How to be Your Tax Pro’s Favorite Client this Tax Season

How to be a good clientWhy on earth, you may ask yourself, would I care about being a good client to my tax prep professional? I mean, you are a paying client, and aside from treating them with the same decency and respect that you would show any other random person, who cares – right? Wrong!

What’s in it for me?

Honestly, it’s simply in your own best interest to be a good client. Maintaining a positive relationship with your tax professional can benefit you in numerous ways. Your tax preparer bills you in one of three ways: a flat fee (guaranteed); hourly; or a hybrid with a basic flat fee that they’ll only add to if out-of-scope issues/problems come up. Let’s look at each approach in more detail.

First, a scenario where you have a guaranteed flat fee no matter what. In this case, it’s pretty obvious to see that one of a tax preparer’s main incentives is to perform the work correctly and up to professional standards, but as fast as possible; less time equals more money. Here, being a good client means that you give your tax professional more room to be thoughtful about your tax return and even perform some planning/optimizing for the current year or next year. If you can help them prepare your return efficiently, there’s room to spare in providing you with value-added advice.

Second, when you engage a tax pro on a strictly hourly basis, saving them time on the administrative side of the return prep will equate to direct savings in your pocket. When you pay by the hour, you are paying regardless of whether they are calculating or reviewing your return, providing advice, planning, or chasing you down for missing info, open items, questions, etc.

Third, we have the scenario where you have a flat fixed fee unless you add services out of scope or things really go sideways. Here, while most tax preparers will eat a little bit of time, if you cause delays in the preparation process due to incomplete or unorganized information or you are late to respond to questions, there is a good chance you’ll get billed for that time as it wasn’t planned for and was unnecessary.

Finally, making your tax professional’s life easy will simply make you more likable as a client. And we all know that we treat people we like better.

How do I become a great client?

So, at this point, you are asking, how do I become my tax professional’s favorite client? There are a few main areas to consider if you want to establish a good working relationship and make life easier for everyone.

  • Be Organized – The more organized you can be in gathering and submitting your underlying tax documents (W-2, 1099s, etc.) and other necessary information, the better. Many tax preparers will send a tax organizer to help you fill out and organize what you send over. Following this is the best way, but any method that is clear, logical, and complete is best.
  • Submit All Your Information at Once – While it’s not always possible, don’t submit your information until you have everything. Sending over documents piecemeal is a surefire way to cause confusion and delays and makes the process rife for errors. In fact, many CPAs won’t even start a return until they have everything. Again, this isn’t always possible because sometimes a K-1, for example, is not yet available – but that should be an exception to the rule.
  • Be Responsive – To the degree that you can be responsive to follow-up questions from your tax preparer or their staff. This will ensure your return keeps moving, saving time (and therefore billable hours) that stopping and starting creates.

Conclusion

Following these tips will not only help you develop a great relationship with your tax preparer for years to come, but it also will ensure the most accurate and efficient preparation of your return possible.

IRS Plans to Shake Up Leadership

IRS Leadership change 2024The top leadership in the IRS is set to change. IRS Commissioner Daniel Werfel believes the changes are needed for the agency to meet its new goals. He aims to create greater flexibility and efficiency over the agency by streamlining internal processes. The changes also are needed, in his view, to adapt to the evolving landscape around tax administration – which has undergone changes due to new tax laws and technology.

What Are the Changes?

Changes to the organizational structure include reducing the Deputy Commissioner post to a single position (there are currently two); as well as creating four new positions with an IRS chief of taxpayer services, IT, compliance, and operations.

Long Time No Changes

While these changes are set to take place in the beginning of 2024, they are the first changes to take place in a long time for agency leadership. Currently, the highest rungs of the IRS organizational structure dates to the year 2000, over 20 years ago.

The last time changes were made in 2000, the IRS reorganized operations to support taxpayer segments that were the result of the IRS Restructuring and Reorganization Act of 1998.

Single Deputy IRS Commissioner Model

The change over from two at the top to a single deputy IRS commissioner position is modeled after the way the Treasury Department is structured. Doug O’Donnell, current deputy commissioner for Services and Enforcement, will step up to the post.

The Four New Positions

Other key changes in the leadership structure are the creation of four new chief positions, overseeing the areas of taxpayer service, compliance, IT, and operations.

