The Internal Revenue Service (IRS) issued guidance on Jan. 4, 2016, that clarifies certain implications of its previously announced changes to the employee plans determination letter program. These clarifications, announced in Notice 2016-03 (Notice) are necessary to cover open issues raised from prior guidance that in effect shuts down the determination letter program for most amendments to individually designed plans.
The IRS yesterday released IRS Notice 2016-4, which extends the due dates for certain 2015 information reporting under the Affordable Care Act (“ACA”). This notice relates to due dates for the 2015 information reporting requirements (i.e., both furnishing to individuals and filing with the IRS) for insurers and self-insuring employers. Specifically, Notice 2016-4 extends the due date for (a) furnishing to individuals the Form 1095-B, Health Coverage, and the Form 1095-C, Employer-Provided Health Insurance Offer and Coverage, and (b) filing with the IRS the Form 1094-B, Transmittal of Health Coverage Information Returns, the Form 1095-B, Health Coverage, the Form 1094-C, Transmittal of Employer-Provided Health Insurance Offer and Coverage Information Returns, and the Form 1095-C, Employer-Provided Health Insurance Offer and Coverage. The extension for the Forms 1094-B and Form 1095-B is from February 1, 2016, to March 31, 2016, and the extension for the returns submitted to the IRS is from February 29, 2016 to May 31, 2016 (if not filing electronically) and from March 31, 2016 to June 30, 2016 (if filing electronically). That being said, the IRS indicates it is prepared to accept filings of the information returns on Forms 1094-B, 1095-B, 1094-C, and 1095-C beginning in January 2016 and is encouraging employers and other coverage providers to furnish statements and to file the information returns as soon as they are ready (of course, the IRS always says that). Employers or other coverage providers that do not comply with these extended due dates are subject to penalties imposed under the ACA for failure to timely furnish and file, and so these extended deadlines must be taken seriously.
Final regulations issued by the IRS in 2014 specified the deadlines for information reporting required by the ACA. Generally, those regulations provide persons providing minimum essential coverage to individuals during a calendar year must file with the IRS information returns on or before the following February 28 (March 31 if filed electronically) and must furnish to the individuals identified on the return a written statement on or before January 31 following that calendar year. Since in 2016, the January 31 and February 28 due dates fall on weekend days; in 2016 these two due dates were supposed to February 1 and February 29, respectively (yes, 2016 is a leap year). The IRS designated Form 1094-B and Form 1095-B to meet the requirements of the regulations. In addition, the regulations generally require applicable large employers to file with the IRS information returns on or before February 28 (March 31 if filed electronically) of the year following the calendar year to which it relates and to furnish to full-time employees a written statement on or before January 31 following that calendar year. For this purpose, the IRS designated Form 1094-C and Form 1095-C as transmittal forms to meet the requirements of the regulations. The preambles to the final regulations state that for 2015 coverage the IRS will not impose penalties on reporting entities that can show that they have made good faith efforts to comply with the information reporting requirements, and that this relief applies only to furnishing and filing incorrect or incomplete information and not to a failure to timely furnish or file a statement or return. The preambles also note that generally the penalties may be waived if a failure to timely furnish or file a statement or return is due to reasonable cause (i.e., the reporting entity demonstrates that it acted in a responsible manner and the failure is due to significant mitigating factors or events beyond the reporting entity’s control).
This news, while perhaps a bit tardy, should be very useful for many.
Leaders in the U.S. Congress reached a deal on Tuesday night to permanently extend many of the 52 provisions of the Internal Revenue Code that expired on Dec. 31, 2014. The full Congress approved the bill on Dec. 18, 2015 and President Obama signed the bill into law. The Protecting Americans from Tax Hikes Act of 2015 (the PATH Act) extends the popular research and development credit, bonus depreciation deduction, and the enhanced Section 179 depreciation deduction. Congress had previously approved an extension of these provisions—colloquially known as “extenders”—in the years 2012 and 2014 by legislating the extenders to apply retroactively to the past year. Congress had not made these provisions permanent before.
