Update on Various 2015 Affordable Care Act Tax Matters

U.S. Supreme Court Ruling Expected at the End of this Month

In March 2015, the Court heard the King v. Burwell case.  The plaintiffs argued that the IRS unlawfully extended the premium support tax credit to residents of states having a Federal individual health insurance exchange instead of a state-run exchange.  The plaintiffs argued that the language of the law limits the credit to only state-run exchanges.  Only 16 states run their own exchanges and six state run exchanges in partnership with the Federal government.  The credit pays for a substantial portion of the premium of health insurance policies purchased by low to middle income taxpayers from the exchange.  If the Court rules against the government, health insurance would once again become unaffordable to millions of taxpayers who would also be penalized for not having health insurance!  Furthermore, employers may escape the penalty for not offering affordable, minimum essential health insurance in those states having Federal exchanges.  Clearly, an adverse ruling to the government will have far reaching consequences!

Update:  On June 25, 2015, in a 6-3 vote, the U.S. Supreme Court upheld the availability of the premium credit for health insurance policies purchased on a Federal exchange.

Employer Reporting Requirements

Employers having 50 or more full-time equivalent employees (FTEs) during 2015 must report monthly health insurance information for 2015 for each full-time employee (those working on average 30 hours a week) on Form 1095-C (Employer-Provided Health Insurance Offer and Coverage) and Form 1094-C (used to transmit Form 1095-C and also to claim transitional rules relief).  Form 1095-C must be provided to each full-time employee by February 1, 2016 and the forms must be filed with the IRS by February 29, 2016.  Applicable employers need to begin gearing up to meet these filing requirements.

Inflation Adjustments for 2015

The employer mandate penalties and the premium support credit eligibility figures are adjusted for inflation for 2015.

·       The penalty for not offering health insurance increases to $2,080 from $2,000.

·       The penalty for offering unaffordable health insurance increases to $3,120 from $3,000.

·       A premium credit for policies purchased on the exchange is available for those with household income of 100% to 400% of the federal poverty line:

o   Household income for a single person:  from $11,670 to $46,680 in 2015, up from $11,490 to $45,960 in 2014.

o   Household income for a family of four:  from $23,850 to $95,400 in 2015, up from $23,550 to $94,200 in 2014.

2015 Applicable Large Employer Mandate Transitional Relief

Employers with 50 to 99 FTEs in 2014.

·       There is no penalty for not offering health insurance to full-time employees if certain IRS mandated requirements are met:

o   The employer does not reduce the workforce count or reduce hours worked during the period of February 9, 2014 through December 31, 2014 to get under 100 FTEs, and

o   The employer does not reduce health insurance benefits during the period of February 9, 2014 through December 31, 2014.

·       These employers will be subject to the mandate beginning in 2016.

Employers with 100 or more FTEs in 2014.

·       The standard exemption of 30 used to calculate the penalty for not offering health insurance where an employee obtains a premium credit is increased to 80 for 2015 only.  For example, if the employer did not offer health insurance and there were 120 full-time employees, the penalty would be $83,360 [$2,084 X (120-80)] instead of $187,560 [$2,084 X (120-30)].

·       There is no penalty for not offering health insurance if at least 70% of its full-time employees are offered health insurance.  The percentage increases to 95% after 2015.

o   Even if this percentage is met, if the health insurance offered is not deemed “affordable” to the employee, or if the policy is not at least a “bronze-level” policy, the employer is subject to a $3,126 penalty for each full-time employee receiving a premium support credit.  This penalty cannot exceed what the penalty would be if no health insurance were offered.  A policy is deemed affordable if the employee’s portion of the premium does not exceed 9.56% of wages.

Individual Mandate Penalty

The individual mandate penalty increases.

·       The flat dollar penalty increases from $95 per adult (with a $285 household maximum) to $325 per adult (with a $975 household maximum).  For children under age 18, the penalty is 50% of the per-adult amount.

·       The penalty calculated as percentage of household income in excess of the tax return filing threshold increases from 1% to 2%.  This penalty applies if it is greater than the flat dollar penalty.

