The IRS began its "Dirty Dozen" list for 2022, which includes potentially abusive arrangements that taxpayers should avoid. The tax scams in this series focus on four transactions that are wrongfully promoted and will likely attract additional agency compliance efforts in the future. Those four abusive transactions involve charitable remainder annuity trusts, Maltese individual retirement arrangements, foreign captive insurance and monetized installment sales. These are the first four entries in this year’s Dirty Dozen series.

The IRS began its "Dirty Dozen" list for 2022, which includes potentially abusive arrangements that taxpayers should avoid. The tax scams in this series focus on four transactions that are wrongfully promoted and will likely attract additional agency compliance efforts in the future. Those four abusive transactions involve charitable remainder annuity trusts, Maltese individual retirement arrangements, foreign captive insurance and monetized installment sales. These are the first four entries in this year’s Dirty Dozen series.

Taxpayers who have already claimed the purported tax benefits of one of these four transactions on a tax return should consider taking corrective steps, including filing an amended return and seeking independent advice. Where appropriate, the IRS will challenge the purported tax benefits from the transactions on this list and may assert accuracy-related penalties. Further, the IRS informed that to combat the evolving variety of these potentially abusive transactions, the IRS created the Office of Promoter Investigations (OPI). The IRS has a variety of means to find potentially abusive transactions, including examinations, promoter investigations, whistleblower claims, data analytics and reviewing marketing materials.

Further, the IRS reminded taxpayers to watch out for and avoid advertised schemes, many of which are now promoted online, that promise tax savings that are too good to be true and will likely cause taxpayers to legally compromise themselves. Additionally, the IRS informed that taxpayers who have engaged in any of these transactions or who are contemplating engaging in them should carefully review the underlying legal requirements and consult independent, competent advisors before claiming any purported tax benefits.

The IRS announced that is completing the processing on a key group of individual tax returns filed during 2021. Business paper returns filed in 2021 will follow shortly after. The Service began 2022 with a larger than usual inventory of paper tax returns and correspondence filed during 2021 due to the pandemic. The IRS will continue to work on the few remaining 2021 individual tax returns that have processing issues or require additional information from the taxpayer. As of June 10, the IRS had processed over 4.5 million individual paper tax returns received in 2021.

The IRS announced that is completing the processing on a key group of individual tax returns filed during 2021. Business paper returns filed in 2021 will follow shortly after. The Service began 2022 with a larger than usual inventory of paper tax returns and correspondence filed during 2021 due to the pandemic. The IRS will continue to work on the few remaining 2021 individual tax returns that have processing issues or require additional information from the taxpayer. As of June 10, the IRS had processed over 4.5 million individual paper tax returns received in 2021.

To date, more than twice as many returns await processing compared to a typical year at this point in the calendar year. A greater percentage of this year’s inventory awaiting processing is comprised of original returns that, generally, take less time to process than amended returns. To address the unprocessed inventory by the end of this year, the IRS has taken aggressive steps including significant, ongoing overtime for staff throughout 2022, creating special teams of employees focused solely on processing aged inventory and expediting hiring of thousands of new workers and contractors. Additionally, the IRS has improved the process for taxpayers whose paper and electronically filed returns were suspended during processing for manual review and correction.

The IRS reminded taxpayers who have not yet filed their 2021 tax returns this year, including those who requested an extension until October 17, to make sure they file their returns electronically with direct deposit to avoid delays. The IRS urged taxpayers to file as soon as they are ready and to not wait until the last minute before the October 17 extension deadline. Filing sooner avoids potential delays for taxpayers and assists the larger ongoing IRS efforts to complete processing tax returns this year.

Internal Revenue Service Commissioner Charles Rettig is pushing back on assertions that the agency is spending less time targeting wealthy taxpayers for audit in favor of lower income taxpayers.

Internal Revenue Service Commissioner Charles Rettig is pushing back on assertions that the agency is spending less time targeting wealthy taxpayers for audit in favor of lower income taxpayers.

"This is damaging to tax administration in this country when people say IRS audits more lower income people than higher income people," Rettig told attendees June 23, 2022, at the NYU Tax Controversy Forum.

He asserted that audit rate figures can be skewed depending on when the calculation is taking place. For example, he noted that if data is published on rates of audit for the 2021 tax year in 2022, the numbers will be considerably off.

