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Saturday, September 5, 2020

Problems with Payroll Deferral for Employees

There has already been a lot written about the employee payroll deferral President Trump announced on August 8. This allows employers to not withhold the employee's 6.2% OASDI tax for pay periods from 9/1/20 to 12/31/20, but to instead withhold it later.

Late on 8/28/20 (and right before the start of the weekend), IRS released Notice 2020-65 on how this works. Basically, the employers who opt to defer will instead withhold the tax from the employee pay for January 1, 2021 through April 30, 2021, doing so ratable.

It all means that eligible employees will see slightly higher paychecks for the rest of 2020, but smaller ones for January 2021 through April 2021. The 6.2% deferral for four months is just over one week's worth of pay.

What is the point?  Good question!

President Trump wants to get some cash into hands of eligible employees (those with pay under $4,000 for a two-week pay period or equivalent for a different pay period). Yet, not all of these employees need an extra week of cash only to have to pay it back in the first four months of 2021.

And Notice 2020-65 makes it clear this is the employer's liability. If an employee leaves, I assume most employers will take the deferred tax out of the employee's final paycheck. But if they don't or the final check is not enough, the employer has to pay. And once employees who stay know that, they might as well ask their employer to pay their tax too.

A few observations:

  • If your employer pays your 6.2% tax for you, it is wage income.
  • Reprogramming pay systems usually takes more than the few days between August 29 and when the first paycheck are issued after the 9/1 effective date, so how many employers could even start this for pay on 9/1?
  • Notice 2020-65 says that employers "may make arrangements to otherwise collect the total Applicable Taxes from the employee." What does that mean?
  • If an employer opts in, can an employee opt out? Apparently that is up to the employer.
  • Are there other laws that will prevent employers from withholding the deferred tax in 2021? What about minimum wage workers? Is it a violation of the FLSA for an employer to reduce 2021 pay for a 2020 tax that the employer opted to defer until to 2021? Any state law issues?
  • Politics or help? I aim to stay out of politics with this blog, but it seems too problematic here. I hope journalists and voters are on the watch for campaign statements that the president increased the pay of those making under $104,000 without also saying he decreased it for the first four months of 2021 and increased costs for employers due to the processing and the reality that many employers are going to end up paying some portion of the deferred tax.
  • State and local governments need to opt out! The cost of handling this temporary change and being on the hook for the delayed payroll taxes is more than any state or local government should be misspending limited funds on.
  • Federal employees: As reported by Federal News Network, federal employees including those in the military will have to have this liability shift without any option to elect out.
  • Will this deferred tax eventually be forgiven? While the president says he wants to do that, it will take an act of Congress for this to happen. Given the cost and that most employers and employees are not going to opt into this oddity, it is unlikely we'll see forgiveness.
  • Watch for FAQs from IRS to help explain more items not obvious in Notice 2020-65.
What should employees do if their employer, such as the federal government, requires the deferral and they don't want it and cant' opt out?  Seems to be no reason why the employee can't provide a new Form W-4 to the employer asking for additional federal income tax withholding equal to what the deferred 6.2%  OASDI will be (line 4c). So, take home pay for the rest of 2020 will be the same as before 9/1/20.  Then file as early as possible in 2021 to get your refund of the extra tax paid (assuming you were not already under-withheld) and set it aside to help cover reduced paychecks you'll have through the end of April 30. This will be extra work for the employer, but one their system should already be able to handle, unlike this new temporary OASDI deferral.

Here is a nice summary of the memo and Notice 2020-65 from VP Ed Karl of the AICPA.

What do you think?

Sunday, August 23, 2020

Virtual Currency Question Gains Prominence on 2020 Return - Why?

Draft 1040 for 2020 dated 8/18/20

The 2019 Schedule 1 (Form 1040), Additional Income and Adjustments to Income, included a new question at the start of the form:

 "At anytime during 2019, did you receive, sell, send, exchange, or otherwise acquire any financial interest in any virtual currency."

On August 18, 2020, the IRS released the draft 1040 for 2020 and it shows this question has moved to page 1 of Form 1040 right below where you put your name and address.

For 2019, this seemed like an odd question since few individuals out of 150 million have any virtual currency (11% per a 2019 article by CoinTelegraph), and there are better questions to ask that affect far more people and potential income. For example, why not ask:"Did you receive any funds from any web-based or Internet-based activity?"

And either question should have follow up questions, such as:

If yes, is the income reported on the return?

If yes, where?  If no, explain why not, with space provided to do so.

My question would cover virtual currency, renting out property via a web-based platform but not receiving any Form 1099, earning ad revenue from your website, selling goods on eBay or Etsy or similar site.