·       However, the maximum individual mandate penalty is limited to the national average bronze-level premium.  This average increases to $2,484 in 2015 from $2,448 in 2014 for an individual policy, and to $12,420 from $12,240 for a family policy covering five or more members.

2014 Foreign Bank Account Report (FinCEN Form 114) must be Electronically Filed by June 30, 2015

U.S. persons having interests in or signature authority over a foreign financial account must file an annual report with the U.S. government if the aggregate value of all foreign accounts exceeds US$10,000 on any day during the calendar year.  A foreign exchange rate is used for conversion purposes.  Conversion rates as of December 31^st should be used and they are published here.

Last year’s FBAR was for the first time that new FinCEN Form 114 (which must be electronically filed) replaced old paper-filed Form TD F 90-22.1.  FinCEN stands for Financial Crimes and Enforcement Network.  The foreign bank and financial accounts report, or FBAR, must be filed by June 30, 2015 through the BSA E-Filing System here.  BSA stands for Bank Secrecy Act.  You may file your FBAR by using the services of a third-party upon granting the proper permission using FinCEN Form 114a.

No extension of time is permitted, so plan ahead!  Significant penalties exist for late or non-filing.  Such penalties can range from $500 to the greater of $100,000 or 50% of the account balance.  In addition, criminal penalties can range from a fine of up to $500,000 plus 10 years in jail in some situations.  Clearly the US government is serious about forcing FBAR compliance.  You should consult legal counsel if you have serious concerns about any delinquency.

Owners of entities that are required to file an FBAR must also file an FBAR at the owner level if they have more than a 50% direct or indirect ownership interest.  So-called “disregarded entities” for income tax purposes are not disregarded for this purpose and must file the report.  Records of accounts required to be reported on the FBAR should be kept for five years from the due date of the report.

Be sure to also check the appropriate boxes at the bottom of Schedule B, Form 1040, and to include any account earnings in your U.S. income tax return.

For more information, consult the IRS’ online FBAR Reference Guide here.

Lessons from Tax Season

"Tax season" ended last week for 2014 income tax returns.  This season seemed particularly painful given the delay in receiving Forms 1099 from financial institutions, new health insurance reporting, and IRS tangible property regulations that were modified in the middle of February!  These factors served to make the time frame for completing tax returns even more compressed than in the past.  Here are a few observations that can make the next tax season smoother for you and for us.

Certain investments can greatly complicate your income tax return.  Although income taxes should not be the primary factor in choosing suitable investments, you should be aware of the tax reporting implications of those choices, which can add to the costs of preparation and delay the timing of when the tax return can be completed.

For example, with the sharp decline in interest rates over the past several years, purchasing bonds, notes, and certificates of deposit on the market rather than at original issue will result in the payment of premiums and accrued interest.  The financial institution's Form 1099 will report to the IRS the amount interest income earned according to the stated coupon rate, which greatly overstates the actual economic interest earned.  Tax elections and complicated calculations for premium amortizations and accrued interest adjustments are necessary to avoid overpaying tax.

Another example relates to investments that are bought and sold by investment advisors as if the investment were shares of stock, but the investment is actually a tax partnership.  As an owner of a partnership you will receive a Schedule K-1 rather than a Form 1099 for the investment income or loss.  Tax partnerships are complicated!  Many times the K-1s are not even provided until September, requiring a six-month extension of your tax return.  Some of the partnerships invest in foreign entities that require expanded disclosures in your tax return.  Others hold property in a variety of other states that may require you to file tax returns in those states.  All of these consequences bring delays and added costs.

Asset location can simplify the complexities of these investments.  Placing complicated fixed income or tax partnership investments in individual retirement accounts (IRAs) avoids the associated tax reporting requirements.  Your investment advisor should be able to view your IRA and regular investment accounts on an overall portfolio basis.  Each type of account does not need to be perfectly allocated among asset classes if on an overall basis proper asset allocation is achieved.  Those with small IRAs may have sizeable company 401(k) accounts that can be separately managed under the terms of the company plan.

