H(c)(3)(B) any cost-sharing reduction under section 1402 of the<br />

Patient Protection and Affordable Care Act, and<br />

c. §4980H(c)(3)(C) any advance payment of such credit or reduction under<br />

section 1412 of such Act.<br />

14. §4980H(c)(4) addresses the issue of a full-time employee: §4980H(c)(4)(B)<br />

Provides in general that the term “full-time employee” means, with respect to<br />

any month, an employee who is employed on average at least 30 hours of<br />

service per week.<br />

<strong>Tax</strong> Professional Note: §4980H(c)(4)(B) Hours of service: The Secretary, in<br />

consultation with the Secretary of Labor, shall prescribe such regulations,<br />

rules, and guidance as may be necessary to determine the hours of service of<br />

an employee, including rules for the application of this paragraph to<br />

employees who are not compensated on an hourly basis.<br />

15. §4980H(c)(5) addresses the issue of indexing and the annual inflation<br />

adjustment: §4980H(c)(5)(A) Provides in general that in the case of any<br />

calendar year after 2014, each of the dollar amounts in subsection (b) and<br />

paragraph (1) shall be increased by an amount equal to the product of –<br />

a. such dollar amount, and<br />

b. the premium adjustment percentage (as defined in section 1302(c)(4) of<br />

the Patient Protection and Affordable Care Act) for the calendar year.<br />

<strong>Tax</strong> Professional Note: §4980H(c)(5)(B) Rounding: If the amount of any<br />

increase under subparagraph (A) is not a multiple of $10, then such increase<br />

shall be rounded to the next lowest multiple of $10.<br />

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TAX PROFESSIONAL ALERT: The §4980H provisions were supposed to<br />

be effective beginning January 1, 2014 but were delayed until January 1,<br />

<strong>2015</strong>. §4890H(c) provides that the employer shared responsibility payments<br />

under §4980H(a) of $2,000 annually and §4980H(b) of $3,000 annually are<br />

indexed to inflation. These were the amounts to be assessed for 2014. The IRS<br />

conducts a monthly Payroll Industry conference call and on September 9,<br />

<strong>2015</strong> the IRS projected the annual per–employee §4980H(a) penalty to be<br />

increased from $2,000 to $2,080 for <strong>2015</strong> and $2,160 for 2016. It also projects<br />

that the §4980H(b) penalty to be increased from the 2014 amount of $3,000<br />

to $3,120 for <strong>2015</strong> and $3,240 for 2016.<br />

16. §4980H(c)(6) Other definitions: The tax code provides that any term used in<br />

this section which is also used in the Patient Protection and Affordable Care<br />

Act shall have the same meaning as when used in such Act.<br />

17. §4980H(c)(7) <strong>Tax</strong> nondeductible: For denial of deduction for the tax imposed<br />

by this section, see section 275(a)(6) which provides that specified taxes are<br />

not deductible.<br />

18. §4980H(d) Administration and procedure. §4980H(d)(1) provides a general<br />

rule that any assessable payment provided by this section shall be paid upon<br />

notice and demand by the Secretary, and shall be assessed and collected in the<br />

same manner as an assessable penalty under subchapter B of chapter 68.<br />

19. §4980H(d)(2) provides for time for payment: The Secretary may provide for<br />

the payment of any assessable payment provided by this section on an annual,<br />

monthly, or other periodic basis as the Secretary may prescribe.<br />

20. §4980H(d)(3) Coordination with credits, etc: The Secretary shall prescribe<br />

rules, regulations, or guidance for the repayment of any assessable payment<br />

(including interest) if such payment is based on the allowance or payment of<br />

an applicable premium tax credit under §36B or cost-sharing reduction with<br />

respect to an employee, such allowance or payment is subsequently<br />

disallowed, and the assessable payment would not have been required to be<br />

made but for such allowance or payment.<br />

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Example #1 Employer Not An Applicable Large Employer (ALE)<br />

Company X has 40 full-time employees for each calendar month. Company<br />

X also has 15 part-time employees for each calendar month during the year<br />

who have 60 hours of service per month. The total number of hours of the<br />

part-time employees for a month is 900 (15x60). The 900 hours is divided by<br />

the 120 hours requirement (900/120) which equals 7.5 full-time. Equivalent<br />

employees for each month since 7.5 is not a whole number it is rounded down<br />

to 7. Therefore in the current year since each month is only 47 employees<br />

Company X is not an ALE in the next calendar year.<br />

Example #2 Employer is an ALE<br />

Same as Example #1 above except now Company X has 20 part-time<br />

employees for each calendar month in the current year whom each work 60<br />

hours per month. The total numbers of hours is now 1,200 (20x60). Dividing<br />

the 1,200 hours by 120 hours per month is now the equivalent of 10 full-time<br />

equivalent employees as a newer there are 50 employees for each month and<br />

Company X is an Applicable Large Employer for the next calendar year.<br />

For purpose of codes reported by employers for types of coverage reported on<br />

Form 1095-C. The instructions provide the Codes 1A through 1I.<br />

Preface to Example #3: Employer Aggregation Rules:<br />

Companies with a common owner or companies that are otherwise related<br />

under certain rules of §414 are generally combined and treated as a single<br />

employer for purposes of determining ALE status. If the combined number of<br />

FTE and full-time equivalent employees for the group is large enough to meet<br />

the definition of an ALE then each employer in the group (called an ALE<br />

member) is part of an ALE and is subject to the employer shared<br />

responsibility provisions even if separately the employer would not be an<br />

ALE.<br />

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Example #3: Employers Aggregated to Determined ALE Status:<br />

1. Corporation X owns 100% of all classes of stock of Corp. Y and Corp. Z.<br />

2. Corporation X has no employees at any time in <strong>2015</strong>. For every calendar<br />

month in <strong>2015</strong>, Corp. Y has 40 FTE and Corp. Z has 60 FTE. Neither Y<br />

nor Z has any full time equivalent employees.<br />

3. Corps X, Y and Z are considered a controlled group of corporations.<br />

4. Since Corps X, Y and Z have a combined total of 100 FTE for each month<br />

during <strong>2015</strong>, they are together an ALE for 2016.<br />

5. Corps. Y and Z are each an ALE member for 2016.<br />

6. Corp X is not an ALE member for 2016 because it does not have any<br />

employees during <strong>2015</strong>.<br />

Background and Transition Issues of an ALE<br />

1. Under the Affordable Care Act, applicable large employers (ALE),<br />

defined as those with 50 or more full-time employees, including full-time<br />

equivalent employees are required to take some new actions. In order to<br />

prepare for 2016, if an organization is an ALE, then the taxpayer needs to<br />

track information each month in <strong>2015</strong>, including:<br />

a. Whether it offered full-time employees and their dependents minimum<br />

essential coverage that meets the minimum value requirements and is<br />

affordable, and<br />

b. Whether the employees are enrolled in the minimum essential<br />

coverage offered by the taxpayer.<br />

2. Employers need to track this information because they could be subject to<br />

an employer shared responsibility payment if the organization falls into<br />

either of the following circumstances:<br />

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a. the employer offered coverage to fewer than 70% of the full-time<br />

employees and their dependents in <strong>2015</strong> and at least one full-time<br />

employee enrolled in coverage through the Health Insurance<br />

Marketplace and receives a premium tax credit. (The 70% threshold<br />

is for <strong>2015</strong> and after <strong>2015</strong> it increases to 95%).<br />

b. the employer offered coverage to at least 70% of the full-time<br />

employees and their dependents in <strong>2015</strong>, but at least one full-time<br />

employee receives a premium tax credit because the coverage offered:<br />

(1) was not affordable,<br />

(2) did not provide minimum value or<br />

(3) the full-time employee was not offered coverage. (The 70%<br />

threshold is for <strong>2015</strong> and after <strong>2015</strong> it increases to 95%).<br />

Minimum Value and Affordability Issues of the Employer Shared<br />

Responsibility Payment<br />

1. Basic Information Issues: In general, under the employer shared<br />

responsibility provisions, an applicable large employers (ALE) member<br />

may either:<br />

a. offer affordable minimum essential coverage that provides minimum<br />

value to its full-time employees (and their dependents) or<br />

b. potentially owe an employer shared responsibility payment to the IRS.<br />

2. There are two potential employer shared responsibility payments.<br />

Whether the minimum essential coverage offered by an employer to its<br />

full-time employees is affordable and provides minimum value is relevant<br />

for the second type of employer shared responsibility payment.<br />

3. The shared responsibility payment applies if an ALE member offers<br />

minimum essential coverage to its full-time employees and their<br />

dependents but, despite that, at least one full-time employee receives the<br />

premium tax credit for purchasing coverage through the Health Insurance<br />

Marketplace.<br />

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4. A full-time employee could receive the premium tax credit if the employee<br />

was offered minimum essential coverage that either:<br />

a. was not affordable for that employee or<br />

b. did not provide minimum value.<br />

5. Minimum Value Issues: An employer-sponsored plan provides<br />

minimum value if it covers at least 60% of the total allowed cost of<br />

benefits that are expected to be incurred under the plan (See Notice 2014-<br />

69 for additional guidance regarding whether an employer-sponsored plan<br />

provides minimum value coverage if the plan fails to substantially cover<br />

in-patient hospitalization services or physician services).<br />

6. Under regulations, employers generally must use a minimum value<br />

calculator developed by HHS to determine if a plan with standard features<br />

provides minimum value. Plans with nonstandard features are required to<br />

obtain an actuarial certification for the nonstandard features. The<br />

regulations also describe certain safe harbor plan designs that will satisfy<br />

minimum value.<br />

7. Affordability Issues: Because employers are not likely to know the<br />

household income of their employees, there are three safe harbor rules that<br />

an employer may use to determine affordability for purposes of the<br />

employer shared responsibility provisions. (These safe harbor rules do not<br />

affect whether an employee’s coverage is affordable for purposes of<br />

determining the employee’s coverage is affordable for purposes of<br />

determining the employee’s eligibility for the premium tax credit.) Instead<br />

of using household income in making the affordability determination.<br />

employers are allowed to use:<br />

a. Form W-2 wages,<br />

b. an employee’s rate of pay, or<br />

c. the federal poverty line,<br />

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More Information Available from the IRS: More information about the<br />

employer shared responsibility provisions is available in the IRS<br />

Questions and Answers section of their website. The Department of the<br />

Treasury and the IRS have also issued the following legal guidance related<br />

to the employer shared responsibility provisions:<br />

• Regulations on the employers shared responsibility provisions<br />

• Notice 2013-45, announcing transition relief for 2014<br />

• Notice 2014-49, regarding a proposed approach to the application of<br />

the look-back measurement method in situations in which the<br />

measurement period applicable to an employee changes.<br />

Summary Analysis of the Penalty for Employers Not Offering Coverage<br />

1. An applicable large employer who fails to offer its full-time employees<br />

and their dependents the opportunity to enroll in minimum essential<br />

coverage under an employer-sponsored plan for any month is subject to a<br />

penalty if at least one of its full-time employees is certified to the<br />

employer as having enrolled in health insurance coverage purchased<br />

through the exchange with respect to which a premium tax credit or costsharing<br />

