Business owners: Have you paused to consider how well your company initially responded to the COVID-19 pandemic? Update your disaster plan before the details fade.

It’s been a year like no other. The sudden impact of the COVID-19 pandemic in March forced every business owner — ready or not — to execute his or her disaster response plan.

So, how did yours do? Although it may still be a little early to do a complete assessment of what went right and wrong during the crisis, you can take a quick look back right now while the experience is still fresh in your mind.

Get specific

When devising a disaster response plan, brainstorm as many scenarios as possible that could affect your company. What weather-related, environmental and socio-political threats do you face? Obviously, you can now add “pandemic” to the list.

The operative word, however, is “your.” Every company faces distinctive threats related to its industry, size, location(s), and products or services. Identify these as specifically as possible, based on what you’ve learned.

There are some constants for nearly every plan. Seek out alternative suppliers who could fill in for your current ones if necessary. Fortify your IT assets and functionality with enhanced recovery and security capabilities.

Communicate optimally

Another critical factor during and after a crisis is communication, both internal and external. Review whether and how your business was able to communicate in the initial months of the pandemic.

You and most of your management team probably needed to concentrate on maintaining or restoring operations. Who communicated with employees and other stakeholders to keep them abreast of your response and recovery progress? Typically, these parties include:

• Staff members and their families,
• Customers,
• Suppliers,
• Banks and other financial stakeholders, and
• Local authorities, first responders and community leaders (as appropriate).

Look into the communication channels that were used — such as voicemail, text messaging, email, website postings and social media. Which were most and least effective? Would some type of new technology enable your business to communicate better?

Revisit and update

If the events of this past spring illustrate anything, it’s that companies can’t create a disaster response plan and toss it on a shelf. Revisit the plan at least annually, looking for adjustments and new risk factors.

You’ll also want to keep the plan clear in the minds of your employees. Be sure that everyone — including new hires — knows exactly what to do by spelling out the communication channels, contacts and procedures you’ll use in the event of a disaster. Everyone should sign a written confirmation that they’ve read the plan’s details, either when hired or when the plan is substantially updated.

In addition, go over disaster response measures during company meetings once or twice a year. You might even want to hold live drills to give staff members a chance to practice their roles and responsibilities.

Heed the lessons

For years, advisors urged business owners to prepare for disasters or else. This year we got the “or else.” Despite the hardships and continuing challenges, however, the lessons being learned are invaluable. Please contact us to discuss ways to manage costs and maintain profitability during these difficult times.

If you invest in mutual funds, be aware of some potential pitfalls involved in buying and selling shares.

Surprise sales 

You may already have made taxable “sales” of part of your mutual fund investment without knowing it.

One way this can happen is if your mutual fund allows you to write checks against your fund investment. Every time you write a check against your mutual fund account, you’ve made a partial sale of your interest in the fund. Thus, except for funds such as money market funds, for which share value remains constant, you may have taxable gain (or a deductible loss) when you write a check. And each such sale is a separate transaction that must be reported on your tax return.

Here’s another way you may unexpectedly make a taxable sale. If your mutual fund sponsor allows you to make changes in the way your money is invested — for instance, lets you switch from one fund to another fund — making that switch is treated as a taxable sale of your shares in the first fund.

Recordkeeping 

Carefully save all the statements that the fund sends you — not only official tax statements, such as Forms 1099-DIV, but the confirmations the fund sends you when you buy or sell shares or when dividends are reinvested in new shares. Unless you keep these records, it may be difficult to prove how much you paid for the shares, and thus, you won’t be able to establish the amount of gain that’s subject to tax (or the amount of loss you can deduct) when you sell.

You also need to keep these records to prove how long you’ve held your shares if you want to take advantage of favorable long-term capital gain tax rates. (If you get a year-end statement that lists all your transactions for the year, you can just keep that and discard quarterly or other interim statements. But save anything that specifically says it contains tax information.)

Recordkeeping is simplified by rules that require funds to report the customer’s basis in shares sold and whether any gain or loss is short-term or long-term. This is mandatory for mutual fund shares acquired after 2011, and some funds will provide this to shareholders for shares they acquired earlier, if the fund has the information.

Timing purchases and sales

If you’re planning to invest in a mutual fund, there are some important tax consequences to take into account in timing the investment. For instance, an investment shortly before payment of a dividend is something you should generally try to avoid. Your receipt of the dividend (even if reinvested in additional shares) will be treated as income and increase your tax liability. If you’re planning a sale of any of your mutual fund shares near year-end, you should weigh the tax and the non-tax consequences in the current year versus a sale in the next year.

Identify shares you sell 

If you sell fewer than all of the shares that you hold in the same mutual fund, there are complicated rules for identifying which shares you’ve sold. The proper application of these rules can reduce the amount of your taxable gain or qualify the gain for favorable long-term capital gain treatment.

Contact us if you’d like to find out more about tax planning for buying and selling mutual fund shares.

A new law signed by President Trump on March 27 provides a variety of tax and financial relief measures to help Americans during the coronavirus (COVID-19) pandemic. This article explains some of the tax relief for individuals in the Coronavirus Aid, Relief, and Economic Security (CARES) Act

Individual cash payments

Under the new law, an eligible individual will receive a cash payment equal to the sum of: $1,200 ($2,400 for eligible married couples filing jointly) plus $500 for each qualifying child. Eligibility is based on adjusted gross income (AGI).

Individuals who have no income, as well as those whose income comes entirely from Social Security benefits, are also eligible for the payment.

The AGI thresholds will be based on 2019 tax returns, or 2018 returns if you haven’t yet filed your 2019 returns. For those who don’t qualify on their most recently filed tax returns, there may be another option to receive some money. An individual who isn’t an eligible individual for 2019 may be eligible for 2020. The IRS won’t send cash payments to him or her. Instead, the individual will be able to claim the credit when filing a 2020 return.

The income thresholds

The amount of the payment is reduced by 5% of AGI in excess of:

• $150,000 for a joint return,
• $112,500 for a head of household, and
• $75,000 for all other taxpayers.

But there is a ceiling that leaves some taxpayers ineligible for a payment. Under the rules, the payment is completely phased-out for a single filer with AGI exceeding $99,000 and for joint filers with no children with AGI exceeding $198,000. For a head of household with one child, the payment is completely phased out when AGI exceeds $146,500.

Most eligible individuals won’t have to take any action to receive a cash payment from the IRS. The payment may be made into a bank account if a taxpayer filed electronically and provided bank account information. Otherwise, the IRS will mail the payment to the last known address.

Other tax provisions

There are several other tax-related provisions in the CARES Act. For example, a distribution from a qualified retirement plan won’t be subject to the 10% additional tax if you’re under age 59 ½ — as long as the distribution is related to COVID-19. And the new law allows charitable deductions, beginning in 2020, for up $300 even if a taxpayer doesn’t itemize deductions.

Stay tuned

These are only a few of the tax breaks in the CARES Act. We’ll cover additional topics in coming weeks. In the meantime, please contact us if you have any questions about your situation.

In the last issue of the Funeral Business Advisor, we talked about stuff. Specifically, we acknowledged that as the owner of a funeral home, you’re constantly buying stuff for various reasons and among your considerations in choosing what stuff to buy are the tax implications. Will buying this stuff lower my taxes? The answer was (surprise!) “It depends”. In our previous article, we dealt with the small stuff; i.e. inventory, supplies, furniture, equipment and vehicles. In this issue, we’re going to focus on the big stuff: real estate.

Buying real estate will be one of the largest investments you’ll make as a business owner. Even with bank financing, you’ll likely need to make a substantial down payment to acquire a desired property. You would think that, having drained your bank account to make that big investment, there has to be some large tax write-off that goes with it, right? “WRONG!” Despite the big investment required to buy real estate, the annual write-off you get from real estate under the tax code is small in comparison. It all has to do with depreciation. Let me explain.

