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President Trump on April 26^th, just before his “100 days” in office, unveiled his highly-anticipated tax reform outline –the “2017 Tax Reform for Economic Growth and American Jobs.” The outline calls for dramatic tax cuts and simplification: lower individual tax rates under a three-bracket structure, doubling the standard deduction, and more than halving the corporate tax rate; along with changing the tax treatment of pass-through businesses, expanding child and dependent incentives, and more. Both the alternative minimum tax and the federal estate tax would be eliminated. The White House proposal does not include spending and tax incentives for infrastructure; nor a controversial “border tax.”

According to White House officials, the President’s proposals set out broad principles with specifics to be hammered-out in coming weeks. Actual “bill language” with details is now expected sometime in June now that the President has thrown his support officially to tax reform.

Individuals

For individuals, the White House proposed consolidating and reducing the tax rates to 10, 25 and 35 percent. Cohn said that no income brackets have yet been developed for the proposed lower rates. The proposal also calls for doubling the standard deduction. "Married couples would have a $24,000 standard deduction," National Economic Council Director Gary Cohn said at a White House briefing. He predicted that doubling the standard deduction would simplify tax filing for millions of Americans.

Along with repealing the federal estate tax, the AMT and the NII tax, the proposal calls for abolishing nearly all individual credits and deductions." The plan eliminates all individual deductions except mortgage interest and charitable deductions," Treasury Secretary Steven Mnuchin has stated. The plan also calls for unspecific tax relief for families with child and dependent care expenses.

The White House plan apparently keeps the current framework for capital gains and dividend taxes. However, it would repeal the 3.8-percent NII tax. "The president looks at [the NII tax] as being a tax on capital," Cohn said.

Businesses

During the campaign, President Trump proposed to reduce the corporate tax rate and cut taxes on small businesses. The plan does both, Cohn and Mnuchin said. The corporate tax rate would fall to 15 percent. "Small and mid-size businesses will be eligible for the 15-percent rate," Mnuchin said, referring to partnerships, S corporations and sole proprietorships in which income is currently passed through to their owners at individual income tax rates. "We will make sure that there are mechanisms in place to prevent wealthy people from taking advantage of the rules for small businesses," he added.

The proposal would also move the U.S. to a territorial tax regime. "A territorial system means U.S. companies will pay tax on income related to the U.S.," Mnuchin said. "U.S. companies will not be subject to worldwide income tax," he added.

Not included in the proposal is so-called border adjustability. House Republicans have promoted a border adjustment tax as a way to pay for tax reform. Mnuchin predicted that the president’s plan would "pay for itself" but did not elaborate how. "Lots and lots of details will go into how it will pay for itself. This will pay for itself with growth and closing loopholes," he said.

Another business proposal would provide for a one-time, reduced tax rate on earnings repatriated to the U.S. The White House has not said yet what the rate would be but predicted it would be a "very competitive rate."

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The Treasury Department is to undertake a review and re-evaluation of tax regulations issued by the IRS since January 1, 2016. President Trump signed an Executive Order 13789 (“Identifying and Reducing Tax Regulatory Burdens”) ordering this action on April 21. Following its review and re-evaluation, the Treasury Department will make recommendations.

Tax regulations

The IRS typically issues many regulations every year. Some regulations are permanent, others are temporary, and others are proposed. IRS regulations touch every taxpayer, including individuals, businesses, and tax-exempt organizations. When the IRS proposes a regulation, it invites public comments. The federal government maintains a website where individuals can review proposed regulations and make comments. Frequently, the IRS will hold a hearing at which stakeholders and taxpayers can share their concerns about proposed regulations. All regulatory documents are published in the Federal Register.

President’s instructions

Under President Trump’s April 21 Executive Order, the Treasury Department is to identity tax regulations that:

Impose an undue financial burden on taxpayers;
Add undue complexity to federal tax laws; or
Exceed the statutory authority of the IRS.

The Treasury Department is to make an initial report within 60 days. After that, Treasury will recommend what actions to take, which may include delaying, suspending or modifying regulations. The second report is due within 150 days. Our office will keep you posted of developments.

IRS guidance plan

At the same time the President announced his Executive Order, the IRS requested public input on its new Priority Guidance Plan. The Priority Guidance Plan identifies guidance projects that are high on the agency’s agenda. Generally, these projects cover a wide range of taxpayers and tax administration. In its announcement, the IRS noted that “input is of particular importance because of Executive Order 13771.”