"[W]hen you see these audit rates, don't jump on that train and say IRS is only auditing .0000 something," he said. "I go, Wow. Who are these folks we picked up? Right? The average audit gets picked up, particularly for high wealth taxpayer at least 16 months after that return has been filed. Why would we audit in the same calendar year that it's filed?"

Rettig noted that wealthy people may be filing later toward the extended filing deadline and filing more returns covering multiple years simultaneously, which would push back when audits take place. The would give the appearance that audits for more wealthy taxpayers may not be happening as much as for lower income taxpayers when examining a single-year audit rate.

But in reality, he said that audit rates for those who make more than $10 million "runs right around seven or eight percent. And as of this year, it’s at 8.7 percent. You will see that the $5 to $10 million group runs about 4.2%. You will see the $1 to $5 million group runs about 2.2%. Most of you have done the math and you understand exactly what I'm telling you, you go for the higher income folks."

After that, the numbers drop off "considerably," he said.

"The $1 million-and-under person is really the executive who has W-2 and 1099 income and we have that information," Rettig said. "The over $1 million person is the entrepreneur who has a lot of pass-through entities and whatnot, we don't have that information," and they get audited more because of it.

Rettig also used the forum to continue advocacy for more funding and guaranteed funding over multiple years to help improve not only enforcement, but to help improve the services that the agency provides to taxpayers, including hiring for call centers and providing better outreach.

Republican members of the Senate Finance Committee are the latest group to call on the Internal Revenue Service to implement 2-D barcoding technology on individual tax forms.

Republican members of the Senate Finance Committee are the latest group to call on the Internal Revenue Service to implement 2-D barcoding technology on individual tax forms.

"We are writing to strongly encourage the Internal Revenue Service (IRS) to work with tax return software companies to implement 2-D barcoding technology for use during the 2023 tax filing season for the 1040 family of paper returns," the GOP senators, led by Ranking Member Mike Crapo (R-Idaho), said in a May 24, 2022, letter to IRS Commissioner Charles Rettig.

Similar calls have been made by other stakeholders, including the National Taxpayer Advocate, who sent a directive to the IRS in March to implement 2-D barcoding in time for use with the 2023 tax season.

The GOP senators noted that the IRS is financially capable of doing this now. In the letter, the senators referenced the 2017 budget request of $8.4 million for implementation of 2-D barcoding and the $1 billion earmarked in the American Rescue Plan of 2021 for IT modernization, of which they state only $98.5 million so far has been spent.

The group also called on the agency to "stop chasing technological perfection" in the letter.

"If we were to wait for the promise of better technology, nothing would ever get implemented," the letter states. "To the contrary, the fact that 2-D technology is a bit older probably means it has been tested and is less expensive. Many states currently use 2-D barcoding for tax returns, so we have proof it works."

2-D barcoding came back into the forefront of needed IT upgrades for the IRS during the pandemic that caused a significant backlog of unprocessed paper returns. As of April 29, the agency still had more than 18 million unprocessed paper returns, though Commissioner Rettig has stated in numerous congressional hearings that the backlog will be back to its "normal" levels by the end of 2022.

The IRS Whistleblower Office has released the fiscal year (FY) 2021 annual report to Congress. In FY 2021, the Whistleblower Office made 179 award payments to whistleblowers totaling $36,144,926, including 20 awards paid under Code Sec. 7623(b). Whistleblower claim numbers assigned in FY 2021 grew by 55 percent year over year and claim closures increased by 13 percent. Additionally, this year’s report introduces the Code Sec. 7623 Payment and Claim Processing Analysis. The analysis shows Code Sec. 7623(b) awards were paid on average in 17 days.

The IRS Whistleblower Office has released the fiscal year (FY) 2021 annual report to Congress. In FY 2021, the Whistleblower Office made 179 award payments to whistleblowers totaling $36,144,926, including 20 awards paid under Code Sec. 7623(b). Whistleblower claim numbers assigned in FY 2021 grew by 55 percent year over year and claim closures increased by 13 percent. Additionally, this year’s report introduces the Code Sec. 7623 Payment and Claim Processing Analysis. The analysis shows Code Sec. 7623(b) awards were paid on average in 17 days.

