Tax Newsletter - August 2022

The CP-14 Notice is mandated by Congress; IRS must send the notice to provide for the law in notifying the client that they have a balance due. This is confusing to the client who has already paid the tax due. Generally, there is no need to reply if the tax has been paid but ask the client to check to make sure that the payment has been processed through whatever method they used to pay the assessment.

On July 27, IRS issued the following update noting that some payments made for 2021 tax returns have not been correctly applied to joint taxpayer accounts, and these taxpayers are receiving erroneous balance due notices (CP-14 notices) or notices showing the incorrect amount.

Generally, these are payments made by the spouse (second taxpayer listed) on a married filing jointly return submitted through their Online Account. Other taxpayers may also be affected outside of this group.

No immediate action or phone call needed: Taxpayers who receive a notice but paid the tax they owed in full and on time, electronically or by check, should not respond to the notice at this time. The IRS is researching the matter and will provide an update as soon as possible. Taxpayers who paid only part of the tax reported due on their 2021 joint return, should pay the remaining balance or follow instructions on the notice to enter into an installment agreement or request additional collection alternatives. Taxpayers can ensure that their payment is on their account by checking Online Account under the SSN that made the payment. Note that any assessed penalties and interest will be automatically adjusted when the payment(s) are applied correctly.

Additional information for tax professionals:

In general, when certain payments are processed, programming does not move the payment to the married filing jointly account when the payment is:

• Not electronic and made by the secondary spouse.
• Electronic, and made by the secondary spouse, and posts before the joint return indicator is present to identify the primary taxpayer.
• Made by the secondary spouse using the Online Account (OLA) Make a Payment functionality.

The IRS Chief Counsel's Office has released a Program Manager Technical Advice (PMTA) on when penalties apply for a failure to file returns electronically. The PMTA specifically addresses certain returns that proposed regulations (REG-102951-16) would require to file electronically.

• Form 5330, Return of Excise Taxes Related to Employee Benefit Plans.
• Form 4720, Return of Certain Excise Taxes Under Chapters 41 and 42 of the Internal Revenue Code.
• Form 5227, Split-Interest Trust Information Return.
• Form 1042, Annual Withholding Tax Return for U.S. Source Income of Foreign Persons; and
• Form 1120-POL, U.S. Income Tax Return for Certain Political Organizations.

The proposed regs would require Forms 5330, 4720, 5227, and 1120POL to be filed electronically if the filer is required to file at least ten returns of any type during the calendar year and financial institutions to e-file all Forms 1042. The failure to file penalty applies to a filer who submits a paper return when the IRS requires that return to be e-filed. The PMTA notes that such a filer has failed to file the return according to the "forms and regulations prescribed" by the IRS. As a result, the return has not been properly "filed."

The Cannabis Administration and Opportunity Act was introduced by three Senate Democrats on July 21, 2022.

The bill would decriminalize, regulate, and tax cannabis at the federal level, removing it from a controlled-substances list and eliminating a Code ban (§ 280E) on expense deductions by marijuana businesses in states where the drug is legal.

The Cannabis Administration and Opportunity Act would impose a top excise tax of 25% on products sold by large cannabis businesses. Initially a 5% excise tax would be applied to small and midsize cannabis producers and gradually be increased to a maximum 12.5% after five years. Larger cannabis businesses would have an initial excise tax of 10% applied, to be increased to no higher than 25% after five years. Federal tax revenues generated by decriminalization would be reinvested in communities and people most harmed by the nation's war on drugs, according to the summary.

By removing cannabis from coverage under the Controlled Substances Act, the bill would nullify Code § 280E (which forbids producers and sellers of illegal drug users from claiming deductions for business expenses) with respect to cannabis. Under the legislation, producers would get the same tax incentives as other legal enterprises-as well as access to bank accounts, credit cards, and other financial services now denied them.

To date, 37 states have moved to legalize cannabis at least for medical use, meaning tens of millions of Americans now live in a state where some form of cannabis is legal.

The House of Representatives has passed its own marijuana legalization bill, twice: the Marijuana Opportunity Reinvestment and Expungement Act (H.R. 3617), which the Senate has not considered. Excise tax rates in the House bill are lower than in the Senate package, starting at 5% and rising to a maximum 8%.