Together, the provisions of the PATH Act address a diverse group of interests from that of the low-income individual taxpayer to the small business taxpayer. We will address the highlights:
- The R & D Credit: Congress extended and expanded the research & experimentation tax credit for businesses. Small businesses with gross receipts below $5,000,000 for the taxable year will now be able to offset payroll taxes with the credit. This valuable addition allows new businesses to utilize the credit even though they may not have federal income tax liability.
- Section 179 Depreciation Deduction: This deduction encourages businesses to expand by allowing a deduction for a portion of business investment purchases and investment costs. Congress restored the deduction and income phase-out limits to $500,000 and $2,000,000 respectively. Further, under the bill, the limits are indexed to inflation instead of depending on periodic amendments to the law. Congress had allowed the deduction and income limits to fall to $25,000 and $200,000.
- S Corp Built-In Gains Recognition: Congress shortened the term of the corporate-level tax on the disposition of appreciated assets by an S corp to five years from the S Corp conversion date, instead of ten years under previous law. This change reduces one of the drawbacks of a C corp’s conversion to an S corp.
- Itemized Deduction of State and Local Sales Taxes: Congress will allow taxpayers to take an itemized deduction for state and local sales taxes instead of deducting state income taxes. This provision is very useful to taxpayers in states that do not have a state income tax. These no-income tax states often have high sales taxes, which taxpayers can then deduct.
- Earned Income Tax Credit, Child Tax Credit, and American Opportunity Tax Credit: Congress returned these refundable credits to their previous levels and, in some cases, increased the value of the credits by either increasing the income level that the credits phase-out at or by decreasing the earned income amount needed to receive the credit. The credits allow low-income and middle-class taxpayers to eliminate much of their tax liability and often to receive refunds.
- Miscellaneous: Congress also made provisions such as the educator expense deduction, some narrow charitable giving exemptions, and abbreviated cost-recovery timelines, permanent.
- Bonus Depreciation: Congress extended the immediate deductibility of a portion of asset acquisition until the end of 2019. However, the bonus deduction will only permit the usual 50% expensing of asset acquisitions until the end of 2017. After that, the deductible percentage will be 40% in 2018 and 30% in 2019.
- New Markets Tax Credit: The new markets tax credit was extended until the end of 2019.
- Delay of Cadillac Tax: The start of the Affordable Care Act’s tax on high-cost employer-sponsored health insurance will be delayed from 2018 to 2020.
- Delay of Excise Tax on Medical Devices: The Affordable Care Act’s 2.3% excise tax on certain medical devices will be delayed until 2018. The health care industry has heavily lobbied for this change because of its potential negative impact on the industry.
The importance of permanency
Understanding the importance of the permanent extension to the economic incentive provisions requires a brief detour into the legislative brinksmanship that has governed Congress throughout the past few years. Congress has allowed these tax provisions to periodically expire and then—usually very near the end of the year—Congress often passes a one-year extenders package that applies the legislation retroactively. For example, a taxpayer can still take advantage of bonus depreciation for a purchase it made in January of a year, even though the extenders package did not pass until December of that year. In theory, a tax incentive to invest may push a taxpayer who is sitting on the fence about investment to make a deductible purchase when the taxpayer otherwise wouldn’t, which in turn stimulates the economy. Further, if a taxpayer has less tax liability, the taxpayer may put excess funds to an efficient use.
However, the brinksmanship and periodic renewals in Congress defeated the purpose of the economic incentive-type provisions. If a taxpayer has no certainty over whether it will realize a tax benefit for purchasing an asset or investing in research, then it may delay or decide not to make that purchase. Permanent extenders allow a taxpayer to make and execute investment plans without worrying that Congress may not renew the tax benefit. This new certainty should encourage new investment in the American economy.
The PATH Act is an important piece of legislation for taxpayers to monitor. The certainty that the Act provides should allow taxpayers to realize the full benefit of these tax provisions.