Generally under the tax code, property that you use over a number of years is not expensed immediately when it is purchased. Rather, you deduct the property’s cost over its depreciable life. The property’s depreciable life is determined under the tax code, and the annual deduction is called depreciation expense. For example, if you purchase a hearse (which has a depreciable life of 5 years) for $60,000, the annual deductible depreciation expense is $12,000 ($60,000 ÷ 5 years). As explained in our previous article, there are provisions in the tax code that allow you to immediately expense personal property rather than having to depreciate it over several years, but those exceptions rarely apply to real estate. As you’ve probably guessed by now, your depreciation deduction depends heavily on the depreciable life of the asset and therein lies the problem. Under the tax code, the depreciable life of a funeral home building is 39 years! Furthermore, if you make substantial capital improvements to your property, those improvements also need to be depreciated over 39 years. Considering you probably have a 15 or 20 year mortgage, you can see that your building will be paid off long before you will have completely written it off for your taxes. So what can you do to accelerate the deductible cost of your property? Here are some options.

Consider a Cost Segregation Study
One of the key strategies in maximizing and accelerating the depreciation deduction for your property is in the allocation of its cost. The cost of a property must first be allocated between land and building. Allocation here is important because land cannot be depreciated, so you will receive no tax benefit from the land cost until later when the property is sold. So it’s important to be aggressively reasonable when allocating a portion of your purchase price to land.

Once you’ve carved out the cost of the land, what remains is the building which, as previously mentioned, must be depreciated over 39 years. However, the tax regulations allow you to break out your property into various components which can be depreciated over shorter lives, thereby increasing and accelerating your depreciation deduction. To do this, you need to have a cost segregation study (CSS) performed on your property. The CSS is performed by engineers who will examine your property and provide you with a report which breaks out the cost of your property into several “asset classes” of varying depreciable lives. The result is that rather than having to depreciate the cost of your entire building over 39 years, portions of it will be depreciated over 5, 7 or 15 years thereby increasing and accelerating your depreciation deductions in the earlier years of ownership. By way of example, a client of mine purchased a property for $2.5M. By having a CSS performed on the property, my client was able to claim additional depreciation expense of approximately $330,000 over the first five years the property was owned thereby significantly reducing his tax liability during that time.

Although performing a CSS on your property sounds like a great idea, there are a few considerations to keep in mind. First, a properly done CSS will set you back $5,000 to $7,000 depending on the property. As such, it doesn’t make economic sense to do a CSS if the cost allocated to your building is less than $800,000. Second, a CSS only allows you to depreciate portions of your building faster. Once your building has reached the end of its depreciable life, the total depreciation you will have taken on that property will be no different regardless of how it was written off. If you paid $750,000 for your building, that’s all you’ll get to depreciate. The CSS just allows you to write off that $750,000 at a faster rate, and because a deduction today is worth more than a deduction five years from now, the CSS could be worth doing. Third, work closely with your tax advisor to ensure the accelerated depreciation will provide you the intended tax benefits. There are various other provisions within our complicated tax code that can lessen the tax benefits coming out of a CSS, so best to know those before you spend the money on a CSS.

Repairs vs Capital Improvements
So you are now the proud owner of a beautiful funeral home. For obvious reasons, funeral home owners are well known for meticulously maintaining their stuff, especially their properties. But that gets expensive. Whether all those costs are tax deductible depends on what you’re doing to the property and as you would expect, the IRS doesn’t make that easy. There are hundreds of pages of regulations which deal with this (known as “the repair regs”), but we’ll stick to the basics.

First, a repair is deductible immediately while a capital improvement needs to be depreciated. That makes a repair more tax advantageous than a capital improvement. So what’s the difference between a repair and a capital improvement? It really depends on nature of the “improvement” and here’s how it works.

The tax regulations require you to look at your building as a structure with a collection of “systems.” Examples of these systems are HVAC, electrical, plumbing, elevator, etc. If you restore or improve a substantial portion of the building structure or any of these systems, that will be a capital improvement which will need to be depreciated. If it’s not a substantial improvement, then it’s a repair that can be expensed immediately. I know what you’re asking; what does “substantial” mean? The IRS provides no clear definition of what substantial means, but the rule of thumb appears to be 30% of the repaired property. For example, your funeral home has thirty windows. You replace four windows. Since four windows comprise less than 30% of all your windows, you would treat the window replacement as a repair. But suppose you replace 20 windows. You’ve now replaced 66% of your windows, so the replacement cost would be a capital improvement which would need to be depreciated over 39 years.

What do we learn from this? For one thing, proper planning and timing of your building repairs can significantly affect your ability to expense the repair, so plan ahead. Spread projects out over time so you fall below the 30% repair threshold. Secondly, talk to your tax advisor when contemplating large repair or improvement projects. They can work with you to maximize possible write-offs associated with such projects. Finally, ensure your contractor will provide you detailed billing statements for your repair project so as to maximize possible write-offs.

Partial Asset Dispositions
So you’ve concluded that your project is indeed a capital improvement and you are now stuck depreciating it over the next 39 years. However, all hope may not be lost. There is another opportunity to possibly get a substantial write-off associated with a large improvement project. However, it applies only to a refurbishment or improvement of a currently existing property; it does not apply to a building addition or expansion. In tax jargon it’s called a “partial asset disposition” and it’s a relatively new option under the tax code. Here’s how it works.

Suppose you decide to renovate the inside of your funeral home to expand viewing rooms, add bathrooms, etc. You are not expanding your facility, you are simply renovating the current structure. Obviously, such a large project is a capital improvement that must be depreciated. However, what about the structures and systems that you have removed from the building? When you purchased the building, you paid for all those former walls, flooring, electrical systems and other portions of the building. Granted you were depreciating them along with the rest of your building, but they no longer exist. Seems unfair that you would be forced to continue depreciating something that no longer exists, doesn’t it? Furthermore, you should be able to write off the remaining undepreciated portion of the building that has been replaced by the renovation. That’s exactly what you can do through a partial asset disposition (PAD).

A PAD allows you to write off the undepreciated portion of property that has been replaced through a renovation or refurbishment. The amount of the write off will depend on the age and cost of your property. It is unlikely that the write-off will equal the cost of the renovation, but it could be substantial nonetheless and is certainly worth investigating. Finally, demolition costs can be expensed immediately, so be sure your contractor bills you separately for demolition.

Section 179 Election
In our previous article on the tax treatment of stuff (see July/August edition of Funeral Business Advisor) we talked about the Section 179 election. This provision of the tax code allows you to immediately expense the entire cost of property that would otherwise need to be depreciated. It normally doesn’t apply to real estate. However, the recent tax law changes expanded Sec 179 to allow the immediate write-off of certain real estate improvements such as roofs, HVAC property, security systems, etc. It’s important to remember that Sec 179 cannot be used for rental activities. So if you own your building in a separate entity and rent it to your funeral home business, you may not be able to claim an immediate write-off using Sec 179. It’s worth discussing this with your tax advisor.

Of all the stuff you will ever buy, it’s likely that real estate will be your biggest investment. How profitable it may be depends on many factors including the tax benefits or ramifications of owning real estate. As with all investment decisions, knowledge is power so be smart and always speak with your tax advisor before you invest in real estate. FBA

This article is meant to provide general information and should not be construed as legal or tax advice or opinion and is not a substitute advice of counsel, CPAs or other professionals.

A company’s strategic plan can look good on paper but never really work out in real life. Here’s how to ensure your business accomplishes its goals.