Executive Order 13771 was signed by President Trump in January. The Executive Order generally instructs federal agencies to remove two existing regulations for every new regulation proposed. Since January, the pace of IRS guidance has slowed. Indeed, the IRS has not issued any regulations since January 20, 2017. The IRS has posted new frequently asked questions (FAQs) and has updated some existing FAQs on its website. The agency also has released several revenue procedures. These are official statements of a particular procedure.

Additionally, the IRS has continued to issue private letter rulings. IRS Chief Counsel has posted advice memoranda. IRS officials also continue to testify at Congressional hearings and speak at trade and industry events.

IRS Commissioner John Koskinen has characterized these items as “sub-regulatory” guidance. They appear to be outside the scope of Executive Order 13771. Additionally, a federal agency may determine that a regulation is outside the scope of the Executive Order. The U.S. Department of Health and Human Services (HHS) made this determination for regulations under the Affordable Care Act released in April.

If you have any questions about the President’s executive orders, please contact our office.

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The IRS processed more than 128 million returns and issued some 97 million refunds without hitting any major roadblocks by the end of the filing season. As in past years, the vast majority of returns were filed electronically. Likewise, most refunds were deposited electronically. Although the filing season has ended for most individuals, millions are on extensions.

Returns

The IRS always expects a rush of last-minute filers and this filing season was no exception. A few days before April 18, the IRS reported that it expected to receive some 17 million returns before the filing deadline. Overall, the IRS received approximately 135 million returns during the filing season. This reflects a decrease of roughly one percent compared to the same time last year. Millions more will be filed by October 16, 2017, when taxpayers on extensions must file their returns.

The IRS predicted that some 12 million taxpayers would request extensions of time to file their 2016 returns. The IRS reminded taxpayers that an extension of time to file is not an extension of time to pay any tax due. Penalties and interest accrue on unfiled returns if taxes are not paid by April 18. There is no penalty for filing a late return after the tax deadline if the taxpayer receives a refund.

Refunds

By the end of the filing season, the IRS reported it had issued some 97 million refunds. The average refund is $2,763, compared to $2,711 at this time last year, the agency reported.

Some early filers experienced delayed refunds this year. A law passed in late 2015 took effect for the first time this filing season. The Protecting Americans from Tax Hikes Act (PATH Act) generally required the IRS to hold refunds on earned income tax credit (EITC) and additional child tax credit (ACTC) returns until February 15. After February 15, the IRS released these refunds.

Cybercrime

Tax-related identity theft surges during the filing season. Although the IRS has not yet released any figures, the agency has claimed to have done a better job curbing cybercrime. The IRS has partnered with the tax preparation industry and tax professionals to enhance e-filing security and safeguards. Many of these measures are behind the scenes.

One online tool was compromised by cybercriminals. The IRS took the Data Retrieval Tool (DRT) offline in March. The DRT is used by individuals completing the Free Application for Federal Student Aid (FAFSA). The IRS has reported that the DRT will remain offline until security features are improved.

Looking ahead

IRS Commissioner John Koskinen is in the last year of his five-year term. Koskinen has said that he hopes to complete his term, which ends in November, but recognized that he serves at the pleasure of the President. Speaking in Washington, D.C. in April, Koskinen recommended that Congress quickly approve his successor to ensure the smooth running of the agency.

If you have any questions about the filing season, please contact our office.

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Audit coverage rates are at low levels, the IRS has reported. According to the IRS, the audit coverage rate for individuals fell 16 percent from FY 2015 to FY 2016. The 0.7 percent audit coverage rate for individuals was the lowest coverage rate in more than a decade, the agency added.

Selection Process

The raw audit numbers, of course, do not answer the more specific question regarding “my chances of being audited by the IRS.” The IRS does very little random selection of returns for being audited these days. Computer analysis flags certain suspect items but, there again, randomly. For example, taking the home office deduction increases a taxpayer’s odds of an audit on the item, but odds remain that it still will not be pulled for audit. Another “audit trigger” is not reporting income for which an information return (Form 1099-MISC, for example) has been generated.

