What's New For The 2020 Tax Filing Season

Filing taxes last year was a nightmare not just for you but for us and the IRS too.  This year might not be much better.  

Here’s why: first, the IRS is still working to issue guidance for the changes to the tax code they signed into law more than two years ago and second, Congress passed a series of tax breaks late in 2019 that will require the IRS and tax software providers to revise forms at the last minute.  

If you are interested in learning more about what’s happened since we last met, grab your coffee and read at your leisure. J

Further Consolidated Appropriations Act

In the last few weeks of 2019 Congress produced its most significant tax package of the year as part of the Further Consolidated Appropriations Act, 2020 (FCAA).

The Act includes the revival of expired or expiring tax breaks mostly through 2020.  Many of these tax breaks expired after 2017 but Congress retroactively extended them back to January 2018.  This means you will have to amend prior year returns if you want to claim those breaks. J   

Among the tax breaks are:

• $2 million exclusion for forgiven debt on a home
• Lower 7.5% AGI threshold for deducting medical expenses on Schedule A (was 10%)
• Tuition and fees above the line deduction
• Private mortgage insurance (PMI)
•  Construction of energy efficient homes
•  Lots of other business and energy tax incentives

FCAA also repealed:

• 2.3% excise tax on medical devices (starting January 1, 2020… so not retroactive).
• Excise tax on high-cost employer-sponsored health plans, aka the Cadillac tax, is repealed starting January 1, 2020.

SECURE Act (Setting Every Community Up for Retirement Enhancement)

The Secure Act is primarily intended to encourage saving for retirement though it’s not entirely favorable to taxpayers.  Here are some highlights:

• Owners of traditional IRA’s can now make contributions past the age of 70 ½ as long as they are working. 
• Folks having a baby or adopting can take payouts from IRAs and 401Ks of up to $5,000 without having to pay the 10% fine for pre-age 59 ½ withdrawals.
• No more stretch IRA’s.  Distributions from inherited IRAs to individuals must be cleaned out within 10 years.  There are some exceptions but generally this is considered not good for taxpayers.
• Increases the age at which taxpayers must begin to take required minimum distributions (RMDs) from 70½ to 72
• Allows for multiple employer plans (MEPs), which give smaller, unrelated businesses the opportunity to team up to provide defined contribution plans at a lower cost
• Allows long-term part time workers to participate in 401K plans.  
• Plans adopted by filing due date for year may be treated as in effect as of close of year
• 529 plans expanded to include apprenticeships and homeschooling and provisions to use 529 plan funds to pay for student loans
• Repeals the kiddie tax back to pre-TCJA and allows taxpayers for 2018 and 2019 to select the lower tax rate (the parent’s rate versus the TCJA rates).  For 2018, children will need to amend their tax returns to take advantage of this.

Taxpayer Certainty and Disaster Tax Relief Act of 2019

FCAA also allows individuals who had losses in qualified disaster areas to withdraw up to $100,000 from retirement plans without being subject to the 10% early withdrawal penalty. But that's not all. You can pay it back during a three-year period, and you can also spread the income tax hit over three years. Remember, this is a penalty-free withdrawal, not an income tax-free withdrawal.

Health Insurance Mandate Penalty Eliminated.

The penalty for not having health insurance no longer applies for 2019 federal tax returns.  There is no box on Form 1040 to check off indicating you had health insurance.  Technically, the individual mandate is still in effect but there is no longer a penalty to enforce it.  

Some states have their own individual health insurance mandate requiring coverage. If you live in a state with a mandate and don’t have insurance (or an exemption) you must pay a fee when you file your state taxes. Currently, Massachusetts, New Jersey, and Washington, D.C. have such mandates (effective for 2019) in addition to Vermont whose mandate is effective starting in 2020.

Forms 1095 - A, B and C
Taxpayers will continue to receive Forms 1095-A, B and C containing information about insurance coverage, and should keep these forms with their records. If you purchased insurance coverage through the marketplace you will receive Form 1095-A, Health Insurance Marketplace Statement, which provides information necessary to compute the Premium Tax Credit.  We will need copies of all Forms 1095.

The following elements of ACA are not changing:

• Premium tax credit: Taxpayers falling within 100%-400% of the federal poverty level may be eligible for the credit.
• Employer mandate: Employers with over 50 employees are required to provide employees with healthcare coverage or face a penalty.
• Surtaxes on high-income taxpayers:
• 3.8% net investment income tax
• 0.9% additional Medicare tax

New or Revised Tax Forms

Form 1040:  Revised and Redesigned (Again)

The IRS released a draft Form 1040 for 2019 tax returns that has been updated from the 2018 version. There are now three schedules instead of the six that appeared in the 2018 Form 1040. Schedule 6 is now part of Form 1040. Schedules 2 and 4 have been combined into a single schedule as have Schedules 3 and 5. Schedule 1 remains as is. Another notable change is that the signature line is once again, at the end of the form. While the new Form 1040 for 2019 is no longer “postcard size,” it is still shorter than it was in 2018 – although slightly longer than the 2019 version. 

