Tax Information for 2015

Washington, Oct. 10, 2014

Dear Client: 
  Filling out a tax return will be more complex for millions of people, thanks to the health reform law. This will affect taxpayers and preparers alike. Start with the health premium tax credit, applicable for coverage bought through an exchange. Filers will have to reconcile subsidies they got in advance with the actual credit they are entitled to. Folks will use Form 8962 to make this calculation. We noted these rules in our Aug. 1 Letter. The individual mandate has also kicked in. Filers with coverage all year for themselves and their dependents get off easy: They only have to check a box on their returns. This includes, for example, employer-provided insurance meeting minimum federal standards and policies bought through an exchange, as well as Medicare, Medicaid, Tricare and veteran’s coverage.

  But filing will get trickier for individuals who go without health insurance. They’ll owe a tax unless they have an exemption. Exemptions are numerous: People for whom health coverage is too costly. Employees whose share of premiums exceeds 8% of the household’s AGI won’t be hit. The same goes for folks who are not eligible for employer coverage if the cost of a basic bronze-level plan in an exchange, less any tax credit for buying insurance, exceeds 8% of household AGI. Filers who are without coverage for periods of less than three months. Those with household incomes below the thresholds for filing a return… $10,150 for singles, $13,050 for heads of household and $20,300 for joint filers. And people who can show that a hardship forced them to go without coverage. The feds have OK’d 14 qualifying circumstances. They include getting a shut-off notice from a utility, major property damage from a natural disaster, filing for bankruptcy, suffering domestic violence, and facing foreclosure or eviction from your residence. Individuals whose insurance was canceled and who can’t buy an affordable policy are also eligible, as are those with large unpaid medical bills within the past two years. And there’s a general catch-all hardship exception if none of the other listed items fit. See www.kiplinger.com/lettlerlinks/healthexemptions for details on all the rules.

  Taxpayers will report their health coverage exemptions on Form 8965. Individuals seeking a hardship exemption must apply through the exchange. If the exchange approves the exemption, the applicant will be given a code number that he or she will enter on Part I of the form to substantiate the claimed exemption. Most other exemptions can be claimed on Form 8965 when filing the return. Folks will use a worksheet in the instructions to Form 8965 to figure the tax that they owe for each month they and their dependents are uninsured and not eligible for an exemption. They will then transfer the amount to a separate line on the 1040. We’ve seen a draft of the worksheet. It is very complex and will be confusing to fill out.

MORE ON THE TAX:  The tax for being uninsured is typically the higher of two amounts: The basic penalty or an income-based levy. The basic penalty for 2014 is $95 a person ($47.50 for each family member under age 18), with a ceiling of $285. The income-based penalty is 1% of the excess of the taxpayer’s household income over the minimum level of income needed to trigger the filing of an income tax return. The tax is lowered proportionally for any months the taxpayer had health insurance. But in no case can the tax exceed the cost of a bronze-level exchange plan for the taxpayer and family members, also adjusted for months with health coverage. For 2014, that monthly cost is $204 per person and $1,020 for a family of five. IRS has limited remedies to collect this tax. It cannot use liens and levies, so it can only offset tax refunds. Nor can it charge interest on the unpaid balance. For 2015, the tax will be significantly higher. The basic penalty will soar to $325 a person ($162.50 for each family member under 18), with a ceiling of $975. The income-based penalty will be 2% of household income over the filing threshold. In 2016, the basic penalty rises to $695, and the income-based levy is a tad higher.

IRAs:  An IRA payout used to fund a government pension plan isn’t a tax-free rollover, a divided Tax Court says. After a worker retired from the federal government, he elected to boost his monthly pension annuity by making an additional $18,000 payin to the government’s civil service retirement plan. He scraped up the funds in part by first withdrawing from his IRA, and later tapped it again to restore his bank account. He claimed the withdrawals qualified as tax-free rollovers. IRS said that the payouts were taxable because the federal retirement plan doesn’t accept tax-free rollovers, and a majority of the Tax Court’s judges concurred (Bohner, 143 TC No. 11). However, several judges said the first IRA payout was rolled into the federal plan within 60 days and thus should be a tax-free rollover. As a result, an appeal of the decision is likely.