Audit campaigns. The IRS Large Business and International (LB&I) Division has revealed new corporate compliance campaigns. The campaigns, as explained by LB&I, offer "a holistic response to an item of either known or potential compliance risks." Whether "audit campaigns" will be initiated within the other major IRS divisions in part will depend upon the success of the LB&I division's rollout. So far, IRS leadership appears optimistic over its prospects.

The campaigns currently address:

Code Sec. 48C energy credit;
Offshore voluntary disclosure program declines and withdrawals;
Code Sec. 199 domestic production activities deductions;
Micro-captive insurance;
Related-party transactions;
Deferred variable annuity reserves and life insurance reserves;
Basket transactions;
Completed contract method of accounting;
TEFRA linkage plan strategy;
S corporation losses claimed in excess of basis;
Repatriation;
Form 1120-F Nonfiler.

Automatic Underreporter Program. The IRS reported that the Automatic Underreporter Program continues to generate significant revenues. The agency closed more than 3.5 million cases under the Automatic Underreporter Program, generating some $6.8 billion in additional assessments. Further, the IRS closed nearly 400,000 cases under the Automatic Substitute for Return Program, generating some $600 million in additional assessments.

Comment. Intertwined with audit selection are the shrinking resources available to the IRS to conduct audits. President Trump has proposed a $239 million reduction in the IRS's budget for fiscal year (FY) 2018.

Audit Coverage Stats

Individuals. The audit coverage rate for individuals for FY 2016 was 0.7 percent. The audit coverage rate increased for higher income taxpayers: 1.7 percent for returns reporting more than $200,000 in income and 5.8 percent for returns reporting more than $1 million in income. Nearly 800,000 of individual audits in FY 2015 were correspondence audits. Some 240,000 were field audits. In total, the IRS audited roughly 1.03 million of the nearly 148 million individual returns filed.

Corporations. The audit coverage rate for corporations (excluding S corps) for FY 2016 was 1.1 percent. Here, more audits were field audits than correspondence exams. Some 19,000 were field audits and roughly 1,800 were correspondence audits.

Partnerships and S corps. For partnerships, the audit coverage rate for FY 2016 was 0.4 percent. The IRS audited roughly 15,000 of the 3.9 million partnership returns received. The audit coverage rate for S corps for FY 2016 was 0.3 percent. Of the approximately 4 million S corp returns received, the IRS selected some 16,000 for audit.

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Although the employee may end up with the same amount whether something is designated a tip or a service charge, the IRS reporting requirements for the employer do differ. Basically, any amount required to be paid by a customer rather than at the customer’s discretion is considered a service charge by the IRS.

Tips

Tips are optional payments received by employees and determined by customers. Tips include cash; tips made through a credit card or other electronic payment; the value of noncash tips; and tips paid through tip splitting.

Tips include:

Cash tips received directly from customers.
Tips from customers who leave a tip through electronic settlement or payment. This includes a credit card, debit card, gift card, or any other electronic payment method.
The value of any noncash tips, such as tickets, or other items of value.
Tip amounts received from other employees paid out through tip pools or tip splitting, or other formal or informal tip sharing arrangements.

Employees are required to report cash tips to their employers except tips from any month that total less than $20. Employers are required to retain employee tip records and credit card tip designations, withhold employee income taxes and the employee share of social security and Medicare taxes and report this information to the IRS.

Both directly and indirectly tipped employees must report tips to their employer.

A “directly tipped employee” is any employee who receives tips directly from customers, including one who, after receiving the tips, turns all of them over to a tip pool. Examples of directly tipped employees are waiters, waitresses, bartenders and hairstylists.

An “indirectly tipped employee” is a tipped employee who does not normally receive tips directly from customers. Examples of indirectly tipped employees are bussers, service bartenders, cooks and salon shampooers.

Tips reported to the employer by the employee must be included in Box 1 (Wages, tips, other compensation), Box 5 (Medicare wages and tips), and Box 7 (Social Security tips) of the employee's Form W-2 , Wage and Tax Statement. Enter the amount of any uncollected social security tax and Medicare tax in Box 12 of Form W-2.

Service charges

Tips must be made free from compulsion; the customer must have the unrestricted right to determine the amount; the payment may not be subject to employer policy; and the customer has the right to determine who receives the payment. Service charges do not have any of these qualities and are generally reported as regular wages to employees. So-called “automatic gratuities” and any amount imposed on the customer by the employer are service charges, not tips.