Get an early start with the information that is available.  Much of your tax information should be available at the first of February.  Organizing that information will help to identify what is missing.  Preparing that portion of your tax return and adding the information that arrives later will help avoid last minute surprises, allow better service and reduce the likelihood of mistakes.

There isn’t a lot we can directly do to cause the government to simplify the burden of tax compliance, but we can each take some steps in our personal circumstances to deal with the reality of what we face.  We appreciate each and every one of our clients and look forward to continuing to serve you in the future.

Problems Arise in Implementing Obamacare on 2014 Income Tax Returns

The Affordable Care Act is an extremely large and complicated law.  Not only are there technical legal issues that are still being resolved, but there are also many compliance problems that have arisen in connection with preparing 2014 individual income tax returns.  The year 2014 is the first time taxpayers must have health insurance for each month of the year or face a tax penalty.  The year 2014 is also the first time that health insurance exchanges operated and provided premium tax credits to offset the cost of health insurance for lower to moderate income taxpayers.  Just like when serious problems arose with the government’s website when it first started, several problems affecting 2014 income tax returns have arisen.

Incorrect Information Reported by Health Insurance Exchange Marketplaces

On February 20^th the government announced that it sent incorrect Forms 1095-A to 800,000 people who enrolled in the Federal exchange.  The form incorrectly used 2015 premium information instead of 2014 information.  Corrected forms will be sent in March.  The form is used to compute the proper amount of the premium support tax credit.  If too much credit is claimed it must be repaid.  If too little credit was received it can be claimed on the tax return.  The government estimates that some people who have already filed their 2014 income tax returns using the erroneous information will have received too much credit while others will have received too little, expecting to roughly break even.  Therefore the government said that amended tax returns are not required, in an attempt to avoid additional compliance costs to the affected taxpayers, although taxpayers may file amended returns if they wish.

Payback of Excess Premium Support Credits

According to an announcement by H&R Block, 52% of their customers are required to repay part of their tax credit subsidies used to purchase health insurance on the exchange.  The average payback is $530 which is treated as an additional tax on the income tax return.  This has been a surprise to many of their customers who were counting on higher refunds.

Estimated Tax Payment and Late Payment Penalty Relief

The IRS issued Notice 2015-9 where it announced penalty relief for taxpayers who must repay excess premium support credits and who have a balance owing on their tax returns.  Many taxpayers are now realizing that they must repay excess credits if they understated their estimate of 2014 income when they applied for premium tax credits.  The government is heading off complaints by granting relief from late payment and estimated tax payment penalties if the taxpayer can’t pay the tax due by April 15, 2015.  In order to qualify for the relief, taxpayers must file their tax return on time showing the amount of the excess credit, and they must not otherwise be delinquent with their prior tax filings and payment obligations.  The Notice indicates that IRS computers will bill the late payment penalty and that the taxpayer must respond to the billing notice with the phrase, “I am eligible for the relief granted under Notice 2015-9 because I received excess advance payment of the premium tax credit.”  To obtain relief from the estimated tax payment penalty, which is computed as part of the 2014 tax return, taxpayers should check box A in Part II of Form 2210, complete page 1, and include a statement with the form:  “Received excess advance payment of the premium tax credit.”  Interest will still be charged on amounts paid after April 15^th.

IRS Decides not to Put Small Businesses out of Business (at least through June 30, 2015) for Certain Health Insurance Violations

Remember when Pres. Obama said that if you liked your health insurance plan you can keep it?  Even though small businesses are not subject to the employer mandate, many provide health insurance benefits for their employees.  Many small employers have historically permitted their employees to choose their own individual health insurance policies, and then either directly paid the premium or reimbursed all or part of the monthly premium to their employees.  Small businesses that continued this practice into 2014 are in trouble.  This arrangement has been permitted for decades under the income tax law.  Now comes the Affordable Care Act (ACA) mandating certain marketplace health insurance reforms.  Beginning in 2014, it is against the law for employers to continue these premium payment plans for their employees.  The violation subjects the small employer to a $100 per day per employee penalty!  That’s right.  A small employer is exposed to a $36,500 annual penalty for each employee whom they assisted in purchasing an individual health insurance policy.  Somehow small businesses were supposed to know that these “employer payment plans” violated the law on January 1, 2014.  January and early February 2015 have been a time of high anxiety for small businesses and their accountants who have been trying to figure out how to correct the problem without financially ruining the business, and without causing the employees to pay income taxes on tax-free benefits!  Now the government has come to rescue us from their own rules by issuing IRS Notice 2015-17.

