Employer Health Insurance Mandate and Reporting Delayed

In a post on the White House blog on July 2, 2013, the Obama administration unexpectedly delayed the mandate for “large” employers to provide minimum essential, affordable health insurance to full-time employees.  According to the law, the mandate begins after 2013 with a noncompliance penalty assessed on a monthly basis.  How the executive branch can unilaterally change the effective date of enacted law is a question many commentators are asking.  Nevertheless, affected employers may appreciate the one-year enforcement delay to 2015.  The Deseret News (7/3/2013) reported that in Utah, 93% of large employers already provide health insurance to their employees, so the delay will have minimal impact in Utah.  The Administration cited the complexity of the law for the delay, but some commentators smell political motivations in light of the coming 2014 election when the mandate was originally to begin.  The delay of the employer mandate does not delay the individual mandate, the establishment of health insurance exchanges, or other provisions of the Affordable Care Act.

Also delayed to 2015 is the employer’s annual insurance information return.  This return was to identify each full-time employee and the number of months each employee was covered by an employer-sponsored health insurance plan and whether the employee’s share of premiums was “affordable.”  Not only would the information assist the IRS in penalizing employers that fail to meet the mandate’s requirements, the information is critical to the insurance exchanges.  The exchanges need the information to determine who qualifies for premium support tax credits.  On July 5, 2013, the Administration released new rules that also postpone to 2015 the requirement for exchanges to verify an applicant’s income and health insurance status before granting tax credits.  So for 2014, applicants are on the “honor system” in providing truthful information to the exchanges for purposes of calculating the amount of the tax credits.  Given these postponements and previous adjustments, we are beginning to see evidence of the oncoming “train wreck” described by Obamacare supporter and retiring Montana Democrat, Max Baucus, several months ago.

U.S. Supreme Court Rules Section 3 of DOMA Unconstitutional

The U.S. Supreme Court released the Edith Schlain Windsor case decision on June 26, 2013.  In a 5 to 4 decision, it held Section 3 of the Defense of Marriage Act (DOMA) unconstitutional under the Fifth Amendment to the U.S. Constitution providing for equal protection of persons.  DOMA was enacted in 1996 and Section 3 provided that Federal tax benefits for married persons were conditioned upon a legal marriage between one man and one woman.  The consequences of the decision will have far reaching implications for same-sex married couples.  The IRS announced on June 27, 2013 that it would act swiftly to provide guidance.

The Windsor case concerned the use of the unlimited marital estate tax deduction for the survivor of a same-sex married couple.  Ms. Windsor, as the widow, was denied the estate marital deduction.  She paid $363,053 of estate tax and sued for a refund and declaration that Section 3 of DOMA was unconstitutional.  A federal district court and the Court of Appeals (Second District) found in favor of the taxpayer.  Justice Kennedy wrote that while marriage law is within the province of the States, DOMA created unequal treatment of married couples within a state recognizing same-sex marriages.  For example, prior to this decision, a same-sex couple living in a state recognizing same-sex marriage was entitled to a joint state income tax return but had to file as two single persons for Federal tax purposes; whereas an opposite-sex married couple could file a joint Federal tax return.  Now it appears that a Federal joint income tax return is permitted, so both kinds of marriages would be entitled to have the same filing statuses apply.  Questions arise as to how to handle past tax returns, some of which may be closed by the three-year statute of limitations.  Some same-sex taxpayers may have filed protective refund claims to hold open the statute of limitations pending the outcome of this case.

Now legally married same-sex couples who are recognized as married for Federal tax purposes will enjoy the same tax benefits and suffer the same “marriage tax penalties” as opposite-sex married couples.  Each couple’s situation will differ and tax planning should be tailored to individual circumstances and personal goals.