In the broadest sense, strategic planning comprises two primary tasks: establishing goals and achieving them. Many business owners would probably say the first part, coming up with objectives, is relatively easy. It’s that second part — accomplishing those goals — that can really challenge a company. The key to turning your strategic objectives into a reality is a solid implementation plan.

Start with people

After clearly identifying short- and long-range goals under a viable strategic planning process, you need to establish a formal plan for carrying it out. The most important aspect of this plan is getting the right people involved.

First, appoint an implementation leader and give him or her the authority, responsibility and accountability to communicate and champion your stated objectives. (If yours is a smaller business, you could oversee implementation yourself.)

Next, establish teams of carefully selected employees with specific duties and timelines under which to complete goal-related projects. Choose employees with the experience, will and energy to implement the plan. These teams should deliver regular progress reports to you and the implementation leader.

Watch out for roadblocks

On the surface, these steps may seem logical and foolproof. But let’s delve into what could go wrong with such a clearly defined process.

One typical problem arises when an implementation team is composed of employees wholly or largely from one department. Often, they’ll (inadvertently or intentionally) execute an objective in such a way that mostly benefits their department but ultimately hinders the company from meeting the intended goal.

To avoid this, create teams with a diversity of employees from across various departments. For example, an objective related to expanding your company’s customer base will naturally need to include members of the sales and marketing departments. But also invite administrative, production and IT staff to ensure the team’s actions are operationally practical and sustainable.

Another common roadblock is running into money problems. Ensure your implementation plan is feasible based on your company’s budget, revenue projections, and local and national economic forecasts. Ask teams to include expense reports and financial projections in their regular reports. If you determine that you can’t (or shouldn’t) implement the plan as written, don’t hesitate to revise or eliminate some goals.

Succeed at the important part

Strategic planning may seem to be “all about the ideas,” but implementing the specific goals related to your strategic plan is really the most important part of the process. Of course, it’s also the most difficult and most affected by outside forces. We can help you assess the financial feasibility of your objectives and design an implementation plan with the highest odds of success.

Did you make large gifts to your heirs in 2018? If so, it’s important to determine whether you’re required to file a gift tax return by April 15 (Oct. 15 if you file for an extension). Generally, you’ll need to file one if you made 2018 gifts that exceeded the $15,000-per-recipient gift tax annual exclusion (unless to your U.S. citizen spouse) and in certain other situations. But sometimes it’s desirable to file a gift tax return even if you aren’t required to. If you’re not sure whether you must (or should) file a 2018 gift tax return, contact us.

Did you make large gifts to your children, grandchildren or other heirs last year? If so, it’s important to determine whether you’re required to file a 2018 gift tax return — or whether filing one would be beneficial even if it isn’t required.

Filing requirements

Generally, you must file a gift tax return for 2018 if, during the tax year, you made gifts:

• That exceeded the $15,000-per-recipient gift tax annual exclusion (other than to your U.S. citizen spouse),
• That you wish to split with your spouse to take advantage of your combined $30,000 annual exclusion,
• That exceeded the $152,000 annual exclusion for gifts to a noncitizen spouse,
• To a Section 529 college savings plan and wish to accelerate up to five years’ worth of annual exclusions ($75,000) into 2018,
• Of future interests — such as remainder interests in a trust — regardless of the amount, or
• Of jointly held or community property.

Keep in mind that you’ll owe gift tax only to the extent an exclusion doesn’t apply and you’ve used up your lifetime gift and estate tax exemption ($11.18 million for 2018). As you can see, some transfers require a return even if you don’t owe tax.

No return required

No gift tax return is required if your gifts for the year consist solely of gifts that are tax-free because they qualify as:

• Annual exclusion gifts,
• Present interest gifts to a U.S. citizen spouse,
• Educational or medical expenses paid directly to a school or health care provider, or
• Political or charitable contributions.

But if you transferred hard-to-value property, such as artwork or interests in a family-owned business, consider filing a gift tax return even if you’re not required to. Adequate disclosure of the transfer in a return triggers the statute of limitations, generally preventing the IRS from challenging your valuation more than three years after you file.

Be ready for April 15

The gift tax return deadline is the same as the income tax filing deadline. For 2018 returns, it’s April 15, 2019 — or October 15, 2019, if you file for an extension. But keep in mind that, if you owe gift tax, the payment deadline is April 15, regardless of whether you file for an extension. If you’re not sure whether you must (or should) file a 2018 gift tax return, contact us.

As we approach the end of 2018, it’s a good idea to review the mutual fund holdings in your taxable accounts and take steps to avoid potential tax traps. Here are some tips.

Avoid surprise capital gains

Unlike with stocks, you can’t avoid capital gains on mutual funds simply by holding on to the shares. Near the end of the year, funds typically distribute all or most of their net realized capital gains to investors. If you hold mutual funds in taxable accounts, these gains will be taxable to you regardless of whether you receive them in cash or reinvest them in the fund.

For each fund, find out how large these distributions will be and get a breakdown of long-term vs. short-term gains. If the tax impact will be significant, consider strategies to offset the gain. For example, you could sell other investments at a loss.

Buyer beware

Avoid buying into a mutual fund shortly before it distributes capital gains and dividends for the year. There’s a common misconception that investing in a mutual fund just before the ex-dividend date (the date by which you must own shares to qualify for a distribution) is like getting free money.

In reality, the value of your shares is immediately reduced by the amount of the distribution. So you’ll owe taxes on the gain without actually making a profit.

Seller beware

If you plan to sell mutual fund shares that have appreciated in value, consider waiting until just after year end so you can defer the gain until 2019 — unless you expect to be subject to a higher rate next year. In that scenario, you’d likely be better off recognizing the gain and paying the tax this year.

When you do sell shares, keep in mind that, if you bought them over time, each block will have a different holding period and cost basis. To reduce your tax liability, it’s possible to select shares for sale that have higher cost bases and longer holding periods, thereby minimizing your gain (or maximizing your loss) and avoiding higher-taxed short-term gains.

Think beyond just taxes

Investment decisions shouldn’t be driven by tax considerations alone. For example, you need to keep in mind your overall financial goals and your risk tolerance.

But taxes are still an important factor to consider. Contact us to discuss these and other year-end strategies for minimizing the tax impact of your mutual fund holdings.

With the April 17 individual income tax filing deadline behind you (or with your 2017 tax return on the back burner if you filed for an extension), you may be hoping to not think about taxes for the next several months. But for maximum tax savings, now is the time to start tax planning for 2018. It’s especially critical to get an early start this year because the Tax Cuts and Jobs Act (TCJA) has substantially changed the tax environment.

With the April 17 individual income tax filing deadline behind you (or with your 2017 tax return on the back burner if you filed for an extension), you may be hoping to not think about taxes for the next several months. But for maximum tax savings, now is the time to start tax planning for 2018. It’s especially critical to get an early start this year because the Tax Cuts and Jobs Act (TCJA) has substantially changed the tax environment.

Many variables

A tremendous number of variables affect your overall tax liability for the year. Looking at these variables early in the year can give you more opportunities to reduce your 2018 tax bill.

For example, the timing of income and deductible expenses can affect both the rate you pay and when you pay. By regularly reviewing your year-to-date income, expenses and potential tax, you may be able to time income and expenses in a way that reduces, or at least defers, your tax liability.

In other words, tax planning shouldn’t be just a year-end activity.

Certainty vs. uncertainty

Last year, planning early was a challenge because it was uncertain whether tax reform legislation would be signed into law, when it would go into effect and what it would include. This year, the TCJA tax reform legislation is in place, with most of the provisions affecting individuals in effect for 2018–2025. And additional major tax law changes aren’t expected in 2018. So there’s no need to hold off on tax planning.