The form instructions are not yet out but hopefully the IRS will explain the question better for 2020. Some questions and issues:

  • What is “virtual currency” given IRS lack of clarify on this?
  • Why doesn’t IRS use “convertible virtual currency”? Per Notice 2014-21 and other statements, it seems that this is what the IRS is focused on.
  • What if you only moved your VC from one wallet to another, should you check yes?
  • What if you receive VC by gift or something else with no tax consequence? Or receive it as wages and reported it on the wage line?
  • Is IRS expecting a “yes” answer to mean that VC shows up on Schedule D or Form 8949
  • Should you attach an explanation if you check yes but have no reporting obligation?
  • What if a passthrough entity owns it? You need to ask the entity apparently?
  • What if your VC had a fork or airdrop and you didn’t know that?

In February 2020, the IRS modified its answer to a website question "What is Virtual Currency?" Between October 2019 and February 11, 2020, it stated "Bitcoin, Ether, Roblox, and V-bucks are a few examples of a convertible virtual currency." [See IRS website at 1/14/20 from The Wayback Machine.] Afterward, the gaming currency was removed. The IRS explanation was posted on a different website (2/14/20) to note that the change, which they don't describe on this website, was done to "lessen any confusion."  But Roblox and V-Bucks and likely other game currency seems to be convertible virtual currency as you need it to play the game and you get it and can redeem it using USD. So confusion, arguably, is increased with the change.

For more on virtual currency - click here.

What do you think?

Saturday, August 1, 2020

Recovery Rebate Fix Needed by Congress to Not Encourage MFS Filing Status

The CARES Act enacted March 27, 2020 included the 2020 recovery rebate for individuals that provided over 160 million adults with $1,200 to help them with financial challenges during the pandemic (see GAO data). The IRS refers to this payment as the Economic Impact Payment (EIP) and as of today (8/1/20) has provided 70 FAQs to help explain it! The provision added Section 6428 to the Internal Revenue Code.

I was surprised by FAQ 26 and its answer because I would think that if for a married couple one spouse has an SSN and the other has an ITIN which disqualifies that spouse for an EIP, the spouse with the SSN would still have been given $1,200. But that will only happen if they file as Married Filing Separately rather than as Married Filing Jointly.

A26. No, when spouses file jointly, both spouses must have valid SSNs to receive a Payment with one exception. If either spouse is a member of the U.S. Armed Forces at any time during the taxable year, only one spouse needs to have a valid SSN.
If spouses file separately, the spouse who has an SSN may qualify for a Payment; the other spouse without a valid SSN will not qualify.
In reviewing Section 6428, the rationale for this answer seems to be at Section 6428(g)(1)(B) which in explaining the identification number requirement states that a person filing a joint return only gets an EIP if the spouse has an EIN. So, the answer from the IRS appears to be correct.

So, the problem is with the text of the law. I say this because the tax law doesn't encourage using the MFS status over the MFJ status. The tax law provides that when a married couple file separately, there are several favorable rules they will no longer qualify for. These include the Earned Income Tax Credit, the dependent care credit, most education tax breaks, and a few others (see page 7 of Pub 501).

I think the rationale for the harsh treatment for MFS that has existed in the law for a long time is that it is extra work for the IRS to be sure both spouses are not claiming benefits where only one may be allowed to claim them. Generally, MFS is only used where a spouse wants to avoid joint liability for the taxes owed or their combined taxes will be lower with that status (which occurs in rare situations).

I believe Section 6428(g) is incorrect because the tax law should not be encouraging MFS over MFJ. For example, a couple with children where one spouse has an SSN and the other has an ITIN, will need to determine if skipping the $1,200 EIP is better than losing an EITC and other tax breaks. This awful decision should not have to be made - a fix is needed from Congress.

I hope that the next round of COVID legislative relief will correct this by removing Section 6428(g)(1)(B). The IRS can easily tell from a MFJ return that one spouse has an SSN and the other has an ITIN so only issue the EIP to the spouse with the SSN. Thus, (B) at (g)(1)is not needed. This change would also enable the IRS to issue these EIPs based on the 2018 or 2019 returns already filed.

What do you think?

Friday, July 10, 2020

Some Tax Terms Create Confusion, Such as "Automatic"

July 15 - the due date for most 2019 filings as well as the first and second quarters of 2020 income tax payments, being just  few days away, we see reminders from the IRS and state tax agencies.

The other day I saw a statement that you can get an "automatic" extension from the IRS, I thought I had missed something because I thought you still needed to file a Form 4868. I double-checked and you do still need to file the Form 4868 by July 15 to get an extension to file until October 15. So, here, "automatic" meant you don't have to offer a reason to get the extension, you just file the form.

In contrast, in California, an automatic extension means you don't have to do anything other than not file by the "normal" due date. So, here, automatic means it all happens without any action by the individuals. See here and here. You do need to file something if you owe on the due date.