reduction is allowed or paid to such employee or employees.<br />

2. The §4980H(a) penalty for any month is an excise tax equal to the number<br />

of full-time employees over a 30-employee threshold during the<br />

applicable month (regardless of how many employees are receiving a<br />

premium tax credit or cost-sharing reduction) multiplied by one twelfth of<br />

$2,000. (Indexed to inflation and projected to be 1/12 of $2,080, in <strong>2015</strong><br />

and 1/12 of $2,160 in 2016).<br />

<strong>Tax</strong> Professional Note: In the case of persons treated as a single employer<br />

under the provision, the 30-employee reduction in full-time employees is<br />

made from the total number of full-time employees employed by such<br />

persons (i.e., only one 30-person reduction is permitted per controlled<br />

group of employers) and is allocated among such persons in relation to the<br />

number of full-time employees employed by each such person.<br />

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Example: In <strong>2015</strong>, Employer A fails to offer minimum essential coverage<br />

and has 100 full-time employees, ten of whom receive a tax credit for the<br />

year for enrolling in an exchange-offered plan. For each employee over<br />

the 30-employee threshold, the employer owes $2,080, for a total penalty<br />

of $145,600 ($2,080 multiplied by 70 ((100-30)). This penalty is assessed<br />

on a monthly basis.<br />

Penalty for Employees Receiving Premium Credits<br />

1. An applicable large employer who offers, for any month, its full-time<br />

employees and their dependents the opportunity to enroll in minimum<br />

essential coverage under an employer-sponsored plan is subject to a<br />

penalty if any full-time employee is certified to the employer as having<br />

enrolled in health insurance coverage purchased through a State exchange<br />

with respect to which a premium tax credit or cost-sharing reduction is<br />

allowed or paid to such employee or employees.<br />

2. The penalty is an excise tax that is imposed for each full-time employee<br />

who receives a premium tax credit or cost-sharing reduction for health<br />

insurance purchased through an exchange. For each full-time employee<br />

receiving a premium tax credit or cost-sharing subsidy through a State<br />

exchange for any month, the employer would be required to pay an amount<br />

equal to one-twelfth of $3,000 for 2014; indexed to inflation for <strong>2015</strong> to<br />

$3,120 and to $3,240 for 2016. The penalty for each employee in any<br />

month is capped at an amount equal to the number of full-time employees<br />

during the month (regardless of how many employees are receiving a<br />

premium tax credit or cost-sharing reduction) in excess of 30, multiplied<br />

by one twelfth of $2,000 for 2014; indexed to inflation to $2,080 for<br />

<strong>2015</strong> and $2,160 for 2016.<br />

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<strong>Tax</strong> Professional Note: In the case of persons treated as a single employer<br />

under the provision, the 30-employee reduction in full-time employees for<br />

purposes of calculating the maximum penalty is made from the total<br />

number of full-time employees employed by such persons (i.e., only one<br />

30-person reduction is permitted per controlled group of employers) and<br />

is allocated among such persons in relation to the number of full-time<br />

employees employed by each such person.<br />

Example: In <strong>2015</strong>, Employer A offers health coverage and has 100 fulltime<br />

employees, 20 of whom receive a tax credit for the year for enrolling<br />

in a State exchange offered plan. For each employee receiving a tax credit,<br />

the employer owes $3,120, for a total penalty of $62,400.<br />

The maximum penalty in <strong>2015</strong> for this employer is capped at the amount<br />

of the penalty that it would have been assessed for a failure to provide<br />

coverage, or $145,600 ($2,080 multiplied by 70 ((100-30)). Since the<br />

calculated penalty of $62,400 is less than the maximum amount,<br />

Employer A pays the $62,400 calculated penalty. This penalty is assessed<br />

on a monthly basis.<br />

Time for Payment, Deductibility of Excise <strong>Tax</strong>es, Restrictions on<br />

Assessment<br />

1. The excise taxes imposed under this provision are payable on an annual,<br />

monthly or other periodic basis as the Secretary of Treasury may<br />

prescribe. The excise taxes imposed under this provision for employees<br />

receiving premium tax credits are not deductible under §162 as an ordinary<br />

and necessary business expense. The restrictions on assessment under<br />

§6213 are not applicable to the excise taxes imposed under the provision.<br />

Definition of Coverage<br />

1. As a general matter, if an employee is offered affordable minimum<br />

essential coverage under an employer-sponsored plan, then the individual<br />

is ineligible for a premium tax credit and cost sharing reductions for health<br />

insurance purchased through a State exchange.<br />

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Unaffordable Coverage Defined<br />

1. An unaffordable plan exists if an employee is offered minimum essential<br />

coverage by their employer that is either unaffordable or that consists of<br />

a plan under which the plan’s share of the total allowed cost of benefits is<br />

less than 60 percent, but the employee is eligible for a premium tax credit<br />

and cost sharing reductions, and only if the employee declines to enroll in<br />

the coverage and actually purchases coverage through the exchange<br />

instead.<br />

2. Unaffordable is defined as coverage with a premium required to be paid<br />

by the employee that is more than 9.5 percent of the employee’s household<br />

income. This percentage of the employee’s income is indexed to the per<br />

capita growth in premiums for the insured market as determined by the<br />

Secretary of HHS. It is increased to 9.6 percent for <strong>2015</strong>.<br />

3. The employee must seek an affordability waiver from the Sate exchange<br />

and provide information as to family income and the lowest cost employer<br />

option offered to them. The State exchange then provides the waiver to the<br />

employee. The employer penalty applies for any employee(s) receiving<br />

an affordability waiver.<br />

4. For purposes of determining if coverage is unaffordable, required salary<br />

reduction contributions are treated as payments required to be made by the<br />

employee. However, if an employee is reimbursed by the employer for<br />

any portion of the premium for health insurance coverage purchased<br />

through the exchange, including any reimbursement through salary<br />

reduction contributions under a cafeteria plan, then the coverage is<br />

employer-provided and the employee is not eligible for premium tax<br />

credits or cost-sharing reductions. Therefore, an individual is not<br />

permitted to purchase coverage through the exchange, apply for the<br />

premium tax credit, and pay for the individual’s portion of the premium<br />

using salary reduction contributions under the cafeteria plan of the<br />

individual’s employer.<br />

4-52


5. An employer must be notified if one of its employees is determined to be<br />

eligible for a premium assistance credit or a cost-sharing reduction<br />

because the employer:<br />

a. does not provide minimal essential coverage through an employersponsored<br />

plan, or<br />

b. does offer such coverage but it is not affordable, or<br />

c. the plan’s share of the total allowed cost of benefits is less than 60<br />

percent.<br />

6. The notice must include information about the employer’s potential<br />

liability for payments under §4980H. The employer must also receive<br />

notification of the appeals process established for employers notified of<br />

potential liability for payments under §4980H. An employer is generally<br />

not entitled to information about its employees who quality for the<br />

premium assistance credit or cost-sharing reductions. However, the<br />

appeals process must provide an employer the opportunity to access the<br />

data used to make the determination of an employee’s eligibility for a<br />

premium assistance credit or cost-sharing reduction, to the extent<br />

allowable by law.<br />

7. The Secretary is required to prescribe rules, regulations or guidance for<br />

the repayment of any assessable payment (including interest) if the<br />

payment is based on the allowance or payment of a premium tax credit or<br />

cost-sharing reduction with respect to an employee that is subsequently<br />

disallowed and with respect to which the assessable payment would not<br />

have been required to have been made in the absence of the allowance or<br />

payment.<br />

Effect of Medicaid Enrollment<br />

A Medicaid-eligible individual can always choose to leave the employer’s<br />

coverage and enroll in Medicaid, and an employer is not required to pay a<br />

penalty for any employees enrolled in Medicaid.<br />

4-53


Example of Letters Sent To Employees When Employees Obtain Coverage Through The<br />

Marketplace Exchange and Receives a §36B Premium Assistance Credit<br />

s} wasl1111gton<br />

r' healthplanfinder<br />

.. • - :,, I J<br />

Washiniiton Health Benefit Exchange<br />

PO Box 657<br />

Olympia WI\ 98507<br />

<br />

t:;..!<br />

04/06/<strong>2015</strong><br />

Application ID: XXXXXX<br />

Subject - Affordable Health Coverage for Employees<br />

Dear Employer:<br />

This letter is to inform you that one of your employees. [name of employee], applied for health insurance<br />

coverage through Washington Healthplanfinder and was determined eligible for a health insurance premium<br />

tax credit.<br />

This determination includes an assessment that your organization may not have offered minimum essential<br />

coverage to the employee or the coverage offered may not be affordable.<br />

Starting in <strong>2015</strong>, employers with 50 or more full-time employees may owe an additional tax if they don't offer<br />

affordable group health coverage ancl one of their employees is determined eligible for a health insurance<br />

premium tax credit.<br />

For more information, please visit http://www.irs.gov/Q11b/irs-droQ/n-13-45.PDF<br />

How to Contact Washington Healthplanfinder<br />

Contact us if you have any questions. Let us know if you want a free interpreter or free translations of this<br />

letter or other documents we send you. Please contact us if you need help to apply for or access your health<br />

care coverage due to a disability. You can contact us in any of the following ways:<br />

• Online at http://www.wahealthplanfinder.org<br />

• By email at CustomerSupport@wahbexchange.org<br />

• By calling 1-855-WAFINDER (855-923-4633) and 855-627-9604;<br />

• By Fax 360-841-7620;<br />

• By mail at:<br />

PO Box 946<br />

Olympia WA 98507<br />

Correspondence ID: EEOOG-20339971<br />

Page 1 of;<br />

4-54


Example of Washington State’s Health Benefit Exchange Administrative<br />

Hearing Rights and Deadlines<br />

You have the right to appeal a Washington Healthplanfinder eligibility decision. An<br />

appeal is an administrative hearing before a Presiding Officer, which can be a useful<br />

tool to resolve problems after all other attempts have failed. If you have question<br />

about the appeals process please call 1-855-859-2512.<br />

Eligibility decisions are things like:<br />

• The amount of your Health Insurance Premium <strong>Tax</strong> Credit;<br />

• The amount of your Cost Sharing Reduction: and<br />

• As an employer, whether the insurance you provide your employees meets the<br />

coverage requirements and whether that insurance coverage is affordable for your<br />

employees.<br />

• Our failure to provide timely notice of an eligibility decision also gives you the<br />

right to appeal.<br />

Requests for an appeal must be received within 90 calendar days of the date of the<br />

decision being appealed.<br />

• The quickest way to ask for a hearing is to ask us to send you a Hearing Request<br />

form. You may contact us by email at appeals@wahbexchange.org, by mail (POB<br />

