Coming to a Tax Return of Your Client Soon – Congress Moving on a Bill with Tax Provisions

Congress is back at work on a new tax bill, and I’ve prepared a brief summary of what appears to be the provisions in the bill reported out of the Senate Finance Committee.  The title of the Act is the Worker, Homeowner and Business Assistance Act of 2009, HR 3548.  While the House version had no tax provisions, the Senate bill now has a number of them.  Currently it is expected that this bill is likely to pass both houses and become law shortly.

The Senate found a vehicle for two stimulus related tax provisions that either had expired or were going to expire shortly in a bill being passed to provide for extended unemployment benefits, and thus in a relatively short time frame we went from no tax bill to a final version.  But the bill is not limited to just such provisions, and there are a few not so nice surprises in this November gift the Congress has given us.

Note this bill does not address one huge issue on the horizon—the fact of the estate tax in 2010 and 2011, a matter I would expect the Congress to have to address before December 31.  But this bill gives us more than enough to keep us occupied as we begin year end tax planning in earnest for 2009.

This version of the document describes the bill as it existed when it was voted out by the Senate Finance Committee and is based on a brief overview of the act that I put together while flying across the country—so be sure to both verify that the final bill was not changed and that this summary correctly reflects the law.

I.               Homebuyer Credit Extension & Modifications (Act Secs 11 and 12)

A.            Extension and Expansion of Credit

1.             Extension of Expiration Date

The date for purchases qualifying for the “first time” homebuyer credit is extended to residences purchased before May 1, 2010.  As well, a homebuyer who enters into a binding contract before May 1, 2010 to close on a residence before July 1, 2010 will have the deadline extended to complete that purchase before July 1, 2010. [Act Sec. 11(a)(1)]

As with 2009 purchasers, 2010 purchasers will generally not be required to pay back the credit in most cases. [Act Sec 11(a)(2)]

Individuals who make a purchase after December 31, 2009 will be able to elect to treat that purchase as having been made on December 31, 2009, thus being able to claim the credit on their 2009 original or amended income tax return. [Act Sec 11(a)(3)]

2.             Long Time Homeowners Qualify for Credit

A new class of taxpayers will become eligible for a reduced amount of the credit [Act Sec 11(b)], effective for purchases made after the date of enactment [Act Sect 11(j)(1)]. To qualify for this credit, a purchaser must have owned and used the same property as his/her principal residence for five consecutive years during the eight year period preceding the purchase of a new residence [Act Sec 11(b), adding IRC §36(c)(6)].

Such a homeowner will qualify for a maximum credit of $6,500 (or $3,250 on a separate return). [Act Sec 11(c)(1) adding IRC §36(b)(1)(D)]

3.             Income Limits for Qualifying for the Credit

The new law will allow taxpayers with higher incomes to qualify for the credit than were able to do so before.  Under the new law, the credit will begin to phase out for individuals with incomes of $125,000, or $225,000 for married couples filing a joint return, up from $75,000 and $150,000 under the old law. [Act Sec 11(c)(2)]  This increase will be effective for residences purchased after the date of enactment. [Act Sec 11(j)(1)]

4.             Cap on Maximum Purchase Price of Residence

While Congress may have liberalized income level qualifications, the new law comes with a new restriction on the purchase price of a qualifying residence.  The new law provides the credit is not available on a home whose purchase price exceeds $800,000 [Act Sec 11(d), adding IRC §36(b)(3)].  This limit will be effective for residences purchased after the date of enactment of this act.  [Act Sec 11(j)(1)]

Note that this is a “cliff” cap—the entire credit is available for a home purchased for $800,000, but none of the credit is available if the home costs $800,001.

5.             Special Rules for Certain Members of the Armed Services, etc.

Two special rules are applied for certain members of the armed services, Foreign Service of the United States, or a member of the intelligence community.  First, if a covered individual sells his/her residence after December 31, 2008 and the sale was in connection with Government orders received for “qualified extended duty service” by the individual or their spouse, the recapture rules will not apply to the residence for which the taxpayer(s) received a credit.  [Act Sec. 11(e) adding IRC §36(f)(4)(E)(i)]

“Qualified Extended Duty Service” is defined at IRC §36(f)(4)(E)(ii) as generally defined by reference to the use of the same term for the suspension of periods regarding the principal residence gain exclusion found at IRC §121(d)(9), covering the same types of service.

The second benefit added for such individuals relates to an extended time to purchase the residence and qualify for the credit.  If one of the above individuals was on qualified extended duty service outside the United States for at least 90 days during the period after December 31, 2008 and before May 1, 2010, they receive an extra year to purchase the residence—that is, they can either purchase a qualifying residence before May 1, 2011 or have a binding contract in place before that date, with closing scheduled before July 1, 2011.  [Act Sec 11(f), adding IRC §36(a)(3)]

B.            Anti-Abuse Provisions

Unfortunately when Congress gives away “refundable credits” one of the certainties of life is that some will attempt to obtain the money via “creative” means.  With recent publicity over such frauds that were plaguing the prior program increasing, Congress decided to add a number of provisions that are meant to address abuses in the credit.

