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Tuesday, February 7, 2023

More on California Middle Class Tax Refund

Here is my 3rd post on the payments California issued to probably over 90% of Californians per AB 192 (2022) (1/29/23 + 7/10/22).  And others have blogged on it as well. On February 3, Procedurally Taxing had a post from Bob Kammen asking why the IRS hasn't issued guidance. Bob also makes a comment about the high income range of Californians getting AB 192 "relief" payments, with what I think is sarcasm - that $250,000 of income for single or $500,000 if married is "middle class."

My first post last July raised the issue that some very low income individuals without a filing obligation get no payment if they had not filed a 2020 return by 10/15/21 as required by AB 192 which was enacted in June 2022!

Why would the state provide "relief" to people with income high enough to not need relief while leaving out those who do?

The IRS stated last week that it will try to get guidance out on the taxability of various state payments issued recently.  If they can address the California so-called Middle Class Tax Refund (a term used by the FTB), as AB 192 uses the term Better for Families Tax Refund (although AB 192 includes a specific statement that the payments are not income tax refunds). The IRS can clarify to ensure consistent treatment by recipients, although only those who received $600 or more received a 1099-MISC from the FTB. 

Some additional observations from me:

AB 192 has some oddities, such as:

1. It adds section 8161(d) to the Welfare & Institutions Code to say: "The payment authorized by this section shall not be a refund of overpayment of income taxes". This is likely why FTB is issuing 1099-MISC for payments issued in excess of $600 rather than 1099-G for income tax refunds of $10 or more. 

  Query: Can the payments be viewed as refunds of other California taxes? Likely AB 192 would have to say so explicitly as there are many possible sources of the funds and filing status has no bearing on how much other taxes one pays (excise taxes, sales taxes, property taxes, etc.). AB 192 does imply that the payments are refunds of various taxes but with conflicting language that it is not an income tax refund and it isn't available to people with income too law to be required to file an income tax return even though they pay other CA taxes.  Puzzling as to form and substance and intent. If truly intended as a refund of any CA tax, it should be allowed to all Californians if not claimed as a dependent by someone else. If a tax refund, why issue 1099-MISC?

2. Since COVID is still a federally declared disaster, the payments could have been labeled as for financial needs tied to COVID. Instead, Sec. 10 of AB 192 covers more than COVID, providing that "increased costs for goods, including gas, due to inflation, supply chain disruptions, the effects of the COVID-19 emergency, and other economic pressures have had a significant negative impact on the financial health of many Californians". This seems to make the IRC section 139 exclusion for disaster relief payments not applicable.

  A June 28 Assembly Floor Analysis summary of the bill had better wording stating that the economic disruptions stem from the COVID-19 emergency. I don't think this overrides the AB 192 text though that doesn't pin the payment relief solely on the COVID-19 disaster (if it did, I don't think FTB would be issuing 1099-MISC to recipients of $600 or more).

3. I think in the Procedurally Taxing post, Bob is joking when he says $500,000 is middle class in CA.  It is not. Just like for the rest of the country, that amount of income ($250,000 if single; $500,000 if MFJ  or head-of-household) puts someone in the top 3% of income earners. Why were "relief" payments of $600 ($400 if no dependent) given to a married couple with up to $500,000 of income in 2020?  In prior years, Golden State Stimulus payments were given to individuals with up to $75,000 of income - a much better level indicating someone who may be struggling financially.  The GSS payments certainly qualified for the general welfare exclusion.  But when a program's payments are given to individuals in the top 3% of income levels who have no financial or other need that their high income can't address, the general welfare exclusion seems inapplicable. And there was no requirement in AB 192 for anyone to show a need before receiving a payment - see the following three rulings:

In 2015 in Maines, 144 TC 123, the Tax Court stated: ""Grants from welfare programs that don't require recipients to show need have not qualified for the general-welfare exclusion."

In Rev. Rul. 76-131, the IRS stated: "The Alaska Longevity Bonus is distinguished from welfare program payments in that the benefits are payable to any Alaskan meeting the age and residency requirements regardless of financial status, health, educational background, or employment status."

PLR 200651003, the IRS describes the "needs" part of the general welfare exclusion as "generally based on individual or family needs such as housing, education, and basic sustenance expenses."