1757, Olympia, WA 98507), over the phone (1-855-859-2912), or in person. Be<br />

sure to give us:<br />

• Your full name and birthdate:<br />

• Your Healthplanfinder application identification number: and<br />

• A daytime phone number.<br />

For your convenience, the pre-hearing conference and hearing associated with<br />

your appeal will be held over the phone. If you prefer, you may ask the Presiding<br />

Officer for an in-person hearing.<br />

• It's not required, but you have the right to have an attorney or personal<br />

representative at the hearing.<br />

• If you need a language interpreter, we will hire an interpreter at no cost to you.<br />

4-55


• If you have a medical condition that requires an emergency or expedited hearing,<br />

please call 1-855-859-2512 immediately. Be sure you have documentation that<br />

shows why the regular appeals process could jeopardize your life or health; or<br />

your ability to attain, maintain, or regain maximum function. You'll be asked to<br />

provide that to us when you ask for a hearing.<br />

• The eligibility determination you received through Healthplanfinder will not<br />

change while you are awaiting the outcome of your appeal. However, if your<br />

appeal changes your original eligibility determination. Your new eligibility will<br />

be applied retroactively. Please note that any change in your eligibility may<br />

require the Healthplanfinder to re-determine the eligibility status of other<br />

members of your household.<br />

• Appeals regarding Washington Apple Health (Medicaid) will be heard by the<br />

Health Care Authority. Please contact the Health Care Authority at 1-855-623-<br />

9357 or email at askmagi@hca.wa.gov.<br />

For more information about appeals, go to www.wahbexchange.org/appeals.<br />

4-56


P. Partial Chart Of <strong>Tax</strong> Provisions By Code Section<br />

Code Section Description Effective Date<br />

§36B Premium assistance credit 1/1/2014<br />

§45R<br />

Small business tax credit for employee health<br />

insurance<br />

1/1/2010<br />

§105(b)<br />

Employer-provided health coverage exclusion for<br />

children under 27 years old<br />

3/30/2010<br />

§125 $2,500 cap on FSA contributions 1/1/2013<br />

§125(f)(5) Small employer SIMPLE cafeteria plans 1/1/2011<br />

§137 Employer provided adoption exclusion expanded 1/1/2010<br />

§162(l)(1) Deductible health premiums for children under 27<br />

years old for self-employed<br />

3/30/2010<br />

§213(a) 10% floor on Schedule A medical deduction 1/1/2013<br />

§220(f)(4)<br />

20% Penalty on nonqualified distributions Archer<br />

MSA<br />

1/1/2011<br />

§223(d)(2) Qualified medical expenses paid from HSA 1/1/2011<br />

§223(f)(4) 20% penalty on nonqualified HSA distributions 1/1/2011<br />

§1401(b)(2) Additional HI on self-employment income 1/1/2013<br />

§1411(a)(1) Imposition of HI on investment income 1/1/2013<br />

§1411(a)(2) Imposition of HI on estates and trusts 1/1/2013<br />

§3101(b)(2) Additional HI on wages 1/1/2013<br />

§4980D<br />

Failure to meet certain group health plan<br />

requirements<br />

9/23/2010<br />

§4980H<br />

Shared Responsibility for Employers Regarding<br />

Health Coverage<br />

1/1/<strong>2015</strong><br />

§5000A Penalty for individuals remaining uninsured 1/1/2014<br />

§6013 Information disclosure by IRS 3/23/2010<br />

Inclusion of employer sponsored health coverage 1/1/2011<br />

§6651(a)(14)<br />

reported on W-2<br />

4-57


Q. Partial Chart Of <strong>Tax</strong> Provisions By Effective Date<br />

Effective Date Description Code Section<br />

1/1/2010 Employer provided adoption exclusion expanded §137<br />

1/1/2010 Small business tax credit for employee health<br />

insurance<br />

3/30/2010 Employer-provided health coverage exclusion for<br />

children under 27 years old<br />

3/30/2010 Deductible health premiums for children under 27<br />

years old for self-employed<br />

9/23/2010 Failure to meet certain group health plan<br />

requirements<br />

§45R<br />

§105(b)<br />

§162(l)(1)<br />

§4980D<br />

1/1/2011 Small employer SIMPLE cafeteria plans §125(f)(5)<br />

1/1/2011 20% penalty on nonqualified distributions Archer<br />

MSA<br />

§220(f)(4)<br />

1/1/2011 Qualified medical expenses paid from HSA §223(d)(2)<br />

1/1/2011 20% penalty on nonqualified HSA distributions §223(f)(4)<br />

1/1/2011 Inclusion of employer sponsored health coverage<br />

reported on W-2<br />

§6651(a)(14)<br />

1/1/2013 $2,500 cap on FSA contributions §125<br />

1/1/2013 10% floor on Schedule A medical deduction §213(a)<br />

1/1/2013 Additional HI on self-employment income §1401(b)(2)<br />

1/1/2013 Imposition of HI on investment income §1411(a)(1)<br />

1/1/2013 Imposition of HI on estates and trusts §1411(a)(2)<br />

1/1/2013 Additional HI on wages §3101(b)(2)<br />

1/1/2014 Premium assistance credit §36B<br />

1/1/2014 Penalty for individuals remaining uninsured §5000A<br />

1/1/<strong>2015</strong> Shared Responsibility for Employers Regarding<br />

Health Coverage<br />

§4980H<br />

4-58


Chapter IV - Review Questions<br />

1. What is the maximum amount a single filer with income between 200% and<br />

300% of the FPL would have to repay if he received excess premium tax credits?<br />

a. $ 300<br />

b. $ 600<br />

c. $ 750<br />

d. $1,250<br />

Answer:<br />

c. is correct. Under ACA, the amount received in premium credits is generally<br />

based on the prior year’s income tax return. These amounts are reconciled when<br />

individuals file tax returns for the actual year in which they received premium<br />

credits. If a tax filing unit’s income decreases during the tax year, and the filer<br />

should have received a larger tax credit, then this additional credit amount will<br />

reduce the net tax liability for the year.<br />

On the other hand, any excess amount that was overpaid in premium credits will<br />

have to be repaid. However, ACA imposes limits on the excess amounts to be<br />

repaid. For households with incomes below 400% FPL, the law includes specific<br />

limits that apply to single and joint filers separately; these limits will be indexed<br />

by inflation in future years.<br />

If household income (Percentage of the <strong>Federal</strong> Poverty Level) is:<br />

Joint Filers vs Single<br />

Less than 200% $ 600 $ 300<br />

At least 200% but less than 300% $ 1,500 $ 750<br />

At least 300% but less than 400% $2,550* $1,250<br />

Note: The applicable dollar limit for single filers is 50% of the joint filer limit.<br />

• Indexed to inflation<br />

4-59


2. A single taxpayer is not eligible for coverage under his employer plan. Instead he<br />

purchased health insurance from a private company. The taxpayer’s income is<br />

within the range to qualify for a Premium <strong>Tax</strong> Credit, he cannot be claimed as a<br />

dependent by another person. Is he eligible for a Premium <strong>Tax</strong> Credit (PTC)?<br />

Why? The taxpayer is<br />

a. eligible for a PTC because he meets all the criteria for qualification.<br />

b. not eligible for a PTC because the credit is available only for employees covered<br />

under an employer sponsored health plan.<br />

c. not eligible for a PTC because he purchased health insurance from a private<br />

company.<br />

d. not eligible for a PTC because the credit is available only to families using the<br />

Married Filing Jointly filing status.<br />

Answer:<br />

a. is incorrect. The taxpayer meets all the criteria except he purchased his<br />

insurance through a private company. To be eligible for the credit, the insurance<br />

must be purchased through the government’s Health Care Marketplace.<br />

b. is incorrect. To be eligible for the PTC an individual may not be eligible for<br />

coverage under an employer plan.<br />

c. is correct. Only insurance purchased from the government’s Health Care<br />

Marketplace qualifies for the PTC.<br />

d. is incorrect. Any filing status may be eligible for a PTC except Married Filing<br />

Separately unless there is spousal abuse or abandonment involved.<br />

3. An individual is considered to have minimum essential health coverage for a month<br />

if they are covered for at least<br />

a. one day.<br />

b. three days.<br />

c. five days.<br />

d. the entire month.<br />

4-60


Answer:<br />

a. is correct. An individual is considered to have minimum essential coverage for<br />

the month as long as the individual is covered for at least one day during that<br />

month.<br />

b. is incorrect. Only one day of coverage is required. Not to be confused with the<br />

exemption for short coverage gap provision under §5000A(e).<br />

c. is incorrect. See answer a. above.<br />

d. is incorrect. See answer a. above.<br />

4-61


V. Review of Selected Provisions<br />

from <strong>Tax</strong> Legislation of the<br />

21 st Century Needed to<br />

Prepare <strong>2015</strong> <strong>Tax</strong> Returns<br />

and Beyond


V. Review of Selected Provisions From <strong>Tax</strong> Legislation of the 21 st Century Needed<br />

to Prepare <strong>2015</strong> <strong>Tax</strong> Returns And Beyond<br />

A. Congress Enacts <strong>Tax</strong> Provisions in a Non <strong>Tax</strong> Legislative Bill<br />

1. On July 31, <strong>2015</strong>, President Obama signed into law P.L. 114-41, the “Surface<br />

Transportation and Veterans Health Care Choice Improvement Act of <strong>2015</strong>”<br />