Senator Joe Manchin (D-WV) and Majority Leader Charles Schumer (D-NY) have reached a deal on a scaled-down economic package that includes tax and energy provisions. The bill raises more than $730 billion in revenue, with $300 billion of that planned to be used for reducing the federal budget deficit. It also includes roughly $370 billion in energy and climate spending. The bill includes measures on:

• Corporate Tax: Imposes a 15% minimum corporate tax on companies who traditionally have paid an extremely low rate due to their eligibility for several credits and deductions.
• The IRS would receive $80 billion in funding to add auditors, improve customer service, and advance their technology. It is estimated that these investments will raise $124 billion in additional revenue over the next ten years.
• The bill further narrows the carried interest exemption used by many private equity and hedge fund managers by extending the holding period and changing the way the period is calculated, forcing more income to be taxed at higher individual income rates.
• Provides electric car credits to lower- and middle-income buyers a $4,000 tax credit to purchase used electric vehicles and a $7,500 tax credit for new electric vehicles.
• Renewable Energy Credits of $60 billion of incentives for bring clean energy manufacturing to the US. Tax credits apply to the manufacturing of solar panels, wind turbines, batteries, and critical minerals processing.
• A tax credit for consumers who add renewable energy items to their homes such as efficient heat pumps, rooftop solar, electric HVAC and water heaters. Also includes $9 billion for home energy rebate programs for low-income consumers and $1 billion in grants for affordable housing energy upgrades.
• Allows Medicare to directly negotiate with drug companies and cap what seniors on Medicare pay for drugs each year at $2,000.
• Extends for two additional years the enhanced Affordable Care Act premium subsidies that are currently set to end at the end of this year.

The bill must pass both the House and Senate but is a move in the right direction. We will keep you posted.

The governor of New York signed a measure that changed New York tax law to match the IRS deadline extensions. The bill is intended to allow state’s tax authorities to match any postponements of deadlines by the federal government to provide residents with additional time to file.

The Internal Revenue Service made an important enhancement to the “Where’s My Refund?” online tool introducing a new feature that allows taxpayers to check the status of their current tax year and two previous years’ refunds.

Taxpayers can select any of the three most recent tax years to check their refund status. They will need their Social Security number or ITIN, filing status and expected refund amount from the original filed tax return for the tax year they’re checking.

Previously, “Where’s My Refund?” only displayed the status of the most recently filed tax return within the past two tax years. Information available to those calling the refund hotline will be limited to the 2021 tax return.

As of June 10, the IRS had processed more than 4.5 million of the more than 4.7 million individual paper tax returns received in 2021. The IRS has also successfully processed the vast majority of tax returns filed this year: More than 143 million returns have been processed overall, with almost 98 million refunds worth more than $298 billion being issued.

The IRS continues to receive current and prior-year individual returns and related correspondence as people file extensions, amended returns and a variety of business tax returns. To date, more than twice as many returns await processing compared to a typical year at this point in the calendar year, although the IRS has worked through almost a million more returns to date than it had at this time last year. And a greater percentage of this year’s inventory awaiting processing is comprised of original returns which, generally, take less time to process than amended returns.

Additionally, the IRS has greatly improved the process for taxpayers whose paper and electronically filed returns were suspended during processing for manual review and correction – referred to as error resolution. Last filing season, an IRS tax examiner could correct an average of 70 tax returns with errors per hour. Thanks to new technology implemented this filing season, 180 to 240 returns can now be corrected per hour. As of June 12, 2021, there were 8.9 million tax returns in error resolution. As of June 10, 2022, there were just 360,000 returns awaiting correction.

The IRS closed nearly 1,700 cases in which agency employees may have improperly accessed taxpayer data between fiscal years 2012 and 2021, with 27.3% of the incidents substantiated as misconduct, according to a Government Accountability Office (GAO) report released May 19.

The GAO said the IRS had established that misconduct occurred in 462 cases involving unauthorized information access, from among 1,694 such cases it closed during the 10 years studied. Of the 462 "substantiated" cases, 204 included an unauthorized disclosure of data, with 49 of those cases found to have been violations. In 27 cases, the IRS found that the offending employee had violated agency rules against unauthorized access, or "UNAX," as well as unauthorized disclosures.

Among the 1,694 UNAX cases closed by the IRS's Human Capital Office, 852 (50.3%) were deemed "unsubstantiated," while 380 cases (22.4%) were marked as "unresolved." The GAO report explained the three categories:

• A substantiated case is one in which the IRS determines that the facts support that the employee being investigated committed a violation of UNAX or unauthorized-disclosure policy.
• In an unsubstantiated case, the IRS determines there is no proof a violation occurred.
• An unresolved case is one in which the investigated employee resigns, retires, or otherwise separates from the agency before their case could be passed on judicially.

Citing IRS officials, the report said that in some investigations, the agency does not find evidence to substantiate a UNAX or unauthorized disclosure violation but finds that the employee being investigated had other misconduct issues.

On average, it took the IRS 211 days to close an employee misconduct case after it was referred to the agency by TIGTA, according to the GAO report.

Name and address changes:  Individuals who change their name after marriage should report their name change to the Social Security Administration (SSA) as soon as possible. The name on an individual's tax return must match the name associated with their SSN on file with the SSA. A name and SSN mismatch may delay or prevent processing the individual's return.