Ken Corbin (currently Wage and Investment Commissioner) is being promoted to Chief, Taxpayer Service. Corbin served in various roles within the IRS since starting his career in 1986 at the Atlanta Service Center. His division will handle taxpayer-centered services, including the toll-free call and taxpayer assistance centers, overseeing tax return processing centers and correspondence with taxpayers.

The Chief, Taxpayer Compliance Officer role will be filled by Heather Maloy. Maloy’s career encompasses both roles within the IRS as well as private practice. Previously, she served as the LB&I Commissioner as well as other roles, including Associate Chief Counsel to a number of IRS divisions. The Chief, Taxpayer Compliance Officer role will oversee compliance work, including operations in the Small Business, Self Employed, Tax Exempt, and Government Entities divisions. She will also be responsible for the Professional Responsibility, Return Preparer, and Whistleblower offices.

The position of Chief Information Officer will be filled by Rajiv Uppal. Uppal’s current role is as the Director of the Office of IT and Chief Information Officer for Medicare and Medicaid Services centers. The Chief IT Officer role will oversee the entire IRS IT division.

Finally, the fourth new position, that of Chief Operating Officer, will be held by Melanie Krause. Krause began working at the IRS in 2021 and currently serves as the Chief Data and analytics Officer. Prior to this, she was the Acting Deputy Commissioner for Services and Enforcement.

Conclusion

Logistically, the changes should occur on the proposed timeline as reorganization changes that do not require a budgetary appropriation amendment. In layman’s terms, the IRS isn’t looking to Congress for any more money, so Congressional approval isn’t needed. As such, the changes are all but certain to take place in early 2024. The result aims to help the organization adapt to recent tax law changes and evolving technology while simultaneously streamlining the organization and making it both more efficient and effective.

The 2023 Tax Planning Guide


It’s that time of year again: time for year-end tax planning. With the end of 2023 coming fast, the time to act is now. In this article, we’ll look at the moves you can make to optimize your tax situation in 2023 as an individual taxpayer.

Itemized Deductions

Flexing your timing on itemized deductions is a solid strategic move. It can help you shift to a bigger itemized deduction in 2023 versus 2024 (but not both). This can be advantageous if you expect to be in a higher tax bracket in one year compared to the other. Key itemized deductions to consider are home interest, state and local taxes, charitable deductions and medical expenses.

Electric Vehicles

If you are in the market for a new car, consider buying an electric vehicle (EV) to save some taxes as well. Many new EVs can get you a credit of up to $7,500 and used versions up to $4,000. The credit is limited based on the cost of the vehicle, with more expensive models ineligible for the tax credit. Generally, the MSRP of a sedan cannot exceed $55,000, and SUVs, trucks and vans cannot be more than $80,000.

In addition to the price limit on the EV itself, the credit is limited by taxpayers’ income levels. Married couples’ modified gross income cannot be more than $300,000 to get the credit on a new EV and $225,000 for a used version. Single taxpayers are capped at $150,000 for a new version or $75,000 for a used EV.

One important distinction here is that if you buy an EV in 2023, you’ll need to claim the credit via your tax return, which means you won’t get the benefit right away. In 2024, however, you can choose to transfer the credit to the car dealer when you buy the vehicle and pay less as a result immediately. So, if you plan to buy now or in early 2024, it may be better to wait if you have the choice.

Home Improvements

There are two tax credits you can get related to making “green” upgrades to your home. The first is the residential clean energy property credit, which is installing alternative energy systems such as solar, wind, geothermal, etc., giving you a credit of up to 30 percent of the materials and cost of installation. The second is the energy-efficient home improvement credit. This applies to smaller upgrades like boilers, central air-conditioning systems, water heaters, windows, etc., that meet qualifications for specific energy efficiency ratings. The credit is for 30 percent of the cost, with $1,200 yearly maximum (from all upgrades).

Charitable Donations

If you are considering making charitable donations, consider donating appreciated property, like stocks or mutual funds, where you have unrealized gains. This way, you’ll get to deduct the full amount of the fair market value without having to sell and pay taxes on the gains first.

Beware Required Minimum Distribution (RMD) Rules for IRAs

The penalty for failing to take your RMD dropped from 50 percent down to 25 percent with the Secure 2.0 Act in 2023, but it is wise to avoid the still hefty penalty. The general rule is that taxpayers 73 and older must take annual payouts, and there is a specific calculation behind it based on your age and account balance. You can also be subject to RMDs at a much younger age if you inherited an IRA. If you don’t feel comfortable making this determination, it’s best to check with your CPA or financial advisor to ensure you withdraw the right amount.