ERISA fiduciaries of employee stock ownership plans (ESOPs) and plans with employer stock funds increasingly find themselves in a Catch-22. If they continue to invest in employer stock and the stock price falls, the fiduciaries could be sued for violating their duty of prudence. If they stop investing in employer stock and the price rises, the fiduciaries could be sued for failing to follow plan terms. Many circuit courts previously addressed this situation by applying the Moench presumption of prudence to fiduciaries of ESOPs and other plans that required an employer-stock fund. That is, fiduciaries of plans that required investment in employer stock were presumed to have acted prudently, and that presumption generally was overcome only if plaintiffs could demonstrate that the fiduciaries abused their discretion by continuing to invest plan assets in employer stock. The Supreme Court in Fifth Third Bancorp v. Dudenhoeffer, however, held last year that no special presumption of prudence applied in these circumstances. Instead, fiduciaries of these types of plans were subject to the same ERISA prudence standards that applied to fiduciaries of any other plan. The Court did acknowledge that the separate standard of asset diversification did not apply top ESOPs (although it would apply to other plans with employer stock funds).
After Dudenhoeffer, many commentators expressed concern about what the loss of the presumption of prudence would mean for ESOP fiduciaries. The Sixth Circuit, however, may have restored a sense of calm in a recent decision. In Pfeil, et al. v. State Street Bank & Trust Co., the Sixth Circuit held that an ESOP fiduciary’s investment decisions satisfy the ERISA duty of prudence so long as the fiduciary uses a prudent process when the decisions are made. Further, a public company stock’s current market price is deemed to be a reliable indicator of the stock’s value, absent a showing of special circumstances by the plaintiffs as to why that price is not reliable. This is true even if in hindsight stock losses occur.
This case represents good news for fiduciaries of plans that require investment in employer stock—even though the days of a presumption of prudence are gone. This case demonstrates that if fiduciaries use a prudent process then attacks from plaintiffs will be much tougher to sustain even if hindsight shows the outcome of the decision to be a bad one. This blog will explore the decision and its implications.
Ever since the series finale of “Mad Men,” I’ve been thinking a lot about old commercials. One commercial in particular involves Heinz ketchup. In the ad, someone would turn the bottle upside down, and the ketchup would take an extremely long time to pour out of the bottle and onto a sandwich. An announcer would then say the slogan: “The best things come to those who wait.” Apparently, Heinz wanted us to believe that patience was a virtue—rewarded by its ketchup.
Marketing gimmicks aside, the IRS has taken a similar view (towards patience, not ketchup) with respect to tax guidance that impacts executive compensation arrangements. In a notice published in 2007, the IRS announced its intent to issue new regulations under Code Section 457(f) in an attempt to harmonize Code Sections 457(f) and 409A. Over eight years later, we are still waiting for that guidance. The wait may soon be over, however, because IRS officials informally have indicated that this guidance is “very, very close” to be released, probably by the end of this year or early in 2016. The two pieces of guidance presumably will not be issued at the same time. Continue Reading
In perhaps the last big legislative push of 2015, the Bipartisan Budget Act of 2015 (the “Act”) was passed by the House of Representative on a 266-167 vote on Wednesday, October 28, 2015 — in the waning moments of outgoing Speaker John Boehner’s tenure. In the vote, 79 Republicans joined 187 Democrats to pass the package — which means a fairly large number of Republicans voted against the Act suggesting the days of the political turbulence in the House may not completely be over. Subsequently, the Senate also voted to approve the Act by a 64-35 vote (overcoming objections from a group of conservative senators, including a few presidential candidates). On Monday, November 2, 2015, President Obama signed the bill into law at a brief ceremony at the White House.
The Act encompasses a compromise two-year budget bill that was negotiated between House leadership and the White House, and it raises spending caps on domestic and defense spending over the next two years by an aggregate amount of $80 billion. Generally, the additional spending is split evenly between domestic and defense concerns — thus allowing all participants in the negotiations to declare themselves winners. The Act also makes changes to the Social Security disability program. In addition, the Act extends the federal borrowing limit through March 15, 2017 — at which time there will be a new Congress and a new president. The days of crisis governing in Congress may be over—at least we are taking a welcome break.