Individuals should file Form SS-5, Application for a Social Security Card to update their information with the SSA.

Individuals will also need to notify the IRS if they change their address after getting married. Individuals should notify the IRS of an address change using Form 8822, Change of Address.

Double-check withholding: Newly married couples should check their tax withholding. If both spouses work, they may move into a higher tax bracket or be affected by the additional Medicare tax. Completing new Forms W-4, Employee's Withholding Allowance, will allow the couple's employers to withhold the correct amount of federal income tax.

In certain situations, newly married couples must give their employers a new Forms W-4 within 10 days after changing their filing status.

Filing status: Married couples can choose to file their federal income taxes jointly or separately each year. For most couples, filing jointly makes the most sense, but each couple should review their own situation.

Note. If a couple is married as of December 31, they are married for the whole year for tax purposes.

The IRS has issued the Data Book detailing the agency's activities during fiscal year 2021 (October 1, 2020 – September 30, 2021) as well as new information on recent audit data. In addition to describing work performed during the pandemic, the IRS Data Book comprises 33 tables describing a variety of IRS activities from returns processed, revenue collected and refunds issued to the number of examinations conducted and the amount of additional tax recommended as well as budget and personnel information. The Data Book provides point-in-time estimates of IRS activities as of September 2021. For additional context, the IRS also released a related, lengthier discussion on recent audit data.

The Social Security Board of Trustees today released its annual report on the financial status of the Social Security Trust Funds. The combined asset reserves of the Old-Age and Survivors Insurance and Disability Insurance (OASI and DI) Trust Funds are projected to become depleted in 2035, one year later than projected last year, with 80 % of benefits payable at that time.

The OASI Trust Fund is projected to become depleted in 2034, one year later than last year’s estimate, with 77 % of benefits payable at that time. The DI Trust Fund asset reserves are not projected to become depleted during the 75-year projection period.

In the 2022 Annual Report to Congress, the Trustees announced:

• The asset reserves of the combined OASI and DI Trust Funds declined by $56 billion in 2021 to a total of $2.852 trillion.
• The total annual cost of the program is projected to exceed total annual income in 2022 and remain higher throughout the 75-year projection period. Total cost began to be higher than total income in 2021. Social Security’s cost has exceeded its non-interest income since 2010.
• The year when the combined trust fund reserves are projected to become depleted, if Congress does not act before then, is 2035 – one year later than last year’s projection. At that time, there would be sufficient income coming in to pay 80 % of scheduled benefits.

Other highlights of the Trustees Report include:

• Total income, including interest, to the combined OASI and DI Trust Funds amounted to $1.088 trillion in 2021. ($980.6 billion from net payroll tax contributions, $37.6 billion from taxation of benefits, and $70.1 billion in interest)
• Total expenditures from the combined OASI and DI Trust Funds amounted to nearly $1.145 trillion in 2021.
• Social Security paid benefits of $1.133 trillion in calendar year 2021. There were about 65 million beneficiaries at the end of the calendar year.
• The projected actuarial deficit over the 75-year long-range period is 3.42 % of taxable payroll – lower than the 3.54 % projected in last year’s report.
• During 2021, an estimated 179 million people had earnings covered by Social Security and paid payroll taxes.
• The cost of $6.5 billion to administer the Social Security program in 2021 was a very low 0.6 % of total expenditures.
• The combined trust fund asset reserves earned interest at an effective annual rate of 2.5 % in 2021.

View the 2022 Trustees Report at www.socialsecurity.gov/OACT/TR/2022/.

Individuals selling their home should consider the following tax matters:

Principal residence exclusion. Taxpayers may qualify to exclude from income all or part of any gain from the sale of their home ("principal residence exclusion"). To qualify for this exclusion, the taxpayer must meet ownership and use tests.

1. Ownership test. The homeowner must have owned the home for at least two years of the five-year period ending on the date of the sale.
2. Use test. The homeowner must have used the home as their main residence for at least two years of the five-year period ending on the date of the sale.

Limits on the exclusion. The principal residence exclusion is limited to $250,000 ($500,000 for joint filers). Also, taxpayers may only claim the exclusion once during a two-year period.

Note. In certain circumstances, taxpayers who fail the two-out-of-five-year ownership and use tests may still be eligible to claim a partial primary residence exclusion if their main reason for the home sale was a change in workplace location, a health issue, or another unforeseeable event.

Homeowners who can exclude all their gain on a home sale do not need to report the sale on their tax return unless a Form 1099-S, Proceeds from Real Estate Transactions, was issued to them.

Losses from the sale of a home. Taxpayers who sell their home at a loss (they sell the home for less than its adjusted basis) cannot deduct the loss.

Taxpayers with multiple homes. Taxpayers with multiple homes can exclude gain only from the sale of their principal residence. They cannot exclude any gain from the sale of any other home.