But while there’s more certainty about the tax law that will be in effect this year and next, there’s still much uncertainty on exactly what the impact of the TCJA changes will be on each taxpayer. The new law generally reduces individual tax rates, and it expands some tax breaks. However, it reduces or eliminates many other breaks.

The total impact of these changes is what will ultimately determine which tax strategies will make sense for you this year, such as the best way to time income and expenses. You may need to deviate from strategies that worked for you in previous years and implement some new strategies.

Getting started sooner will help ensure you don’t take actions that you think will save taxes but that actually will be costly under the new tax regime. It will also allow you to take full advantage of new tax-saving opportunities.

Now and throughout the year

To get started on your 2018 tax planning, contact us. We can help you determine how the TCJA affects you and what strategies you should implement now and throughout the year to minimize your tax liability.

While April 15 (April 17 this year) is the main tax deadline on most individual taxpayers’ minds, there are others through the rest of the year that you also need to be aware of. To help you make sure you don’t miss any important 2018 deadlines, here’s a look at when some key tax-related forms, payments and other actions are due. Keep in mind that this list isn’t all-inclusive, so there may be additional deadlines that apply to you.

While April 15 (April 17 this year) is the main tax deadline on most individual taxpayers’ minds, there are others through the rest of the year that you also need to be aware of. To help you make sure you don’t miss any important 2018 deadlines, here’s a look at when some key tax-related forms, payments and other actions are due. Keep in mind that this list isn’t all-inclusive, so there may be additional deadlines that apply to you.

Please review the calendar and let us know if you have any questions about the deadlines or would like assistance in meeting them.

June 15

• File a 2017 individual income tax return (Form 1040) or file for a four-month extension (Form 4868), and pay any tax and interest due, if you live outside the United States.
• Pay the second installment of 2018 estimated taxes, if not paying income tax through withholding (Form 1040-ES).

September 17

• Pay the third installment of 2018 estimated taxes, if not paying income tax through withholding (Form 1040-ES).

October 1

• If you’re the trustee of a trust or the executor of an estate, file an income tax return for the 2017 calendar year (Form 1041) and pay any tax, interest and penalties due, if an automatic five-and-a-half month extension was filed.

October 15

• File a 2017 income tax return (Form 1040, Form 1040A or Form 1040EZ) and pay any tax, interest and penalties due, if an automatic six-month extension was filed (or if an automatic four-month extension was filed by a taxpayer living outside the United States).
• Make contributions for 2017 to certain retirement plans or establish a SEP for 2017, if an automatic six-month extension was filed.
• File a 2017 gift tax return (Form 709) and pay any tax, interest and penalties due, if an automatic six-month extension was filed.

December 31

• Make 2018 contributions to certain employer-sponsored retirement plans.
• Make 2018 annual exclusion gifts (up to $15,000 per recipient).
• Incur various expenses that potentially can be claimed as itemized deductions on your 2018 tax return. Examples include charitable donations, medical expenses and property tax payments.

But remember that some types of expenses that were deductible on 2017 returns won’t be deductible on 2018 returns under the Tax Cuts and Jobs Act, such as unreimbursed work-related expenses, certain professional fees, and investment expenses. In addition, some deductions will be subject to new limits. Finally, with the nearly doubled standard deduction, you may no longer benefit from itemizing deductions.

For 2021, the Social Security tax wage cap will be $142,800, and Social Security and Supplemental Security Income (SSI) benefits will increase by 1.3 percent. These changes reflect cost-of-living adjustments to account for inflation.

For 2021, the Social Security tax wage cap will be $142,800, and Social Security and Supplemental Security Income (SSI) benefits will increase by 1.3 percent. These changes reflect cost-of-living adjustments to account for inflation.

2021 Wage Cap
The Federal Insurance Contributions Act (FICA) tax on wages is 7.65 percent each for the employee and the employer. FICA tax has two components:

• a 6.2 percent Social Security tax, also known as Old Age, Survivors, And Disability Insurance (OASDI); and
• a 1.45 percent Medicare tax, also known as hospital insurance (HI).

For self-employed workers, the Self-Employment tax is 15.3 percent, consisting of:

• a 12.4 percent OASDI tax; and
• a 2.9 percent HI tax.

OASDI tax applies only up to a wage base, which includes most wages and self-employment income up to the annual wage cap.

For 2021, the wage base is $142,800. Thus, OASDI tax applies only to the taxpayer’s first $142,800 in wages or net earnings from self-employment. Taxpayers do not pay any OASDI tax on earnings that exceed $142,800.

There is no wage cap for HI tax.

Maximum Social Security Tax for 2021
For workers who earn $142,800 or more in 2021:

• an employee will pay a total of $8,853.60 in social security tax ($142,800 x 6.2 percent);
• the employer will pay the same amount; and
• a self-employed worker will pay a total of $17,707.20 in social security tax ($142,800 x 12.4 percent).

Additional Medicare Tax
Higher-income workers may have to pay an Additional Medicare tax of 0.9 percent. This tax applies to wages and self-employment income that exceed:

• $250,000 for married taxpayers who file a joint return;
• $125,000 for married taxpayers who file separate returns; and
• $200,000 for other taxpayers.

The annual wage cap does not affect the Additional Medicare tax.

Benefits Increase for 2021
Finally, a cost-of-living adjustment (COLA) will increase social security and SSI benefits for 2019 by 1.3 percent. The COLA is intended to ensure that inflation does not erode the purchasing power of these benefits.

The IRS has adopted previously issued proposed regulations ( REG-106808-19) dealing with the 100 percent bonus depreciation deduction. In addition, some clarifying changes have been made to previously issued final regulations ( T.D. 9874). Changes to the proposed and earlier final regulations are largely in response to various comments submitted by practitioners, and generally relate to:

The IRS has adopted previously issued proposed regulations ( REG-106808-19) dealing with the 100 percent bonus depreciation deduction. In addition, some clarifying changes have been made to previously issued final regulations ( T.D. 9874). Changes to the proposed and earlier final regulations are largely in response to various comments submitted by practitioners, and generally relate to:

• the definition of qualified used property;
• the election to claim bonus depreciation on components acquired or self-constructed after September 27, 2017, for larger self-constructed property for which manufacture, construction, or production began before September 28, 2017;
• application of the mid-quarter convention;
• clarifications to the definition of qualified improvement property, predecessor, and class of property; and
• clarifications to the rules for consolidated groups
  The rules for consolidated groups have also been moved from Proposed Reg. §1.168(k)-2(b)(3)(v) to new Reg. §1.1502-68.

Used Property
The 2019 final regulations provide that in determining whether the taxpayer or a predecessor had a depreciation interest in property prior to its acquisition, only the five calendar years immediately prior to the current placed-in-service year are considered. The latest IRS regulations clarify that the five calendar years immediately prior to the current calendar year in which the property is placed in service by the taxpayer, and the portion of such current calendar year before the placed-in-service date of the property without taking into account the applicable convention, are taken into account. In addition, the five-year look-back period applies separately to the taxpayer and a predecessor.

Furthermore, if the taxpayer or a predecessor, or both, have not been in existence during the entire look-back period, then only the portion of the look-back period during which the taxpayer or a predecessor, or both, have been in existence is taken into account.

Expanded Component Election
The prior regulations allow taxpayers to election to claim 100 percent bonus depreciation on components of certain larger constructed property that qualifies for bonus depreciation if the construction of the larger property began before September 28, 2017. The components must be acquired or constructed after September 27, 2017, and the larger property must be placed in service before 2020 (2021 in the case of property with a longer construction period). The final regulations remove the 2020/2021 cutoff date. In addition, the final regulations provide that eligible larger self-constructed property also includes property that is constructed for a taxpayer under a written contract that is not binding and that is entered into prior to construction for use in the taxpayer’s trade or business. The definition of a larger constructed property is also clarified.