Max Out Retirement Plans

The deadline to fund workplace 401(k) plans is December 31, 2023, while 2023-year IRA contributions are allowed up until April 15, 2024. Taxpayers can contribute up to $22,500 in a 401(k) ($30,000 if age 50 or older); and $6,500 for IRAs ($7,500 if over 50).

Capital Gains and Tax Loss Harvesting

The capital markets have seen a volatile year, and interest rates are at highs not seen in quite some time. This may create situations where tax loss harvesting is advantageous.

Generally, if you have losses in some securities, understand that you can take losses against positions with gains up to the number of gains you realize, plus a maximum of $3,000 against other income. Excess losses are carried forward to future years. So, if you have a combination of winners and losers in your portfolio, consider tax loss harvesting to lower your tax bill.

Beware of the wash-sale rules, however. The wash-sale rules forbid you to sell and then repurchase “substantially identical” securities within 30 days of the sale on loss positions. One nuance here is that cryptocurrencies are not subject to the wash-sale rule as of yet.

Increase Your Withholdings

If you expect to have a hefty tax bill, then it may be wise to have additional amounts withheld from your paycheck or make an estimated payment. This can help you avoid a penalty for underpayment of taxes. As long as you prepay via tax payments or withhold a minimum of 90 percent of your 2023 total tax bill or 100 percent of what you owed for 2022 (110 percent if your 2022 AGI exceeded $150,000), you are clear of the penalty.

Conclusion

As we prepare to enter the final month of 2023, now is the time to take a look at your financial and tax situation to see if there are any moves you can make to minimize your 2023 tax liabilities and maximize your wealth.

New Business Travel Per Diem Rates Announced for 2023-2024

Business Travel Per Diem Rates 2023 2024New per diem rates were recently announced by the IRS and are effective for per diem allowances on or after Oct. 1, 2023. These updated rates include changes for the transportation industry, incidental expenses as well as the high-low substantiation method. Before we dive into the detailed changes impacting per diem rates, let’s revisit the concept of the per diem in general.

To Per Diem or Not to Per Diem

There are two basic ways that employees can be reimbursed for business travel expenses. The first is a direct reimbursement of the actual expenses. The second is the per diem method.

Direct actual expense reimbursement is exactly what it sounds like. For example, a sales employee pays for a plane ticket and meals during a customer visit and then submits an expense report with the receipts as backup. Typically, a company will have a travel and expense policy that limits the expenses allowed – no Michelin star restaurants or first-class flights, for example. Other than this, direct expense reimbursement is simple and straightforward.

The second expense reimbursement method is called the per diem method. The per diem method is basically a pre-package policy of controls for both spending and tax purposes.

Fundamentals of Per Diems

Per diem is Latin for the term for each day. In practice, it is a daily allowance granted to each employee. It covers travel and related business expenses, allowing a fixed amount to cover business travel expenses.

Per diem policies can cover only three types of expenses: lodging, meals, and incidentals (anything else must be directly reimbursed). A per diem policy does not need to cover all three, however. An employer can use the per diem only for meals, for example, and deal with lodging under the direct actual expense reimbursement method. Also, the per diem method cannot cover transportation expenses or mileage reimbursement.

Taxation of Per Diems

Per diems are generally not taxable, and no withholding tax on the payments is necessary. The exception to this is if an employee does not provide or provides incomplete expense report information – or if you give the employee a flat amount that is in excess of the maximum allowance (with the excess being taxable).

Two Types of Per Diems

Per diem rates can be determined in one of two ways: either the standard rate or using the high-low method.

The standard rate is a fixed rate, whereas the high-low method is based on the cost of living being higher or lower in different locales. Under the high-low method, for example, Boston gets a higher reimbursement than Des Moines to account for this.

2023-2024 Rate Updates

The IRS updates the per diem rates every year. The 2023-2024 rates took effect Oct.1, 2023. They are as follows:*

  •        Travel to high-cost locations is $309 ($297 prior year)
  •        Travel to other locations is $214 ($204 prior year)
  •        Incidental expense stay is the same at $5 per day, regardless of location

*Taxpayers in the transportation industry are subject to special rates

IRS Plans to Use AI and Ramp Up Enforcement on Millionaires, Partnerships and Crypto

IRS Plans to Use AIRecently, IRS Commissioner Danny Werfel spoke of changes within the IRS, announcing several initiatives focusing on high-income earners and partnerships, as well as integrating the use of AI within the agency’s work. According to the commissioner, the initiatives were made possible by additional IRS funding provided by the Inflation Reduction Act. Without the funding from this bill, the agency would not have the budget to implement these ramp-ups in enforcement.