Form 1040SR: US Tax Return for Seniors

The new Form 1040-SR for 2019, was created in response to the Bipartisan Budget Act of 2018 and is intended for taxpayers age 65 and older. While similar to the standard Form 1040, the font size is larger and it includes a chart of the standard deduction and additional standard deduction amounts for taxpayers over 65 years old or blind. Taxpayers with more complicated tax situations should use the regular Form 1040.

Forms 8995/8995-A
On 2018 tax returns, taxpayers calculated the Qualified Business Income (QBI) deduction using a worksheet.  Worksheets are not required to be filed with the IRS.  So this means that taxpayers got a free pass on their QBI deduction claimed on the 2018 return.  The IRS won't be looking at it.   If you are unfamiliar with the term QBI be sure to read on.   It is a new tax deduction that took effect in 2018 and was created by the Tax Cuts and Jobs Act (TCJA). 

In 2019, the IRS released a draft of two new forms that taxpayers will have to submit to the IRS to show how they computed the QBI deduction on the return. Form 8995-A is the long form for more complex QBI calculations and Form 8995 is the Simplified Computation.

Other New Tax Forms for 2019

• Form 8985: Pass-Through Statement [Pass-Through Statement — Transmittal/Partnership Adjustment Tracking Report]
• Forms 965-C, 965-D, and 965-E: Inclusion of Deferred Foreign Income Upon Transition to Participation Exemption System
• Form 8978: Partner’s Additional Reporting Year Tax
• Form 8997: Initial and Annual Statement of Qualified Opportunity Fund (QOF) Investments

Income Tax Brackets and Tax Rates
For 2019 tax returns, the income tax brackets are only slightly wider than last year because of inflation.  Tax rates do not change.

Optimize Your Refund

The IRS had plenty of unhappy customers during the 2019 filing season.  A lot of people who got tax refunds in previous years were shocked to discover they had to pay taxes when they filed their 2018 return.  The 2017 tax reform law reduced tax rates, doubled the standard deduction and increased the child credit which lowered the overall tax bill for many but the IRS also reduced the amount of tax withheld from wages in an effort to synchronize withholding with these tax law changes.  Things did not quite work out as planned and many clients did not have enough taxes withheld from their paychecks in 2018 to cover the taxes owed.

To avoid this problem going forward, the IRS created a new Form W-4.  It eliminates using “allowances” to determine the withholding rate.  Instead the form asks for information about income sources, dependents and anticipated deductions.

The IRS also released a new tax withholding estimator  The estimator can help prevent having too little withheld.  So if you weren’t happy with your refund last year we encourage you to update your W4 and run a paycheck checkup this month to avoid any surprises next year.

Alimony is No Longer Deductible.

Starting Jan. 1, 2019, alimony is no longer deductible to the payer and is no longer taxable to the payee for separation or divorce agreements or decrees in effect on this date or later.

Tax Treatment of State and Local Tax Limits and Refunds

The IRS clarified the tax treatment of state and local tax refunds that arise from any year the new state and local tax deduction limit applies. The ruling impacts state tax refunds received in 2019 and going forward. Beginning in 2018, the itemized deduction for state and local taxes is limited to $10,000 (if $5,000 married filing separate).

State and local tax refunds are not taxable if the taxpayer takes the standard deduction in the year the tax is paid. If the taxpayer itemizes deductions on Schedule A, all or part of the refund may be taxable in the following year to the extent a tax benefit is received.  The key part of the calculation is determining the amount the taxpayer would have deducted had the taxpayer only paid the actual state and local tax liability – that is no refund or balance due.   This is probably much better explained by example.  Revenue ruling 2019-11 provides four examples if you're interested.

Virtual Currency

The IRS has made virtual currency a top priority in 2019.

Notice 2014-21 issued in 2014 made it clear that virtual currency such as Bitcoin is considered property for federal tax purposes; it is recognized as a capital gain or loss on the sale. If virtual currency is received for performing services, you would recognize ordinary income equal to the fair market value of the virtual currency.

During 2019 the IRS issued its second detailed guidance relating to virtual currency transactions by way of frequently asked questions (FAQs) and Revenue Ruling 2019-24.  It expands and supplements the IRS's 2014 notice by providing taxpayers with examples and explanations. 