Code Sec. 7623 Payment and Claim Processing Analysis

The average claim processing time for Code Sec. 7623(b) award payments made during FY 2021 increased by 2.9 percent from the prior year and average claim processing time for Code Sec. 7623(a) award payments increased by 10.4 percent. The report stated that it is likely average claim processing times will continue to increase as claim inventory continues to age while the Whistleblower Office awaits audits, exams, investigations, appeals, tech services, collection, statutes to expire, and whistleblower litigation.

Ten Most Common Allegations Submitted In FY 2021

The ten most common allegations submitted on Form 211, Application for Award for Original Information, for FY 2021 were:

• unreported income;
• general allegations of fraud, tax fraud, wire fraud, insurance fraud, and related allegations;
• false dependent exemptions;
• employee vs. subcontractor;
• failure to file;
• wage under reporter;
• capital gains tax;
• wages being paid in cash or under the table;
• rental income; and
• false deductions or expenses.

The report also provided other information including disclosures made under Taxpayer First Act, additional information on submissions received in FY 2021, information on claim numbers issued, claims remaining open and claims that were closed in each FY from 2019 to 2021, geographic location of all whistleblowers by region, open Code Sec. 7623(b) claims as of FY 2021, and reasons for closures that occurred during FY 2021.

Department of the Treasury Secretary Janet Yellen is continuing to promote the agreement on international taxes reached by most members of the Organisation for Economic Co-operation and Development on a global corporate minimum tax, but acknowledged that its overall impact will be determined by the final details.

Department of the Treasury Secretary Janet Yellen is continuing to promote the agreement on international taxes reached by most members of the Organisation for Economic Co-operation and Development on a global corporate minimum tax, but acknowledged that its overall impact will be determined by the final details.

Testifying before the Senate Finance Committee at a June 7, 2022, hearing about the White House’s fiscal 2023 budget request, Secretary Yellen noted in her opening remarks that she is "keenly focused on moving forward on the global agreement on international tax reform, including a global minimum tax that will level the playing field and raise crucial revenues to benefit people around the world."

However, she noted that because the specific details of how the international tax reforms will be defined and implemented, the impact on American businesses cannot be determined.

In response to a question as to whether the agency will provide Congress with the analysis of data currently available on whether the pillar one agreements will have a positive or negative impact, she said "that it could go either way, depending on the details which have not yet been decided. In the pillar one negotiations, the impact on fiscal revenues will be small."

Yellen continued: "Pillar two has a big impact. Pillar one will have a small impact. We're a very large market economy. We will gain revenue from our ability to tax foreign corporations that are doing business in the United States where we consume those services, we will lose some from revenue. Yet, it could be positive or negative, depending on details that have not yet been worked out. And that's why we've not provided data. We will when those details are clear."

That being said, Yellen also highlighted that countries will not be able to skirt the requirements of the treaty, responding to a question on whether China, a signee of the agreement, can be expected to comply with it when the nation has a questionable record complying with other international agreements.

Secretary Yellen testified that she expects China to comply with the terms of the agreement, but if it fails to do so, "this agreement contains an enforcement mechanism that will allow the United States or any other country that has adopted the global minimum tax to impose taxes on China's companies that would be the same as if China had complied. So there is a tough enforcement mechanism in this deal."

She also testified that Treasury will be negotiating on the details to ensure that business tax credits and subsidies will not negatively impact corporations once the international tax reforms are implemented.

Defending the Budget

During the hearing, she also addressed a number of issues that have become common themes among Biden Administration officials in recent months, including a recent focus on the tax gap and the disparities in auditing following a Government Accountability Office report that highlighted those concerns.

"Tackling that $600 billion annual tax gap is absolutely important in ensuring fiscal responsibility," Yellen told members of the Senate Finance Committee in response to a comment that the White House is requesting $80 billion over 10 years to address this. "It would generate substantial revenue in a manner that's efficient and fair. It would enable deficit reduction and help these price pressures by providing the funding a part of the funding we need for the urgent fiscal priorities."

She reinforced a common call to better fund the Internal Revenue Service to make sure it has the proper personnel in place to do things such as conducting more complicated audits to ensure the top earners are paying their fair share of taxes, in addition to helping the IRS serve the overall population and update its information technology infrastructure.

