The new tax reform law, commonly called the “Tax Cuts and Jobs Act” (TCJA), is the biggest federal tax law overhaul in 31 years, and it has both good and bad news for taxpayers.
Below are highlights of some of the most significant changes affecting individual and business taxpayers. Except where noted, these changes are effective for tax years beginning after December 31, 2017.
More to consider
This is just a brief overview of some of the most significant TCJA provisions. There are additional rules and limits that apply, and the law includes many additional provisions. Contact your tax advisor to learn more about how these and other tax law changes will affect you in 2018 and beyond.
If you’re like many Americans, you might not start thinking about filing your tax return until close to this year’s April 17 deadline. You might even want to file for an extension so you don’t have to send your return to the IRS until October 15.
But there’s another date you should keep in mind: the day the IRS begins accepting 2017 returns (usually in late January). Filing as close to this date as possible could protect you from tax identity theft.
Why it helps
In an increasingly common scam, thieves use victims’ personal information to file fraudulent tax returns electronically and claim bogus refunds. This is usually done early in the tax filing season. When the real taxpayers file, they’re notified that they’re attempting to file duplicate returns.
A victim typically discovers the fraud after he or she files a tax return and is informed by the IRS that the return has been rejected because one with the same Social Security number has already been filed for the same tax year. The IRS then must determine who the legitimate taxpayer is.
Tax identity theft can cause major complications to straighten out and significantly delay legitimate refunds. But if you file first, it will be the tax return filed by a potential thief that will be rejected — not yours.
What to look for
Of course, in order to file your tax return, you’ll need to have your W-2s and 1099s. So another key date to be aware of is January 31 — the deadline for employers to issue 2017 W-2s to employees and, generally, for businesses to issue 1099s to recipients of any 2017 interest, dividend or reportable miscellaneous income payments. So be sure to keep an eye on your mailbox or your employer’s internal website.
The clock is ticking down to the tax filing deadline. The good news is that you still may be able to save on your impending 2017 tax bill by making contributions to certain retirement plans.
For example, if you qualify, you can make a deductible contribution to a traditional IRA right up until the April 17, 2018, filing date and still benefit from the resulting tax savings on your 2017 return. You also have until April 17 to make a contribution to a Roth IRA.
And if you happen to be a small business owner, you can set up and contribute to a Simplified Employee Pension (SEP) plan up until the due date for your company’s tax return, including extensions.
Deadlines and limits
Let’s look at some specifics. For IRA and Roth IRA contributions, the maximum regular contribution is $5,500. Plus, if you were at least age 50 on December 31, 2017, you are eligible for an additional $1,000 “catch-up” contribution.
There are also age limits. You must have been under age 70½ on December 31, 2017, to contribute to a traditional IRA. Contributions to a Roth can be made regardless of age, if you meet the other requirements.
For a SEP, the maximum contribution is $54,000, and must be made by the April 17th date, or by the extended due date (up to Monday, October 15, 2018) if you file a valid extension. (There’s no SEP catch-up amount.)
If not covered by an employer’s retirement plan, your contributions to a traditional IRA are not affected by your modified adjusted gross income (MAGI). Otherwise, when you (or a spouse, if married) are active in an employer’s plan, available contributions begin to phase out within certain MAGI ranges.
For married couples filing jointly, the MAGI range is $99,000 to $119,000. For singles or heads of household, it’s $62,000 to $72,000. For those married but filing separately, the MAGI range is $0 to $10,000, if you lived with your spouse at any time during the year. A phase-out occurs between AGI of $186,000 and $196,000 if a spouse participates in an employer-sponsored plan.
Contributions to Roth IRAs phase out at mostly different ranges. For married couples filing jointly, the MAGI range is $186,000 to $196,000. For singles or heads of household, it’s $118,000 to $133,000. But for those married but filing separately, the phase-out range is the same: $0 to $10,000, if you lived with your spouse at any time during the year.