(the ACT). Although primarily designed as a 3-month stopgap extension on<br />

the Highway Trust Fund and related measure, the Act includes a number of<br />

important tax provisions, such as revised due dates for Form 1065<br />

Partnership and Form 1120 C Corporation returns. Also included are revised<br />

extended due dates for many returns, and basis conformity rules for transfer<br />

tax and income tax purposes.<br />

2. The following includes background and revised due dates for partnership and<br />

corporation returns:<br />

a. Domestic corporations (including Subchapter S Corporations) with a<br />

fiscal year must file their returns by the 15 th day of the 3 rd month after the<br />

end of the tax year. As a result, corporations with a calendar year must file<br />

their returns by March. 15 of the following year. The partnership return<br />

has been due on the 15 th day of the 4 th month after the end of the<br />

partnership’s tax year; therefore a partnership with a calendar year must<br />

file returns by April 15 of the following year.<br />

b. Since the partnership return date is the same as for individuals, those<br />

taxpayers holding partnership interests often must file for an extension to<br />

file their returns because their Schedule K-1’s don’t arrive until the last<br />

minute.<br />

5-1


3. There is now new law: In a major restructuring of entity return due dates,<br />

effective generally for returns for tax years beginning after December 31,<br />

<strong>2015</strong>; both partnerships and Subchapter S corporations will have to file their<br />

returns by the 15 th day of the 3 rd month after the end of the tax year as<br />

amended by Act Sec.2006 (a). As a result, those with a calendar year will have<br />

to file by March 15 of the following year. §6072(b), now provides that as a<br />

result, the filing deadline for partnership returns will be accelerated by one<br />

month. The filing deadline for Subchapter S corporations stays at March 15<br />

of the following year.<br />

4. C corporations will have a new filing date which will be by the 15 th day of the<br />

4 th month after the end of the tax year. As a result, those with a calendar year<br />

will now have to file by April 15 of the following year and the filing deadline<br />

for C corporations will be deferred for one month.<br />

5. The new deadlines generally go into effect for returns for taxable years that<br />

begin after December 31, <strong>2015</strong>. Under a special rule, for C corporations with<br />

fiscal years ending on June 30, the change won’t apply until tax years<br />

beginning after December 31, 2025. (ACT Sec. 2006 (a)(3))<br />

6. There are also revised statutory automatic extension rules for corporations<br />

Under the prior law, §6081(b) provides for a 3-month automatic extension to<br />

file corporate returns, but Reg §1.6081-3(a) states for a 6-month automatic<br />

extension of time to file corporate returns.<br />

7. New law, effective generally for returns for tax years beginning after<br />

December 31, <strong>2015</strong>, the 3-month automatic extension of time in §6081(b) is<br />

changed to an automatic 6-month extension. For any return for a tax year of<br />

a C corporation which ends on December 31 and begins before January 1,<br />

2026, the automatic extension period is 5 months and not 6 months as it is<br />

currently. For any return for a tax year of a C corporation which ends on June<br />

30 and begins before January 1, 2026, the automatic extension period is 7<br />

months and not 6 months as it is currently. §6081(b) as amended by Act<br />

Section 2006(c)(1).<br />

5-2


8. There are also revised extended due dates for many other returns and the<br />

IRS regulations prescribe various extended due dates for taxpayers that file<br />

for an extension.<br />

Under the new law, effective for returns for tax years beginning after<br />

December 31, <strong>2015</strong>, Act Sec. 2006(b) directs IRS to modify its regulations to<br />

provide that the maximum extension for:<br />

a. The returns of partnerships filing Form 1065 will be a 6-month period<br />

ending on September 15 for calendar year taxpayers (currently a 5-month<br />

period).<br />

b. The return of trusts filing Form 1041 will be a 5 ½-month period ending<br />

on September 30 for calendar year taxpayers (currently a 5-month<br />

period).<br />

c. The returns of employee benefit plans filing Form 5500 will be an<br />

automatic 3 ½-month period ending on November 15 for calendar year<br />

plans (currently a 2 ½ month period).<br />

d. The returns of organizations exempt from income tax filing Form 990<br />

(series) will be an automatic 6-month period ending on November 15 for<br />

calendar year filers (currently a 3-month period).<br />

e. The return of organizations exempt from income tax that are required to<br />

file Form 4720 returns of excise taxes will be an automatic 6-month<br />

period beginning on the due date for filing the return, without regard to<br />

any extensions (currently a 3-month period).<br />

f. The return of trusts required to file Form 5227 (Split-Interest Trust<br />

Information Return) will be an automatic 6-month period beginning on<br />

the due date for filing the return without regard to any extensions<br />

(currently a 3-month period).<br />

g. The filing of Form 6069, Return of Excise <strong>Tax</strong> on Excess Contributions<br />

to Black Lung Benefit Trust Under §4953 and Computation on §192<br />

Deduction, will be an automatic 6-month period beginning on the due date<br />

for filing the return, without regard to any extensions (currently a 3-month<br />

period).<br />

5-3


h. A taxpayer required to file Form 8870 (Information Return for Transfers<br />

Associated With Certain Personal Benefit Contracts) will be an automatic<br />

6-month period beginning on the due date for filing the return, without<br />

regard to any extensions (currently a 3-month period).<br />

9. The FinCEN report due date has also been revised. FinCEN Form 114 Report<br />

of Foreign Bank and Financial Accounts, is used to report a financial interest<br />

in or signature authority over a foreign financial account. The FBAR must be<br />

received by the Department of the Treasury on or before June 30 th on the<br />

year immediately following the calendar year being reported. The June 30<br />

filing date may not be extended.<br />

10. Under new law Act. Sec. 2006(b)(11), for returns for tax years beginning after<br />

December 31, <strong>2015</strong>, Treasury is directed to modify appropriate regulations to<br />

provide that the due date of FinCEN Report 114 will be April 15 with a<br />

maximum extension for a 6-month period ending on October 15 and with<br />

provision for an extension under rules similar to the rules in Reg. §1.6081-5.<br />

For any taxpayer required to file Form 114 for the first time, any penalty for<br />

failure to timely request for, or file, an extension, may be waived by the<br />

Treasury Secretary.<br />

11. The new law also requires consistent basis reporting for transfer tax and<br />

income tax purposes. The basis of property acquired form a decedent<br />

generally is the fair market value (FMV) of the property on the decedent’s<br />

date of death. Similarly, property included in the decedent’s gross estate for<br />

estate tax purposes generally must be valued at its FMV on the date of death.<br />

Although the same valuation standard applies to both provisions, pre-Act<br />

law does not explicitly require that the recipient’s basis in that property be<br />

the same as the value reported for estate tax purposes.<br />

5-4


12. Required Basis Information for Inherited Assets: Executors of taxable<br />

estates (i.e., those exceeding the exclusion amount) must notify the IRS and<br />

the heirs as to the property’s value reported on Form 706 for inherited assets,<br />

effective for Form 706 filed after 7/31/<strong>2015</strong>. However, this rule only applies<br />

if the property increased the estate’s tax liability (reduced by allowable<br />

credits) on its Form 706.<br />

13. The beneficiaries must use the value reported on Form 706 as their income<br />

tax basis. Generally this is the FMV on the date of the decedent’s death. An<br />

exception applies for property considered Income in Respect of a Decedent<br />

(IRD). It’s unclear whether executors must provide basis information for IRD<br />

assets since they retain their cost basis for income tax purposes, rather than<br />

being adjusted to FMV upon the decedent’s death. This new disclosure rule<br />

provides for a 20% penalty for the underpayment due to inconsistent<br />

reporting. IRC §6035(a) and §1014(f).<br />

<strong>Tax</strong> Professional Note: After the legislation was passed the IRS issued<br />

Notice <strong>2015</strong>-37 which is enclosed for your reference.<br />

Part III – Administrative, Procedural, and Miscellaneous<br />

Due Dates for Compliance with §2004 of H.R. 3236, Consistent Basis Reporting<br />

Between Estate and Person Acquiring Property from Decedent<br />

Notice <strong>2015</strong>-57<br />

SECTION 1: PURPOSE<br />

On July 31, <strong>2015</strong>, the President of the United States signed H.R. 3236, Surface<br />

Transportation and Veterans Health Care Choice Improvement Act of <strong>2015</strong> (P.L.<br />

114-41), into law. Section 2004 of H.R. 3236 enacted §1014(f) and §6035. For<br />

each statement required by §6035 to be filed with the Internal Revenue Service<br />

(IRS) or furnished to a beneficiary before February 29, 2016, this notice delays<br />

until February 29, 2016, the due date for filing or furnishing that statement. This<br />

notice applies to executors of estates of decedents and to other persons who are<br />

required under §6018(a) or (b) to file a return if that return is filed after July 31,<br />

<strong>2015</strong>.<br />

5-5


SECTION 2: BACKGROUND<br />

§1014(f) provides rules requiring that the basis of certain property acquired from<br />

a decedent, as determined under §1014, may not exceed the value of that property<br />

as finally determined for federal estate tax purposes, or if not finally determined,<br />

the value of that property as reported on a statement made under §6035. §6035<br />

imposes new reporting requirements with regard to the value of property included<br />

in a decedent's gross estate for federal estate tax purposes.<br />

§6035(a)(1) provides that the executor of any estate required to file a return under<br />

§6018(a) must furnish, both to the Secretary and the person acquiring any interest<br />

in property included in the decedent's gross estate for federal estate tax purposes,<br />

a statement identifying the value of each interest in such property as reported on<br />

such return and such other information with respect to such interest as the<br />

Secretary may prescribe.<br />

§6035(a)(2) provides that each person required to file a return under §6018(b)<br />

must furnish , both to the Secretary and each other person who holds a legal or<br />

beneficial interest in the property to which such return relates, a statement<br />

identifying the information described in §6035(a)(1).<br />

§6035(a)(3)(A) provides that each statement required to be furnished under<br />

§6035(a)(1) or (a)(2) shall be furnished at such time as the Secretary may<br />

prescribe, but in no case at a time later than the earlier of:<br />

(i) the date which is 30 days after the date on which the return under §6018<br />

was required to be filed (including extensions, if any) or<br />

(ii) the date which is 30 days after the date such return is filed.<br />

§6035(b) authorizes the Secretary to prescribe such regulations as necessary to<br />

carry out §6035. §7805(a) provides generally that the Secretary shall prescribe all<br />

needful rules and regulations for the enforcement of this title, including all rules<br />

and regulations as may be necessary by reason of any alteration of law in relation<br />

to internal revenue. §7805(b)(2) provides that regulations may apply<br />

retroactively, if they are issued within 18 months of the date of the enactment of<br />

the statutory provision to which they relate.<br />

5-6


§6081(a) provides that the Secretary may grant a reasonable extension of time for<br />

filing any return, declaration , statement, or other document required by this title<br />

or by regulations. Except in the case of taxpayers who are abroad, no such<br />

extension shall be for more than 6 months.<br />

SECTION 3: GUIDANCE<br />

For statements required under §6035(a)(1) and (a)(2) to be filed with the IRS or<br />

furnished to a beneficiary before February 29, 2016, the due date under<br />

§6035(a)(3) is delayed to February 29, 2016. This delay is to allow the Treasury<br />

Department and IRS to issue guidance implementing the reporting requirements<br />

of §6035. Executors and other persons required to file or furnish a statement under<br />

§6035(a)(1) or (a)(2) should not do so until the issuance of forms or further<br />

guidance by the Treasury Department and the IRS addressing the requirements of<br />