"We absolutely have to invest in the IRS to close that tax gap, which reflects opaque sources of income, mainly by high income earners that are not taxed," she said. "And they need the resources to serve taxpayers to be able to answer their phones to be able to ensure that they receive the payments that they are due, and they need to modernize their technology which is really the oldest dating back to the [19]60s in the federal government."

Yellen also took the opportunity to encourage Congress to extend the child tax credit, noting that while it may have played a minor role in contributing to the inflation issues the nation is tackling, it has had a significant effect on helping to reduce childhood hunger.

"It enabled families to get a little bit of breathing room and to help their kids afford nutritious food and clothing and back to school supplies." Yellen said.

She also mentioned during the Senate Finance Committee hearing that the Treasury Department is looking forward to working with Congress to get a tax deduction for union dues reinstated after it was cut in 2017.

A day later, on June 8, 2022, Secretary Yellen appeared before the House Ways and Means Committee in a hearing also advertised as a review of the White House budget but one that focused heavily on inflation, current energy policy, and international tax reform.

The American Institute of CPAs is calling on Congress to fund the Internal Revenue Service at the level requested by the White House in its fiscal year 2023 budget request. Separately, the group offered its suggestions on the IRS Guidance Priority List. "In advance of the Fiscal Year 2023 appropriations cycle, we request that you fund the Internal Revenue Service (IRS) at necessary levels to allow it to handle all the duties required of it by Congress, including properly administering and enforcing our nation’s tax laws as well as providing needed assistance to taxpayers and their advisers in a timely and professional manner," AICPA said in a May 25, 2022, letter to Democratic and Republican leadership in both the House and Senate Appropriations Committees.

The American Institute of CPAs is calling on Congress to fund the Internal Revenue Service at the level requested by the White House in its fiscal year 2023 budget request. Separately, the group offered its suggestions on the IRS Guidance Priority List. "In advance of the Fiscal Year 2023 appropriations cycle, we request that you fund the Internal Revenue Service (IRS) at necessary levels to allow it to handle all the duties required of it by Congress, including properly administering and enforcing our nation’s tax laws as well as providing needed assistance to taxpayers and their advisers in a timely and professional manner," AICPA said in a May 25, 2022, letter to Democratic and Republican leadership in both the House and Senate Appropriations Committees.

AICPA expressed concern that "service challenges will persist long after the pandemic has ended unless sufficient, targeted funding for technology improvements, human talent and training, and taxpayer services are appropriated."

The organization also noted that there needs to be more than money thrown at the agency to help its functioning. "It should be clear that funding alone will not solve the IRS’s problems,” AICPA wrote. “Structural reforms and organizational alignment from Congress, the President, the Secretary, and the Commissioner are necessary to delivering the promised goals. We look forward to working with all parties involved to this end and create an IRS that taxpayers deserve."

Priority Guidance Recommendations

In a separate letter sent to the IRS May 24, 2022, AICPA outlined its suggestions for the guidance that the agency should be prioritizing. The guidance recommendations cut across a range of programs and legislation, such as the Tax Cuts and Jobs Act, the SECURE Act, and the CARES Act and covering a number of areas such as corporation and shareholder taxation, employee benefits taxation, individual taxation, and international taxation.

R&E Recommendations

AICPA is also recommending the Internal Revenue Service issue specific regulations related to the treatment of research and experimental (R&E) expenditures under Sec. 174.

In a May 26, 2022, letter to the IRS, AICPA said that the Department of the Treasury and the IRS should "issue regulations providing that section 174(a) expenditures include direct costs, including employee compensation, contract labor, and materials, and at the taxpayer’s election, allocable indirect and overhead costs."

AICPA also said that Treasury and the IRS "should issue regulations that illustrate, using detailed examples, which costs are ‘incident to’ the development or improvement of a product as per Reg. §1.174-2."

If the agency doesn’t issue new regulations, AICPA recommended guidance to cover these requests.

Additionally, AICPA identified issues that have arisen with Rev. Proc. 2000-50, which covers the treatment of costs paid or incurred to develop, purchase, or lease computer software.

"IRS should modify the scope limitation under section 4 of Rev. Proc. 2000-50 to clarify that the limitation on costs that a taxpayer has treated as R&E expenditures under section 174 only applies to costs previously subject to an irrevocable election under section 174, including 174(b) or charging the expenses to capital account."