Qualified Improvement Property
The 15-year recovery period for qualified improvement property applies only to improvements "made by the taxpayer." The final regulations clarify that an improvement is considered made by a taxpayer if the property is constructed for the taxpayer. However, qualified improvement property received by a transferee taxpayer in a nonrecognition transaction described in Code Sec. 168(i)(7) is not eligible for bonus depreciation.

Mid-Quarter Convention
The final regulations clarify that depreciable basis is not reduced by the amount of bonus deduction in determining whether the mid-quarter convention applies.

Binding Contracts
Generally, property acquired pursuant to a binding contract entered into after September 27, 2017, does not qualify for bonus depreciation at the 100 percent rate. The final regulations clarify that a contract for a sale of stock of a corporation that is treated as an asset sale as the result of a Code Sec. 336(e) election made for a disposition described in Reg. §1.336-2(b)(1) is a binding contract if enforceable under state law.

Floor Plan Financing
The IRS intends to issue guidance relating to transition relief for taxpayers with a trade or business with floor plan financing indebtedness that want to revoke elections not to claim bonus depreciation for property placed in service during 2018.

The IRS will not allow a taxpayer to limit the amount of its otherwise deductible floor plan interest in order to qualify for bonus depreciation. However, guidance will address transition relief for the 2018 tax year for taxpayers that treated Code Sec. 168(j)(1) as providing an option for a business with floor plan financing indebtedness to include or exclude its floor plan financing interest expense in determining the amount allowed as a deduction for business interest expense for the tax year.

Effective Date
In general, the regulations apply to property acquired after September 27, 2017, and placed in service during or after a tax years that begins on or after January 1, 2021. However, they may be relied on for earlier tax years.

Final regulations reflect the significant changes that the Tax Cuts and Jobs Act (TCJA) ( P.L. 115-97) made to the Code Sec. 274 deduction for travel and entertainment expenses. These regulations finalize, with some changes, previously released proposed regulations, NPRM REG-100814-19.

Final regulations reflect the significant changes that the Tax Cuts and Jobs Act (TCJA) ( P.L. 115-97) made to the Code Sec. 274 deduction for travel and entertainment expenses. These regulations finalize, with some changes, previously released proposed regulations, NPRM REG-100814-19.

Changes to Code Sec. 274 under the TCJA
For most expenses paid or incurred after 2017, TCJA:

• repealed the "directly related to a trade or business" and the business-discussion exceptions to the general disallowance of entertainment expense deductions;
• eliminated the general business expense deduction for 50 percent of entertainment (but not meal) expenses; and
• repealed the special substantiation rules for deductible entertainment (but not travel) expenses. Taxpayers may rely on the proposed regulations until they are finalized.

Entertainment Expenses
Among other things, Reg. §1.274-11:

• restates the statutory rules of Code Sec. 274(a), including the entertainment deduction disallowance rule for dues or fees to any social, athletic, or sporting club or organization;
• substantially incorporates the existing definition of "entertainment" from Reg. §1.274-2(b)(1); and
• confirms that the nine exceptions in Code Sec. 274(e) continue to apply to deductible entertainment expenditures.

The regulations also confirm that "entertainment" does not include food or beverages unless they are provided at or during an entertainment activity, and their costs are included in the entertainment costs.

Food and Beverage Expenses
As under the proposed regulations, Reg. §1.274-12 allows taxpayers to deduct 50 percent of business meal expenses if:

• the expense is an ordinary and necessary business expense;
• the expense is not lavish or extravagant; the taxpayer or an employee is present when the food or beverage is furnished;
• the food or beverage is provided to a current or potential business customer, client, consultant, or similar business contact; and
• food and beverages that are provided during or at an entertainment activity are purchased separately from the entertainment, or their cost is separately stated.

With respect to the fourth requirement listed above, the final regulations adopt the definition of "business associate" in Reg. §1.274-2(b)(2)(iii), but expands it to include employees. Thus, these requirements would apply to employer-provided meals to employees as well as non-employees. The final regulations also flesh out the fifth requirement listed above, and clarify that the separate charges for entertainment-related food and beverages must reflect their actual cost, including delivery fees, tips, and sales tax. Indirect expenses such as transportation to the food are not included in the actual cost.

Exceptions and Special Rules
Food or beverage expenses for employer-provided meals at an eating facility do not include expenses for the operation of the facility, such as salaries of employees preparing and serving meals, and other overhead costs. The final regulations apply the TCJA changes to the exceptions and special rules for deductible food and beverages in Code Sec. 274(e), Code Sec. 274(k) and Code Sec. 274(n), including:

• reimbursed food or beverage expenses;
• recreational expenses for employees;
• items available to the public; and
• goods or services sold to customers.

The final regulations also provide examples on several specific scenarios to illustrate the rules.

The IRS has issued a final regulation addressing tax withholding on certain periodic retirement and annuity payments under Code Sec. 3405(a), to implement amendments made by the Tax Cuts and Jobs Act ( P.L. 115-97) (TCJA). The regulation affects payors of certain periodic payments, plan administrators that are required to withhold on such payments, and payees who receive such payments. The final regulation adopts, without modification, a proposed regulation that updated and replaced the provisions of three questions and answers with a new regulation regarding the default withholding rate on periodic payments made after December 31, 2020.

The IRS has issued a final regulation addressing tax withholding on certain periodic retirement and annuity payments under Code Sec. 3405(a), to implement amendments made by the Tax Cuts and Jobs Act ( P.L. 115-97) (TCJA). The regulation affects payors of certain periodic payments, plan administrators that are required to withhold on such payments, and payees who receive such payments. The final regulation adopts, without modification, a proposed regulation that updated and replaced the provisions of three questions and answers with a new regulation regarding the default withholding rate on periodic payments made after December 31, 2020.

Withholding on Periodic Payments
Before the TCJA, if a withholding certificate (Form W-4P) was not in effect for a periodic payment, the default withholding rate on the payment was determined by treating the payee as a married individual claiming three withholding exemptions. The TCJA amended Code Sec. 3405(a)(4) so that the default withholding rate on such a periodic payment is instead determined under rules prescribed by the Treasury Secretary.

After the TCJA was enacted, the IRS issued three notices providing that, for calendar years 2018, 2019, and 2020, the default withholding rate on periodic payments under Code Sec. 3405(a)(4) is based on treating the payee as a married individual claiming three withholding allowances ( Notice 2020-3, I.R.B. 2020-3, 330; Notice 2018-92, I.R.B. 2018-51, 1038; Notice 2018-14, I.R.B. 2018-7, 353).

Under new Reg. §31.3405(a)-1, the default rate of withholding on periodic payments made after December 31, 2020, is determined in the manner described in the applicable forms, instructions, publications, and other guidance prescribed by the IRS.

Applicability Date
The final regulation applies to periodic payments made after December 31, 2020.

The IRS has issued final regulations that provide guidance for employers on federal income tax withholding from employees’ wages.

The IRS has issued final regulations that provide guidance for employers on federal income tax withholding from employees’ wages. The final regulations:

• address the amount of federal income tax that employers withhold from employees’ wages;
• implement changes made by the Tax Cuts and Jobs Act (TCJA) ( P.L. 115-97); and
• reflect the redesigned Form W-4, Employee’s Withholding Certificate, and related IRS publications.

