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Tax News & Views
February 17, 2012
White House budget proposal includes tax compliance, simplification provisions
In addition to proposals to provide tax incentives for domestic manufacturers and middle-class taxpayers and shift the tax burden to multinational corporations and upper-income individuals, the FY 2013 budget package released by the Obama administration on February 13 includes a number of provisions – many recycled from previous budgets – to bolster the IRS’s enforcement budget, ensure taxpayer compliance, strengthen tax administration, and simplify targeted provisions in the Internal Revenue Code. (For prior coverage of the president’s proposed budget, see Tax News & Views, Vol. 13, No. 6, Feb. 13, 2012.)
To maintain the enforcement collection efforts by the IRS, the administration proposes a multi-year program integrity cap adjustment for tax enforcement, compliance, and related activities for FY 2013 which will fund roughly $350 million in new revenue-producing initiatives – in particular, international tax compliance and information reporting authorities – above the current levels of enforcement and compliance activity. Beyond 2013, the administration proposes a roughly $350 million increase each fiscal year from 2014 through 2017 and to fund all of the new initiatives and inflationary costs via cap adjustments through FY 2022.
The administration would require corporations and partnerships that file a Schedule M-3 to file returns electronically. For other large taxpayers that are not required to file a Schedule M-3 (such as exempt organizations), regulatory authority would be granted to allow the current threshold of filing 250 or more returns in a calendar year to be reduced. The e-filing requirement may also be waived if a taxpayer is unable to comply due to technological constraints or if compliance would be financially burdensome. The proposal would be effective for tax years ending after December 31, 2012.
Other compliance initiatives in the budget address:
- E-filing by deferred compensation plans – The administration proposes to authorize the IRS to require additional information in the electronically filed annual reports by sponsors of funded deferred compensation plans. The proposal would be effective for plan years beginning after December 31, 2012.
- Liability for employee leasing companies – The proposal would set standards for holding employee leasing companies jointly and severally liable with their clients for federal employment taxes, effective for employment tax returns required to be filed for wages paid after December 31, 2012.
- Corporate estimated tax payments – The administration would repeal all legislative acts that cause the amount and timing of corporate estimated payments to differ from the rules described under section 6655, effective for taxable years beginning after December 31, 2012.
Currently, withholding is not required or permitted for payments to contractors. Since contractors are not subject to withholding, they may be required to make quarterly payment of estimated income taxes and self-employment (SECA) taxes near the end of each calendar quarter. The administration contends that an optional withholding method for contractors would reduce the burdens of having to make quarterly payments, help contractors automatically set aside funds for tax payments, and help increase compliance.
Under this proposal, contractors receiving $600 or more from a business would be required to provide the business with a Form W-9 with a certified taxpayer identification number (TIN). The business would be responsible for verifying the TIN information with the Internal Revenue Service, which would validate the TIN. Should the contractor fail to provide the appropriate information, the business would be directed to withhold a percentage of gross payments. The flat-rate withholding could be at a rate of 15, 25, 30, or 35 percent, to be selected by the contractor, effective for payments to contractors after December 31, 2012.
The budget package includes proposals to:
- Eliminate requirements that an initial offer-in-compromise include a nonrefundable payment of any portion of the taxpayer’s offer, effective for offers-in-compromise submitted after the date of enactment;
- Expand IRS access to information in the National Directory of New Hires for tax administrative purposes, effective on the date of enactment;
- Make repeated willful failure to file a tax return a felony, effective for returns required to be filed after December 31, 2012;
- Treat Indian tribal governments that impose alcohol, tobacco, fuel excise, income, or wage taxes as states for information-sharing purposes, and require Indian tribal governments that receive federal tax return information to safeguard it according to prescribed protocols, effective for disclosures made after enactment;
- Extend the statute of limitations where state adjustment affects federal tax liability, effective for returns required to be filed after December 31, 2012;
- Clarify taxpayer privacy law by stating that it does not prohibit Treasury and IRS officers and employees from identifying themselves, their organizational affiliation, and the nature and the subject of an investigation when contacting third parties in connection with a civil or criminal tax investigation, effective for disclosures made after the date of enactment;
- Require all taxpayers who prepare their tax returns electronically but file them on paper to print their returns with a 2-D bar code that can be scanned by the IRS to convert the return into an electronic format, effective for tax returns filed after December 31, 2012;
- Allow, but not require, the IRS to accept credit or debit card payments from taxpayers and to absorb the credit and debit card processing fees for delinquent tax payments;
- Reinstate IRS authorization permanently to disclose actual returns for individuals incarcerated in federal or state prisons whom the IRS determines may have filed or facilitated the filing of a false return, effective on the date of enactment;
- Increase the scope of the IRS math error authority, effective for taxable years beginning after December 31, 2012; and
- Assess a penalty for failure to comply with electronic filing requirements of returns, effective for returns required to be electronically filed after December 31, 2012.