BENEFIT PLANS:  IRS has a handy reference tool for retirement plan sponsors. It describes many of the reporting and disclosure requirements for plan administrators. The guide covers required IRS filings and notices for participants and beneficiaries. Go to www.kiplinger.com/letterlink/planguide to view the complete details. Also, check out another helpful retirement toolkit from the Dept. of Labor, which includes filing, reporting and disclosure rules required by DOL and PBGC. See www.kiplinger.com/letterlink/dolguide to read this comprehensive handbook. 

ALIMONY:  A payment to equalize retirement assets in a divorce isn’t deductible alimony, the Tax Court decides. Under the terms of a couple’s divorce agreement, they agreed to divide their respective retirement accounts 50-50. Because his balance was greater than hers, the settlement stipulated for the excess amount to be transferred to her tax-free, pursuant to a qualified domestic relations order. But that didn’t occur. Instead, more than three years later, he paid his ex-wife the money with interest from a nonretirement account. The Court said he can’t deduct the payment as alimony because the language in the settlement agreement imposed a binding obligation on him that would survive the death of his ex-wife (Laremore, TC Summ. Op. 2014-94).

PAYROLL TAXES:  States get a boost in detecting worker misclassification…from the Labor Dept. 19 states have received federal money for their special enforcement programs designed to sniff out firms that artificially lower their states’ unemployment tax bills by wrongly classifying employees as independent contractors. The largest payments went to Md., N.J., Texas and Utah. All received more than $825,000 in federal funds. Smaller amounts went for programs in Calif., Del., Fla., Hawaii, Idaho, Ind., Mass., N.H., N.M., N.Y., Ore., S.D., Tenn., Vt. and Wis. Most of them received $500,000. Remember that most states share worker classification audit results with IRS and the Labor Dept. So firms should pay close attention to the classification rules.

BUSINESS TAXES:  Retaining too much control over a company costs an inventor a tax benefit. Royalties he got from patent transfers don’t qualify for capital gains treatment. Inventors who sell their entire interest in a patent they created to an unrelated person can claim long-term capital gains on the proceeds. For this purpose, a sale to a firm in which you own 25% or more would not qualify. In this case, an inventor sold patents to a firm in which he had a 24% stake. But the Tax Court nixed capital gain treatment because despite his minority interest, the seller actually had control of the company. He alone made all of the firm’s decisions regarding licensing and patent transfers. The other shareholders were friends who didn’t participate (Cooper, 143 TC No. 10).

  An easing for restaurants on capitalizing kitchen labor costs. The IRS says in a memo to field agents that eateries now using the simplified production method to allocate the cost of producing meals can apportion part of their kitchen labor costs to their cost of goods sold, rather than to ending inventory. That cuts taxable income. The issue is arising in a number of restaurant audits. The eateries say it is wrong to allocate kitchen costs to ending inventory, since the food is no longer on hand.

  A tenant’s payment for improvements made by the landlord isn’t taxable, IRS privately rules. Under the terms of the lease, a portion of the rent was intended to cover tenant improvements, but the tenant had to foot the bill for any excess costs the landlord incurred. On audit, an agent said the tenant’s payment of those expenses was rental income to the landlord, but the Service’s lawyers disagreed. In their view, that payment wasn’t intended as a substitute for rent and thus isn’t taxed as income. Instead, the tenant’s payment reduces the landlord’s tax basis in the improvements. 

  A long series of losses won’t always trigger the hobby loss disallowance rules. An artist had losses in 18 out of 20 years. Although she was a full-time art professor, she spent a lot of time on her art career, creating 2,000 pieces of art over 40 years. Some of her works hang in major museums. She acted in a businesslike manner despite the losses, keeping track of her inventory, hiring a gallery to market her art and going to networking events. Recognizing that it takes a long time to achieve success in the arts and that her losses were magnified partly by her claiming personal expenses, the Tax Court said that her art endeavors were not a hobby (Crile, TC Memo. 2014-202).