Saving for retirement is essential for financial security. What’s more, the federal government provides tax incentives for doing so. Best of all, as mentioned, you still have time to contribute to an IRA, Roth IRA or SEP plan for the 2017 tax year. Please contact our firm for further details and a personalized approach to determining how to best contribute to your retirement plan or plans.
It’s not uncommon for adult children to help support their aging parents. If you’re in this position, you might qualify for an adult-dependent exemption to deduct up to $4,050 for each person claimed on your 2017 return.
For you to qualify for the adult-dependent exemption, in most cases your parent must have less gross income for the tax year than the exemption amount. (Exceptions may apply if your parent is permanently and totally disabled.) Social Security is generally excluded, but payments from dividends, interest and retirement plans are included.
In addition, you must have contributed more than 50% of your parent’s financial support. If you shared caregiving duties with one or more siblings and your combined support exceeded 50%, the exemption can be claimed even though no one individually provided more than 50%. However, only one of you can claim the exemption in this situation.
Although Social Security payments can usually be excluded from the adult dependent’s income, they can still affect your ability to qualify. Why? If your parent is using Social Security money to pay for medicine or other expenses, you may find that you aren’t meeting the 50% test.
Also, if your parent lives with you, the amount of support you claim under the 50% test can include the fair market rental value of part of your residence. If the parent lives elsewhere — in his or her own residence or in an assisted-living facility or nursing home — any amount of financial support you contribute to that housing expense counts toward the 50% test.
Easing the burden
The Tax Cuts and Jobs Act that Congress passed in December has accountants and business owners looking for answers, and further regulation may offer the much-needed clarity in the months ahead. However, certain provisions of the new law offer expanded tax cuts, and others eliminate existing deductions.
One big plus is bonus depreciation. Under prior law, there was a 50 percent bonus depreciation for property placed in service in 2017, 40 percent for 2018, and 30 percent for 2019. Qualified property has to be new, not used.
Under the new law, there’s 100 percent bonus depreciation for property placed in service after Sept. 27, 2017, and before 2023, 80 percent for 2023, 60 percent for 2024, 40 percent for 2025 and 20 percent for 2026. The acquisition date for property purchased with a written contract is the date of the contract.
Qualified property includes property acquired by purchase if a taxpayer has not previously used the property, so the property does not have to be new, as long as it’s not acquired from a related party. A qualified property does not include property used in a business that is not subject to the net business interest expense limitation (see below), but it does include property used in farm business. The law also adds a new category for qualified film, TV, and live theatrical production property. Taxpayer can elect a 50 percent bonus for 2017.
Section 179 expensing has also increased to include roofs, HVAC systems, fire protection, alarm systems and security systems, with the allowable expense increased from $500,000 to $1,000,000 in 2018, and the phase-out deduction increased to $2.5 million. These rules now include tangible personal property acquired for rental properties, furniture and appliances.
Potential losses of prior credits include:
All things considered, the TCJA will provide significant tax savings for the majority of businesses given an overall reduction of tax rates and increased bonus and Section 179 deductions. Real estate owners should seriously consider projected revenue, tax liability and the application of accelerated depreciation to take advantage of these increased expenses on all acquisitions.
By Ivan Levingston and Brandon Kochkodin
Opponents of the new corporate tax cuts were right. Many companies didn’t pay the full rate before the law passed—so they won’t see splashy reductions in 2018, according to their own estimates.
The law signed Dec. 22 by President Donald Trump lowered corporate taxes 14 percentage points, to 21 percent from 35 percent. The 24 S&P 500 companies that have shared 2018 guidance with investors are projecting an average savings of 5 percentage points.
Many U.S. companies already paid less than the 35 percent because they stashed profits overseas in lower-tax jurisdictions. The new law, passed by congressional Republicans without any support from Democrats, limits certain deductions on debt interest and executive compensation, said Thomas Holly, a PricewaterhouseCoopers partner in Washington.
“Essentially, you’re not getting as many deductions, and those can drive your rate up,” Holly said.
The new law adds almost $1.5 trillion to the U.S. government’s deficit over 10 years—before accounting for economic growth or other macroeconomic changes that might result. Corporations love it. A vast majority will pay less in taxes, and unlike tax cuts for individual Americans, the provisions don’t expire.