The Department of the Treasury is continuing its push to get funding for much needed information technology infrastructure upgrades from Congress.

The Department of the Treasury is continuing its push to get funding for much needed information technology infrastructure upgrades from Congress.

During a June 14, 2022, hearing before the Senate Appropriations Committee’s Subcommittee on Financial Services and General Government, Treasury Deputy Secretary Wally Adeyemo testified as to why the funds were needed.

The "IRS’ technology is decades out of date, written in a programming language no longer taught, and incredibly expensive to maintain the master file that under grids," Adeyemo told the committee in his opening statement. "The tax system dates back to the 1960s when there was no internet, no cell phones, and no spreadsheets or automatic payments."

The White House is requesting a 12 percent budget increase in fiscal year 2023 compared to 2022 enacted levels "to begin to remedy this mismatch between the IRS’ responsibilities and its resources."

Treasury’s request for increasing funds to help address IT infrastructure upgrades for the IRS did not come up during the hearing’s question-and-answer period, as the committee focused its attention on Russian sanctions, the role of using cryptocurrency to evade sanctions, energy policy and independence, and other criminal-focused activities.

The U.S. Supreme Court has granted a petition for certiorari in the case of A. Bittner, CA-5, 2021-2 USTC ¶50,242 . In Bittner, the U.S. Court of Appeals for the Fifth Circuit held that each failure to report a qualifying foreign account on the annual Report of Foreign Bank and Financial Accounts (FBAR) constituted a separate reporting violation subject to penalty. This means that the penalty applies on a per-account basis, not a per-form basis. The Fifth Circuit disagreed with a Ninth Circuit panel that adopted a per-form interpretation ( J. Boyd, CA-9, 2021-1 USTC ¶50,112).

The U.S. Supreme Court has granted a petition for certiorari in the case of A. Bittner, CA-5, 2021-2 USTC ¶50,242 . In Bittner, the U.S. Court of Appeals for the Fifth Circuit held that each failure to report a qualifying foreign account on the annual Report of Foreign Bank and Financial Accounts (FBAR) constituted a separate reporting violation subject to penalty. This means that the penalty applies on a per-account basis, not a per-form basis. The Fifth Circuit disagreed with a Ninth Circuit panel that adopted a per-form interpretation ( J. Boyd, CA-9, 2021-1 USTC ¶50,112).

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Background

U.S. citizens and residents must keep records and/or file reports when the person makes a transaction or maintains a relation for any person with a foreign financial agency ( 31 USC 5314). Each person with a financial interest in a financial account in a foreign country must report the relationship to the IRS for each year the relationship exists by providing specified information on and filing the FBAR. The FBAR generally must be filed by June 30 of each calendar year for foreign financial accounts over $10,000 maintained during the previous calendar year (31 C.F.R. §§1010.350, 1010.306).

If the person fails to file the FBAR, the IRS can impose a penalty of up to $10,000 for non-willful violations, unless the violation was due to reasonable cause. For a willful violation, the maximum penalty is the greater of $100,000 or 50 percent of (1) the amount of the transaction when a violation involves a transaction, or (2) the balance in the account at the time of the violation when a violation involves a failure to report the existence of an account. There is no reasonable cause exception for willful violations ( 31 USC 5321).

Fifth Circuit: FBAR Penalty Per Account

In A. Bittner, the Fifth Circuit ruled that the text, structure, history, and purpose of the relevant statutory and regulatory provisions showed that the "violation" of 31 USC 5314 contemplated by the 31 USC 5321 penalty was the failure to report a qualifying account, not the failure to file an FBAR. Therefore, the $10,000 penalty cap applied on a per-account basis, not a per-form basis.

The Fifth Circuit agreed with the government that the district court had erred in determining what constituted a "violation" under 31 USC 5314 by focusing on the regulations under section 5314 to the exclusion of section 5314 itself. Section 5314 does not create the obligation to file a single report, stated the Fifth Circuit, but instead gives the Treasury Secretary discretion to prescribe how to fulfill the statute’s requirement of reporting qualifying accounts.