Examples of service charges commonly added to a customer's check include:

Large dining party automatic gratuity
Banquet event fee
Cruise trip package fee
Hotel room service charge
Bottle service charge (nightclubs, restaurants)

Service charges are generally wages, and they are reported to the employee and the IRS in a manner similar to other wages. On the other hand, special rules apply to both employers and employees for reporting tips. Employers should make sure they know the difference and how they report each to the IRS.

Generally, service charges are reported as non-tip wages paid to the employee. Some employers keep a portion of the service charges. Only the amounts distributed to employees are non-tip wages to those employees.

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As an individual or business, it is your responsibility to be aware of and to meet your tax filing/reporting deadlines. This calendar summarizes important federal tax reporting and filing data for individuals, businesses and other taxpayers for the month of May 2017.

May 1
Employers. File Form 941 for the first quarter of 2017 for employment taxes if you have not deposited the tax for the quarter timely, properly, and in full. Deposit or pay any undeposited tax under the accuracy of deposit rules.

Deposit federal unemployment tax (FUTA) owed through March if more than $500.

May 3
Employers. Semi-weekly depositors must deposit employment taxes for April 26–28.

May 5
Employers. Semi-weekly depositors must deposit employment taxes for April 29-May2.

May 10
Employers. File Form 941 for the first quarter of 2017 for employment taxes if you deposited the tax for the quarter timely, properly, and in full.

Employees who work for tips. Employees who received $20 or more in tips during April must report them to their employer using Form 4070.

Employers. Semi-weekly depositors must deposit employment taxes for May 3–5.

May 12
Employers. Semi-weekly depositors must deposit employment taxes for May 6–9.

May 15
Employers. For those to whom the monthly deposit rule applies, deposit employment taxes and nonpayroll withholding for payments in April.

May 17
Employers. Semi-weekly depositors must deposit employment taxes for May 10–12.

May 19
Employers. Semi-weekly depositors must deposit employment taxes for May 13–16.

May 24
Employers. Semi-weekly depositors must deposit employment taxes for May 17–19.

May 26
Employers. Semi-weekly depositors must deposit employment taxes for May 20–23.

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2011 year end tax planning for individuals lacks some of the drama of recent years but can be no less rewarding. Last year, individual taxpayers were facing looming tax increases as the calendar changed from 2010 to 2011; particularly, increased tax rates on wages, interest and other ordinary income, and higher rates on long-term capital gains and qualified dividends.

Thanks to legislation enacted at the end of 2010, tax rates are stable for 2011 and 2012, although the uncertainty will return as 2013 approaches, as political pressure in Washington builds to do something quickly for the economy. Ordinary income tax rates for individuals currently are 10, 15, 25, 28, 33 and 35 percent; capital gains rates are zero and 15 percent.

President Obama has proposed to preserve these tax rates for taxpayers with income below $200,000 (individuals) and $250,000 (married couples filing jointly) and to raise the rates for taxpayers in these higher-income brackets. If Congress is gridlocked and takes no action, everybody’s rates will rise, but again, not until 2013.

Expiring tax breaks

Unfortunately, not all is quiet on the tax front despite no dramatic rate changes until 2013. There are some specific tax provisions that will terminate at the end of 2011, unless Congress and the President agree to extend them. These include the tuition and fees above-the-line deduction for high education expenses, which can be as high as $4,000. Another expiring provision is the deduction for mortgage insurance premiums, which covers premiums paid for qualified mortgage insurance.

Several other benefits (“extenders”) are also scheduled to expire after 2011:

The state and local sales tax deduction;
The classroom expense deduction for teachers;
Nonbusiness energy credits;
The exclusion for distributions of up to $100,000 from an IRA to charity;
A higher deduction limit for charitable contributions of appreciated property for conservation purposes.

Retirement accounts

An old standby that makes sense from year-to-year is maximizing contributions to an IRA. The contribution is deductible up to $5,000 ($6,000 for taxpayers over 50), depending on some specific taxpayer income levels and circumstances. Taxpayers in a 401(k) plan can reduce their income by contributing to their employer plan, for which the limit in 2011 is $16,500.

In 2010, it was particularly important to consider whether to convert a traditional IRA to a Roth IRA, because the income realized on conversion could be recognized over two years. While a conversion continues to be worthwhile to consider (because distributions from a Roth IRA are not taxable), there are no longer any special break to defer a portion of the income from the conversion.