Financial firms, despite taking billions in tax hits in the fourth quarter to account for repatriating overseas profits and the revaluation of deferred tax assets, will still enjoy lower rates this year.
Among financial firms in the S&P 500 that have provided guidance on their 2018 effective tax rate, Wells Fargo & Co. said it will see its rate fall the most, by 10 percentage points. Bank of America Corp. and Regions Financial Corp. said they’ll pay about 9 percentage points less. American Express Co. said it’ll save 8 percentage points and the reduction for Bank of New York Mellon Corp. will be 3.4 percentage points. Only State Street Corp. said it expects to pay a higher rate in 2018.
International Business Machines Corp. said it’s also estimating a higher rate in 2018. Chief Financial Officer Jim Kavanaugh called taxes a hindrance during the company’s fourth-quarter earnings call.
“The ones that are in a materially worse position are going to be a very small minority,” said Standard and Poor’s Global Ratings health-care analyst David Kaplan.
By Jamie Butters, David Welch and Keith Naughton
Tax cuts signed by an America First president are turning out to be a major boon to some of the world’s biggest automakers—except those based in the U.S.
General Motors Co. took a $7.3 billion charge in the fourth quarter because the assets it racked up from having reported years of losses in the past are no longer as valuable with the lower U.S. corporate tax rate. Ford Motor Co. has forecast an adjusted effective tax rate of about 15 percent this year, about the same as what it paid in 2017.
Compare that with the big boost Japanese and German automakers expect from President Donald Trump’s tax bill. Owing less to Uncle Sam will lift profit by about 346 billion yen ($3.1 billion) at Honda Motor Co. and 290 billion yen at Toyota Motor Corp. in the fiscal year ending in March, according to the companies. Mercedes-Benz maker Daimler AG reported a favorable impact of about 1 billion euros ($1.2 billion) to 2017 profit.
“That’s very ironic, for sure,” David Whiston, an analyst with Morningstar Inc. in Chicago, said by phone. “There are always unintended consequences of government intervention and change. But long term, this is a positive for everybody because they’re going to save some cash taxes.”
GM and Ford generated deferred tax assets by being unprofitable in the U.S. for years before major restructuring—the former filed bankruptcy in 2009. GM has so many of those assets that the company expects to pay a cash tax rate of less than 10 percent into the middle of the next decade, according to Chief Financial Officer Chuck Stevens.
The tax bill doesn’t take those assets away—it just makes them less valuable for accounting purposes. Since the U.S. corporate tax rate is now much lower, GM’s deferred assets are worth less. Ford also will pay less than the 21 percent corporate tax rate set by Trump’s tax bill, thanks to the company’s own assets. It doesn’t see a material impact.
The benefits to GM and Ford’s rivals, on the other hand, will be manifold. Toyota is already the world’s most valuable automaker with a market capitalization rivaling the combined value of GM, Ford, Fiat Chrysler Automobiles NV and Volkswagen AG.
Toyota is building a car factory in Alabama with partner Mazda Motor Corp. worth about $1.6 billion—roughly half of this year’s tax savings—that’ll allow the company to make and sell more cars in the U.S.
The company already has more than 36,000 U.S. employees and plans to add 4,000 jobs at the plant it’ll share with Mazda.
While Fiat Chrysler—with roots in Auburn Hills, Michigan, and Turin, Italy—is still often looped in with U.S. automakers, the company’s tax headquarters are in London.
Chief Executive Officer Sergio Marchionne has estimated about $1 billion a year in savings from the lower U.S. tax rate. Some of those were passed down to U.S. workers in the form of $2,000 bonuses announced last month.
While Germany’s BMW AG won’t release earnings until next month, the company has estimated a positive impact on 2017 profit of about 950 million to 1.55 billion euros in December.
To be sure, the tax bill isn’t totally devoid of benefits for U.S. automakers. Ford sees paying low rates for a longer period of time because of the tax reform act, CFO Bob Shanks said last month.