§6035.<br />

The Treasury Department and the IRS expect to issue additional guidance to assist<br />

taxpayers with complying with §1014(f) and §6035. The Treasury, Courier's<br />

Desk, Internal Revenue Service, 1111 Constitution Avenue, NW, Washington,<br />

DC 20044, or sent electronically, via the following_ e-mail address:<br />

Notice.comments@irscounsel.treas .gov.<br />

SECTION 4: EFFECTIVE DATE<br />

This notice is effective on August 21, <strong>2015</strong>. This notice applies to executors of<br />

the estates of decedents and to other persons who are required under. §6018(a) or<br />

(b) to file a return if that return is filed after July 31, <strong>2015</strong>.<br />

DRAFTING INFORMATION<br />

The principal author of this notice is Theresa Melchiorre of the Office of the<br />

Associate Chief Counsel (Passthroughs & Special Industries). For further<br />

information regarding this notice contact Theresa Melchiorre at (202) 317-6859<br />

(not a toll-free call).<br />

5-7


B. §25A Hope Scholarship Credit Gets Some Temporary Modifications<br />

1. The Hope Scholarship Credit was created with the 1997 <strong>Tax</strong> Reform Act and<br />

allowed taxpayers to take a maximum credit of $1,500 for the first two years<br />

of each student’s post-secondary education tuition and fees.<br />

2. The 2001 <strong>Tax</strong> Act provided some indexing provisions which began in 2006<br />

and brought the maximum credit up to $1,800 and indexed the AGI phase-out<br />

limitations.<br />

3. The 2009 Recovery Act made some temporary changes for 2009 and 2010<br />

including:<br />

a. Name change,<br />

b. Increased AGI phase-out amounts,<br />

c. Increased credit amount,<br />

d. Length of credit use,<br />

e. Refundability, and<br />

f. Course materials.<br />

4. §25A(i) provided that the Hope Scholarship Credit shall be re-named the<br />

“American Opportunity <strong>Tax</strong> Credit” for tax years 2009 and 2010. As a result<br />

of the American <strong>Tax</strong>payer Relief Act of 2012 these provisions have been<br />

extended through December 31, 2017.<br />

5. §25A(a)(1) increases the amount of the credit to be an amount equal to the<br />

sum of:<br />

a. 100% of qualified tuition and related expenses paid by the taxpayer up to<br />

the first $2,000 plus,<br />

b. 25% of such expenses paid up to the next $2,000.<br />

As a result this means that the maximum credit is $2,500.<br />

5-8


6. The qualified tuition and related expenses are for education furnished to an<br />

eligible student during any academic period beginning in such taxable year.<br />

The credit is allowed for expenses paid in <strong>2015</strong> for an academic period<br />

beginning in <strong>2015</strong> or in the first three months of 2016.<br />

7. §25A(i)(2) provides that the credit is allowed for the first 4 years of postsecondary<br />

education.<br />

8. §25A(i)(3) provides that qualified tuition and related expenses now includes<br />

required course materials as well as tuition and fees.<br />

9. §25A(i)(4) provides an increase in the AGI phase-out threshold limitation.<br />

The credit is reduced by the amount which bears a ratio to such credit as the<br />

excess of:<br />

a. The taxpayer’s modified AGI, over<br />

b. $80,000 ($160,000 married joint), bears to $10,000 ($20,000 married<br />

joint).<br />

Filing Status<br />

Phase-Out<br />

Begins<br />

Phase-Out<br />

Ends<br />

Range<br />

Single, Head of Household $ 80,000 $ 90,000 $ 10,000<br />

Married Joint $160,000 $180,000 $ 20,000<br />

<strong>Tax</strong> Professional Note: These amounts are not indexed to inflation.<br />

10. §25A(i)(5) provides that the credit is allowed against the AMT.<br />

11. §25A(i)(6) provides that 40% of the credit may be refundable.<br />

EXAMPLE #1: A married couple is eligible for a maximum §25A<br />

American Opportunity <strong>Tax</strong> Credit of $2,500 and their modified AGI is<br />

$160,000 or below. The taxpayers have other personal credits that are<br />

allowed to be used before the education credit and their net tax liability is<br />

now zero. Under the §25A(i)(6) provision they are permitted to have a<br />

refundable credit of 40% of the $2,500 maximum credit and as a result can<br />

claim a $1,000 refundable credit which is calculated as follows:<br />

5-9


§25A Maximum American Opportunity <strong>Tax</strong> Credit .............................................................. $2,500<br />

§25A(i)(6) Refundable portion .................................................................................................. 40%<br />

Maximum refundable credit ................................................................................................... $1,000<br />

EXAMPLE #2: Same as above except now the modified AGI is $165,000.<br />

The first issue is calculating the phase-out of the maximum $2,500 credit<br />

which is calculated as follows:<br />

Modified AGI $165,000<br />

Less: Phase-out threshold (160,000)<br />

Excess AGI $ 5,000<br />

Excess AGI x Maximum = Amount of credit<br />

Phase-out range §25A credit not allowed<br />

$5,000 x $2,500 = $625<br />

$20,000<br />

§25A Maximum Credit $ 2,500<br />

Credit not allowed (625)<br />

Credit available $ 1,875<br />

§25A(i)(6) provision 40%<br />

Refundable credit Form 1040, page 2, line 66 $ 750<br />

<strong>Tax</strong> Professional Reminder: Once the taxpayer’s modified AGI is greater<br />

than $90,000 ($180,000 married joint) the refundable portion is completely<br />

phased-out.<br />

C. §24(D)(4) Refundable Portion of Child <strong>Tax</strong> Credit<br />

1. The §24 Child <strong>Tax</strong> Credit (CTC) was created as part of the 1997 <strong>Tax</strong> Reform<br />

Act which allowed a maximum credit of $500 for a qualifying dependent child<br />

under age 17.<br />

2. The 2001 <strong>Tax</strong> Act increased the credit to $1,000. This provision has been<br />

made permanent by the American <strong>Tax</strong>payer Relief Act of 2012.<br />

3. §24(b)(2) provides that the credit is subject to phase-out provisions based on<br />

filing status.<br />

5-10


4. §24(d) provides that a portion of the CTC is refundable (Form 8812) for<br />

certain taxpayers through December 31, 2017 to the extent of:<br />

a. 15% of the taxpayer’s earned income in excess of $3,000, or<br />

b. the taxpayer has 3 or more qualifying children.<br />

<strong>Tax</strong> Professional Education Point: The refundable CTC was created in<br />

order to provide that those working taxpayers who did not receive all of their<br />

payroll tax money back through the EIC have the opportunity to receive it<br />

through the CTC. IRS Form 8812 is used to calculate the refundable CTC.<br />

The credit is reported on Form 1040, page 2, line 67 as a refundable credit.<br />

EXAMPLE #1: A married couple filing a joint return have earned income of<br />

$12,550 and two qualifying children resulting in a zero tax liability and no<br />

offsetting use of the $2,000 of CTC. The law provides the opportunity for<br />

them to have a refundable CTC as follows:<br />

Form 8812:<br />

Earned income $12,550<br />

Threshold amount (3,000)<br />

Excess available for refundable CTC $ 9,550<br />

Credit percentage x 15%<br />

Maximum refundable CTC $ 1,433<br />

Maximum CTC available (2 x $1,000) ( 2,000)<br />

Amount of CTC lost ($ 567)<br />

As illustrated in the examples above the maximum additional refundable<br />

CTC that any taxpayer can claim in <strong>2015</strong> is $1,433.<br />

EXAMPLE #2: Same as above except now the taxpayers have earned income<br />

of $18,550.<br />

Form 8812:<br />

Earned income $18,550<br />

Threshold amount (3,000)<br />

Excess available for refundable CTC $15,550<br />

Credit percentage x 15%<br />

Maximum refundable CTC $ 2,333<br />

Maximum CTC available (2 x $1,000) (2,000)<br />

Amount of CTC lost $ N/A<br />

5-11


EXAMPLE #3: Same as above except now the taxpayers have only one<br />

qualifying child. The taxpayers can have as little as $9,667 of earned income<br />

with no income tax liability and claim the full $1,000 refundable CTC as<br />

follows:<br />

Form 8812:<br />

Earned income $9,667<br />

Threshold amount (3,000)<br />

Excess available for refundable CTC $6,667<br />

Credit percentage x 15%<br />

Maximum refundable CTC $1,000<br />

Maximum CTC available (2 x $1,000) (1,000)<br />

Amount of CTC lost ($ -0- )<br />

<strong>Tax</strong> Professional Research Recommendation: For more information refer<br />

to IRS Publication 972: Child <strong>Tax</strong> Credit<br />

D. §32(B)(3)(A) Earned Income Credit Percentage for Families With Three or<br />

More Qualifying Children<br />

1. §32 provides that specified low-income earners are allowed to claim a<br />

refundable earned income tax credit (EITC) which is calculated by<br />

multiplying a specified credit percentage (based on the number of qualifying<br />

children) times the taxpayer’s earned income. The earned income has a<br />

maximum dollar amount on which the credit is calculated indexed annually to<br />

inflation. The credit is 40% of the earned income.<br />

2. Prior to the 2009 Recovery Act, the maximum number of qualifying children<br />

allowed to qualify for the EITC was limited to two or more.<br />

3. §32(b)(3)(A) continues to provide a special rule for 2013-2017 and states that<br />

there is an increased credit percentage for 3 or more qualifying children and<br />

that in the case where a taxpayer has 3 or more qualifying children the credit<br />

is 45% of the earned income.<br />

5-12


<strong>Tax</strong> Professional Note: The Act does not provide any increase in the<br />

maximum earned income dollar amount for families with three or more<br />

children meaning that it is the same as for two or more children.<br />

EXAMPLE: A married couple with 2 or more children or 3 or more children<br />

with the maximum earned income calculate their maximum EITC as follows:<br />

2 Qualifying<br />

Children<br />

3 or More<br />

Qualifying<br />

Children<br />

Increase<br />

Earned income $13,650 $13,650 N/A<br />

EITC percentage 40% 45% 5%<br />

Maximum EITC $ 5,460 $ 6,143 $683<br />

E. Alternative Minimum <strong>Tax</strong> (AMT) Issues<br />

1. For regular income tax purposes the tax brackets, the standard deductions and<br />

personal exemptions are all indexed for inflation. Prior to 2013 the AMT<br />

brackets and the AMT exemptions were not indexed for inflation.<br />

2. Additionally, the continued reductions in the regular income tax rates further<br />

narrow the differences between regular and AMT tax liabilities. The effects<br />

of the AMT are mitigated through an increase in the AMT basic exemption.<br />

3. In addition, in <strong>2015</strong> the AMT imposes a flat rate of 26% on the first $185,400<br />

of AMT taxable income for all taxpayers with the excess amount taxed at a<br />

flat rate of 28%. For taxpayers filing married separately the 26% is imposed<br />

