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 IRS sends letters to holders of cryptocurrency accounts — educational or enforcement?
In an effort to address tax noncompliance related to the use of virtual currencies, commonly referred to as “cryptocurrencies,” the IRS recently sent letters to over 10,000 taxpayers with one or more cryptocurrency accounts. The letters informed the taxpayers of their obligation to report transactions involving cryptocurrencies, such as sales, exchanges, and other dispositions, including the use of cryptocurrency to obtain goods and services, as well as provided a date by which the taxpayers must respond to the letter—either to demonstrate their compliance with their reporting requirement or remedy any noncompliance. The reporting obligation applies regardless of whether an account is held in the U.S. or overseas.

To whom are the letters directed?

The letters were directed toward taxpayers who have one or more cryptocurrency accounts and who may not have met their U.S. income tax filing and reporting obligations for one or more tax years from 2013 to 2017. The IRS obtained this information through ongoing compliance efforts with digital wallet providers.

Why are the letters being sent?

The letters were sent to more efficiently enforce U.S. tax laws and to help taxpayers understand and meet their reporting obligations. For U.S. income tax purposes, cryptocurrencies are treated as property, not currency. Therefore, cryptocurrencies sales, exchanges, and dispositions are taxable events that require reporting on U.S. income tax returns.

The current broad noncompliance scenario is reminiscent of what prompted an IRS/DOJ effort in 2009 to address tax liability for undisclosed foreign bank accounts. That program, which offered offenders a series of reduced civil penalties and reduced the likelihood of criminal prosecutions, induced taxpayers to pay over $11.1 billion in back taxes, penalties, and interest. It also brought those offenders and their accounts back into the tax system for future years. Ten years later, it is clear that the international aspects of that program have actually changed the culture of the worldwide financial institution industry relating to compliance with tax laws.

In light of continued IRS budget cuts, the cryptocurrency letters were likely sent as the first step in a similar program to help IRS and DOJ bridge the gap in terms of enforcement. Down the road, the recipients’ responses to these initial letters will surely help the agencies prioritize their enforcement efforts by allowing them to identify individuals who may be willfully disregarding their reporting requirements.

What if I have received a letter from the IRS?

If you have received a letter from the IRS, you should consult with your tax advisor to confirm that you have complied with your reporting obligations as well as gather the necessary information for responding to the letter. If you have not, you should discuss with your tax advisor your options for remedying any noncompliance.
IRS has developed a strategy to modernize IRS information technology systems and build critical infrastructure for the future

On April 20, 2019, the IRS outlined a plan that provides a six-year strategy to modernize IRS information technology systems and build critical infrastructure needed for the future of the nation’s tax system. The plan is anticipated to cost between $2.3 billion and $2.7 billion over six years through fiscal year 2024.

The IRS Commissioner, Chuck Rettig stated that “a critical component of the plan involves the IRS’s ongoing efforts to secure their systems and protect taxpayer data.”

The announcement made by the IRS stated that the initiative, including those underway and others, will enhance taxpayer service and enforcement activities over the next several years.

The plan, as outlined, envisions the IRS being able to:

• Significantly improve the taxpayer experience by standardizing customer workflows and by expanding access to information.
• Reduce call wait and case resolution times.
• Simplify identity verification to expand access to online services while protecting data.
• Increase systems availability for taxpayers and tax practitioners.
• Make implementation of new tax provisions more straightforward.

For more information on the IRS plan, see the IRS Integrated Modernization Business Plan.

What is backup withholding?
Banks and other businesses that pay certain kinds of income to you must file an information return Form 1099 with the IRS. The Form 1099 shows payment(s) made to you during the year, and includes your name and tax identification number. These payments generally are not subject to backup withholding. Backup withholding, however, is required in certain situations.

What type of payments are subject to backup withholding?

• Interest payments (Form 1099-INT)
• Dividends (Form 1099-DIV)
• Payment Card and Third Party Network Transactions (Form 1099-K)
• Patronage dividends, but only if at least half the payment is in money (Form 1099-PATR)
• Rents, profits or other gains (Form 1099-MISC)
• Commissions, fees or other payments for work you do as an independent contractor (Form 1099-MISC)
• Payments by brokers/barter exchanges (Form 1099-B)
• Payments by fishing boat operators, but only the part that is in money and that represents a share of the proceeds of the catch (Form 1099-MISC)
• Royalty payments (Form 1099-MISC)
• Gambling winnings (Form W-2G) may also be subject to backup withholding
• Original issue discount reportable on (Form 1099-OID), Original Issue Discount, if the payment is in cash
• Certain Government Payments, Form 1099-G

When is backup withholding required?

• You failed to provide a correct taxpayer identification number (TIN) to the payer for reporting on the required information return. A TIN can be either a social security number or individual taxpayer identification number
• You failed to report or underreported interest and dividend income on your federal income tax return
• You failed to certify that you are not subject to backup withholding for underreporting of interest and dividend income

How do I prevent or stop backup withholding?