3. Also troubling about the AB 192 payments is that those most in need who had income too low to be required to file a California return for 2020, did not get any "relief" payment unless they filed by 10/15/21 yet AB 192 was enacted in June 2022!  When the GSS payments were enacted, they went to people who filed their 2020 return by 10/15/21 but those payments were authorized months before that filing date. Yes, if someone filed to get GSS, they also get AB 192 payments, but there are low-income individuals who did not file. Generally, this is a group that doesn't have a tax adviser. [7/10/22 post]

4. Another unfortunate aspect is that it will be lower income individuals getting a 1099-MISC while higher income individuals who received lower amounts won't and unless they remember to put it on their return, they get to keep their entire relief payment while MFJ and HH with under $150,000 of AGI in 2020 will pay tax on their payments if in the $600 to $1,050 range. And some low income individuals, such as a head-of-household filer with no dependent and AGI under $150,000 only received $350 so won't get a 1099 while the MFJ couple with the same income received $700 and will get a 1099-MISC.

It would be nice if the IRS could help provide relief to those truly in need who received an AB 192 payment, but it seems the general welfare exclusion looks at the entire program, not just to the effect on those with a financial or other need and the payments aren't viewed solely for COVID relief. Might the California lawmakers retroactively amend AB 192 to make it a tax refund? Maybe that is the way to go.

What do you think?


Susan Rosenberg said...

Hi Annette,
I passed your post along to Bob, whom I know on another tax forum. You're taking a narrower approach to the General Welfare exclusion than some others I have read. Before I read your post, I was fairly convinced the exclusion applied. Now, I'm thinking some more about the taxability. Hopefully, IRS will rule soon. I only have a handful of clients in CA.

Susan Rosenberg

Bob Kamman said...

You lost me at, “Just like for the rest of the country.” California is not. We see it all the time in Phoenix, where Los Angeles police officers reside and commute to their extended shifts on Southwest because they can’t afford to live in the city they serve and protect. Lately, our housing prices have inflated because of so many California emigrants and investors, but that’s the hazard of living nearby.

I stepped off the IRS career ladder when the next promotion required a pay cut. The 20% salary increase wouldn’t cover the higher cost of San Francisco, and the regional office was the only available GS-12 move from a district GS-11.

In my tax practice, I happened to accumulate a clientele that included many fire captains. Their salaries ranged from $80K, fifteen or twenty years ago, to $120K in recent years before most of them retired. I don’t consider them upper class. I just checked, and fire captains in San Francisco make up to $255K. Making a geographic move, to me, doesn’t mean making a socioeconomic move. They’re still middle class.

The definition of middle class came from your California legislature, not from me. I don’t follow California politics (my son does, but that’s another topic) so I don’t know what, if anything, the legislature did for lower incomes. I am told there is a lot of migration by the poor from Arizona to California because benefits there are more generous. What I see is that California called this “Middle Class” relief (or refund), and the program was designed to be administered with existing tools. The question should not be, “Was it perfect?” but, “Was it better than nothing?”

21st century taxation (Annette Nellen) said...

Bob, Thanks for the comment.

The lawmakers did NOT use the term "middle class tax refund" that came from the FTB ("middle" is no where in AB 192). It is puzzling why FTB used the term. Clearly it wasn't to help the payments qualify for the general welfare exclusion because the FTB is the agency that determined 1099-MISC forms were needed.

$500,000 of income for MFJ or HH or $250,000 for single is very high income given median income is $60K to $75K in California. I don't know what is the cut-off where there is a financial need, but it is certainly isn't someone in the high end of getting an AB 192 payment.

If people ask themselves who they see each week including co-workers who make those high levels, some likely don't know anyone given those are very high income levels and a small number of people. It puts those people in the top 2-3% of income earners and well beyond someone needing a few hundred dollars of financial assistance or general welfare assistance.

Having the CA lawmakers do something to retroactively fix the bill, such as saying it was all for COVID relief or a refund of any type of California tax paid would be the way to go and to find a way to provide relief to very low-income non-filers who got nothing at all yet likely need the financial assistance the most.

21st century taxation (Annette Nellen) said...

Bob - good point. The bill mentions appropriations a few times but it is not clear because that non-statutory language conflicts with language added to the statute that says the payments are not a refund of income taxes *although the non-statute language you note mentions other taxes).

Perhaps that has some other meaning because otherwise, it seems any payments of $10 or more should have been reported on 1099-G rather than reporting payments of $600 or more on 1099-MISC. Or perhaps if truly a refund of non-income taxes, perhaps even 1099-G wasn't needed.

Too bad the statutory text didn't state clearly what the payments are for.


21st century taxation (Annette Nellen) said...

BIG NEWS - on 2/10/23, the IRS issued IR-2023-23 stating that the California payments are not subject to federal income tax. They suggest that California payments as well as those in several other states (see IR for list) likely fall either under §139 for disaster relief payments tied to COVID or the general welfare exclusion.

I'm glad they did not specifically find that the general welfare exclusion applies because given the very high income levels that some Californians have and received payments, that arguably would have ended the general welfare exclusion to the detriment of individuals in financial need.

More later, such as what to do with your 1099-MISC from the FTB.