There will also be implications to employee benefits.  These include:

1.     Spousal coverage under employer-provided health insurance.

2.     COBRA continuation of health insurance.

3.     Spousal right to pension plan joint and survivor annuities.

4.     Spousal consent to name a non-spouse beneficiary of a defined contribution retirement plan.

5.     Retirement plan and IRA minimum required distribution and rollover provisions.

6.     Qualified domestic relations orders (QDRO) for dividing retirement benefits in a divorce.

7.     Qualifying for exchange premium support credits under Obamacare.

How will this decision impact legally married same-sex couples who move to a state that does not recognize the marriage?  Will they be able to file joint Federal tax returns even though required to file single person state income tax returns?  Section 2 of DOMA was not before the Supreme Court.  Section 2 provides that states do not have to recognize same-sex marriages performed in other states.  Democrats have introduced the Respect of Marriage Act in the U.S. House of Representatives.  The Act is designed to repeal Section 2 and to require states that do not permit same-sex marriages to recognize same-sex marriages legally performed in other states.

SEC Proposes Reforms for Money Market Mutual Funds

On June 5, 2013, the U.S. Securities and Exchange Commission proposed major changes to certain “prime” money market mutual funds (MMF).  The changes could dramatically alter investors’ perceptions and use of MMFs.  There is a 90-day public comment period after which these proposals could be imposed. 

One of the most desirable features of MMFs is a stable $1 per share Net Asset Value (NAV).  MMF interest rates float in order to preserve a constant $1 per share value.  During the recent financial crisis, in September 2008, the Reserve Primary Fund MMF “broke the buck” because of the fund’s investment in Lehman Brothers securities that became essentially worthless.  The NAV only dropped from $1.00/share to $0.97/share but that elicited a run on the fund and called into question whether other MMFs would also break the buck.  The Federal government had to quickly step in to guarantee the value of MMF shares owned prior to September 19, 2008 to prevent a potential collapse of the MMF industry.  This guarantee expired September 18, 2009 with no losses and the government has been struggling for years to come up with some solutions to avoid the need to make such a guarantee again. 

One of the SEC’s proposals is to require the NAV of institutional MMFs to float to the nearest 1/100^th of 1% ($1.0000 per share instead of $1.00 per share) in response to market conditions.  Exempted from this proposal are prime retail MMFs that limit redemptions to $1 million per day and government MMFs that are at least 80% invested in government securities.  This is a major change and could very well cause the run on MMFs that the government is trying to prevent. 

An alternative SEC proposal is to allow MMFs to impose a 2% redemption fee on investors or suspend redemptions for up to 30 days during periods of “market stress” in order to reduce the likelihood of a run on the MMF.  Government MMFs are exempt (unless they voluntarily opt in) but institutional and retail MMFs are subject to this proposal.  Most people think of MMFs as safe-havens for their cash, even though there is no FDIC insurance for MMFs.  This proposal changes the liquid nature of MMFs that investors find appealing.  If adopted, this proposal could prevent investors from accessing their money during times of financial turmoil.  Part of the concept of “safety” means that investors can access their money when they need to, and charging redemption fees or preventing access will be unpalatable to many investors.  Such investors should instead consider bank money market accounts if this alternative proposal is adopted.

Update
The IRS issued Notice 2013-48 in which it said that the wash sale rule wouldn't be applied to losses recognized from a floating NAV for MMFs as long as the loss did not exceed 0.5% of the tax basis in the shares redeemed.  The wash sale rule disallows a loss on the sale of securities if substantially identical securities are purchased in the period beginning 30 days before and 30 days after the date of sale.

2012 FBAR due by June 30, 2013

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 maximum account value exceeds US$10,000 on any day during the calendar year.  A foreign exchange rate is used for conversion purposes.  The IRS provides conversion rates here. 

The 2012 Report of Foreign Bank and Financial Account (Form TD F 90-22.1, termed the “FBAR”) must be received by the U.S. Treasury Department in Detroit, Michigan on or before June 30, 2013.  The normal postmark rule for the timely mailing of tax returns is not applicable.  In addition, no extension of time is permitted.  This year June 30^th falls on a Sunday.  This means that you should ensure that the FBAR is received by June 28^th as the government’s offices are generally closed on weekends.  Significant penalties exist for late or non-filing.