Alternative minimum tax

The AMT has been “patched” for 2011. The exemptions have been temporarily increased from the normal statutory levels to the “patched” levels:

From $33,750 to $48,450 for single individuals;
From $45,000 to $74,450 for married couples filing jointly and surviving spouses; and
From $22,500 to $37,335 for married couples filing separately.

The amounts return to the “normal levels” of $33,750/$45,000/$22,500, respectively, in 2012 unless Congress takes action to maintain the patch. Elimination of the AMT is a goal of long-term tax reform, but the loss of revenue has been considered too high in the past. Without the “patch,” the Congressional Budget Office estimates that an additional 20 million middle-class taxpayers would suddenly become subject to an AMT once designed only for millionaires.

While planning for the AMT is difficult, taxpayers may want to consider realizing AMT income, such as capital gains, in 2011, when the patch is higher, rather than in 2012.

Conclusion

Taxpayers can take advantage of 2011 provisions to realize last-minute tax benefits. Some of these benefits may not be available in 2012. It is worthwhile to look at these planning opportunities as part of an overall year-year financial strategy.

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Many tax benefits for business will either expire at the end of 2011 or become less valuable after 2011. Two of the most important benefits are bonus depreciation and Code Sec. 179 expensing. Both apply to investments in tangible property that can be depreciated. Other sunsetting opportunities might also be considered.

Bonus depreciation

Bonus depreciation is 100 percent for 2011. A business can write-off, in the first year, the entire cost of its investment in new depreciable property. Under current law, bonus depreciation will decrease to 50 percent in 2012 and will terminate after 2012. (These deadlines are extended one year for certain transportation property and property with a longer production period). President Obama has proposed to extend 100 percent bonus depreciation through 2012. Normally, this would have a good chance of being approved, but with the focus on deficit reduction and the linking of tax benefits to tax increases, it is not at all clear what will happen.

So, if a business has income in 2011 and plans to invest in depreciable property, it is worthwhile to consider making that investment in 2011, while the available write-off is at its highest. Under normal depreciation rules, a business will still be able to claim accelerated write-offs, but this may be 50 percent or less of the cost of the property, with the balance written-off over several years, instead of all in one year.

Planning for bonus depreciation is important because the property must satisfy placed-in-service and acquisition date requirements. Property is placed in service when it is in a condition or state of readiness on a regular ongoing basis for a specifically assigned function in a trade or business. The acquisition date rules may vary. For 2011, property is acquired when the taxpayer incurs or pays its cost. This could occur when the property is delivered, but it could also be when title to the property passes. For 2012, property is acquired when the taxpayer takes physical possession of the property.

Code Sec. 179 expensing

Code Sec. 179 expensing (first-year writeoff) has been around for awhile, but at higher amounts more recently. While there is no limit on bonus depreciation, expensing is limited to a statutory amount. For 2011, this amount is $500,000. It is scheduled to drop to $125,000 in 2012 and to $25,000 after 2012 (adjusted for inflation). Moreover, the cap is reduced for the amount of total investment in Code Sec. 179 property. The phaseout threshold is $2 million for 2011, dropping to $500,000 for 2012 and $200,000 for 2013 and subsequent years. For businesses who want to invest in depreciable property, the payoff is definitely greater in 2011. Taxpayers taking advantage of expensing should write off assets that would otherwise have the longest recovery periods.

Other 2011 benefits

Some other important benefits expire at the end of 2011 or become less valuable. A significant benefit in 2011 is the 100 percent exclusion for small business stock. After 2012, the normal exclusion rate will drop to 50 percent, although it has been 75 percent in recent years. The exclusion is based on the year the stock is acquired; the stock must be held for five years before sold and satisfy other requirements.

Another important benefit is the 20 percent research credit. The credit has been extended one year at a time for a long period, so it is likely to be extended again. Nevertheless, until Congress acts, there is some uncertainty for research expenses incurred after 2011.

Conclusion

To maximize the benefits of 2011 year-end tax planning, a business must be proactive in determining what upcoming capital investments might be accelerated into this year and what investments become cost effective because of the immediate tax benefits that they offer. Some business-related tax benefits will be less valuable after 2011; for others, it is not clear what Congress and the administration will do in terms of surprising taxpayers with a year-end tax bill. Please contact this office if you have any questions over how year-end tax strategies that begin now and continue through December can help maximize tax benefits for your business.

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