The Notice provides for a “transition” period through June 30, 2015, by which time small employers must cease providing financial assistance for their employees' purchase of individual health policies.  Instead, the employer must either offer a group health insurance plan, or use the SHOP Marketplace (known as Avenue H in Utah) to permit employees to select plans that are grouped together as an overall qualifying group plan.  Alternatively, the small employer can just raise their employees’ wages (with no mandate to spend the wage increase on health insurance) and get out of the business of helping employees pay health insurance premiums.  But this approach is very tax inefficient.  An employer’s payment of group health insurance premiums can be made income tax free to the employees, but a wage increase is fully taxable.  The Notice also provides special rules for employees of S corporations who own more than 2% of the employer’s stock.

The Notice provides that the $100 a day penalty will not apply for 2014 or through June 30, 2015, but it will begin to apply on July 1, 2015.  Again, this issue deals with small employers (those with less than 50 full-time equivalent employees) who are not subject to the employer mandate but who nevertheless choose to assist employees in obtaining individual health insurance.  These employers must help their employees in the way the government says to do it or else they risk being penalized out of business!

IRS Finally Does the Right Thing: Eases Application of the Tangible Property Regulations for “Small” Taxpayers

On Friday, February 13, 2015, the IRS issued Revenue Procedure 2015-20 to simplify the application of the tangible property regulations (TPRs, sometimes called the “repair regs”) for small taxpayers.  Accountants and industry organizations told the IRS months ago that its implementation rules were too onerous and impractical for small taxpayers to follow.  Now in the middle of tax season the IRS provides relief, but only after tax preparers and taxpayers have already spent many hours of effort trying to make the old rules work.

What is a “small” taxpayer?  A small taxpayer has either less than $10 million of assets on the first day of the 2014 tax year OR has average annual gross receipts of $10 million or less for the three prior tax years.  These tests are applied separately for each separate and distinct trade or business of the taxpayer.  Special rules exist for taxpayers having less than three full prior tax years.  Gross receipts include gross sales less sales returns and allowances, all receipts for services, investment income, but only the gains from the sale of investments and property used in a trade or business (other than inventory). 

The IRS eased two major problems.  First, the TPRs do not have to be retroactively applied to past tax years.  It was ridiculous for the government to require taxpayers to apply today’s tax rules to all previous tax years.  Second, the 8-page Form 3115 (plus attachments) is not required to be completed to tell the IRS that its TPRs are now being complied with.  However, the IRS says this simplification comes at a cost.  The IRS says that there is no audit protection for years earlier than 2014.  Because small taxpayers can use the “cut-off” method and just start complying with the TPRs in 2014, the IRS states that it can still require compliance in past years in the event of an audit.  Most small taxpayers will ignore this threat and avoid the costs and hassles of retroactively applying the rules and filing multiple Forms 3115.

The IRS points out that any tax benefits that would have come from retroactive application of the TPRs won’t be available unless the small taxpayer does in fact retroactively apply the TPRs and file Form 3115.  One example is the “late partial disposition election.”  This “election” is made by filing Form 3115 for prior dispositions of components or structural parts of assets.  For example, for a building, the tax code does not allow for separate depreciation of building components or systems.  Therefore, the building cost is often recorded on the depreciation schedule as a lump-sum number.  The IRS is now permitting the deduction of the undepreciated cost of the portion of the building previously disposed, such as a roof.  When a new roof was put on in the past, the cost of the old roof was not broken out from the building cost and written off.  Now, the IRS is permitting this write-off, and to do so, Form 3115 must be filed with an estimate of the cost of the old roof.  Doing so is an election and not a requirement.  A second example of lost tax benefits if there is no retroactive application of the TPRs deals with prior capitalized repairs that would clearly be deductible under the TPRs.  Filing a Form 3115 allows a current deduction for any remaining undepreciated capitalized cost.  In addition, if the capitalized repairs are not written-off, there is a chance the IRS would deny future depreciation deductions by asserting that the repairs should have been expensed in the prior year and that there is no legitimate asset to depreciate.