An alternative to using a paper Form TD F 90-22.1 is to submit the FBAR electronically through the Bank Security Act e-filing system.

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. 

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.

Estate and Gift Tax Provisions of Pres. Obama’s Fiscal Year 2014 Budget Proposal

On April 10, 2013, Pres. Obama released his budget proposal for the Federal government’s fiscal year running from October 1, 2013 through September 30, 2014.  The budget proposal includes many individual and business income tax provisions, projected to increase taxes by $1.1 trillion over 10 years according to the Tax Policy Center.  This post concerns estate and gift taxes.  Previous blog posts covered the proposals dealing with individual and business income taxes. 

1.     Beginning in 2018, the estate and generation skipping transfer tax exemptions would decrease to $3.5 million and the gift tax exemption to $1.0 million, and the tax rate would increase to 45%.  These are the exemptions and tax rate that existed in 2009.  In addition, the exemption amounts would no longer be indexed for inflation.  Portability of unused estate and gift tax exclusions between spouses would be retained.  These changes are being proposed only three months after the American Taxpayer Relief Act of 2012 had “permanently” increased the exemptions to $5.25 million (as indexed for inflation) and had “permanently” set the tax rate at 40%!  The proposal does not claw back any tax benefits for gifts above the proposed $1 million gift exemption made before 2018.

2.     Effective for transfers on or after the date of enactment, the income tax basis of inherited property could be no greater than the value of property for estate or gift tax purposes.  A new information reporting requirement will cause the estate executor or the donor to provide the necessary valuation and basis information to both the property recipient and the IRS.

3.     For grantor-retained annuity trusts (GRATs) created after the date of enactment, the GRAT term must be no shorter than 10 years or longer than the life expectancy of the annuitant plus ten years.  The remainder interest must have a value greater than zero when the GRAT is established.  In addition, the GRAT annuity may not decrease during the term of the GRAT.  These proposals eliminate the benefits of the so-called short-term, zeroed-out GRAT.

4.     For trusts created after the date of enactment, and for additions made to pre-existing trusts after that date, eliminate any generation skipping transfer tax (GST) exclusion allocated to the trust on the 90^th anniversary of the trust’s creation.  It is unclear how the 90-year limitation applies to an addition to a grandfathered trust.  This proposal effectively eliminates the future use of the dynasty trust strategy.

5.     For property sold to an intentionally defective grantor trust on or after the date of enactment, the portion of the trust attributable to such property (including all retained income, appreciation, and reinvestment) will be included in the gross estate, less any payments received.  In addition, if the trust ceases to be classified as a grantor trust during the grantor’s life, then the amount will be treated as a gift with the gift tax being paid by the trust.  Any distributions out of the trust in excess of the prior taxable gift amount will be treated as additional gifts.

6.     The exclusion from GST tax will be eliminated for health and education exclusion trusts (HEETs) created after the date of introduction of the bill proposing this change, and for transfers to existing HEETs after that date.  A HEET is used to pay providers of medical care and to pay schools for tuition costs of trust beneficiaries, which can include multiple generations.  Direct payments to providers by an individual for another person's medical or tuition costs are gifts that are excludable from GST tax.  The purpose of a HEET is to permit the GST exclusion to apply to such payments made for future trust beneficiaries, even after the death of the trustor.  This proposal eliminates the HEET GST exclusion tax benefit.

Business Income Tax Provisions of Pres. Obama’s Fiscal Year 2014 Budget Proposal

On April 10, 2013, Pres. Obama released his budget proposal for the Federal government’s fiscal year running from October 1, 2013 through September 30, 2014.  The budget proposal includes many individual and business income tax provisions, projected to increase taxes by $1.1 trillion over 10 years according to the Tax Policy Center.  This post concerns business tax proposals.  The previous post dealt with individual income tax and the next post will deal with estate and gift tax proposals. 