Be prepared to answer a new question on the 2019 Form 1040 Schedule 1: "at any time during 2019 did you receive, sell, send, exchange, or otherwise acquire any financial interest in any virtual currency?"

Before you answer no, consider that the IRS has a number of ways to gather information on taxpayer compliance including summons, artificial intelligence, data analytics, whistle blowers, and even a taxpayer's social media.   So don't be shy.  Let us know if you need help understanding your reporting requirements.  

Electric Car Credit

The plug-in electric drive motor vehicle credit was enacted in 2008 for eligible passenger vehicles and light trucks. You can pay a premium by purchasing one of these cars, so the credit makes them more affordable. Depending on the model of the car purchased and your tax situation, you can get an electric vehicle credit up to $7,500, plus any state or local incentives. Each vehicle manufacturer is allowed to sell up to 200,000 vehicles before the credit begins to phase out. The total is by manufacturer not by brand. 

• For General Motors (Chevrolet Bolt EV, for example) the credit began to phase out on April 1, 2019.
• For Tesla, the phase out of the tax credit began on Jan. 1, 2019.

For credit information on other manufacturers click here.

Maximize the 20% QBI Deduction
For many businesses, one of the most attractive features of the 2017 TCJA was the new Section 199A deduction for qualified business income (QBI).  At its simplest level, the QBI deduction allows individuals to deduct up to 20% of the qualified business income they report on their Form 1040's.  This is huge.  Normally, you have to part with cash to get a tax deduction.  But with the QBI deduction the government just handed business owners a huge tax break for free - 1/5 of your business income is no longer taxable.  If you miss the deduction, the IRS has already said they will not add it for you.  Like we ever thought they would?


Who qualifies?  Owners of sole proprietorships, partnerships and S corporations.  You just can't be a C Corp.

What is QBI income?  Profits from one of those types of entities.  It does not include income from wages, interest, dividends or capital gains.

How much is the QBI deduction?
Up to 20% of the qualifying business profits.  Essentially, 1/5 of your business income is excluded from income tax.

Of course, there are always exceptions and limitations in tax law and the QBI deduction doesn't fail.  It is considered one of the more complex parts of the TCJA but it's definitely one you don't want to miss.  With proper planning you can maximize the deduction.

The IRS has made it clear that no QBI deduction is allowed if reasonable compensation is not paid.  If you need help establishing a reasonable officer compensation be sure to read this post "S Corporations and the Reasonable Wage Requirement".

The QBI deduction is available through 2025 unless Congress extends it.

Does the QBI deduction apply to rental property income?

You may be eligible to take the 20% QBI deduction.  The rules are outlined in IRS Notice 2019-7 including Section 199A safe harbor requirements.  IRS Regulations say the rental activity must rise to the level of a trade or business.  The safe harbor is if at least 250 hours a year of qualifying time are devoted to the activity by the taxpayer, employees or independent contractors.  Meeting the safe harbor lets you treat the rental as a business for QBI purposes.

The 250 hour requirement may be a bit challenging since that is about 5 hours per week and if you have a single rental property it is doubtful that over 20 hours is being spent per month managing it.  You must keep contemporaneous records (which means record keeping in real time) of your rental services to support the hour requirement.

So what if you cannot meet the Section 199A safe harbor provision for rental income?  You can still demonstrate that your rental property meets the definition of a trade or business under Section 162.  The burden shifts to the taxpayer to prove it.

Taxpayer First Act of 2019

Wouldn’t it be nice to have a kinder IRS?  Sure they will still take your money but at least they will be nice about it.  This law was passed to make the IRS more taxpayer friendly.  Here are some highlights:

• Improved customer service
• Greater identity theft protection
• Accepting credit and debit card payments
• Greater protection for innocent spouses
• Easier settlement procedures – if you can’t pay your tax bill the IRS might be willing to settle for a lesser amount under the Offer in Compromise program
• Curbed use of private tax collectors – That’s right the IRS hires private companies to help them collect unpaid taxes.  As you may have guessed there have been some problems in this area. J
• Limited seizure of property
• Better protection of taxpayer information
• Greater access to independent review process
• Earlier notice of third party questions – if you are a business owner and your tax return is being audited, as part of the exam the IRS wants to question one of your customers about the transactions.  This could have an impact on your reputation and business.   IRS now has a 45-day notice requirement before it can contact a third party.
• Fewer John Doe Summons

Estate and Gift Tax

The lifetime estate and gift tax exemption for 2019 is $11,400,000 ($22,800,000 for couples if portability is elected after death of a spouse).  The exemption will fall back to $5 million after 2025 unless Congress extends the higher amount. 