on the first $92,700 with the excess taxed at 28%. In 2016 these amounts are<br />

increased to $186,300 for joint returns and $93,150 for all others.<br />

<strong>Tax</strong> Professional Note: If the taxpayer is receiving the benefits of the<br />

preferential long-term capital gain rates on long-term capital gain transactions<br />

and qualified dividends, then those amounts are also taxed at the same<br />

preferential rates for AMT purposes.<br />

5-13


AMT Exemption Amounts for 2016 vs <strong>2015</strong><br />

Filing Status 2016 <strong>2015</strong> Increase<br />

Kiddie <strong>Tax</strong> filing status $ 7,400 $ 7,400 $ -0-<br />

Married couples filing a joint return<br />

and qualifying widow(er)s<br />

Single filers and heads of<br />

households<br />

$83,800 $83,400 $400<br />

$53,900 $53,600 $300<br />

Married filing separately $41,900 $41,700 $200<br />

Estates & Trusts $23,900 $23,800 $100<br />

4. The rules concerning nonrefundable personal credits are extended. The<br />

American <strong>Tax</strong>payer Relief Act of 2012 has made the §26(a)(2) AMT offset<br />

rule permanent. Therefore, the personal nonrefundable tax credits allowed to<br />

decrease the regular income tax continued to decrease the AMT to the extent<br />

of the tax liability.<br />

§55(d)(3) provides that the phase-out of the AMT exemption amounts are as<br />

follows for <strong>2015</strong> and 2016 based on filing status:<br />

<strong>2015</strong> 2016<br />

Filing Status Begins Ends Phase-Out<br />

Range<br />

Begins Ends Phase-Out<br />

Range<br />

Married joint $158,900 $333,600 $174,700 $159,700 $335,200 $175,500<br />

Single & head<br />

of household<br />

Married filing<br />

separately<br />

$119,200 $214,400 $ 95,200 $119,700 $215,600 $ 95,900<br />

$ 79,450 $166,800 $ 87,350 $ 79,850 $167,600 $ 87,750<br />

Estates & trusts $ 79,450 $ 95,200 $ 15,750 $ 79,850 $ 95,600 $ 15,750<br />

5-14


F. Pension Plan Issues: Employer Deferral Plans<br />

Pension Plan Issues:<br />

Employer Deferral Plans<br />

Statutory limits for<br />

contributions to §401(k),<br />

§403(b), §457 and SIMPLE plans<br />

§401(k), §403(b)<br />

and §457:<br />

Special age 50+ catch-up<br />

contributions<br />

§401(k), §403(b), and §457:<br />

$17,500 in 2013 $5,500 in 2013<br />

$17,500 in 2014 $5,500 in 2014<br />

$18,000 in <strong>2015</strong> $6,000 in <strong>2015</strong><br />

$ in 2016 $ in 2016<br />

SIMPLE Plans:<br />

SIMPLE Plans:<br />

$12,000 in 2013 $2,500 in 2013<br />

$12,000 in 2014 $2,500 in 2014<br />

$12,500 in <strong>2015</strong> $3,000 in <strong>2015</strong><br />

$ in 2016 $ in 2016<br />

1. The law provides statutory contribution limits for pension plans that have socalled<br />

elective deferrals.<br />

2. These are generally amounts that an individual elects to contribute to a<br />

retirement plan in lieu of receiving current taxable compensation.<br />

3. The most common of these are contributions to:<br />

a. §401(k) plans,<br />

b. §403(b) plans,<br />

c. §408 SIMPLE plans,<br />

d. §408 salary-reduction SEPs, (SARSEP’s can no longer be established as<br />

new plans)<br />

e. §457 plans.<br />

5-15


4. For §401(k), §403(b), §457 and salary-reduction SEP plans:<br />

a. The maximum allowable deferral contribution is $18,000 in <strong>2015</strong> and<br />

$ ____ in 2016;<br />

b. The contribution will be increased due to the inflation adjustments in $500<br />

increments; and<br />

c. For §401(k), §403(b), and §457 plans, the additional allowable<br />

contribution for taxpayers age 50 and older is $6,000 in <strong>2015</strong> and $_____<br />

in 2016.<br />

5. For SIMPLE plan contributions:<br />

a. The maximum deferral amount is $12,500 in <strong>2015</strong> and $____ in 2016;<br />

b. Just like IRA contributions, a special catch-up provision allows<br />

individuals age 50 or older to make additional elective deferrals; and<br />

c. For SIMPLE plan contributions, the catch-up amount is $3,000 in <strong>2015</strong><br />

and $_____ in 2016.<br />

<strong>Tax</strong> Professional Research Recommendation: Refer to IRS Publications<br />

560 - Retirement Plans for Small Business/SEP, SIMPLE and Qualified Plans,<br />

and Publication 571 - <strong>Tax</strong> Sheltered Annuity Plans (§403(b) Plans) for<br />

Employees of Public Schools and Certain <strong>Tax</strong>-Exempt Organizations.<br />

5-16


G. Employer Deferral Plans and §401(K); §403(B) and §457(B) Roth Elections<br />

• Option to treat §401(k), §403(b), §457(b) contributions as<br />

Roth contributions<br />

• Distributions subjected to Required Minimum Distributions<br />

Rules (RMD)<br />

1. In <strong>2015</strong>, the contribution limit the elective deferrals to §401(k), §403(b), and<br />

§457(b) plans is $18,000 and $__________? in 2016.<br />

2. The catch-up rule for taxpayers age 50 or older also applies. It is increased to<br />

$6,000 for <strong>2015</strong> and $____________ for 2016.<br />

3. The law provides that participants in certain §401(k), §403(b), and §457(b)<br />

plans can elect to have all or a portion of their deferral amount treated as<br />

Roth contributions. In order to do so, a separate account must be set up by<br />

the plan sponsor.<br />

4. Deferrals treated as Roth contributions will be included in the individual’s<br />

income in the year of deferral. Form W-2 Box 14 indicates an elected Roth<br />

contribution “AA” for §401(k) plan, “BB” for a §403(b), plan and “EE” for<br />

§457(b).<br />

TAX PROFESSIONAL ALERT: Qualifying distributions from the<br />

account will be tax-free, but regulations impose the required minimum<br />

distribution rules (RMD) at age 70½.<br />

5-17


H. Profit Sharing Plans<br />

Profit-Sharing Plans<br />

Maximum deductible contribution percentage: 25%<br />

Compensation limit: $265,000 in <strong>2015</strong> and $ in 2016<br />

Contribution limit: $53,000 in <strong>2015</strong> and $ in 2016<br />

1. The law provides several favorable provisions regarding contributions to<br />

employer profit-sharing plans, SEPs and Keoghs.<br />

2. The maximum allowable contribution percentage is 25% of compensation.<br />

3. A profit-sharing plan can have a 25% contribution rate. <strong>Tax</strong>payers can benefit<br />

from a 25% rate without having to use a plan like a money purchase pension<br />

plan that requires mandatory contributions each year.<br />

4. In <strong>2015</strong> the maximum allowable profit-sharing contribution for a participant,<br />

including a self-employed person, is $53,000. In 2016 the amount is $ .<br />

<strong>Tax</strong> Professional Research Recommendation: Refer to IRS Publication 560<br />

- Retirement Plans for Small Business (SEP, SIMPLE and Qualified Plans)<br />

I. §408(d)(8) Individual Retirement Accounts and Qualified Charitable<br />

Distributions<br />

<strong>Tax</strong> Professional Expiration Notice: This provision expired on 12/31/2014 and<br />

is awaiting legislation.<br />

1. §408(a)(6) provides that the required minimum distribution (RMD) rules<br />

under §401(a)(9) for qualified retirement plans must be applied to traditional<br />

IRAs.<br />

2. §170 provides that an individual taxpayer may be eligible to deduct<br />

contributions made to charitable organizations described under<br />

§170(b)(1)(A).<br />

3. §408(d)(1) provides a general rule for the tax treatment of distributions that<br />

any amount paid or distributed out of an individual retirement plan shall be<br />

included in gross income by the payee or distributee in the manner provided<br />

under the annuity rules of §72.<br />

5-18


<strong>Tax</strong> Professional Education Point: If a taxpayer made nondeductible<br />

contributions to a traditional IRA, then a portion of each of the distributions<br />

would be nontaxable until all the nondeductible contributions have been<br />

recovered. This amount is calculated by multiplying the ratio of nondeductible<br />

contributions over the account balance by the amount of the total distribution<br />

during the tax year.<br />

Nondeductible Contribution X Distribution<br />

Account Balance<br />

= Exclusion Amount<br />

4. §408(d)(8)(A) provides a special rule for distributions for charitable<br />

purposes. It provides that in general, the aggregate amount of qualified<br />

charitable distributions with respect to a taxpayer made during any taxable<br />

year which does not exceed $100,000 shall not be includible in gross income<br />

of such taxpayer for the tax year.<br />

<strong>Tax</strong> Professional Note: The $100,000 exclusion amount is for each<br />

individual IRA owner, therefore for the purpose of married taxpayers filing<br />

jointly both taxpayers are permitted to make the distribution from their<br />

individual accounts per IRS Notice 2007-7 Sec. IX, Q&A 34. (2007-5 IRB<br />

395).<br />

5. §408(d)(8)(B) defines a qualified charitable distribution as:<br />

a. Any distribution from an IRA plan which is made directly by the trustee<br />

to a §170(b)(1)(A) charitable organization; and<br />

b. The distribution is made on or after the date the individual for whose<br />

benefit the plan is maintained has attained age 70 ½.<br />

In other words the taxpayer is subject to the required minimum<br />

distribution rules.<br />

NOTE: Distributions to a §509(a)(3) private foundation and a §4966(d)(2)<br />

donor advised fund will not be a qualified charitable distribution.<br />

5-19


TAX PROFESSIONAL ALERT: The rules are specific to direct transfers<br />

by the IRA trustee to the qualifying charitable organization; therefore, a<br />

distribution to the taxpayer who then transfers the IRA to the charity does<br />

not receive an exclusion. While the charitable deduction will be allowable<br />

the inclusion will increase the taxpayer’s adjusted gross income which<br />

triggers issues with other provisions.<br />

<strong>Tax</strong> Professional Reminder: The exclusion from income does not apply to<br />

distributions made from §408(k) SEPs, or §408 SIMPLEs.<br />

6. §408(d)(8)(D) provides that the annuity rules of §72 will not apply if the<br />

aggregate qualifying distribution is not greater than $100,000 and that the<br />

entire distribution will be deemed to be income first. The committee reports<br />