The administration would simplify the tax rules through proposals to:
- Eliminate minimum required distribution rules for individual retirement accounts or annuity (IRA)/plan balances of $75,000 or less – Generally, the minimum required distribution rules require that participants in tax-favored retirement plans begin receiving distributions shortly after attaining age 70-1/2. Failure to take, in part or in full, the minimum required distribution for a year by an applicable deadline can cause a 50 percent excise tax on the amount not withdrawn. The proposal would exempt an individual from taking required minimum distributions if the aggregate value of the individual’s IRA and tax-favored retirement plan accumulations does not exceed $75,000 (indexed for inflation) on a measurement date. Additional phase-in requirements would be provided for aggregate retirement thresholds between $75,000 and $85,000. The change would be effective for taxpayers attaining age 70-1/2 on or after December 31, 2012.
- Allow all inherited plan and individual retirement account or annuity balances to be rolled over within 60 days – By allowing 60-day rollovers of such assets, the proposal would expand the options that are available to a surviving nonspouse beneficiary under a tax-favored employer retirement plan or IRA for moving inherited plan or IRA assets to a nonspousal inherited IRA. This treatment would be available only if the beneficiary informs the new IRA provider that the IRA is being established as an inherited IRA, so that the IRA provider can title the IRA accordingly. The proposal would be effective for distributions made after December 31, 2012.
- Clarify the exception to recapture of unrecognized gain on sale of stock to an Employee Stock Ownership Plan (ESOP) – Section 1042 allows a taxpayer to elect to defer the recognition of long-term capital gain on the sale of employer securities to an ESOP under certain circumstances and subject to certain conditions, including purchase of qualified replacement property within a specified period. The deferred gain is subject to recapture on disposition of the qualified replacement property unless an exception applies. One of the exceptions is for a disposition by gift. The proposal would amend the recapture rules of section 1042 to provide an exception for transfers under section 1041, which provides an exception for a transfer incident to a divorce. The proposal would be effective with respect to transfers made under section 1041 after December 31, 2012. No inference as to prior law is intended.
- Repeal nonqualified preferred stock (NQPS) designation – For certain purposes in corporate organizations or certain shareholder exchanges, nonqualified preferred stock is treated as taxable “boot.” The proposal would repeal the nonqualified preferred stock provision and other cross-referencing provisions of the code that treat NQPS as boot, effective for stock issued after December 31, 2012.
- Repeal preferential dividend rule for publicly traded real estate investment trusts (REITs) – REITs are allowed a deduction for dividends paid to their shareholders, except to the extent dividends are deemed preferential. The preferential dividend rule for publicly offered regulated investment companies (RICs) was previously repealed. This proposal would repeal the preferential dividend rule for publicly traded and publicly offered REITs. The Treasury Department would also be given explicit authority to provide for cures of inadvertent violations of the preferential dividend rule where it continues to apply and, where appropriate, to require consistent treatment of shareholders. The proposal would apply to distributions that are made (without regard to section 858) in taxable years beginning after the date of enactment.
- Reform excise tax based on investment income of private foundations – In general, private foundations are exempt from federal income tax and are subject to a 2 percent excise tax on their net investment income. Additionally, the excise tax is reduced to 1 percent in any year in which the foundation’s distributions for charitable purposes exceed a certain level. Private foundations that are not exempt from federal income tax must pay an excise tax equal to the excess of the sum of excise tax on net investment income and the amount of unrelated business income tax that would have been imposed if the foundation had been tax exempt, over the income tax imposed on the foundation. This proposal would replace the two rates of tax on private foundations that are exempt from federal income tax with a single tax rate of 1.35 percent. Further, the tax on private foundations not exempt from federal income tax would be equal to the excess (if any) of the sum of the 1.35 percent excise tax on net investment income and the amount of the unrelated business income tax that would have been imposed if the foundation were tax exempt, over the income tax imposed on the foundation. The special reduced excise tax rate available to tax-exempt private foundations that maintain their historic level of charitable distributions would be repealed.