Foreign Accounts

Willfully failing to report foreign accounts can cost you big as shown in this case in which a US citizen failed to report a Swiss account that she had for a number of years.  IRS assessed an $800,000 penalty against her.  Under the statute, the penalty is the greater of $100,000 or 50% of the highest balance in the accounts. 

Where’s My Refund – Amended Returns

If you have filed an amended return and want to check on its status go to www.irs.gov/filing/wheres-my-amended-return to access the system.  You will need to enter your SSN, date of birth and zip code.  It can take up to three weeks after you mailed the return for it to show up online.  And it can take the IRS as long as 16 weeks to process the return once received.

Donations

Failing to follow the substantiation rules (aka documentation) can cause you to lose the deduction.  Once couple claimed a $236,000 deduction on Schedule A for donating real estate to a charity they ran.  The Form 8283 attached to the return was incomplete.  Although the couple got a written appraisal, they didn’t receive or obtain it by the due date of the return, as required by law.  An appeals court denied the deduction. 

Want to find out more about a charity you’re thinking of donating to?  Check out the IRS online “Tax Exempt Organization Search”.  You can verify whether a group is eligible to receive tax deductible contributions.

Planning Strategies - Instead of giving to charity every year you can save your donations and give twice as much every other year.  This tax strategy is called Bunching.  This strategy may or may not work for you depending on how much you plan to donate and how close you are to having enough deductions to exceed the threshold for the standard deduction. 

Charitable donations made directly from a traditional IRA can save taxes.  People 70 ½ and older can transfer up to $100,000 yearly from IRA’s directly to charity.  These count as RMD, but they aren’t taxable and they are not added to your AGI so they won’t trigger a Medicare premium surcharge.  The money must go directly to a charitable organization.

Penalties

If you filed a late return or paid taxes late you may qualify for a penalty waiver under the IRS’s First Time Abate program.  The IRS will OK a waiver of the late filing and late payment penalties for filers who pay the tax due and have been tax compliant for the past three years.  But you have to request the waiver.  The abatement is not provided automatically. 

Tip if you get a penalty notice:  If you believe you have a good excuse for your tax mistake, ask the IRS to first consider whether reasonable cause applies.  Qualifying for this exception preserves your ability to use the First Time Abate waiver if you happen to have tax trouble again in the next three years.  If the IRS denies reasonable cause relief, then you can request first-time penalty abatement.

Want to be taxed as an S corporation?

Don’t forget to elect S status. Companies that want to be treated as an S corporation for tax purposes must file Form 2553 with the IRS no later than 2 ½ months after the tax year has started.  The IRS has been easing up on late elections.  Generally, firms have three years and 75 days to seek relief.  They will have to show that they are otherwise eligible to be treated as an S corporation and that the firm and its shareholders reported income consistent with S corporation status. 

Firms must also demonstrate that there was reasonable cause for the late election.  To request relief, file Form 2553, write “Filed Pursuant to Rev. Proc. 2013-30” at the top of the form and submit proof that the firm qualifies.

This means you could be eligible to elect S corporation status back to January 2019.  We have had 100% success in making these elections.  So if you are past the 75 days, no worries.  

Would I benefit from making the S corporation election?

Good question.  Let’s go through a checklist to see: 

1. Does your business earn over $30,000 net income after expenses? Say Yes.
2. Are you located in New York City or Tennessee where S corporation tax rates are egregious and suck up all the federal tax savings? New Hampshire? Say No. 
3. Do you have other W-2 income that exceeds or comes close to exceeding the Social Security limits of $132,900 (2019)? Say No. If you say Yes, we need net business income to exceed $200,000 in #1 above so that the Medicare savings exceeds the “lost” Social Security tax paid by the S Corp.
4. Is this a going concern? In other words, is the business going to continue to earn the same income or more each year? Say Yes.
5. Do you have an LLC or some other entity in place that can be elected to be taxed as an S Corp? Say Yes. 
6. Do you have other partners besides a spouse… business partners, that is? Say No. If you say Yes, are you currently splitting income based on ownership percentages or some formula? If you say Formula, then we’ll need to explore a multi-entity arrangement.
7. Does your entity own any appreciating assets such as real estate? Say No. We don’t put appreciating assets into an S corporation. Holding companies own real estate and operating companies elect S Corp status. 

These are the questions we will review with you.  In the meantime, here's a fun S Corporation tax savings calculator you can play with and see for yourself how the savings can add up.  J 

This is by no means everything but definitely some of the highlights.  I’m sure your coffee is gone or at least cold by now.  We will be posting more information so be sure to check back.

If you have any questions about the information discussed here please let us know.

Follow us on Twitter, Facebook and LinkedIn for updates, visit our website at https://arndtcpas.com or give us a call at (417) 882-9000.