Millionaires with Tax Debt

The new initiative on millionaires is not just because they are high-earning taxpayers; it will focus on those with open tax debt. Currently, the IRS has identified approximately 1,600 millionaires who are in debt to the IRS for $250,000 or more. The agency plans to designate agents to focus on these high-impact collection cases. A prior campaign resulted in a collection of more than $38 million in tax debt.

High-Income Earners with Foreign Bank Accounts

Another new initiative focusing on high-earning taxpayers includes ramped-up inspection for those who have foreign bank accounts and use them to evade taxes.

By law, every U.S. resident who has a financial interest in or control over a foreign financial account must disclose this information if he or she had $10,000 or more at any point in the year by filing an FBAR.

The IRS conducted an analysis and identified potentially hundreds of taxpayers who should be filing an FBAR and are not, with average balances of more than $1 million. The most egregious cases are planned to be audited in fiscal year 2024.

Partnerships and Corporations

Starting in 2021, the IRS began the initial stages of a new compliance program focusing on complex partnership tax returns. Now, the IRS is set to expand this initiative over more partnerships.

In total, the IRS has plans to open examinations on the 75 biggest U.S. partnerships. “Biggest” means these businesses have, on average, more than $10 billion in assets, so it’s safe to say small and medium size businesses won’t be affected.

Additionally, the IRS will be looking into smaller (but albeit still large) partnerships with more than $10 million in total assets that have balance sheet mismatches. The focus is on partnerships with balance sheet discrepancies where the prior year’s ending balance sheet is not equal to the next year’s opening balance sheet without any explanation. The IRS uses this as a red flag because they have found through full inspections that balance sheet issues are often the proverbial canary in the coal mine for other areas of non-compliance.

Once again, the focus will be on larger partnerships with balance sheet mismatches. The agency plans to send notices to approximately 500 partnerships. Depending on the initial follow-up, an audit may result.

Digital Assets, Including Crypto

The IRS plans to continue its virtual currency compliance campaign, educating taxpayers on the rules, regulations, and reporting obligations surrounding cryptocurrencies. The rules around the taxation of digital assets have evolved in recent years, and more and more taxpayers are invested in these types of assets.

The IRS subpoenaed transaction information from centralized exchanges and found that potentially an estimated 75 percent of taxpayers involved in crypto are non-compliant, some as a form of tax evasion and others simply from ignorance. In any case, the IRS plans to ramp up digital asset enforcement this coming year.

Artificial Intelligence

Lastly, the IRS is looking to utilize artificial intelligence to help agents do their job more effectively. The IRS is particularly interested in how AI can help flag tax returns for audit in important areas.

The agency plans to invest in the latest analytic solutions that can detect patterns, trends, and activities that are typically linked to tax evasion, thereby freeing up employees to focus on other matters.

Conclusion

Overall, the IRS’s focus is on high-income, tax-debt-burdened individuals, the largest partnerships, and sizable crypto players. This means that these enforcement campaigns shouldn’t have much of an impact on the average taxpayer. However, the growing use of AI will impact everyone from top to bottom.

IRS Announces End of Unannounced Taxpayer Visits (Mostly)

IRS Announces End of Unannounced Taxpayer VisitsYou wake up in the middle of the night. Heart racing, drenched in sweat, and breathing heavily. Thankfully, it was just a nightmare when the IRS showed up at your doorstep unannounced. Recently, however, this was the reality for some taxpayers – and not just a bad dream. The IRS just publicized a significant shift in policy, effectively ending the vast majority of surprise taxpayer visits. The change comes in an effort to create safer conditions for IRS officers as well as ease public concerns.

Who’s Knocking at My Door?

In order to understand the change in policy, you’ll need to understand the three categories of IRS employees that typically interact with taxpayers: Revenue Officers, Revenue Agents, and Special Agents.

IRS Revenue Agents are tax return auditors. They don’t typically show up unannounced.