provide examples.<br />

EXAMPLE: An individual who is over 70½ years old has a traditional IRA<br />

of $100,000. $80,000 is deductible contributions and growth. $20,000 is<br />

nondeductible contributions. The trustee made a direct distribution to a<br />

qualifying charitable organization of $80,000. Under the annuity rules of §72<br />

a portion of the distribution is a nontaxable return of nondeductible<br />

contributions.<br />

Current year distribution $80,000 x Nondeductible contribution $ 20,000<br />

Total value $100,000<br />

= $16,000 return of nondeductible contribution<br />

Total Distribution $80,000<br />

Less: Nondeductible Portion (16,000)<br />

<strong>Tax</strong>able Portion §72 $64,000<br />

However, under §408(d)(8)(D) the entire distribution is deemed to consist of<br />

income first and therefore, the entire $80,000 is treated as a taxable income<br />

and the entire $80,000 is deemed to be a qualifying charitable deduction.<br />

As a result nothing is includible in income and the charitable contribution is<br />

not deducted. Also, the remaining $20,000 in the IRA is deemed to be Don’s<br />

$20,000 of nondeductible contributions and therefore, will not be taxed<br />

when distributed.<br />

5-20


<strong>Tax</strong> Professional Note: An owner of an IRA who makes an IRA qualified<br />

charitable distribution in an amount which is at least the amount of the RMD<br />

for that tax year is deemed to have satisfied the RMD required under<br />

§408(a)(6) and will not be required to take another RMD.<br />

7. §408(d)(8)(E) provides that a charitable contribution shall not be taken for<br />

the tax year of the qualifying distribution.<br />

No double dipping allowed!<br />

8. On January 10, 2007 IRS issued Notice 2007-7 (2007-5 IRB) which<br />

provides that if a check from an IRA made payable to an eligible charitable<br />

organization is delivered by the IRA owner to the organization, then the<br />

payment is treated as a direct payment to the charity.<br />

EXAMPLE: Ennis T. Pea’s IRA plan administrator provides a checkbook to<br />

IRA owners. Ennis wrote a check for $5,000 from this IRA and delivered it<br />

directly to his charity. This transaction qualifies for the exclusion.<br />

9. The notice also states that the IRA may distribute a payment to the charity<br />

even if the taxpayer had an outstanding pledge to the charity.<br />

TAX PROFESSIONAL RED ALERT: In order for the transfer to be<br />

excludible the charitable contribution must be entirely deductible which<br />

means that the donor must obtain sufficient substantiation by the filing date<br />

of the return to support the exclusion.<br />

Effective Date: The <strong>Tax</strong> Increase Prevention Act of 2014 (P.L. 113-295),<br />

signed into law on December 19, 2014, extended this provision only through<br />

December 31, 2014. Therefore this provision has expired as of this writing.<br />

J. §408(A)(e) Allows More Rollovers to Roth IRA Plans<br />

1. Prior to the 2006 Pension Protection Act, a taxpayer could only roll over a<br />

distribution from a traditional IRA or a Roth IRA in order to have a “qualified<br />

rollover contribution” to a Roth IRA.<br />

5-21


2. Under the provisions of the 2006 Pension Protection Act beginning in 2008<br />

§408A(e)(2)(B) allows rollover distributions from:<br />

a. Qualified plans,<br />

b. §403(b) plans, and<br />

c. §457 governmental plans.<br />

3. The income will be includible in gross income, but the §72(t) penalty will not<br />

apply.<br />

4. Under the provisions of the Worker, Retiree and Employer Recovery Act<br />

of 2008, distributions will also be permitted to be eligible for rollovers to Roth<br />

IRAs if the distribution is from a “designated Roth account.”<br />

5. A “designated Roth account” is a separate account under a qualified cash or<br />

deferred arrangement (CODA) in a qualified plan or a §403(b) plan:<br />

a. to which “designated Roth contributions” are permitted to be made in lieu<br />

of elective deferral contributions, and<br />

b. which satisfies the qualified Roth contribution program requirements<br />

which include:<br />

i. establishing a separate designated Roth account for each employee;<br />

and<br />

ii.<br />

rules concerning allocations and forfeitures.<br />

6. A distribution from a designated Roth account to a Roth IRA is a qualified<br />

rollover and a tax-free transaction.<br />

K. §402(l) Limited Exclusion from Government Pension Plans Available for<br />

Retired Public Safety Officers (PSO)<br />

1. The general rule of §72 provides that distributions from a qualified retirement<br />

plan are includible in gross income except for the portion which represents a<br />

return of the recipient’s investment in the plan.<br />

5-22


2. Prior to the 2006 Pension Act, the law did not provide for any exclusion for<br />

amounts distributed from the plan that was used to pay for health and longterm<br />

care insurance of public safety officers.<br />

3. As a result, the 2006 Pension Act §402(l)(1) provides a general rule that in<br />

the case of an employee who is an eligible retired public safety officer who<br />

makes an election with respect to any taxable year, gross income does not<br />

include any distribution from an eligible retirement plan to the extent that the<br />

aggregate amount of the distributions does not exceed the amount paid on<br />

behalf of such employee for qualified health insurance premiums of the<br />

employee, spouse or dependents (as defined under §152) for such taxable year.<br />

4. §402(l)(2) provides that the amount which may be excluded from gross<br />

income for the taxable year shall not exceed $3,000.<br />

5. §402(l)(4)(A) defines an “eligible retirement plan” as a governmental plan<br />

described in:<br />

a. §403(a) qualified annuity plan;<br />

b. §403(b) tax sheltered annuity plans;<br />

c. §414(d) governmental plans; or<br />

d. §457(b) eligible deferred compensation plan.<br />

TAX PROFESSIONAL ALERT: IRS Notice 2007-07 states that the<br />

eligible government plan is not required to offer such election.<br />

6. §402(l)(4)(B) defines the term “eligible retired public safety officer” to mean<br />

an individual who, by reason of disability or has attained normal retirement<br />

age, has separated from service as a public safety officer with the employer<br />

who maintains the eligible retirement plan from which distributions subject to<br />

the rules are made.<br />

TAX PROFESSIONAL ALERT: The exclusion is not available to surviving<br />

spouses or dependents after the public safety officer dies. (IRS Notice 2007-<br />

7).<br />

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7. §402(l)(4)(C) defines a “public safety officer” to have the same meaning given<br />

under §1204(9)(A) of the Omnibus Crime Control and Safe Streets Act of<br />

1968. This would, therefore, include law enforcement officers, firefighters,<br />

rescue squad workers and ambulance crew members. IRS Notice 2007-7 also<br />

includes chaplains.<br />

<strong>Tax</strong> Professional Note: New law. Effective for distributions made after<br />

December 31, <strong>2015</strong>, the category of eligible governmental workers who can<br />

qualify for the §72(t)(10) exception is broadened to include specified federal<br />

law enforcement officers, customs and border protection officers, federal<br />

firefighters, and air traffic controllers who have similarly reached age 50<br />

(§72(t)(10)(B), as amended by Act Sec. 2(a)), and the types of plans from<br />

which distributions eligible for the exception can be made is broadened to<br />

include defined contribution plans and other types of governmental plans.<br />

(§72(t)(10)(A), as amended by TPA Act Sec. 2(b)). Additionally, the fact<br />

that a <strong>Federal</strong> public safety worker takes such newly permissible<br />

distributions will not constitute a modification of substantially equal periodic<br />

payments under §72(t)(4)(A)(ii). (§72(t)(4)(A)(ii), as amended by TPA Sec.<br />

2(c)).<br />

8. §402(l)(4)(D) defines “qualified health insurance premiums” as premiums for<br />

coverage by an accident or health insurance plan or qualified long-term care<br />

contract for:<br />

a. the eligible retired public safety officer,<br />

b. his/her spouse, and<br />

c. dependents.<br />

<strong>Tax</strong> Professional Note: The committee report states that the premiums do not<br />

have to be paid to a plan that is sponsored by the employer.<br />

9. §402(l)(5) provides that a direct payment to the insurer is required from the<br />

eligible retirement plan.<br />

10. §402(l)(6)(A) provides that the election is made by an employee after<br />

separation from service.<br />

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<strong>Tax</strong> Professional Note: There is no time limit after separation of service for<br />

making the election.<br />

11. §402(l)(7) provides that no double dipping will be permitted. Therefore, no<br />

§213 medical deduction will be allowed on Schedule A and no deduction will<br />

be allowed under §162(l) for self-employed medical premiums for<br />

determining AGI.<br />

EXAMPLE: Ennis T. Pea is a retired Public Safety Officer (PSO) who<br />

acquires health insurance coverage for his family and has the premiums<br />

deducted from his government pension. The total premium is $4,500 and his<br />

gross pension in Box 1 of Form 1099-R is $90,000. The total distribution of<br />

$90,000 is required to be reported on line 16a of Form 1040 and next to line<br />

16b (“PSO”) should be entered indicating his status and the net pension<br />

includible in Ennis’s gross income is only $87,000. The excess medical<br />

premium of $1,500 is includible with any additional medical expenses on<br />

Schedule A subject to the 10% AGI threshold if Ennis is not age 65 and 7<br />

1/2% AGI limitation if he is 65 or older in 2013-2016. Note that after Ennis’<br />

death his surviving spouse is not allowed to continue this $3,000 exclusion.<br />

L. §401(a)(36) Distributions During Working Retirement<br />

1. §401(a)(36) provides that a qualified trust may be able to distribute pension<br />

benefits to an employee who:<br />

a. has attained age 62, and<br />

b. who has not separated from employment at the time of such distribution.<br />

EXAMPLE: Ennis T. Pea is age 62 and he would like to take a distribution<br />

from his employer’s pension plan in <strong>2015</strong> in order to buy a boat and pay down<br />

his mortgage before he retires from his job three years from now. This<br />

distribution is includable in his gross income but there is no penalty and he<br />

does not have to take a series of distribution in subsequent years.<br />

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2. For purposes of ERISA rules, this qualified trust is an employee pension<br />

benefit plan fund, or program established or maintained by an employer or an<br />

employee organization or by both that, by its express terms, or surrounding<br />

circumstances:<br />

a. provides retirement income to employees; or<br />

b. results in a deferral of income by employees for periods extending to the<br />

termination of covered employment or beyond, regardless of the method<br />

of calculating contributions made to, or benefits under the plan or the<br />

method of distributing benefits from the plan.<br />

3. These pension plans under ERISA are generally subject to:<br />

a. participation and vesting requirements,<br />

b. funding rules, and<br />

c. ERISA fiduciary responsibility provisions.<br />

M. §414(d) Distributions to Qualified Public Safety Employees<br />

1. §72(t)(10)(A) provides that in the case of a distribution to a qualified public<br />

safety employee from a governmental plan under §414(d) who after attaining<br />

age 50 has separated from service, will not be assessed the 10% early<br />

withdrawal penalty.<br />

2. §72(t)(10)(B) defines a qualified public safety employee as any employee of<br />

a state or political subdivision of a state who provides police protection, firefighting<br />

services, or emergency medical services for any area within the<br />

jurisdiction of such state or political subdivision.<br />

<strong>Tax</strong> Professional Note: New law. Effective for distribution made after<br />