TCJA Changes
The TCJA made many amendments affecting income tax withholding on employees’ wages. The TCJA made many amendments affecting income tax withholding on employees’ wages.After the TCJA was enacted, the IRS issued guidance to implement the changes (for example, Notice 2018-14, I.R.B. 2018-7, 353; Notice 2018-92, I.R.B. 2018-51, 1038; Notice 2020-3, I.R.B. 2020-3, I.R.B. 2020-3, 330). The IRS updated Form W-4 and its instructions with significant changes intended to improve the accuracy of income tax withholding and make the withholding system more transparent for employees. It also released IRS Publication 15-T, Federal Income Tax Withholding Methods, which provides percentage method tables, wage bracket withholding tables, and other computational procedures for employers to use to compute withholding for the 2020 calendar year.

On February 13, 2020, the IRS published a notice of proposed rulemaking ( REG-132741-17) to update the regulations under Code Sec. 3401 and Code Sec. 3402 to reflect the legislative changes, and expand the rules to accommodate changes necessary to fully implement the redesigned Form W-4 and its related computational procedures, along with most existing computational procedures that apply to 2019 or earlier Forms W-4.

The final regulations adopt the proposed regulations with a few revisions.

Form W-4
The final regulations do not require all employees with a 2019 or earlier Form W-4 in effect to furnish a redesigned Form W-4. Comments expressed concerns that the proposed regulations and the related forms, instructions, publications, and other IRS guidance would require employers to maintain two different systems for computing income tax withholding on wages: one for 2019 or earlier Forms W-4, and another for the redesigned Forms W-4.

In response, the IRS is acknowledging concerns with (1) instructions to the redesigned Form W-4 for employees with multiple jobs and (2) optional computational “bridge” entries permitted under the regulations and described in Publication 15-T that will allow employers to continue in effect 2019 or earlier Forms W-4 as if the employees had furnished redesigned Forms W-4.

The final regulations revise Reg. §31.3402(f)(4)-1(a) to provide that an employer’s use of the computational bridge entries to adapt a 2019 or earlier Form W-4 to the redesigned computational procedures as if using entries on a redesigned Form W-4 will continue in effect such a Form W-4 that was properly in effect on or before December 31, 2019.

Lock-in Letters
The IRS issues a "lock-in" letter to notify an employer that an employee is not entitled to claim exemption from withholding, or is not entitled to the withholding allowance claimed on the employee’s Form W-4. The lock-in letter prescribes the withholding allowance the employer must use to figure withholding. After the lock-in letter becomes effective, the IRS may issue a subsequent modification notice, but only after the employee contacts the IRS to request an adjustment to the withholding prescribed in the lock-in letter.

Under the final regulations, employers are not required to notify the IRS that they no longer employ an employee for whom a lock-in letter was issued. Further, the final regulations do not require the IRS to reissue lock-in letters or modification notices solely because of the redesigned Form W-4.

The final regulations revise Reg. §31.3402(f)(2)-1(g)(2)(iv) relating to lock-in letters. and Reg. §31.3402(f)(2)-1(g)(2)(vii) relating to modification notices, to provide that an employer may comply with a lock-in letter or modification notice that is based on a 2019 or earlier Form W-4, as required by the regulations, if the employer implements the maximum withholding allowance and filing status permitted in a lock-in letter or modification notice by using the computational bridge entries as set forth in forms, instructions, publications, and other IRS guidance to calculate withholding for such a Form W-4.

Estimated Tax Payments
The final regulations revise Reg. §31.3402(m)-1(d) to allow employees to take estimated tax payments into account, as long as the employee (1) follows the instructions to the IRS’s Tax Withholding Estimator (available at https://www.irs.gov/individuals/tax-withholding-estimator) or IRS Publication 505, (2) is not subject to a lock-in letter or modification notice, and (3) does not request withholding from wages that falls below the pro rata share of income taxes attributable to wages determined under forms, instructions, publications, and other IRS guidance. The IRS intends to update its Tax Withholding Estimator and Publication 505 to reflect this rule.

Applicable Date
The final regulations generally apply on the date they are published in the Federal Register. Reg. §31.3402(f)(2)-1(g), regarding withholding compliance, applies as of February 13, 2020. Reg. §31.3402(f)(5)-1(a)(3), regarding the requirement to use the current version of Form W-4, applies as of March 16, 2020. The removal of Reg. §31.3402(h)(4)-1(b), regarding the combined income tax withholding and employee FICA tax withholding tables, applies on and after January 1, 2020.

Except for the removal of Reg. §31.3402(h)(4)-1(b), taxpayers may choose to apply the final regulations on and after January 1, 2020, and before their applicability date set forth in the regulations.

The Treasury and IRS have released final regulations that provide guidance for Achieve a Better Living Experience (ABLE) programs under Code Sec. 529A to help eligible individuals pay for qualified disability expenses.

The Treasury and IRS have released final regulations that provide guidance for Achieve a Better Living Experience (ABLE) programs under Code Sec. 529A to help eligible individuals pay for qualified disability expenses. The regulations provide guidance on:

• the requirements for ABLE programs,
• requirements for establishing and contributing to an ABLE account for a designated beneficiary,
• rules regarding changes in the designated beneficiary of an ABLE account,
• rollover and transfers from one ABLE account to another, and
• federal gift and generation-skipping tax consequences of an ABLE account.

The final regulations adopt proposed rules issued in 2015 and 2019 with a few modifications.

Qualified ABLE Programs
A qualified ABLE program is a program established and maintained by a State, or agency or instrumentality of a State. Several factors are provided in the final regulations in determining whether a State, or its agency or instrumentality, is actively involved in the administration of the program. Among those factors is the nature and extent of the State’s role in selecting and overseeing private contractors contracted to provide administrative or other services (for example, Community Development Financial Institutions (CDFIs)).

A qualified ABLE program may be maintained by two or more States or agencies or instrumentalities of a State in a consortium to offer broader investment choices, streamlined program administration, and lower fees for account holders. Consistent with legislation, the final regulations eliminate any reference to a residency requirement and a qualified program may allow an ABLE account to be established for an eligible individual regardless of his or her residence.

ABLE Accounts
An ABLE account is a tax-favored savings account established and owned by an eligible individual under a qualified ABLE program to pay qualified disability expenses of a designated beneficiary. The designated beneficiary of an ABLE account is the eligible individual who established and owns the ABLE account or who has succeeded the former designated beneficiary through a rollover distribution or change of beneficiary.

The final regulations provide that an ABLE account may be established on behalf of the eligible individual by his or her parent, legal guardian, or agent under a power of attorney. In addition, the regulations provide an expanded ordering rule of persons who may establish an ABLE account exercise signature authority over an individual’s ABLE account if necessary.

A qualified ABLE program may provide a certification process that an individual is eligible for an ABLE account, under penalties of perjury. Certification may be made by verifying that the individual is eligible for benefits under title II or XVI of the Social Security Act and the disability giving rise to those benefits occurred before the date on which he or she attained age 26. The other method of satisfying the definition of an eligible individual is by obtaining a disability certification and filing it with the Secretary.

A designated beneficiary is generally limited to only one ABLE account at a time. Once an ABLE account is established, generally no account that is subsequently established for that beneficiary can be treated as an ABLE account except for rollover and transfer purposes, as well as the return of excess contributions. Under the final regulation, an eligible individual is not prohibited from establishing an ABLE account merely because he or she previously closed another ABLE account.

Distributions and Transfers
Distributions from an ABLE account are excluded from the designated beneficiary’s gross income to the extent of his or her qualified disability expenses for the tax year. The final regulations maintain the expansive definition of qualified disability expenses, but the regulations do not provide either a comprehensive list of qualified disability expenses or a short list of expenses that would not satisfy that standard.