- Remove bonding requirements for certain taxpayers subject to federal excise taxes on distilled spirits, wine, and beer – Under this proposal, taxpayers subject to federal excise taxes on alcoholic beverages (manufacturers, producers, and importers of distilled spirits, wine, and beer) would be exempt from current-law bond requirements if they have an expected liability for these taxes of not more than $50,000 in the current year, and had a liability for these taxes of not more than $50,000 in the prior year. The excise tax filing and payment period for these taxpayers would be changed to quarterly (from semi-monthly). Taxpayers that are subject to federal excise taxes on alcoholic beverages and have an expected liability for these taxes of not more than $1,000 in the current year would be permitted to file and pay their taxes annually. The proposal would be effective 90 days after the date of enactment.
- Simplify rules for claiming the Earned Income Tax Credit (EITC) for workers without qualifying children – This provision would allow eligible taxpayers residing with qualifying children to claim the EITC for workers without qualifying children if they do not claim the EITC for those children currently, effective for taxable years beginning after December 31, 2012.
The administration proposes the following changes to the rules governing tax-exempt bonds:
- Simplify arbitrage investment restrictions – In general, interest on debt obligations issued by state and local governments for governmental purposes is excludable from gross income. Section 148 imposes two types of arbitrage investment restrictions on tax-exempt bond proceeds. To limit arbitrage profit incentives for excess issuance of tax-exempt bonds and to provide a more simplified and more unified framework, the administration has created numerous proposals to simplify arbitrage investment restrictions.
- Simplify single-family housing mortgage bond targeting requirements – To finance mortgage loans for owner-occupied single-family housing residences, section 143 defines several targeting limitations, such as a mortgagor income, purchase price, refinancing, and targeted area availability, in order to qualify for use of tax-exempt qualified mortgage bonds. The administration argues that targeting requirements have become overly complex. To reduce the burden, this proposal would repeal the purchase price limitation under section 143(e) and the refinancing limitation under section 143(d) on tax-exempt qualified mortgage bonds.
- Streamline private business limits on governmental bonds – Section 141 treats tax-exempt bonds issued by state and local governments as governmental bonds if the issuer limits private business use and other private involvement sufficiently to avoid treatment as “private activity bonds.” Bonds are generally classified as private activity bonds under a two-part test. However, subsidiary restrictions further reduce the permitted thresholds of private involvement for governmental bonds in several ways, such as a 5 percent unrelated or disproportionate private business use limitation. This proposal would repeal the 5 percent unrelated or disproportionate private business use test under section 141(b)(3) to simplify the private business limits on tax-exempt governmental bonds.
The administration proposes to reform the laws governing the Inland Waterways Trust, including establishing a new user fee. The proposal would increase the amount paid by commercial navigation users in order to raise enough revenue to pay the full amount of the authorized expenditures from this trust fund. The administration would set the amount of the user fee each year to collect a total of $1.1 billion from the user fee over the first 10 years and thereafter adjust it over time so that the combined amount collected from the excise tax and the user fee covers the user-financed share of spending for inland waterways construction, replacement, expansion, and rehabilitation work.
The administration also proposes to:
- Allow federal tax refunds to be offset to collect delinquent state tax obligations regardless of where the debtor resides;
- Authorize the limited sharing of business tax return information (with respect to sole proprietorships with receipts greater than $250,000 and all partnerships) to improve the accuracy of economic measures;
- Modify the reporting requirements applicable to the U.S. Treasury Inspector General for Tax Administration;
- Modify inflation-adjustment provisions to prevent deflationary adjustments; and
- Allow Treasury to levy up to 100 percent of a payment to a Medicare provider to collect unpaid taxes.
— Simmy Sharma, Prasoona Palaparthy, Blessy Keerthi & Sathyanand Kanugula
Tax Policy Group
Deloitte Tax LLP
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