December 31, <strong>2015</strong>, the category of eligible governmental workers who can<br />

qualify for the §72(t)(10) exception is broadened to include: specified<br />

federal law enforcement officer, customs and border protection officers,<br />

federal firefighters, and air traffic controllers who have similarly reached age<br />

50 (§72(t)(10)(B), as amended by Act Sec. 2(a)), and the types of plans from<br />

which distributions eligible for the exception can be made is broadened to<br />

include defined contribution plans and other types of governmental plans.<br />

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(§72(t)(10)(A), as amended by TPA Act Sec. 2(b)). Additionally, the fact<br />

that a <strong>Federal</strong> public safety worker takes such newly permissible<br />

distributions will not constitute a modification of substantially equal periodic<br />

payments under §72(t)(4)(A)(ii). (§72(t)(4)(A)(ii), as amended by TPA Sec.<br />

2(c)).<br />

EXAMPLE: Ennis T. Pea is age 50 and retires from the police department on<br />

November 1, <strong>2015</strong>. He becomes a tax professional and receives a distribution<br />

of $25,000 from his pension to carry him until tax season begins. The $25,000<br />

reported to him in Box 1 of Form 1099-R is includible in his gross income<br />

but not subject to the 10% §72(t) penalty for early withdrawal of his pension<br />

even though he has not reached age 59½ at the time of the distribution.<br />

TAX PROFESSIONAL ALERT: The exception does not apply to amounts<br />

distributed from an IRA or other qualified plan which had been received as a<br />

rollover from a governmental defined benefit plan (IRS Notice 2007-7).<br />

N. §108 Home Mortgage Debt Relief Expired After 12/31/2014<br />

<strong>Tax</strong> Professional Expiration Notice: As of this writing this provision has<br />

expired.<br />

1. §108(a)(1)(E) provides that principal residence debt discharged on or after<br />

January 1, 2007 and before January 1, 2014, is excluded from gross income.<br />

2. The law provides that gross income does not include any discharge of<br />

qualified principal residence indebtedness. A taxpayer can exclude up to $2<br />

million of mortgage debt forgiveness on their principal residence.<br />

<strong>Tax</strong> Professional Note: The committee report states that this exclusion<br />

applies whether there is a restructure of debt or the taxpayer loses the<br />

residence in a foreclosure.<br />

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EXAMPLE #1: Before the 2007 Mortgage Relief Act there were no special<br />

rules applicable to discharge of indebtedness of acquisition debt on a<br />

taxpayer’s principal residence. The taxpayer was not in bankruptcy and was<br />

not insolvent and had a property subject to a $200,000 mortgage debt for<br />

which he was personal liability. The creditor foreclosed and the home was<br />

sold for $180,000 in satisfaction of the debt. As a result the taxpayer had<br />

$20,000 of discharge of indebtedness which was included in ordinary income.<br />

The result would have been the same if the creditor had also restructured the<br />

loan and reduced the debt to $180,000.<br />

EXAMPLE #2: As a result of the 2007 Mortgage Relief Act the taxpayer<br />

does not have to include the $20,000 in income because of the exclusion rule.<br />

The result would be the same whether the creditor restructures the loan and<br />

reduces the principal amount to $180,000 or forecloses on the property and<br />

satisfies the $200,000 debt with an $180,000 transaction.<br />

3. §108(h)(4) provides that if any loan is discharged, in whole or in part, and<br />

only part of the loan is qualified principal residence indebtedness, then the<br />

mortgage forgiveness exclusion applies only to the amount discharged that<br />

exceeds the amount of the loan (as determined immediately before the<br />

discharge) which is not qualified principal residence indebtedness.<br />

EXAMPLE: The taxpayer’s principal residence is secured by a debt of<br />

$600,000, of which $400,000 is qualified principal residence indebtedness. If<br />

he residence is sold for $300,000 and $300,000 of debt is discharged, only<br />

$100,000 of the debt discharged may be excluded as follows:<br />

Total debt ..................................................................................................................... $ 600,000<br />

Qualified principal residence debt .................................................................................(400,000)<br />

Nonqualified debt .........................................................................................................$ 200,000<br />

Total debt forgiveness ...................................................................................................(300,000)<br />

Exclusion for home mortgage debt relief .................................................................... $(100,000)<br />

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The remaining $200,000 of nonqualified debt may qualify in whole or in part<br />

for one of the other exclusions (e.g., the insolvency exclusion). The taxpayer<br />

must report the transaction on Form 982 Reduction of <strong>Tax</strong> Attributes Due to<br />

Discharge of Indebtedness (and Section 1082 Basis Adjustments). The<br />

taxpayer will also be issued Form 1099-C Cancellation of Debt by the<br />

creditor by no later than January 31 following the year of debt forgiveness.<br />

4. §108(h)(2) provides that qualified principal residence indebtedness is<br />

acquisition indebtedness under §163(h)(3)(B) with respect to the taxpayer’s<br />

principal residence, with a $2 million limit ($1 million for married individuals<br />

filing separately).<br />

5. §108(h)(5) provides that “principal residence” has the same meaning as under<br />

the home sale exclusion rules of §121.<br />

<strong>Tax</strong> Professional Reminder: Acquisition indebtedness of a principal<br />

residence is indebtedness, incurred in the acquisition, construction, or<br />

substantial improvement of an individual’s principal residence that is<br />

secured by the residence. It includes refinancing of debt to the extent the<br />

amount of the refinancing does not exceed the amount of the refinanced<br />

indebtedness. (Joint Committee on <strong>Tax</strong>ation JCX-86-07)<br />

6. §108(h)(1) provides that the basis of the taxpayer’s principal residence is<br />

reduced by the excluded amount, but not below zero.<br />

TAX PROFESSIONAL ALERT: The mortgage forgiveness exclusion<br />

only applies with respect to a taxpayer’s principal residence. Therefore,<br />

while interest for a taxpayer’s second home may be deductible, debt forgiven<br />

with respect to a taxpayer’s second home is not excludible.<br />

7. §108(a)(2) provides that an insolvent taxpayer (other than one in a Title 11<br />

bankruptcy) can elect to have the mortgage forgiveness exclusion not apply<br />

and can instead rely on the §108(a)(1)(B) exclusion for insolvent taxpayers.<br />

8. If there is a gain on the foreclosure of a principal residence, then it may be<br />

partially or completely excluded from gross income under the provisions of<br />

§121.<br />

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9. If the taxpayer did not qualify for the 2-out-of-5 year ownership and use test,<br />

then one could still qualify for the partial exclusion due to a change in<br />

employment, health or “unforeseen circumstances.” Reg.§1.121-3 states that<br />

safe-harbor events such as an involuntary conversion, job loss, and events,<br />

are identified by the IRS as “unforeseen circumstances.”<br />

10. The law requires that IRS Form 982 be attached to the taxpayer’s return if<br />

any debt forgiven is excluded from income.<br />

11. Most taxpayers who are affected by this exclusion rule will be required to<br />

fill out only a few lines on Form 982. In Part I under General Information a<br />

taxpayer will:<br />

a. check box 1(e) which is Discharge of qualified principal residence<br />

indebtedness;<br />

b. enter on line 2 the total amount of discharged indebtedness excluded<br />

from gross income; and<br />

c. enter on line 10b the amount applied to reduce the basis of the principal<br />

residence.<br />

12. The instructions to Form 982 alert taxpayers that debt discharge under Title<br />

11 bankruptcy cannot be treated as a discharge of qualified residence<br />

indebtedness and should follow the instructions for nonbusiness debt and<br />

check box 1a. Also, if the taxpayer is insolvent, then the taxpayer can elect<br />

to follow the insolvency rules and check box 1b and follow the Form 982<br />

instructions for a nonbusiness debt.<br />

13. Lenders are required to issue IRS Form 1099-C by January 31 following<br />

the year of debt forgiveness for taxpayers whose debt was reduced or<br />

eliminated.<br />

14. The Form 1099-C must report the amount of debt forgiven and the fair<br />

market value (FMV) of any property given up through foreclosure. The IRS<br />

states that taxpayers review the form carefully and notify the lender<br />

immediately if any of the information reported is incorrect and cautions that<br />

special attention should be paid to the amount of debt forgiven in Box 2 and<br />

the FMV in Box 7.<br />

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15. The most difficult issue that the taxpayer faces is the FMV at the time the<br />

debt is discharged. Generally FMV is the price at which the property is sold<br />

or if no sale takes place, a willing buyer and willing seller would agree to a<br />

given price where neither is under any pressure to buy or sell and are aware<br />

of all the facts surrounding the condition of the property.<br />

16. In a situation where the taxpayer has to surrender the property to the creditor<br />

in an exchange for a cancellation of debt, the taxpayer may not agree with<br />

the FMV reported on the Form 1099-C. In this circumstance if the taxpayer<br />

could afford a professional appraisal of the property prior to the transfer of<br />

the property, then this may be a better course of action in order to determine<br />

the proper FMV.<br />

<strong>Tax</strong> Professional Research Recommendation: IRS Publication 4681<br />

Cancelled Debts, Foreclosures Repossessions and Abandonments.<br />

O. §6050W Returns Relating to Payments Made in Settlement of Payment Card<br />

and Third Party Network Reporting: Form 1099-K<br />

1. Proprietors, merchants and other business taxpayers frequently receive<br />

income through their customers’ use of credit or debit cards. The use of such<br />

payment cards creates a paper trail that previously had not been reported to<br />

the IRS.<br />

2. §6050W(a) provides that a payment settlement entity (PSE) shall prepare a<br />

return for each calendar year setting forth:<br />

a. The name, address and TIN of each participating payee to whom one or<br />

more payments in settlement of reportable transactions are made; and<br />

b. The gross amount of the reportable transactions with respect to each such<br />

participating payee.<br />

<strong>Tax</strong> Professional Education Fact: The law states that such return shall be<br />

made at such time and in such manner as the Secretary may require by<br />

regulations. As a result the IRS has designed Form 1099-K, Merchant Card<br />

and Third Party Payments.<br />

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3. The legislation also amended §3406(b)(3) relating to backup withholding and<br />

requires the reporting party to provide the IRS with the merchant’s TIN. If the<br />

reporting party cannot provide this information then it would be required to<br />

withhold federal income tax at 28% of the merchant’s gross payment amount.<br />

P. §164(b)(5) Election to Claim an Itemized Deduction for State And Loc