IRS Revenue Officers, of which there are approximately 2,300, have duties that include paying visits to taxpayers to collect back taxes and tax returns not filed. They are not auditors but instead focus on collection efforts, including issuing liens and levies. Revenue Officers are the main category of IRS employees impacted by the policy change.

Special Agents deal with criminal matters and are part of one of the largest law enforcement agencies in the United States. The change in policy does not impact Special Agents.

Safety

Why the shift to (mostly) eliminating surprise visits from IRS Revenue Officers? Safety is cited as the main concern. Unannounced visits to taxpayers, whether at home or their business, can be risky. Historically, IRS Revenue Officers faced contentious and sometimes dangerous conditions during their unannounced visits.

Taxpayer Confusion

There is also a growing number of scam artists pretending to be IRS agents or officers. As a result, taxpayers are increasingly wary of unannounced visits, and this causes confusion for both the taxpayer and law enforcement.

The difficulty in distinguishing between IRS representatives and fakes has caused concern for taxpayers already on guard for scam artists. The IRS believes that maintaining trust among the public will go a long way to maintaining the legitimacy of the organization.

Appointment Letters In Lieu of Visits

In place of these previously unannounced visits, the IRS will contact taxpayers through a 725-B letter, more colloquially known as an appointment letter.

An appointment letter will facilitate scheduling in-person meetings, with the opportunity for the taxpayer to prepare any information and documentation beforehand, allowing for quicker resolution of cases. These meetings occur at a pre-determined time, date, and place.

Limited Visits Will Still Occur

The policy change does not completely eliminate unannounced visits by the IRS. In “extremely limited situations,” such as serving summonses and subpoenas and the seizure of assets, unannounced visits will still occur. To give some perspective, these types of visits will account for only a few hundred per year compared to the tens of thousands of unannounced visits under the old policy.

Conclusion

Unannounced IRS visits are (almost) a thing of the past. They will be carried out only in rare, necessary cases, with most Revenue Officer visits being pre-scheduled. This should ease taxpayer anxiety and make case resolution more efficient.

2023 Sales Tax Holidays for Back-to-School Shopping

2023 Sales Tax Holidays for Back-to-School ShoppingNow that we are heading into the backend of summer, it’s time for many states to host their annual sales tax holidays for returning to-school shopping. Numerous states with sales tax (remember, not all states have a sales tax) provide the reprieve to help families with the cost of annual school supplies and clothing.

According to the National Retail Federation, nearly 80 percent of shoppers are expecting increased costs this year versus last year; so more than ever, consumers are looking for ways to save. Furthermore, about two-thirds of back-to-school shoppers take advantage of these tax-free shopping periods.

The vast majority of states offer some type of tax-free shopping for a limited time period, frequently taking place over a weekend. Below, we will look at each state that offers a sales tax holiday for back-to-school shoppers, along with their details. Note that several states, including Alabama, Mississippi, and Tennessee, have their programs in July – and those are excluded from this article due to the timing of publication.

State Programs

Arkansas: From Aug. 5-6, the following items are tax-free for shoppers: clothes and shoes under $100 per piece, fashion accessories $50 and less per piece, as well as electronics, art, and school supplies.

Connecticut: From Aug. 20-26, clothes and shoes priced at $100 or less per piece are tax-exempt. Fashion accessories and sports gear are fully taxable, though.

Iowa: Aug. 4-5, clothes and shoes priced at $100 or less per piece are exempt.

Maryland: From Aug. 13-19, clothes and shoes priced at $100 or less per piece are exempt.

Missouri’s back-to-school tax breaks come Aug. 4-6. Clothes that cost less than $100 per piece are exempt. Also tax exempt on a “per purchase basis” are school supplies under $50, software under $350, and PCs under $1,500.

New Jersey: From Aug. 26 to Sept. 4 all art supplies, instructional materials, school supplies, and sports equipment sold to individuals are sales tax exempt. In addition, computers priced at $3,000 or less are also tax-free.

New Mexico cuts its sales tax charges from Aug. 4-6. Included are clothes, shoes, and backpacks costing $100 or less per piece; school supplies costing $30 or less per piece; and computers costing less than $1,000.

Ohio’s back-to-school deals are during Aug. 4-6. Clothes costing $75 or less per piece; school supplies less than $20; and other instructional materials priced at $20 or less are all tax-free.

Oklahoma from August 4-6; only clothes and shoes costing $100 or less per piece are exempt.