The Fifth Circuit observed that by authorizing a penalty for any "violation of ... any provision of section 5314," as opposed to the regulations under section 5314, section 5314 "naturally reads" as referring to the statutory requirement to report each account, not the regulatory requirement to file FBARs in a particular manner. Further, the circuit court stated that the reasonable cause exception for non-willful violations was framed in terms of "the transaction" and "the account," and thus it also "naturally reads" as excusing the failure to report a transaction or account, not the failure to file an FBAR.

Ninth Circuit: FBAR Penalty Per Form

In J. Boyd, the Ninth Circuit ruled that the IRS can impose only one non-willful penalty when an untimely but accurate FBAR is filed, regardless of the number of foreign financial accounts. The Ninth Circuit determined that the statutory and regulatory scheme under 31 USC 5314 authorizes a single non-willful penalty for the failure to file a timely FBAR, and that the taxpayer’s conduct in failing to timely file the FBAR amounted to one non-willful violation.

The Ninth Circuit was not persuaded by the government's argument that, based on the statutory scheme as a whole and legislative intent, the penalty amount could be assessed on a per-account basis. The Ninth Circuit found nothing in the statute or regulations to suggest that the penalty could be calculated that way for a single failure to file a timely FBAR that is otherwise accurate. The Ninth Circuit presumed that Congress had purposely excluded the per-account language from the non-willful penalty provision because it had included such language in the previously-enacted willful penalty provision. Further, the inclusion of per-account language in the reasonable cause exception supported the view that Congress had intentionally omitted per-account language from the non-willful penalty provision.

Tax reform discussions continue on Capitol Hill with legislation expected to be released very soon. GOP lawmakers in the House and Senate appear to be aiming for a comprehensive overhaul of the Tax Code. President Trump and Republicans in Congress have set out an ambitious schedule of passing a tax reform bill before year-end. 

Tax reform discussions continue on Capitol Hill with legislation expected to be released very soon. GOP lawmakers in the House and Senate appear to be aiming for a comprehensive overhaul of the Tax Code. President Trump and Republicans in Congress have set out an ambitious schedule of passing a tax reform bill before year-end. 

Tax reform

Although the specifics are not yet known, a GOP tax bill is expected to lower the individual and corporate tax rates and eliminate many tax credits and deductions. The corporate tax rate could be lowered to 20 percent (or in the 20s), the individual tax rates are expected to cap at 35 percent (although a higher rate may be retained), and the list of eliminated credits and deductions is likely to be lengthy. There is also talk of a lower rate for pass-through businesses.

The current Tax Code contains hundreds of credits and deductions, targeted to individuals, businesses and taxpayers of all types. These tax preferences touch on almost every activity. In past years, proposals to repeal tax preferences have met stiff resistance from the taxpayers they benefit.

The Trump Administration and Republicans in Congress appear to support keeping the home mortgage deduction and the charitable contribution deduction for individuals. The research credit is one business incentive that also appears to have support from the White House. Almost every other tax preference could be a candidate for repeal.

The GOP tax bill could also repeal the alternative minimum tax (AMT) and the federal estate tax. The federal gift tax, however, does not appear to be on the chopping block.

Without bill language, it is nearly impossible to envision the components of a GOP tax bill. Left unanswered, at least for now, are some important questions. Will the GOP tax bill be retroactive to January 1, 2017? Will the GOP tax bill expire after 10 years, as some tax bills have in the past? Our office will monitor developments and keep you posted.

Filing season

At this time, it is unclear if any tax law changes would be retroactive to January 1, 2017. If they are, the IRS may have to delay the start of the 2018 filing season. The filing season typically starts in mid-January. The IRS programs its return processing systems for existing tax laws. If the tax laws change, the IRS needs to revise its processing systems and that takes time. Our office will keep you posted.

More tax legislation

While the details of a GOP tax bill take shape, some stand-alone tax bills have been introduced in Congress. They include bills that:

• Exempt more taxpayers from the Affordable Care Act’s individual shared responsibility requirement
• Permit non-itemizers to take above-the-line deductions for charitable contributions.
• Delay the Affordable Care Act’s health insurance provider fee.
• Make taxpayers in Puerto Rico eligible for the earned income tax credit (EITC).
• Create a tax credit for renewable chemicals.
• Treat Native American nations the same as states for certain federal tax purposes.
• Create “Move America” bonds for infrastructure improvements.
• Expand tax-free distributions from IRAs for charitable purposes.