You will need to correct the reason you became subject to backup withholding. This can include providing the correct TIN to the payer, resolving the underreported income and paying the amount owed or filing the missing return(s).

What is the current backup withholding rate?

The current backup withholding rate is a flat 24 percent.

How do I report credit for backup withholding?

You can report the backup withholding (shown on Form 1099 or W-2G) on your return for the year you received the income.
Sale of decedent’s residence in an estate

When a decedent’s residence becomes an asset of an estate, the tax treatment of the sale of the residence will depend whether the executor sells it during the course of the administration of the estate or whether the beneficiary sells it after receiving it.

The decedent’s residence obtains a “step-to” in tax cost to its fair market value on the decedent’s date of death. Any capital gain or loss will be measured from the stepped-to tax cost.

If the decedent’s estate plan provides for the distribution of the residence to a beneficiary or the executor distributes it to a beneficiary as a discretionary distribution, the beneficiary takes the residence at the stepped-to tax cost. If the beneficiary subsequently sells the residence without first converting it to business or investment use, any gain is treated as the beneficiary’s capital gain but any loss is not deductible by the beneficiary.

If instead the executor sells the residence during the period of the estate administration, the residence is treated for income tax purposes as a capital asset held for investment purpose. The gain or loss is treated as a capital gain or loss, which may be deductible on the estate’s fiduciary income tax return. This is the case even though the property was the decedent’s personal residence and even if it was not rented during the administration of the estate.

The capital gains tax consequences of the sale of a decedent’s residence should be considered carefully by the executor and beneficiary/ies, especially if the real estate market is dropping. It is best to consult with your Nixon Peabody LLP advisor to obtain the best possible outcome.

When Safe Harbor isn’t safe — California’s exception to the rule

What are “Safe Harbor” estimates?

 

Safe Harbor as it applies to estimated taxes simply means that as long as the amount of withholding, credits and estimated tax paid in the current year is at least as much as the prior year’s tax liability, the taxing authority may not impose underpayment of estimated tax interest or penalties.

California’s Franchise Tax Board modifies the use of the safe harbor rule based on a taxpayer’s adjusted gross income (“AGI”)

 

1.      Taxpayers whose AGI is more than $150,000 must pay 110% of their prior year’s tax. Farmers and fishermen are exempt from this rule.

2.      Taxpayers with AGI equal to or greater than $1,000,000 must figure estimated tax based on their current year income. In other words, the Safe Harbor rule may not be relied on by these taxpayers.

 

Further, it is important to note that California’s estimated tax payment rule differs from the federal rule. Rather than being required to pay 25% of estimated tax each quarter, to avoid an estimate penalty, taxpayers must pay at least:

 

First quarter (April 15)—30 percent

Second quarter (June 15)—40 percent

Third quarter (September 15)—0 percent

Fourth quarter (January 15)—30 percent

 

For additional information, refer to Form 540-ES instructions.
Trusts: When is an Employer Identification Number needed?
Individual taxpayers have Social Security Numbers (“SSNs”). U.S. corporations, LLC, partnerships and other business entities have Employer Identification Numbers (“EINs”). Whether using an SSN or EIN, a taxpayer’s income is reported to the Internal Revenue Service under the assigned number.

When a trust is created, does the trustee need to apply for an EIN?

Not necessarily. It depends on the type of trust established.

Grantor Trusts.
As a general rule, grantor revocable trusts do not need a separate EIN. The trust’s income is reported under the grantor’s SSN because the grantor may, at any time, revoke the trust and regain possession of the property.

There are, however, instances where it may be desirable for a grantor revocable trust to obtain a separate EIN. Accordingly, the IRS does not prohibit the issuance of EINs to grantor revocable trusts.

Irrevocable Trusts. When an irrevocable trust is established or a grantor revocable trust becomes irrevocable (typically at the grantor’s death), the trust is a separate entity from the trust’s creator. Therefore, the IRS requires the irrevocable trust to have its own EIN.

How does a trustee apply for an EIN for a trust?

The trustee of a trust that requires an EIN applies using IRS Form SS-4. The SS-4 completed in hard copy can be mailed or faxed to the IRS. An SS-4 completed online will instantaneously provide the assigned EIN to the trustee.

The name listed on the SS-4 application will be the name that the IRS will expect to see on all income tax filings for the trust. When one trust instrument establishes separate trust shares under the same instrument, or a grantor revocable trust becomes irrevocable, care should be taken to ensure that the name selected is both meaningful for administration purposes and can be associated with the governing trust instrument in the future by fiduciaries, attorneys, tax professionals and advisors.

What is required after an EIN is obtained?

Once an EIN is obtained for a trust, the IRS will expect annual income tax returns to be filed, reporting all income earned by the trust. Accordingly, the trustee of the trust should make sure that all assets of the trust are associated with the trust’s EIN.
What is the tax filing deadline for 2015 federal tax returns?
Your 2015 federal income and gift tax returns, and any other federal tax returns that are due (ordinarily) on April 15, 2016, for most U.S. taxpayers are due on Monday, April 18, 2016.