Note. Taxpayers with multiple homes can sell their main home, move to an already owned second home, such as a vacation home, and turn that second home into their principal residence. Once they satisfy the ownership and use tests for the second home, the taxpayer can exclude gain on the sale of this second residence.

Reporting the sale. Taxpayers who do not qualify to exclude all of the taxable gain from their income must report the gain from the sale of their home when they file their tax return. Anyone who chooses not to claim the exclusion must report the taxable gain on their tax return.

Mortgage debt. Taxpayers who sell their home for less than the amount of their mortgage (short sale) can exclude the amount discharged or forgiven from income as long as the amount was discharged before January 1, 2026, or a written agreement for the debt forgiveness was in place before January 1, 2026.

The Electronic Tax Administration Advisory Committee (ETAAC) today released its annual report to Congress, featuring recommendations focused on budget support for the Internal Revenue Service and enhancements to e-filing.

The 2022 report groups a total of five recommendations into two sections: recommendations to Congress and recommendations to the IRS.

The recommendations to Congress include:

• Provide the IRS with flexible, sustainable, predictable, multi-year funding.
• Provide both budgetary and legislative support that allows the IRS to leverage its successes to deliver the level of services that taxpayers expect and deserve.

The recommendations to the IRS include:

• Implement enhancements to Modernized e-File that remove impediments to e-filing, with appropriate security features, taxpayer consent and acknowledgements.
• Promote the use of identity protection PIN through a national, year-long campaign, leveraging stakeholders including the tax and financial services industries, to highlight the benefits of the program.
• Work collaboratively with states and software providers to develop a long-term roadmap for Payroll and Information Return Modernization.

The full 2022 report is available on IRS.gov.

The IRS announced more tax forms can now be amended electronically:

• Form 1040-NR, U.S. Nonresident Alien Income Tax Return.
• Forms 1040-SS, U.S. Self-Employment Tax Return (Including the Additional Child Tax Credit for Bona Fide Residents of Puerto Rico).
• Forms 1040-PR, Self-Employment Tax Return – Puerto Rico.
• Additionally, a new, electronic checkbox has been added for Forms 1040/1040-SR, 1040-NR and 1040-SS/1040-PR to indicate that a superseding return is being filed electronically. A superseded return is one that is filed after the originally filed return but submitted before the due date, including extensions.
• Taxpayers can also amend their return electronically if there is change to their filing status or to add a dependent who was previously claimed on another return.

About 3 million Forms 1040-X are filed by taxpayers each year. Taxpayers can still use the "Where's My Amended Return?" online tool to check the status of their electronically-filed Form 1040-X.

• Forms 1040, 1040-NR and 1040-SR can still be amended electronically for tax years 2019, 2020 and 2021 along with corrected Forms 1040-SS and Form 1040-PR for tax year 2021.
• In general, taxpayers still have the option to submit a paper version of the Form 1040-X and should follow the instructions for preparing and submitting the paper form.

Note: Though Form 1040X, is accepted electronically, IRS must then download the form to manually enter the data. Unlike the typical 1040 that is filed electronically, the Form 1040X does not automatically flow into the IRS pipeline for processing. Filing electronically avoids the opening of the mail that is required with a paper filing.

From April 2020 to December 2021, the federal government made direct payments to individuals totaling $931 billion, the Government Accountability Office said in a two-page report, "Stimulus Checks: Direct Payments to Individuals During the COVID-19 Pandemic." (GAO-22-106044)

To address "pandemic-related financial stress," three rounds of Economic Impact Payments (EIP) - authorized by various legislation - were disbursed to about 165 million Americans, according to the report.

It noted that "refundable tax credits sometimes have issues with improper payments (payments made in the wrong amount or to the wrong person)." Almost two years ago, the GAO reported that the EIP improper-payment rate was approximately 2%, and the IRS took some actions to recover those payments.

The GAO said its work suggested there are two broad steps that could be taken to improve the effectiveness of Treasury Department and IRS administration of tax credits similar to the EIP.

• First, Treasury and the IRS could use available data to develop an updated estimate of total outreach and communication efforts for similar credits.
• Second, the two government bodies should focus on improving interagency collaboration and use data to assess the effectiveness of their efforts to educate more people about refundable tax credits and eligibility requirements.

• Pub 1187, Specifications for Electronic Filing of Form 1042-S, Foreign Person's U.S. Source Income Subject to Withholding.
• Pub 5640 (sp), Tax Withholding Estimator: A Powerful online tool for small businesses (Spanish Version).
• Pub 5640 (zh-s), Tax Withholding Estimator: A powerful online tool for small businesses (Chinese-Simplified Version).

• Pub 5642, Which employers are eligible for the work opportunity tax credit