Lawmakers have a short window between now and year-end to pass any tax bills. Please contact our office if you have any questions about tax legislation.

Holiday gifts made to customers are generally deductible as ordinary and necessary business expenses as long as the taxpayer can demonstrate that such gifts maintain or improve customer goodwill. Such gifts must bear a direct relationship to the taxpayer's business and must be made with a reasonable expectation of a financial return commensurate with the amount of the gift. However, the $25 annual limitation per recipient on deductibility is applicable to holiday gifts, unless a statutory exceptions applies.

Holiday gifts made to customers are generally deductible as ordinary and necessary business expenses as long as the taxpayer can demonstrate that such gifts maintain or improve customer goodwill. Such gifts must bear a direct relationship to the taxpayer's business and must be made with a reasonable expectation of a financial return commensurate with the amount of the gift. However, the $25 annual limitation per recipient on deductibility is applicable to holiday gifts, unless a statutory exceptions applies.

Holiday turkeys and other holiday distributions of nominal value made by an employer to employees to promote goodwill are treated as tax-free gifts to those employees instead of taxable compensation. If the employer gives cash, gift certificates or similar items of readily convertible cash value, however, the value of those gifts is considered additional compensation regardless of the amount.  Butif holiday gift certificates given by an employer to its employees are redeemable only for merchandise and were not convertible to cash, they may be considered tax-free gifts.

Employers can give items worth a "nominal amount" without fear that the IRS will tax the employee. Gifts of items worth more, or a gift of any amount of cash, risks the IRS taking the view that the gift belongs in the employee's gross income. What constitutes a nominal amount is not crystal clear, but keeping a gift under $25 is erring on the safe side. It also assures a situation in which the employer can deduct the expense of the gift while not having it taxable to the employee.

For purposes of federal tax, employers must withhold and pay FICA taxes (7.65%) if they paid a household employee cash wages of at least $2,000 in 2016 or in 2017 ($2,100 in 2018). Employers must pay FUTA tax (6%) if they paid total cash wages of at least $1,000 in a calendar quarter to household employees. A homeowner may be an “employer” to a housekeeper; or, if enough evidence is shown, merely a recipient of services by an independent contractor or self-employed individual.

Nanny tax. For purposes of federal tax, employers must withhold and pay FICA taxes (7.65%) if they paid a household employee cash wages of at least $2,000 in 2016 or in 2017 ($2,100 in 2018). Employers must pay FUTA tax (6%) if they paid total cash wages of at least $1,000 in a calendar quarter to household employees. A homeowner may be an “employer” to a housekeeper; or, if enough evidence is shown, merely a recipient of services by an independent contractor or self-employed individual.

“Employer” status. If you pay someone to come to your home and care for your dependent or spouse, you may be a household employer. If you are a household employer, you will need an employer identification number (EIN) and you may have to pay employment taxes. If the individual who works in your home is self-employed and you do not direct him or her on specific tasks, you aren't liable as an employer – a difficult hurdle to overcome in the case of childcare. Usually, you aren't a household employer if the person who cares for your dependent or spouse does so at his or her home or place of business.

If you use a placement agency that exercises control over what work is done and how it will be done by a baby-sitter or companion who works in your home, the worker isn't your employee. This control could include providing rules of conduct and appearance and requiring regular reports. In this case, you don't have to pay employment taxes. But, if an agency merely gives you a list of sitters and you hire one from that list, and pay the sitter directly, the sitter may be your employee.

Employer responsibilities. If you have a household employee, you may be subject to:

• Social security and Medicare taxes,
• Federal unemployment tax, and
• Federal income tax withholding.

Social security and Medicare taxes are generally withheld from the employee's pay and matched by the employer. Federal unemployment (FUTA) tax is paid by the employer only and provides for payments of unemployment compensation to workers who have lost their jobs. Federal income tax is withheld from the employee's total pay if the employee asks you to do so and you agree.

An employer must report and pay required employment taxes for household employees on Schedule H of the employer’s Form 1040 or Form 1040A. While withheld amounts do not have to be deposited on a monthly basis, the employer does need an employer identification number (EIN) to include on the employee’s Form W-2 and the employer’s Schedule H. To obtain an EIN, an employer should complete Form SS-4.