The IRS recently released an audit techniques guide (the “Guide”) to advise its internal auditors who are examining cases involving equity-based compensation (i.e., compensation based on the value of specified stock). Examples include stock transfers, stock options, stock warrants, restricted stock, restricted stock units, phantom stock plans and stock appreciation rights paid to an employee, director or independent contractor. The Guide provides a general discussion of potential tax issues that could arise with respect to these arrangements (e.g., disqualifying dispositions of incentive stock options, Code Section 83(b) elections for restricted stock). Interestingly, the Guide devotes a fair amount of detail to explaining where auditors may find these documents, encouraging them to review Securities and Exchange Commission (“SEC”) filings as well as internal documents. As such, the Guide serves as an important reminder to employers to be mindful that the IRS (or other third parties) someday could seek to review their corporate documents. That will be the focus of this blog.
The Guide advises auditors that a good place to start an examination is by reviewing SEC documents (at least with respect to publicly-held entities). In particular, the Guide explains that a public company’s annual report (Form 10-K), definitive proxy statement (DEF 14A), and Statement of Changes in Beneficial Ownership (Form 4) can be particularly pertinent. These documents will identify the types of plans an employer sponsors and provide compensation data under the plans for the named executive officers and the directors. The Guide directs the IRS auditors to compare the compensation data on the SEC forms with information reported on the individual’s Form W-2 or 1099-MISC, as applicable, and confirm that the appropriate amount of taxes has been withheld and paid. If the information on the tax documents and SEC forms do not reconcile, the Guide recommends that the auditor consider expanding the scope of the audit.
The Guide also instructs auditors to review an employer’s internal corporate documents, including employment contracts, Board of Director meeting minutes and Compensation Committee meeting minutes. The Guide adds that auditors should request reports “issued by the compensation committee and presented to the board of directors” because these reports may provide additional insight into equity compensation practices.
Employers should be aware of these instructions. Often times, it is easy for someone to prepare internal documents using jargon or short-hand that is familiar among people at the company but that may be difficult to explain to a third party or worse could be misleading. The Guide demonstrates that internal documents may not be restricted to internal personnel. Instead, the IRS very well could review these internal documents. As such, employees and advisers who prepare these documents should be mindful of both the information contained in the documents and how they present that information.
Key Takeaways for Employers.
While the IRS prepared the Guide to assist its internal auditors, the Guide also helps employers understand how the IRS could conduct a potential audit of equity-based compensation plans. One takeaway for employers is to review its compensation practices and make sure that as a matter of substance they comply with the applicable tax rules. The other takeaway is a matter of form or style. Specifically, when employees of a company or its outside advisers prepare internal documents or documents to be filed with the SEC, they should keep in mind that the IRS very possibly will review some or all of these documents (particularly the SEC filings). Thus, when preparing these documents, they should do so in a way that demonstrates compliance with the applicable tax rules and that avoid any ambiguities. Doing so will help make a potential audit less burdensome and less risky.
Cunningham v. Testa, Slip Opinion No. 2015-2744 (July 8, 2015)
Recently, the Supreme Court of Ohio issued an opinion in Cunningham v. Testa which significantly alters the application of a statute for determining non-Ohio domicile for state tax purposes. Prior to the ruling, the statute seemed to set forth two factors which, when verified, would create an irrebuttable presumption of non-residency for state income tax purposes:
- too few contact periods; and
- an abode outside of Ohio.
Following this ruling, a taxpayer may now be forced to prove sufficient additional facts to show that he would legally be considered domiciled outside the state. The change represents a partial reversion back to a prior structure which existed at common law, a structure which was amended over 20 years ago due to its complexities. The case of Cunningham v. Testa casts serious doubt on the future validity of any bright-line test for determining Ohio domicile and will create uncertainty for taxpayers in the coming years.
The taxpayer, Kent Cunningham, owned homes in both Ohio and Tennessee for the entirety of the 2008 tax year. Also, Cunningham undisputedly had fewer than 182 contact periods with the state of Ohio for that year. He filed a Form IT-DA, an “Affidavit of Non-Ohio Domicile,” for the 2008 tax year. In the affidavit, he declared that he “was not domiciled in Ohio at any time during taxable year 2008” and affirmed that he “had fewer than 183 contact periods in Ohio during the taxable year.”