The reason for the postponement is that in 2016, Washington, D.C., observes a legal holiday, Emancipation Day, on April 15, 2016.  If the due date for a federal tax return falls on a legal holiday, the due date is postponed to the following day that is not a weekend day or a legal holiday. So, for residents of every state except for Massachusetts and Maine, your federal 2015 federal income tax return is due Monday, April 18, 2016.

If you live in Massachusetts or Maine, your federal income, gift and other federal tax returns that are due (ordinarily) on April 15, 2016, are instead due on Tuesday, April 19, 2016. This is because Massachusetts and Maine observe Patriots’ Day, a legal holiday in these states, which in 2016 is observed on Monday April 18.

However, if you live in Massachusetts or Maine and are required to pay estimated federal income tax payments for 2016 to an IRS address that is outside Massachusetts or Maine, you are required to make your first estimated quarterly tax payment on or before Monday, April 18, 2016.

If you are required to file Massachusetts or Maine income tax returns, these returns are also due on Tuesday, April 19, 2016.
Why am I receiving a Form 1099?
Form 1099 is a tax form that reports income you earned throughout the year. There are many different types of Form 1099 that you may receive based on what kind of income you have earned. Below is a table listing types of Form 1099 that you may receive, with a description of what is being reported, the minimum dollar amount that is reported and the due date the form should be mailed to you by.

You are required to report all taxable income, even if you do not receive Form 1099. For example, if you as an independent contractor earned $500 from payer “X”, payer “X” is not required to send you Form 1099-MISC since it is less than $600, but you are still required to report the $500 as self-employed income.

If you are unsure if income should be included on your tax return, please consult your tax advisor.

Form

Description

Minimum Reporting Amount

Due Date

1099-A

Acquisition or Abandonment of Secured Property

Any amount

2/1/16

1099-B

Proceeds From Broker and Barter Exchange Transactions

Any amount

2/15/16

1099-C

Cancellation of Debt

$600

2/1/16

1099-DIV

Dividends and Distributions

$10 ($600 for liquidations)

2/1/16

1099-G

Certain Government Payments (such as state tax refunds and unemployment compensation)

$10

2/1/16

1099-H

Health Coverage Tax Credit (HCTC) Advance Payments

Any amount

2/1/16

1099-INT

Interest Income

$10

2/1/16

1099-K

Merchant Card and Third-Party Network Payments

$20,000 (any amount for payment card transactions)

2/1/16

1099-LTC

Long-Term Care and Accelerated Death Benefits

Any amount

2/1/16

1099-MISC

Miscellaneous Income (such as rental income, royalties, non-employee compensation, & prizes/awards)

$600 for non-employee compensation ($10 for royalties and most other sources)

2/1/16

1099-OID

Original Issue Discount (when you purchase a bond or note for an amount that is less than face value)

$10

2/1/16

1099-Q

Payments from Qualified Education Programs

Any amount

2/1/16

1099-R

Distributions from Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, etc.

$10

2/1/16

1099-S

Proceeds from Real Estate Transactions

$600

2/15/16

1099-SA

Distributions from an HSA, Archer MSA or Medicare Advantage MSA

Any amount

2/1/16

SSA-1099

Social Security Benefit payments

Any amount

2/1/16

2016 inflation adjustments for estates, gifts and trusts
The IRS recently released Revenue Procedure 2015-53 setting forth the 2016 inflation adjustments to more than twenty-five tax provisions. 

The following adjustments will apply to estates, gifts and trusts:

Estate Tax and GST Tax Exclusion - Estates of decedents who die during 2016 will have a basic exclusion amount of $5,450,000 (up from $5,430,000 for 2015).  The same increase applies for exclusion from generation-skipping transfer (“GST”) tax.

Gift Tax Annual Exclusion - The annual exclusion for gifts remains at $14,000 for 2016 (no adjustment).

Exclusion for Gifts to Non-Citizen Spouses - For 2016, the exclusion from tax on a gift to a spouse who is not a U.S. citizen is $148,000 (up from $147,000 for 2015).

Notice of Large Gifts from Foreign Persons – Recipients of gifts from certain foreign persons may be required to report them if the aggregate value of gifts received in 2016 exceeds $15,671 (up from $15,601 in 2015).

Income Tax Rate Tables for Estates and Trusts – For taxable years beginning in 2016, the 15% fiduciary income tax rate will apply to income up to $2,551. Rates increase at graduated levels, maxing out at 39.6% for income over $12,400 (up from $2,500 and $12,300, respectively, for 2015).

Net Investment Income Tax on Estates and Trusts – For taxable years beginning in 2016, investment income will be subject to the 3.8% Net Investment Income Tax if the estate or trust has adjusted gross income exceeding $12,400 (up from $12,300 for 2015). 
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