  Improper use of offshore trusts leads to staggering monetary sanctions for two wealthy brothers. They used the trusts to hide their ownership of securities
in publicly traded corporations. They did so to avoid making required disclosures to the Securities and Exchange Commission and to evade taxes on the stock sales. A jury found them civilly liable for the SEC violations, and a federal court decided that the amount of the penalty should be based on the amount of taxes they evaded, plus interest. The total fine could add up to $400 million (SEC v. Wyly, D.C., N.Y.).

TAX DEBTS:  IRS can have longer than 10 years to collect back taxes in some cases. Installment agreements toll the statute of limitations, a federal court says. The time elapsed while a debtor is repaying a tax debt in installments isn’t counted against the 10 years. And if IRS terminates a payment plan, the statute of limitations for collecting is extended for an additional 30 days (Chelsea Brewing Co., D.C., N.Y.).

FARM TAXES:  Livestock operators in 30 states get additional time to defer gain on sales because of severe drought. Farmers in counties that are on IRS’s list of areas that are still suffering from drought have until at least the end of 2015 to defer gain by buying replacement livestock, even if the normal four-year period for deferral of gains from drought-related sales has lapsed. The time period will run until the close of the filer’s first tax year after the county drops off the IRS list. See Notice 2014-60 for full details. Farmers can also check the National Drought Mitigation Center’s maps.

ENFORCEMENT:  The Service will tighten up a relief program for firms that misclassify workers. Businesses that treated employees as contractors and gave them 1099 forms for the past three years can voluntarily correct those errors and pay a low penalty. Treasury inspectors note that companies needn’t identify the misclassified workers, so IRS can’t monitor whether firms were eligible for the relief and whether the workers were treated as employees in subsequent years. IRS will start asking for that data.

  IRS is too quick to write off tax debts, according to Treasury inspectors. They studied a number of cases in which collection staff couldn’t contact or find debtors
who owed $10,000 or more in back taxes. In over half the cases, the workers failed to follow all the required procedures…using postal tracers, searching databases of court and motor vehicle records and the like…to get leads on debtors’ whereabouts. And, in 7% of cases, agents failed to file tax liens to protect the Service’s interest. IRS says it is putting controls in place to make sure cases aren’t closed prematurely.

PREPARERS:  IRS continues to scrutinize preparers of earned income credit returns. It will mail warnings to those suspected of making errors on 2013 returns
that claimed the credit. Preparers who fail to comply with the due diligence rules for the credit can be hit with stiff penalties: $500 for failing to attach Form 8867
and a minimum of $1,000 if a client’s tax bill is understated because the preparer took an unreasonable position. For willful misconduct, the minimum fine is $5,000.

  But the Service is dropping the ball on investigating problem preparers, Treasury inspectors say. IRS failed to investigate more than one-third of preparers
who were referred to area offices for possible malfeasance. Inspectors took a look at those who fell through the cracks and found many instances in which preparers had greatly overstated deductions and credits or had filed bogus Schedule Cs to inflate the amount of refundable tax credits, such as the earned income credit. Others looked to be committing identity theft. IRS will try to weed out more bad apples.

  The Service is trumpeting its voluntary credential for unenrolled preparers. The agency will send out e-mails to 400,000 preparers who aren’t attorneys, CPAs
or enrolled agents. The notice will tout the benefits of participating in the program, such as inclusion in the database of preparers that IRS expects to launch in Jan. 2015. Participants must take continuing education courses and pass a 100-question quiz with a score of 70% or higher. Unenrolled preparers who passed IRS’s competency test are exempt from the quiz, as are preparers who are credentialed in Calif. and Ore.,
along with those certified by the Accreditation Council for Accountancy and Taxation.

  Renewals of preparer ID numbers for 2015 are beginning. The fee is $63… $64.25 for first-time applicants. Some folks who regularly renew their PTINs early
have been invited to renew before the Oct. 16 official starting date so IRS computers aren’t overloaded. Preparers can do this online at www.irs.gov/ptin or file Form W-12.

  Long wait times on IRS’ tax practitioner phone line are frustrating tax pros. Many claim they’ve had to wait for an hour or more before speaking with a live person on the agency’s practitioner priority service toll-free line, which handles questions on issues about clients’ accounts. But with Congress holding the reins on IRS’s budget, it’s extremely unlikely that the hold times will subside any time in the near future.

Yours very truly,
THE KIPLINGER WASHINGTON EDITORS

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