Texas: During Aug. 11-13, clothing, footwear, school supplies, and backpacks priced below $100 per piece are exempt. The exemption applies to both brick-and-mortar sales and those made online or via catalog.

West Virginia: From Aug. 4-7, no sales tax is charged for clothing priced at $125 or less; laptops and tablets costing $500 or less; school supplies purchased for $50 or less; and also certain sports equipment costing $150 or less.

Expirations and Details

If you notice, most states have an exemption for clothes and footwear in a moderate price range. Some are more liberal with their exemptions, while others offer a tax break on a broader scope of items, such as electronics and supplies.

Keep in mind that a few states’ sales tax holidays are permanent, while others are temporary. Also, remember that certain states are very specific about what is exempt from sales tax, so visit your state’s tax revenue website for details. It’s also important to note that some states allow counties or towns to exempt themselves, so check for this provision as well.

Increased Tax Bills Hitting Private Companies – Big and Small

Private companies both large and small are feeling the tax pinch due to changes in the law. With rampant inflation, labor shortages, lingering supply chain issues and increased borrowing costs due to rising interest rates, tax problems are the last thing struggling companies need to face.

While tax rates themselves remain largely unchanged, business’ taxable income is increasing due to changes in three main deduction areas: research and experimental (R&E) capitalization; interest expense deduction calculations; and a reduction in bonus depreciation. All of these provisions were made more liberal in the Tax Cuts and Jobs Act (TCJA) of 2018, but with a wind-down over a 10-year period.

Part of the problem is that these tax law changes can increase a business’ overall tax burden even though there have been no operational changes to the business, leaving less profits than prior years with all other factors being equal. Below, we look at each of the three tax provisions, the changes coming and the impact on businesses.

Stricter Interest Expense Limitations

Tax code section 163(j) limits the amount of business interest expense to 30 percent of adjusted taxable income. The 30 percent limit remains unchanged, but the basis of what constitutes “taxable income” as part of the calculation is becoming tighter.

From 2018 through 2021 year-end, businesses were allowed to add back depreciation, amortization and depletion in coming up with their adjusted taxable income that underlies the calculation. As a result, for 2022 and onward, without these add-backs the taxable income on which the 30 percent limit is applied will be lower, resulting in smaller interest deductions.

Given that borrowing rates have gone up substantially with increases by the Federal Reserve over recent years, now businesses are hit from two sides at once. They are likely to have higher interest costs but can take less as a deduction.

Research and Experimental Capitalization

At one point, business investments in research and experimentation under the TCJA were 100 percent deductible. Starting with 2022 and after, they need to be capitalized over a five-year period (15 years for foreign R&E).

Bonus Depreciation Decreases

Under the TCJA, bonus depreciation allowed immediate expensing and deduction of qualified investments in property and equipment, up through the taxable year-end of 2022. Starting with property and equipment investments placed in service in 2023, however, bonus depreciation is reduced from 100 percent down to 80 percent and decreases by an additional 20 percent each year until the taxable year 2027. From 2027 and onward, there will be zero bonus depreciations available. This will not only increase taxes, but it will also put a hamper on capital investments, rippling through the economy.

Conclusion

There is already chatter about extending some of these provisions, especially regarding bonus depreciation. Optimism on changes or extensions of these tax provisions should be taken cautiously, however. Many predicted that tax bill extenders would be in place before the end of 2022, but that never came to fruition. Right now, businesses are in a wait-and-see situation, with the threat of materially higher tax bills unless Congress does something.

End of Covid Emergency Declarations Put Work from Home Benefits at Risk

Work from Home Benefits at RiskThe end of the federal emergency declaration for Covid-19 came on May 11. As a result, there are various public health policy changes. For example, vaccines and treatments will remain available, but at-home tests may no longer be covered by insurance and national CDC data reporting is subject to change.

Administratively, there are also changes to regulatory measures temporarily put in place by the emergency status that will have tax consequences. As employers struggled during the pandemic, some even to meet payroll, issues around expense reimbursements, stipends and how these are considered fringe benefits or compensation came into light.

History of Section 139

Section 139 came into being over 20 years ago after the Sept. 11 terrorist attacks. Then President George W. Bush signed the Victims of Terrorism Tax Relief Act, which created Section 139, defining qualified disasters and providing a non-taxable status to relief payments. The emergency Covid declaration enabled Section 139 to apply under its time in existence.