1.     Permanently extend the currently high Section 179 business property expensing amount of $500,000 and the currently high phase-out level of $2 million.  These amounts are scheduled to drop to $25,000 and $200,000 in tax years beginning after 2013.  Off-the-shelf computer software would continue to be eligible, but qualifying real property would no longer be eligible for Section 179 expensing.

2.     Increase the alternative simplified research credit rate from 14% to 17% after 2012 and permanently extend the research tax credit which is scheduled to expire in tax years beginning after 2013.

3.     Provide a one-time 10% tax credit for increased wages paid during the 12-month period after the date of enactment, over the amount of wages paid in 2012, whether the increase is driven by new hires, raises, or both.  Eligible businesses are those with less than $20 million of total 2012 wages.  The maximum credit is $500,000.

4.     Require employers who have been in business for at least two years and have over 10 employees, but do not currently offer a retirement plan, to enroll their employees in a 3% payroll-deduction, individual retirement account (IRA), effective for tax years beginning after 2014.  Employees would be able to opt out of the mandatory enrollment or elect to modify the 3% default rate.

5.     Repeal the last-in, first-out (LIFO) inventory costing method for the first tax year beginning after 2013.  When inventory prices rise over time, LIFO reduces income tax by treating the most recently purchased inventory item as having been sold.  The proposal would cause the one-time increase in taxable income to be recognized ratably over 10 years.

6.     Repeal the lower-of-cost or market and subnormal goods methods of inventory tax accounting (applicable to those not using the LIFO method) for tax years beginning after 2013.  The proposal would cause the one-time increase in taxable income to be recognized ratably over four years.

7.     Tax so-called “carried interest” income as ordinary income instead of as long-term capital gains in tax years beginning after 2013.  In addition, such income would be subject to self-employment tax.

8.     Repeal the partnership “technical termination” rules under Section 708(b)(1)(B) for transfers on or after December 31, 2013.  Under current rules, a partnership is considered terminated for income tax purposes if 50% or more of the capital and profits interests are sold or exchanged within any 12-month time period.

9.     Enact a new 20% tax credit for expenses paid or incurred after the date of enactment for costs related to insourcing a line of business into the U.S.  On the other hand, a deduction would be denied for costs of outsourcing a line of business.

10.  Repeal many of the tax benefits for oil and gas and coal exploration and production.  Repealed benefits would include the current expensing of exploration and development costs, percentage depletion, and the domestic manufacturing deduction.  The proposal would be effective for tax years beginning after 2013.

Individual Income Tax Provisions of Pres. Obama’s Fiscal Year 2014 Budget Proposal

On April 10, 2013, Pres. Obama released his budget proposal for the Federal government’s fiscal year running from October 1, 2013 through September 30, 2014.  The budget proposal includes many individual and business income tax provisions, projected to increase taxes by $1.1 trillion over 10 years according to the Tax Policy Center.  While many of the provisions have previously been proposed, there are also new provisions.  It is unlikely that all of these provisions will be enacted, but the following list indicates possible future changes that are worth noting as you contemplate your personal and business financial and tax planning strategies. 

1.     Reduce the tax savings from deductions and exclusions to an effective 28% tax rate for taxpayers in the top three income tax brackets (33%, 35%, & 39.6%), effective for tax years beginning after 2013.  Using 2013 rate brackets as an example, this tax increase would hit single filers and joint filers having taxable income in excess of $183,250 and $223,050 respectively.  The proposal would affect the following deductions and exclusions:

