President Obama's 2015 Tax Proposals

http://www.whitehouse.gov/sotu

The tax plan that President Obama released along with his State-of-the-Union speech has several new items that have not been in his list of tax proposals of the past few years. It seems that the proposal getting the most attention in the press is the one to cut back on the exclusion of gains that exist in assets at the date of death of the owner. This has been in the law for a long time and people with highly appreciated assets count on it to maximize their estate and what they can leave to their heirs and others.

A few observations:

• Per the Joint Committee on Taxation 2014 report on tax expenditures, this exclusion "costs" about $32 billion per year.  The revenue raised would likely be less than this as President Obama says some assets will be exempt from the income hit, such as:
  
  Capital gains up to $100,000 per individual.
  Exemption for a home of $250,000.
  Bequests of clothing and small family heirlooms.
  
  Of course, the above if fairly nominal and most individuals will die without having the exempted amounts noted above. The big hit is for wealthy individuals.  President Obama notes that the proposal should reduce the current incentive to hold onto assets rather than sell them so this could have some positive effect on the market and economy.  He is likely also trying to address the growing reality that most wealth is in the hands of a small number of individuals. Seems he would use the funds generated to help pay college costs of more individuals. Something likely good for the economy.
• What happened to his proposal to limit the tax benefit of itemized deductions, tax-exempt interest income and the exclusion for employer-provided health coverage?  He estimated that would raise about $62 billion per year (see FY2015 Greenbook, page 282).

What will be the next steps?  If tax reform is going to happen something this year or next, the tax committee members will need to work with President Obama to set goals for reform and find common ground.

I think everyone will also have to get past the notion that some of our longstanding tax breaks need to stay.  The only ones that really need to stay is the standard deduction and personal exemptions as they serve to ensure that some amount of income is untaxed as people need it to live on. The untaxed step-up in basis at date of death, the mortgage interest deduction, exclusion for employer-provided health care, property tax deductions on multiple homes and beyond the value of a basic home, and many others are not crucial for raising revenue (which is the purpose of tax). Their removal would make the system simpler and allow for a lower rate.

What do you think?

Due diligence for preparing 1040s for 2014

What's new for due diligence for 2014 individual tax returns?  Virtual currency, Affordable Care Act, FBAR, Airbnb rentals, for sure.  Also, the typical charitable contributions, mortgage interest and 1099-K review.  The biggest new item for 2014 will the new line asking if the individual had health coverage for the year.

I've got a short article that includes a suggestion for getting information from a client to complete the health coverage line (line 61 on the 1040; also on 1040A and 1040EZ).  See the 1/15/15 issue of the AICPA Tax Insider - here.

Anything I missed?  What about tax law complexity of even more lines on the tax return?

National Taxpayer Advocate report to Congress released

On 1/14/15, Nina Olson, the National Taxpayer Advocate released her required annual report to Congress about problems with the tax system. As noted on the NTA website, the key parts of this 700+ page report are:

• Most Serious Problems
• Legislative Recommendations
• Most Litigated Issues
• Volume 2: TAS Research and Related Studies

 Some key points noted include:

• Tax law complexity (here + Executive Summary)
• The need to put taxpayer bill of rights into the Internal Revenue Code (here)
• Problems due to inadequate funding of the IRS (here + Executive Summary)
• The burden many taxpayers will face from Affordable Care Act provisions (here)
• The need to provide tax return assistance to low income individuals (here)

A few surprises (for me, so far - I haven't read it all yet)

• No mention of any need to modify Section 330 of Title 31 to allow the IRS to regulate all return preparers. The NTA was one of the first offices to call for such regulation years ago. It was noted in the 2013 report.
• No mention of the continued low level of binding guidance issued by the IRS while we instead get lots of FAQs, Chief Counsel Advice memorandums and information letters. The NTA has noted this issue before though.
• Failure of the IRS since 2003 to issue its required annual tax law complexity report to Congress (details here).
• One of the top litigated issues for the past year was Section 469 on passive loss limitations with 28 opinions between 6/1/13 and 5/31/14 (details here). The IRS won 23 of the 28 decisions.

I'll likely have more later.

What do you think?

HR 30 - Defining full-time worker for ACA has costs

The Affordable Care Act (ACA) imposes a penalty on "applicable large employers" starting in 2014 (changed to 2015 by the Administration). An ALE is an employer with 50 or more full-time or full-time equivalent workers. A full-time worker is one who works on average, 30 hours per week, or 130 hours per month.

There have been proposals to increase the threshold from 30 to 40, including this week - H.R. 30 of the new 114th Congress. Full-time employee is relevant in determining if an employer is an ALE, but more significantly, it is relevant in describing which employee the ALE has to offer coverage to (as well as the employee's dependents up to age 26), in order to avoid the employer mandate penalty (IRC Section 4980H).  An ALE only owes a penalty if one of its full-time employees obtains a Premium Tax Credit. The change from 30 to 40 means there are fewer employees the ALE has to offer coverage to and reduced exposure for such employees obtaining a PTC.