Pres. Obama’s Proposed Tax Increases on the “Rich”

In connection with his 2015 State of the Union Address, Pres. Obama proposed to increase taxes again on the “rich” in order to give new tax credits to the “middle class.”  Taxes would increase an estimated $320 billion over 10 years.

Increasing the Top Tax Rate on Qualified Dividends and Long-Term Capital Gains 

·       The current top income tax rate on qualified dividends and long-term capital gains is 20% for taxpayers with income above $413,200 (single) or $464,850 (joint).  In addition, a 3.8% net investment income tax (NIIT) created under Obamacare applies.

·       The President proposes to increase the top tax rate on qualified dividends and long-term capital gains to 28% for couples with income over about $500,000.   The February 2nd budget proposal clarifies that the 28% rate includes the 3.8% net investment income tax.

Treating Transfers of Property by Inheritance and Gifts as Taxable Events 

·       Under current law, most assets receive a new basis at death equal to the date of death value.  This allows heirs to sell inherited assets without a capital gain.  On the other hand, in the case of a gift, the donor generally does not realize any gain, and the donee generally takes a carryover basis, meaning the donee pays the capital gain tax when the asset is sold. 

·       The President describes the current law as “perhaps the largest single loophole in the entire individual income tax code.” 

·       The proposal treats bequests and gifts other than to charitable organizations as realization events.  A realization event means the property is treated as if it had been sold for its fair market value at the date of death or at the date of gift.  Treating death as a realization event is harsher than prior proposals to deny an increase in basis at death (carryover basis).  Under a carryover basis regime, the beneficiaries can defer the tax until they sell the appreciated assets.  It is unclear who would pay the capital gain tax upon a gift, but it would probably be the person making the gift.

·       Administration officials indicate that the capital gains tax paid at death may be deducted for estate tax purposes.  The combined estate, capital gain, and Utah taxes on appreciated property would amount to as much as 60%.

·       A spouse could inherit from a deceased spouse without immediate tax.  The tax would not be due until the death of the surviving spouse. 

·       There would be an exemption from capital gains tax at death of up to $100,000 per individual ($200,000 per couple).  Note that these figures are “gains” and not the fair market value of the asset.  Any unused exemption of one spouse would “port” to the surviving spouse.

·       In addition, capital gains of up to $250,000 per individual ($500,000 per couple) for a personal residence would be exempt.  This additional exemption would also be portable between spouses. 

·       Tangible personal property other than expensive art and similar collectibles would be exempt. 

·       No tax would be due on inherited small family-owned and operated business unless and until the business was sold.  A small family-owned business was not defined.

·       Any closely-held business would have the option to pay the tax over 15 years on gains.  A closely-held business was not defined.

Limiting Retirement Plan Contributions

·       The President proposes to prohibit contributions to and accrual of additional benefits to IRAs, 401(k)s, and pension plans when balances are sufficient to produce an annual distribution of $210,000 in retirement.

·       Under current assumptions, the permitted balance would be about $3.4 million.

Withdrawn:  Treating Section 529 College Savings Plan Distributions as Taxable.

·       Under current law, earnings on Section 529 college savings plans withdrawn to pay for qualifying college expenses are not taxable.

·       Last week Pres. Obama proposed to tax the earnings on new contributions even when spent on qualifying college expenses.  This proposal received a lot of push back, including from members of his political party.  Administration officials indicated on January 27, 2015 that this proposal is withdrawn.