A qualified ABLE program may permit a successor designated beneficiary to be named during the lifetime of the designated beneficiary. If no successor designated beneficiary is named, the assets in the ABLE account are payable to the beneficiary’s estate and subject to the Federal estate tax. Moreover, the final regulations permit a qualified ABLE program to limit successor designated beneficiaries to a sibling who is an eligible individual. If a successor designated beneficiary is not a sibling, the former designated beneficiary receives a deemed distribution of the amount transferred to the successor.

The final regulations continue to permit rollovers from ABLE account but do not require the use of a program-to-program transfer. A rollover may occur from a qualified tuition account under Code Sec. 529 to an ABLE account for the same designated beneficiary. However, upon a rollover or program-to-program transfer, all the attributes of the former ABLE account are applicable to the recipient account.

Federal Gift and GST Taxes
The final regulations provide that contributions to an ABLE account by a person other than the designated beneficiary are treated as completed gifts. Thus, no distribution from an ABLE account to the designated beneficiary is treated as a taxable gift. Also, neither gift nor GST taxes apply to the change of designated beneficiary of an ABLE account if the new designated beneficiary is an eligible individual who is a sibling of the former designated beneficiary.

The IRS has released final regulations clarifying that the following deductions allowed to an estate or non-grantor trust are not miscellaneous itemized deductions.

The IRS has released final regulations clarifying that the following deductions allowed to an estate or non-grantor trust are not miscellaneous itemized deductions:

• costs paid or incurred in connection with the administration of an estate or non-grantor trust that would not have been incurred if the property were not held in the estate or trust;
• the personal exemption of an estate or non-grantor trust;
• the distribution deduction for trusts distributing current income; and
• the distribution deduction for estates and trusts accumulating income.

These deductions are not affected by the suspension of the deductibility of miscellaneous itemized deductions for tax years beginning after December 31, 2017, and before January 1, 2026. The final regulations also provide guidance on determining the character, amount, and allocation of deductions in excess of gross income succeeded to by a beneficiary on the termination of an estate or non-grantor trust. The regulations affect estates, non-grantor trusts (including the S portion of an electing small business trust), and their beneficiaries.

Clarifications of Proposed Regs
A notice of proposed rulemaking ( NPRM REG-113295-18) containing proposed regulations under Code Secs. 67 and 642(h) was published on May 11, 2020. The final regulations summarize the provisions of Code Secs. 67 and 642(h) and of the proposed regulations.

In response to comments, Reg. §1.642(h)-2 was clarified so that a beneficiary may claim all or part of the excess deductions before, after, or together with the same character of deductions separately allowable to that beneficiary. Reg. §1.642(h)-5(b), Example 2 was clarified to (1) offset the real estate expenses on rental property with the rental income to avoid any unintended issues with Code Sec. 469; (2) include personal property tax paid by the trust rather than taxes attributable to rental real estate; and (3) illustrate the application of trustee discretion as found in Reg. §1.652(b)-3(b) and (d).

The IRS has issued final regulations that address the gain or loss of certain foreign persons on the sale or exchange of an interest in a partnership that is engaged in a trade or business in the United States. The regulations provide guidance on determining the amount of gain or loss treated as effectively connected income under Code Sec. 864(c)(8), as well coordination rules. The final regulations retain the basic approach and structure of the proposed regulations ( REG-113604-18) with certain revisions. Proposed regulations ( REG-105476-18) on information reporting and withholding on dispositions of these interests will be finalized at a later date.

The IRS has issued final regulations that address the gain or loss of certain foreign persons on the sale or exchange of an interest in a partnership that is engaged in a trade or business in the United States. The regulations provide guidance on determining the amount of gain or loss treated as effectively connected income under Code Sec. 864(c)(8), as well coordination rules. The final regulations retain the basic approach and structure of the proposed regulations ( REG-113604-18) with certain revisions. Proposed regulations ( REG-105476-18) on information reporting and withholding on dispositions of these interests will be finalized at a later date.

Deemed Sale Gain or Loss
If a nonresident alien or foreign corporation disposes of an interest in a partnership that is engaged in any trade or business in the United States, the gain or loss is treated as effectively connected gain or loss under Code Sec. 864(c)(8). The amount of gain or loss is limited to the portion of the foreign transferor's distributive share of gain or loss that would have been effectively connected had the partnership sold all of its assets at fair market value (the deemed sale limitation).

The foreign transferor must first determine its gain or loss on the transfer of the partnership interest (outside gain or outside loss). Once the outside gain or loss is determined, the following steps are taken to derive the limitation based on the deemed sale, against which the outside gain or loss is compared:

Step 1: Determine the amount of gain or loss from each partnership asset as if the partnership conducted a deemed sale of all of its assets on the date of transfer (these amounts are referred to as deemed sale gain or deemed sale loss);
Step 2: Determine the amount of the deemed sale gain or loss that would be treated as effectively connected gain or loss with respect to each asset (these amounts are referred to as deemed sale EC gain or deemed sale EC loss); and
Step 3: Determine the foreign transferor’s distributive share of deemed sale effectively connected gain or deemed sale effectively connected loss.

Sourcing Rules
The final regulations address the sourcing rules that are often material in determining whether gain or loss is effectively connected with the conduct of a trade or business within the United States (Step 2). Because the sales are deemed sales, the regulations provide simplifying factual assumptions that generally treat deemed gain and loss as U.S. source where there is a partnership office in the United States (U.S. office attribution rule). The final regulations clarify that the general rules apply to personal property held by the partnership on the date of the deemed sale. The regulations also clarify that the U.S. office attribution rule does not apply unless the partnership maintains an office or other U.S. fixed place of business in the United States.

The final regulations provide additional sourcing rules for determining the foreign source portion of deemed sale gain and loss attributable to inventory, intangibles, and depreciable personal property specifically included in the deemed sale. The sourcing rules are needed because gain or loss from actual sales of each of these assets would be subject to specific sourcing rules under the Code, but sourcing deemed sale gain or loss under those rules would generally require facts that are not determinable in a deemed sale.

Under a 10-year rule, assets that have no nexus to the United States are removed from the deemed effectively connected gain or loss determination. The 10-year period is adjusted for partnerships not in existence for the period. The testing period is also adjusted to include periods during which the asset was held.

Treaties and Coordination Rules
The final regulations also address treaty coordination rules and provide that (1) treaty provisions are taken into account in computing the Step 3 amount, above; and (2) treaty benefits are available only if the transferor meets limitation of benefits (LOB) requirements. The final regulation also provide additional rules to coordinate the regulations with treaty provisions governing the disposition of U.S. real property interests.

The Step 3 amount does not include amounts that are excluded from the foreign transferor’s gross income or otherwise exempt from U.S. federal income tax by reason of an applicable provision of the Code, or amounts excepted under Code Sec. 897.

The final regulations clarify the interaction between the Code Sec. 897 coordination rule (i.e., application of Code Sec. 864(c)(8) over Code Sec. 897(g)) and the nonrecognition rules. Any transfer of an interest in a partnership as part of a nonrecognition transaction will not be subject to Code Sec. 864(c)(8) to the extent that the gain or loss on the transfer is not recognized. Rather, if the partnership owns one or more U.S. real property interests, Code Sec. 897(g) and its regulations will apply with respect to the unrecognized gain or loss.

Applicability Dates
The regulations generally apply to transfers occurring on or after December 26, 2018, which is the date on which the proposed regulations were filed with the Federal Register. Additionally, the final regulations apply to amounts taken into account on or after December 26, 2018, pursuant to an installment sale (as defined in Code Sec. 453(b)) occurring on or after November 27, 2017, and before December 26, 2018.