The California usage of "automatic" is similar to the FBAR filing extension. An FBAR is normally due by April 15 for individuals but can be extended to October 15. That extension request is automatic and you don't need to do anything.

So, why not do any of the following to make this clearer and eliminate the likelihood of error (such as not filing Form 4868 by July 15 (normally it is due April 15 but was extended for 2020 due to COVID))?
  • Don't use "automatic" but instead state that you must file Form 4868 to obtain more time to file (but not pay). And state that you do not need to state a reason for needing the additional time.
  • Use two dates: Payments are due by April 15 (July 15 for 2019 returns) and returns are due by October 15.  (The reality is that if you don't need to do anything to get the extra time to file, then isn't the filing date really that later date?)
What do you think?

What other words should be changed to reduce some of the complexity in tax systems and reduce mistakes? btw, I'm all for getting rid of Form 4868 and going with the second option above.

Saturday, June 27, 2020

Are travel tax subsidies a good idea?

On May 18, 2020, President Trump met with some restaurant execs and suggested a few tax law changes to help the industry. This included "restore the restaurant deduction to help jobless restaurant workers" He also suggested: "Create an “Explore America” — that’s “Explore,” right?  Explore America tax credit that Americans can use for domestic travel, including visits to restaurants."

On June 22, 2020, Senator McSally (R-AZ) introduced S. 4031American Tax Rebate and Incentive Program Act (the American TRIP Act). This bill would add new IRC §25E, Travel, Hospitality, and Entertainment Expenses. This bill does the following:

  • Provide a 100% nonrefundable credit on up to $4,000 of expenses for travel and restaurant usage ($8,000 MFJ) + $500 x # qualifying children (under age 17).
  • The credit is for qualifying travel in the U.S. and its territories that is over 49 miles from the taxpayer's home for food, lodging, transportation, live entertainment (including sporting events), expenses related to attending conference or business meeting).
  • For use of a personal vehicle, the amount considered spent is measured using the standard mileage rate in effect under §162(a), with is 57.5 cents/mile for 2020 (this is the rate that includes depreciation so too high for personal travel).
  • The credit is based on travel after 12/31/19 and before 1/1/22 per the text of S. 4031 (so 2020 and 2021). However the sponsor's press release says the credit applies for 2020, 2021 and 2022.
  • Travel to the taxpayer's vacation home is okay if 50 miles or more away, but expenses of the home don't qualify.
  • S. 4031 also allocates $50 million of grant funds to promote tourism and travel in the U.S.
Is this a good idea? Let's consider the likely purpose and how it stacks up against a few principles of good tax policy.

Purpose: Encourage people to travel and spend money at hotels and restaurants and buy airline, bus or train tickets or gasoline, and to support theaters, amusement parks and sporting events. Will it be enough for people to risk exposure to COVID-19? Might it be enough for these facilities to put more protection in place for customers? Might it send a message that travel and interaction with others is safer than it might really be? What about helping other industries such as local restaurants, theaters, fitness centers and stores?

Why is this effective starting on January 1, 2020? This means the credit subsidizes behavior that already took place - a retroactive incentive. That is a waste of funds.  Personally, I was in DC for two extra days as part of a business trip before the pandemic. That would qualify for the credit, meaning that with a 100% credit, all of my fellow taxpayers would subsidize my expenses on those two days. Why? There is no purpose for this subsidy or gift.

Certainly, the effective date should be after enactment, not before.

Equity: Generally a credit is more fair than a deduction because the credit is worth the same amount to all taxpayers. However, this credit is not refundable so it it not available to many taxpayers or won't cover all of their travel even if below the specified credit amounts, but the full credit is easily available to higher income taxpayers, so they get a significant subsidy.

For example, assume a married couple with no children has taxable income of $70,500 in 2020. Their tax liability is $8,065. They should think ahead and take a vacation and spend that much money. Basically, instead of paying that total to the U.S. Treasury, they can spend $8,000 on a vacation and just owe $65 to the government. In contrast, if this couple's taxable income in 2020 is instead $19,000, they owe only $1,900 (less or zero if they are eligible for the EITC, particularly is they have a child). So if they managed to spend $3,000 on their vacation, they get a subsidy of only $1,900.

Simplicity: The terminology seems clear. But, what documentation will need to be maintained and forms completed? 

Minimum tax gap: Might some taxpayers just say they took a trip to get the tax break? Hopefully not but if there is no reporting form, it could happen. Also, the credit is better than a business deduction so self-employed individuals who need to travel for business may be better off making sure the trip doesn't qualify as a business deduction so they can claim the 100% credit instead.

So, while the purpose to help out restaurants and the travel industry may sound good, this large non-refundable credit means that the government (that is, all taxpayers) will in essence, subsidize vacations for individuals with tax liabilities up to $8,000 (more if the married couple has children under age 17). Fairness and the cost to government revenues is a significant issue.

What do you think?