Sounds good for the ALEs.  But, the cost to the government could be high.  With fewer employees offered coverage from their employer (who wants to avoid a penalty), more employees are eligible to obtain Medicaid or insurance in the Marketplace (federal or state exchange).  Many of those getting insurance in the Marketplace would be eligible for a PTC.  Of course, when the employer offers coverage and subsidizes it (also necessary for the ALE to fully avoid penalty exposure), there are costs in that the employer deducts what it pays for the insurance and that income is excluded by the employee.

The Congressional Budget Office has a report on H.R. 30 which goes into more details on this issue. Per CBO's summary: "CBO and JCT estimate that enacting H.R. 30 would increase budget deficits by $18.1 billion over the 2015-2020 period and by $53.2 billion over the 2015-2025 period. The 2015-2025 total is the net of $66.4 billion in additional on-budget costs and $13.2 billion in off-budget savings (the latter attributable to increased revenues)."

Other considerations - I've seen news reports in the past about some employers reducing hours of those working on average, 30 or more hours per week, so that employers do not have to offer them coverage. These employees may also favor H.R. 30. But, part of the ACA's "shared responsibility" aspect is to have employers (at least ALEs) share in the cost of health insurance.

What do you think?

ACA - Affordability of health insurance and age

In filing our 2014 tax returns, we will all have to answer a new question (line 61 on the 2014 Form 1040) - did you and everyone in your family (spouses and dependents on the return) have health coverage for every month of 2014.  If anyone was lacking coverage for any month, they must next determine if they meet an exemption. If they do not, they owe the Individual Shared Responsibility Payment (penalty). One of the exemptions that many people might qualify for is that the health insurance available to them was unaffordable. If the employer offered coverage, you look at the cost of that coverage (cost less what employer contributes to that cost). If the employer did not offer coverage, you look at what the cost of coverage would have been in the Marketplace (Exchange). If you would have been eligible for a Premium Tax Credit (Section 36B), you must reduce that cost of Marketplace coverage by the credit you could have obtained.

That is a very quick summary of some fairly complex rules.  I want to point out that the measure of affordability to avoid the penalty is the same for everyone regardless of age, even though insurance costs more as we age.

For example, I pulled this information from the Covered California website (the state exchange for California).  I used a San Jose zip code and bronze level coverage (Bronze 60 PPO) for a single individual who does not have coverage through her employer.  Here is the annual cost of this coverage at these age levels:

25   $2,932
35   $3,452
45   $3,898
55   $5,692
64   $7,679

At an income level of $50,000, the individual is not eligible for a Premium Tax Credit because her income exceeds 400% of the federal poverty line, or $45,960.  For the unaffordable exemption, multiply household income (here, $50,000) by 8%.  If the cost is greater, the coverage is not affordable and this uninsured individual will avoid having to pay the Individual Shared Responsibility Payment.  Well, 8% of $50,000 is $4,000.  So, at age 55 and 64, this individual avoids the penalty and they attach Form 8965 to their return showing they meet the unaffordable exemption (the Form 8965 instructions explain the exemptions, as does Section 5000A and the regulations).

At ages 25, 35, and 45, this individual could have afforded coverage on the Marketplace (based on the 8% factor relevant in determining if the penalty applies). So, unless they meet some other exemption, they will owe the penalty (reported on line 61 of Form 1040; this is the Individual Shared Responsibility Payment).

Given that health insurance costs more as we age, why is 8% of household income the affordability measure for all individuals regardless of age? 

This example also illustrates that the Affordable Care Act does not help everyone get insurance. In this simple example, the individual at age 55 or 64 (or in between) and $50,000 of income, is not eligible for a Premium Tax Credit to subsidize the cost of coverage (because that income amount exceeds 400% of the federal poverty line). If no employer coverage is available and they truly cannot afford the cost of coverage through the Exchange (which likely is as low as they would get outside of the Exchange), they go uninsured.  The rules assume that when insurance costs more than 8% of income, it is unaffordable, yet that same unaffordable income level is too high to qualify for a subsidy (the credit). Something seems out of whack here.  Why doesn't the affordability factor consider age and eligibility for the credit (subsidy)? Or, why don't the credit (subsidy) rules factor in increasing cost of coverage as we age? While these rules may enable an older person to avoid the penalty, they don't result in health insurance coverage.

And one more point - how one spends their monthly income will vary from city to city due to cost of living differences. Here is a report from Zumper for August 2014 showing monthly rent for a one bedroom apartment as $3,100 in San Francisco, but only $590 in Indianapolis. Should availability of a premium tax credit factor in where you live rather than assuming anyone with household income over 400% of the federal poverty line (which is only higher for Hawaii and Alaska; but the same for the 48 contiguous states), can afford the lowest cost bronze level insurance without a subsidy?

What do you think?

For a brief overview to the credit and penalty, see IRS Publication 5187.