1.             Dependents Ineligible for the Credit

If an individual is eligible to be claimed as a dependent of another individual under IRC §151 by another taxpayer, that person will not able to claim the first time homebuyer’s credit.  Note that since the law only requires that another taxpayer be eligible to claim the taxpayer as a dependent, merely having that other taxpayer not claim the dependent will not be enough to obtain the credit. [Act Sec. 11(g), adding IRC §36(d)(3)].

2.             Expansion of Definition of “Mathematical or Clerical Error” to Cover Issues Related to the Credit

Under §6213(b)(1), the IRS has the right to recalculate a taxpayer’s tax for specified “mathematical or clerical” errors, and the taxpayer has no right to petition the Tax Court regarding such matters, allowing for an immediate assessment of the tax without the issuance of a notice of deficiency.  In this law, Congress adds to the list of “mathematical and clerical errors” found at IRC §6213(g) any of the following items that the IRS could use to immediately the credit claimed under the first time homebuyer credit:

• Based on information obtained related to the taxpayer’s TIN (most likely from Social Security records), the taxpayer is not eligible to claim the credit due to his/her age
• Information provided on either of the two years preceding tax returns that appears inconsistent with the credit (likely existence of a deduction for home mortgage interest)
• The taxpayer fails to attach the settlement document for the purchase of the home to his/her return
• Omission of the recapture tax, if required to be paid

Note that two of these issues relate to new requirements discussed later in this chapter. [Act Secs 11(h) and 12(d), adding IRC §6213(g)(2)(O) and (P)]

3.             Age Requirements

Effective for purchases after the effective date of the Act, a credit will not be allowed unless either the taxpayer has attained age 18 by the date of the purchase of the residence or, if married, his/her spouse had attained age 18 by that date.  [Act Sec 12(a), adding IRC §36(b)(4)]

4.             Settlement Document Must Be Attached to the Return

Effective for residences acquired after the effective date of the Act, no credit will be allowed on a return unless the taxpayer attaches a properly executed copy of the settlement statement used to complete the purchase.  [Act Sec 11(b), adding IRC §36(d)(4)]

5.             Restrictions on Acquiring Residence From Party Related to Spouse

The list of related individuals from whom a residence may not be purchased from to obtain the credit is expanded to include any individual that would be considered related to a taxpayer’s spouse, effective for purchases after the date of enactment.  [Act Sec 12(c)]

II.              Net Operating Loss Revisions (Act Section 13)

Congress again revisited expanded net operating loss, but this time the rules are modified yet again.  While the option to select 3, 4 or 5 years returns, taxpayers that qualify are expanded to all businesses.

A.            Five Year Loss Carryback for Either 2008 or 2009 Tax Year Net Operating Losses

Any business, except those that received TARP funds, will be able to elect to carry back a net operating loss for up to five years for a single tax year ending after December 31, 2007 and beginning before January 1, 2010.  The election must be made by the due date (including extensions) for filing the taxpayer’s last taxable year beginning in 2009.  [Act Sec. 13(a)]

B.            Limitation on Use of Loss Carried Back to Fifth Year

The loss carried back to the fifth preceding taxable year cannot exceed 50% of the taxpayer’s taxable income for that year.  For every other year the full amount of income can be offset.  [Act Sec 13(a)]  This rule does not apply to any losses carried back by eligible small businesses under the prior law.

C.            Eligible Small Businesses Can Use Loss in Two Years

An eligible small businesses, defined as that term was for 2008 net operating loss carrybacks under the provisions enacted in the American Recovery and Reinvestment Act of 2009, may carry two years worth of losses back under this provision.

Note that this law will effectively give eligible small businesses that may not have timely filed an election to carry back their 2008 loss five years another chance to make election.

III.            Other Provisions

While the first two provisions have received most of the coverage, Congress inserted other provisions in the bill, and some of them may not be ones your clients may be happy with.

A.            Worldwide Allocation of Interest Rule Delayed

The scheduled worldwide allocation of interest would delayed until tax years beginning after 2017 (presuming Congress doesn’t need to find another revenue offset by then and revisit this statute yet again). [Act Section 15]

B.            Partnership and S Corporation Penalties Raised to $195 per month

Another place that Congress has recently turned towards to raise money are the penalties imposed on partnerships and S corporations that do not timely file their returns.  The new law, effective for tax returns for taxable years beginning after December 31, 2009, would raise the monthly per partner/shareholder per month penalty under §§6698(b)(1) and 6699(b)(1) to $195 from the current level of $89.  As before, the penalty applies for up to twelve months, and can be waived if good cause is shown for the failure to timely file the return.  [Act Sec 16]

C.            Requirement to File Returns Electronically for Tax Preparers

The United States Congress decided to follow the lead of a number of states and will begin to require tax preparers who do not expect to prepare 10 or fewer individual, trust or estate returns to file all individual, trust and estate returns electronically.  The mandate will be effective for returns filed after December 31, 2010. [Act Sec 17, adding IRC §6011(e)(3)]

D.            Large Corporation Estimated Tax Payments Due in July, August or September of 2014 Increased by 33%

It wouldn’t a tax law in recent years unless Congress did their own budget funds swap between federal government fiscal years by accelerating the payment of large corporation estimated taxes into the fourth quarter of the government’s fiscal year, and this law is no exception.  Under this law, the required estimated tax payment for large corporations would be increased by 33 percent for the payment due in July, August or September of 2014.

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