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The Internal Revenue Service (the “IRS”) issued Announcement 2015-19 on July 21, 2015, in which the agency announced that its long-standing and widely used retirement plan determination program for individually designed plans was being significantly curtailed. The IRS indicated that this curtailment, which has been rumored for months and now becomes official, is attributable to a need to more efficiently direct its limited resources in an era of budget cutbacks for the agency.
Under the announcement, and effective as of January 1, 2017, the currently-available staggered 5-year determination letter remedial amendment cycles for individually designed plans generally will be consigned to history. As of that date, the IRS no longer will accept determination letter applications based on the 5-year remedial amendment cycles. Sponsors of Cycle A plans will continue to be permitted to submit determination letter applications during the period beginning February 1, 2016, and ending January 31, 2017. Presumably, all pending applications filed in earlier cycles will be processed. After January 1, 2017, the scope of the determination letter program for individually designed plans will be limited to submissions related to qualification upon initial plan qualification (i.e., regardless of when the plan was adopted, any plan for which a Form 5300, Application for Determination for Employee Benefit Plan, has not been filed or for which such a Form 5300 has been filed but a determination letter was not issued) and qualification upon plan termination. Generally, effective July 21, 2015 and through December 31, 2016, the IRS no longer will accept off-cycle determination letter applications (except for determination letter applications for new plans and for terminating plans). In addition, the IRS indicated in Announcement 2015-19 that plan sponsors will be permitted to submit determination letter applications in other limited circumstances that will be determined by Department of the Treasury (the “Treasury”) and the IRS in the future. The Treasury and the IRS will identify those limited circumstances through periodic published guidance.
President Obama might want to invite Chief Justice John Roberts to the White House for a “thank you” dinner!
The United States Supreme Court today issued an opinion in King v. Burwell that upholds the Obama administration’s interpretation of language in the Affordable Care Act (the “ACA”) that concluded government subsidies to underwrite the cost of health care coverage are available to all qualifying Americans–and not just to those living in states that maintain their own heath care exchanges under the ACA. In a 6-3 decision, Chef Justice Roberts authored the opinion of the court (just as he did in the Court’s landmark opinion in 2012 in National Federation of Independent Business v. Sebelius). Specifically, the Court’s opinion upholds a ruling by the Internal Revenue Service that subsidies should be available both in states that have set up their own exchanges and in other states in which residents must purchase coverage through the federal government exchange. Five other justices joined Chief Justice Roberts in his opinion, including Justices Anthony Kennedy, Ruth Bader Ginsburg, Stephen Breyer, Sonia Sotomayor and Elena Kagan. Justice Antonin Scalia wrote a typically scathing dissent, and was joined in that dissent by Justices Clarence Thomas and Samuel Alito Jr.
The case centered on an interpretation of a phrase in the ACA that offers tax credits to individuals who purchase health care coverage on exchanges that are “established by the state.” Chief Justice Roberts wrote that even though the language was problematic, the intent of Congress to provide the subsidies to all individuals was clear. In perhaps the core (and ultimately most-quoted) statement in the opinion, Roberts wrote that “Congress passed the Affordable Care Act to improve health insurance markets, not to destroy them. If at all possible we must interpret the Act in a way that is consistent with the former, and avoids the latter.”
In his dissent, Justice Scalia forcefully expressed his view that the actions of majority were not designed to interpret the ACA but rather to save it—a job he believes is rightfully reserved to the legislature. Scalia closed his dissent with a statement that is sure to gain much notice and notoriety when he wrote that “We should start calling this law SCOTUScare.”
This case does not deal with complicated constitutional principles, and at the end of the day simply preserves the status quo. Having said that, most observers believed that a contrary ruling would have dealt a devastating blow to the essential operations of the ACA. While other legal challenges to the ACA are being litigated, none of those cases seem to present such an existential threat to the ACA. Still, the challenges are not over. The ACA surely will be a centerpiece issue during the 2016 presidential campaign, and legislative efforts to repeal, defund or revise all or parts of the ACA will continue. Although the battlefield may have changed, the battles will continue.