An employer must increase either his or her quarterly estimated tax payments or the income tax withholding on his or her own wages in order to satisfy employment tax obligations with respect to household employees. Failure to withhold results in liability for the penalty for underpayment of estimated tax.

Child and dependent care credit. A credit is allowed for a portion of qualifying child or dependent care expenses paid for the purpose of allowing the taxpayer, and the taxpayer's spouse if filing a joint return, to be gainfully employed. The Social Security “Nanny” Taxes you pay on wages for qualifying child and dependent care services are themselves considered work-related expenses for purposes of this credit.

Tax writers in Congress are set to begin debating and writing tax reform legislation. On September 27, the White House and GOP leaders in Congress released a framework for tax reform. The framework sets out broad principles for tax reform, leaving the details to the two tax-writing committees: the House Ways and Means Committee and the Senate Finance Committee. How quickly lawmakers will write and pass tax legislation is unclear. What is clear is that tax reform is definitely one of the top issues on Congress’ Fall agenda.

Tax writers in Congress are set to begin debating and writing tax reform legislation. On September 27, the White House and GOP leaders in Congress released a framework for tax reform. The framework sets out broad principles for tax reform, leaving the details to the two tax-writing committees: the House Ways and Means Committee and the Senate Finance Committee. How quickly lawmakers will write and pass tax legislation is unclear. What is clear is that tax reform is definitely one of the top issues on Congress’ Fall agenda.

Individuals

The GOP framework proposes consolidating the current seven individual tax rates into three: 12, 25 and 35 percent. However, the framework leaves open the possibility of an additional top rate “to the highest-income taxpayers to ensure that the reformed tax code is at least as progressive as the existing tax code and does not shift the tax burden from high-income to lower- and middle-income taxpayers.”

For individuals, the GOP framework also proposes to:

• Eliminate the alternative minimum tax
• Roughly double the standard deduction
• Repeal the federal estate tax
• Preserve the home mortgage interest deduction and the deduction for charitable contributions
• Eliminate most other itemized deductions
• Repeal the personal exemption for dependents
• Retain tax benefits that encourage work, higher education and retirement security

Family incentives

Family incentives have traditionally garnered bipartisan support in Congress and the GOP framework includes several. The child tax credit, for example, currently phases out when incomes reach certain levels. The GOP framework calls for increasing the income levels for the credit to unspecified amounts.   Another proposal would create a new non-refundable $500 credit for non-child dependents. The details would be left to the tax-writing committees.

Businesses

One pillar of the GOP framework is a corporate tax rate cut. The framework calls for a 20 percent corporate tax rate, down from the current 35 percent rate. Businesses that operate as passthroughs, such as S corporations, would have a maximum tax rate of 25 percent, subject to unspecified limitations to prevent abuses.

Other business proposals include:

• Enhanced expensing
• Limiting the deduction for net interest expenses by C corporations
• Eliminating the Code Sec. 199 deduction
• Preserving the research and development credit and tax preferences for low-income housing
• Reforming certain international taxation rules

Drafting legislation

After the GOP framework was released, the chairs of the tax writing committees said their committees would begin drafting legislation. The Ways and Means Committee is made up of 24 Republicans and 16 Democrats. Republicans also have a majority on the Senate Finance Committee but only by two votes (14 to 12). This narrow vote margin is likely to influence any tax bill out of the Senate Finance Committee. Our office will keep you posted of developments.

Extenders

A number of popular but temporary tax incentives have expired. Unless extended, these “extenders” will not be available to taxpayers when they file their 2017 returns in 2018. They include:

• Tax exclusion for canceled mortgage debt
• Mortgage insurance premium deductibility
• Higher education tuition deduction
• Special expensing rules for film, television, and theatrical productions
• Seven-year recovery period for motorsports entertainment complexes

Other tax bills

Several tax-related bills may be taken up by either the House or Senate, including:

• RESPECT Act, passed by the House and waiting for a vote in the Senate, would limit the IRS’s ability to seize assets related to structured transactions
• FY 2018 IRS budget bill, passed by the House and waiting for a vote in Senate, which would fund the IRS for FY 2018

Please contact our office if you have any questions about tax reform, the extenders or other tax bills.