Section 139

Consequently, employers were able to aid employees under the federally declared Covid-19 disaster by providing non-taxable benefits to employees while deducting 100 percent at the company level.

One of the typical principles of tax law is that in order for compensation, whether cash or in-kind, to not be taxable to the recipient, it cannot be deducted by the compensating party. This makes sense logically, as the IRS simply wants one side to pay taxes in the end. The disaster declaration allowed a sort of have your cake and eat it to the period when it came to certain employee benefits.

Impact on Benefits

So, Section 139 is the reason why some Covid-related payments never found their way onto a Form W-2. It meant that certain medical expense reimbursements such as testing and OTC treatments, dependent care expenses, and work-from-home expenses, including home office stipends, were treated as deductible for the employer providing them but still not taxable to the employee receiving them.

There was never any specific IRS guidance stipulating exactly which Covid-19 expenses qualify under Section 139. Instead, most employers looked at what benefits they would not have otherwise provided but for the COVID-19 pandemic and classified these as qualifying items.

The Big Problem

Using this logic of classifying benefits that would otherwise not exist, but for Covid-19, as the justification for their taxability under Section 139 put companies in a bind. If they want to continue these benefits, they have to be treated as taxable income to the employee, or the employer can no longer deduct them.

While some benefits, such as Covid-19 test reimbursements, are less of an issue, many employees have come to see others, such as home office stipends, as a normal benefit – especially in the context of the work-from-home (or at least partial) new normal. No longer receiving these benefits or having to pay taxes on them is going to cause a lot of consternation.

Conclusion

One thing is certain. The end of the emergency declaration is going to bring changes in the realm of employee benefits. While the easy solution could be to simply make these benefits taxable to employees, companies need to think about what and how they provide in the context of both tax compliance and employee engagement and retention.

I Needed to Repay Part of My Compensation; Will I Get a Refund on My Taxes?

Repay Part of My Compensation, Refund on My Taxes?So, you filed and paid all your taxes on the money you earned in 2021. Now, the company you work for finds itself in trouble, and you are forced to pay back part of your compensation. The big question is, will the IRS refund you for the taxes you already paid related to this compensation? While this seems like a bizarre scenario at first glance, it is more common than you might think.

Reducing or holding back compensation that hasn’t been earned yet is easy. Simply pay an executive or employee less, or don’t grant the stock option or bonus. Just don’t pay it.

Things get tricky in a situation where compensation has already been paid and needs to be reversed. This is much, much tougher. If you are still within the same calendar year, then logistically, it’s easier to make an adjustment; but unwinding compensation already awarded is never simple or easy.

Requiring an employee to pay back compensation is not as uncommon as many think. The situation can be as simple as receiving a signing bonus with the stipulation to stay at least a year. IRS treatment of repaid compensation depends on the details.

Details on Compensation Clawbacks

The answer to the core question can vary, with the legal context and timing being the biggest drivers. For example, both Dodd-Frank and the Consumer Protection Act grant regulatory authority to mandate clawbacks, even in cases where the taxpayer was unaware of any wrongdoing. The Sarbanes-Oxlet Act has its own set of clawback regulations. In cases such as this, there is the possibility, due to legal concerns, that a refund is not due to the taxpayer.

Generally, in cases of contractual issues, the IRS doesn’t allow a taxpayer to undo an economic event as if it never happened. The general exception to this rule is if you receive and give back the same compensation within the same calendar year. The problem, however, is that clawbacks usually come in later years after a tax return has been filed.

If you are still employed at the same company, they could simply agree to reduce your current year salary. If you are a former employee, things get tricker. You also have the possibility of amending a prior tax return in some cases. Unfortunately, many people find themselves in a situation where they need to claim a tax refund under Section 1341 of the tax code.

Section 1341 is based on the claim of right doctrine and attempts to put a taxpayer in the same position he or she would have been in had they never received the income. To qualify for and file under this provision, the taxpayer must have included money in income in the prior year because they had an unrestricted right to it at that time and then later learned they did not have an unrestricted right to it after all, therefore having to give it back.

Conclusion

The rules and regulations around the taxability of compensation required to be repaid is not simple. While the core issue of whether one is voluntary or mandatory, givebacks almost always create tax problems. If you ever find yourself in a situation where you have to return a material amount of compensation, no matter what the source, it’s best to reach out to your trusted tax adviser for help navigating the complexities.