Health flexible spending arrangements (health FSAs) are popular savings vehicles for medical expenses, but their use has been held back by a strict use-or-lose rule. The IRS recently announced a significant change to encourage more employers to offer health FSAs and boost enrollment. At the plan sponsor's option, employees participating in health FSAs will be able to carry over, instead of forfeiting, up to $500 of unused funds remaining at year-end.

Health flexible spending arrangements (health FSAs) are popular savings vehicles for medical expenses, but their use has been held back by a strict use-or-lose rule. The IRS recently announced a significant change to encourage more employers to offer health FSAs and boost enrollment. At the plan sponsor's option, employees participating in health FSAs will be able to carry over, instead of forfeiting, up to $500 of unused funds remaining at year-end.

Health expenses

Health FSAs are designed to reimburse participants for certain health care expenditures, typically expenses that qualify for the medical and dental expense deduction. Medical supplies, such as eye glasses and bandages, are usually treated as qualified expenses. However, nonprescription medicines (other than insulin) are not considered qualified medical expenses.

Health FSAs are often funded through voluntary salary reduction agreements with the participant's employer under a cafeteria plan. In that case, they are very taxpayer-friendly because no federal employment or federal income taxes are deducted from the employee's contribution. The employer may also contribute to a health FSA. However, there are special rules which govern employer contributions.

Typically, participants designate at the beginning of the year the amount they want to contribute to their health FSA and these amounts are deducted from their pay. For 2014, an employee's salary reduction contributions cannot exceed $2,500. The $2,500 cap is very important because cafeteria plans that do not limit health FSA contributions to $2,500 are not treated as cafeteria plans, and all benefits offered under the plan are included in the participants' gross income.

Use-or-lose rule

As mentioned, the use-or-lose rule is a drawback to health FSAs. Unused amounts remaining in the health FSA at year-end are forfeited. Employers are not allowed to refund any unused funds in a health FSA. Critics of the use-or-lose rule argue that it has discouraged participation in health FSAs because many employees do not want to risk forfeiting unused funds. Often, participants have to scramble at year-end to use their health FSA dollars

Grace period option

A few years ago, the IRS modified the use-or-lose rule. The IRS allowed cafeteria plans to adopt a grace period. Participants can use amounts remaining in a health FSA at year-end for up to an additional two months and 15 days. This grace period is optional. Employers are not required to offer the grace period, although many do.

Carryover option

At its option, an employer may now amend its cafeteria plan to provide for the carryover to the immediately following year of up to $500 of any amount remaining unused as of the end of the year in a health FSA. The carryover of up to $500 may be used to pay or reimburse qualified expenses under the health FSA incurred during the entire plan year to which it is carried over. Additionally, the carryover does not count against or otherwise affect the salary reduction limit ($2,500 for 2014) for health FSAs. However, the new rules do not allow participants to cash out unused health FSA amounts or convert them to other types of benefits.

The maximum carryover amount is $500. An employer can choose to offer a $0 carryover, a $500 carryover or any amount in between. As we discussed, the carryover is optional. Employers can choose not to offer any carryover.

Employers cannot offer both the grace period and the carryover. It is a choice of either the grace period or the carryover....or neither. The employer and not the participant decides. In regulations, the IRS described how employers can amend their cafeteria plans to provide for the carryover and how they can, if they choose, replace the grace period with the carryover.

Let's take a look at an example: Jacob participates in a health FSA under his employer's cafeteria plan. At year-end, Jacob has $255 remaining in his health FSA. Jacob's employer never offered a grace period but opted to allow participants to carry over up to $300 of unused health FSA dollars. Jacob can carry over all of his $255 in unused health FSA dollars.

If you have any questions about the new carryover option or health FSAs, please contact our office.

Notice 2013-71

The IRS has made several changes to its examination (aka, "audit") functions that are designed to expedite the process and relieve some burden on business taxpayers. These include the expansion of the Fast Track Settlement (FTS) program for small business, self-employed (SB/SE) taxpayers and a new process for issuing information document requests (IDRs) in large case audits.

The IRS has made several changes to its examination (aka, "audit") functions that are designed to expedite the process and relieve some burden on business taxpayers. These include the expansion of the Fast Track Settlement (FTS) program for small business, self-employed (SB/SE) taxpayers and a new process for issuing information document requests (IDRs) in large case audits.

Fast Track Settlement

The IRS launched the FTS program in 2005 to help small business taxpayers expedite case resolution. Small business FTS is modeled on a similar program for taxpayers in the IRS Large Business and International (LB&I) Division.

The goal of small business FTS is to complete cases within 60 days of their acceptance into the program. Under FTS, taxpayers under examination with issues in dispute work directly with IRS representatives from SB/SE's Examination Division and Appeals to resolve those issues. An Appeals Officer, trained in mediation, serves as a neutral party and employs dispute resolution techniques to facilitate settlement between the parties.

Application. To request to participate in small business FTS, the taxpayer and the SB/SE Group Manager submit Form 14017, Application for Fast Track Settlement. The taxpayer or the IRS examination representative may initiate Fast Track for eligible cases, usually before a 30-day letter is issued.

If the case is accepted and an agreement is reached, the IRS will use established issue or case closing procedures and applicable agreement forms, including preparation of a Form 906 specific matters closing agreement, if appropriate. If the case is not accepted the IRS explained that SB/SE or Appeals will inform the taxpayer of the basis for this decision and discuss other dispute resolution opportunities.

Qualifying issues. Small business FTS is generally available if:

• Issues are fully developed;
• The taxpayer has stated a position in writing or filed a small case request for cases in which the total amount for any tax period is less than $25,000; and
• There are a limited number of unagreed issues.

Small business FTS is unavailable for Collection Appeals Program, Collection Due Process, Offer-In-Compromise and Trust Fund Recovery cases, except as provided in any guidance issued by the IRS; correspondence examination cases worked solely in a Campus/Service Center site; and cases in which the taxpayer has failed to respond to IRS communications.

Information Document Requests

The IRS Large Business & International (LB&I) Division has issued a new directive (LB&I-04-1113-009) that expands on an earlier directive from in June (LB&I-04-0613-004) by itemizing the requirements for IRS agents preparing information document requests (IDRs). The new directive also outlines the mandatory three-part enforcement process for taxpayers that do not timely respond to an IDR. While IDRs are common for large business taxpayers, the IRS also uses them in auditing certain small business issues.

June directive. The original June 2013 directive set forth general principles and several mandatory actions that examiners must take while issuing IDRs. These principles are reiterated in the November directive.

The June directive also provided that IDRs issued after June 30, 2013 must comply with these principles. In particular, the IRS reported that the mandatory training emphasized that employees must focus their IDRs on specific issues relevant to the exam. IRS employees are required to discuss the IDRs and issues with the taxpayer, as well as what would be an appropriate deadline for the response to the request. The deadline must fall within a "reasonable timeframe" and be "mutually agreed upon." If the examiner does not receive a response by this date, and the IDR otherwise met the requirements listed under the directive, the case will proceed into the enforcement process outlined in the new directive from November 2013.

November directive. If a taxpayer does not respond to the IRS by the date indicated in the IDR, the case must proceed to the graduated, three-step enforcement process outlined in Attachment 2 of the November directive. This process, assuming the taxpayer could not respond to the IDRs by the dates specified at each step, would involve first a delinquency notice, then a pre-summons letter, and finally a summons.

The IRS has recently promoted the revised IDR enforcement process as a "win-win" for both the IRS and taxpayers. However, some practitioners have expressed concerns that the rigid deadlines in the new enforcement process will have the opposite effect and result in more summonses being issued. Practitioners recommend that taxpayers proactively involve themselves in the initial IDR process to ensure that the IDR, once issued, provides them with enough time to supply the requested information.

If you have questions relating to the IRS's new FTS or IDR programs, please contact our offices.