a.      Itemized deductions after all other limitations,

b.     Tax-exempt interest,

c.      Employer-paid health insurance premiums excluded from compensation,

d.     Employee-paid health insurance premiums made with pre-tax dollars,

e.      Self-employed health insurance premium deductions,

f.      Deductible IRA and retirement plan contributions,

g.     Domestic production activity deductions,

h.     Moving expenses,

i.       Contributions to health savings accounts and Archer MSAs,

j.       Interest expense on education loans,

k.     Deduction for college education expenses, and the

2.     Implement the so-called “Buffett” rule requiring taxpayers with over $1 million of adjusted gross income to pay a “fair share tax.”  The fair share tax phases in on a prorata basis so that by $2 million of AGI, the effective over-all tax rate would be no less than 30%.  Any itemized charitable deductions allowed after the overall limitation on itemized deductions would be allowed as a credit of 28% against the fair share tax.  The 30% effective rate is imposed after considering the regular tax, the alternative minimum tax, the 3.8% Obamacare surtax on net investment income, and the employee portion of payroll taxes.  The fair share tax would essentially be another alternative minimum tax, greatly complicating the tax code.  It would also dramatically increase the effective tax rate on long-term capital gains and qualified dividend income.  The fair share tax is proposed to be effective after 2013.

3.     Extend permanently the American Opportunity Tax Credit for college expenses.  The current credit structure is scheduled to expire after 2017.

4.     Impose a new lifetime overall limit on savings accumulated in tax-favored retirement accounts such as IRAs, profit sharing plans, 403(b)’s, and 401(k)s.  If the sum of all of the plan balances (including contributions and reinvested earnings) exceeds the amount needed to provide a lifetime annuity equal to the maximum amount permitted under a defined benefit plan (a joint and survivor annuity of $205,000 (for 2013) per year starting at age 62), then no more contributions or benefit accruals can be made, although the account balances may continue to grow with investment earnings and gains.  Currently, this amount is estimated to be $3.4 million.  This amount is susceptible to interest rates swings.  For example, the Wall Street Journal mentions in their article, (Will the Government Shrink Your IRA?) that in 2006 the amount needed to pay the permitted annual benefit would have only required $2.2 million.  If the accumulated retirement savings later fall below the designated level, additional contributions and accruals will be permitted.  The measurement would be made each December 31^st with any limitation on contributions or accruals applying to the following calendar year.  This proposal would be effective for tax years beginning after 2013.

5.     Require non-spouse beneficiaries of IRAs and qualified plans to receive their inherited benefits within five years.  This proposal would eliminate life-time stretch-out distributions of inherited benefits for non-spouse beneficiaries.  This proposal appears to include Roth IRAs, making taxable conversions from traditional IRAs to Roth IRAs for estate planning purposes much less attractive.  Exceptions from the five-year rule would be provided for beneficiaries who are disabled, chronically ill, minor children (but the five-year rule will apply at the age of majority), or those who are not more than 10 years younger than the participant or IRA owner.  This proposal is effective for deaths after 2013.

6.     Permit all inherited IRA balances to be rolled over within 60 days.  Currently, the rollover provision is only permitted to surviving spouses.  Non-spouse beneficiaries currently can only make direct trustee-to-trustee transfers.  This is a trap for the unwary.  A direct transfer is not possible for a distribution from an IRA, whereas a rollover applies to distributions.  This proposal would be effective for distributions after 2013.

7.     Eliminate the requirement to take minimum distributions from IRAs where total IRA and qualified retirement plan balances are $75,000 or less.  Although Roth IRAs are exempt from pre-death RMD rules, amounts held in Roth IRAs would be taken into account in determining whether the $75,000 threshold is met.  The RMD would phase-in between $75,000 and $85,000.  The initial measuring date is January 1^st of the year in which the taxpayer reaches age 70 ½ (or the year of death if earlier).  Subsequent measurement dates would occur on January 1^st of the year following any year in which there are additional contributions, rollovers, or transfers that weren’t previously included in a measurement.  This proposal is effective for taxpayers who attain age 70 ½ on or after December 31, 2013 and for taxpayers who die on or after that date before attaining age 70 ½.

8.     Require the use of the so-called chained Consumer Price Index (CPI) instead of the standard CPI to measure the rate of inflation when indexing tax brackets, exemptions, and other tax benefits after 2014.  The chained CPI produces a lower rate of inflation, thereby increasing taxes because the size of the deductions, exemptions, and tax brackets will correspondingly be lower.  One of the main differences between the two CPI indexes is that the chained CPI assumes that a person will substitute cheaper and perhaps lower quality goods in place of those whose prices have increased.