And while the tax cut won’t deliver a direct benefit to GM, it will probably spur economic growth and help auto industry sales, Stevens said in January.
“This is really the transition from protecting the losses post-2005, to protecting the profits,” Kevin Tynan, an auto analyst for Bloomberg Intelligence, said in an email.
—With assistance from Bruce Einhorn, Kevin Buckland, Nao Sano, Ma Jie and Elisabeth Behrmann
At least some Republican Senators are getting divorced this year, according to Tom Wheelwright, CPA, founder and president of accounting firm ProVision.
“I guarantee it,” he said. “Why else would they delay the effective date of the alimony provision by one year?”
He is referring to the provision in the Tax Cuts and Jobs Act that eliminates the alimony deduction. Now alimony will no longer be deductible by the payor, and the income will not be taxed to the recipient. With the delay in the effective date – it applies only to divorces entered into after 2018 -- those who are contemplating a divorce or in the middle of one can take steps to make sure that the divorce is final by the end of 2018, thereby retaining the deduction and having a larger pool of funds available to split between the divorcing spouses.
The elimination of the alimony deduction could cause some problems, according to Maria Remillard, a partner at Bowditch & Dewey. “Under the current Tax Code, the deductibility of alimony allows the transfer of money from the spouse who is in a higher tax bracket to the spouse that is in a lower bracket,” she said. “Alimony is typically based on need and the ability to pay, so it allows the practitioner to structure settlements where each party gets a benefit. The payor can deduct the payments, and the recipient will end up getting more money. “
“But under H.R. 1, there will be less money to divide because a majority of the payor’s income will be taxed at a higher rate – the payor can’t shift that liability to the recipient,” she explained. “And when formulating an alimony award, the focus is on the gross income of the parties, because many state alimony laws were enacted with the assumption that any payment would be deductible by the payor and includible in income by the payee.”
Most states have guidelines for structuring alimony awards, she indicated. “In Massachusetts, the statutory guideline is that alimony should be no more than 30 to 35 percent of the party’s income. Under that guideline, the payor could conceivably end up with less net income than the recipient, so either states need to change their alimony rules to recognize the change in the federal law, or every case should have some sort of tax impact analysis to insure that the amount of the award dies not unfairly burden one party or the other.”
“Whenever you have a family unit that separates, the vast majority of individuals will not enjoy the same standard of living once they separate as they did when they lived together, since not only will there be two households to support, it will be with less money available. The theory behind the current system was that by transferring taxes to the recipient, it would keep more income in the family unit. It was a recognition that the family is splitting and now there are two households to support, not one.”
Marc Bello, CPA, a partner at Edelstein & Co., agreed: “In these instances the recipient could end with more disposable income than the payor. Until states change their respective guidelines, a financial person will have to demonstrate to a court that they can no longer use the suggested percentages.”
Bello foresees a push to get divorces finalized before year’s end. “Just for the certainty of knowing what’s coming down the pipeline, there will be an increase to get these agreements done before the year is out,” he said. “Both parties to a divorce would want it, because typically the agreement puts more income in both parties’ pocket than if it were treated as nondeductible support.”
“Although they’re losing disposable income by having alimony nondeductible, there is some gain based on the change in the tax rates,” he said. “It almost has to be done on a case-by-case basis. You have to analyze each divorce to see what the state currently sets, and what it looks like when you make it [alimony] nondeductible, with the goal to equalize the outcome. That’s where CPAs shine.”
“The provision will absolutely reduce what the recipient will get,” said wheelwright.” I would hope that states will make changes to their alimony guidelines. They have a year to do it, but there’s no guarantee that they will.”
As a tax professional who has been preparing 1040s for individuals in all walks of life for over 45 years, I have paid close attention to the details of the new tax law that will affect tax returns for 2018 through 2025.
While not the disaster that the Democrats insist it is, the Tax Cuts and Jobs Act is not the “massive tax cut” the Republicans claim. For a large portion of the middle class, the benefit of lower tax rates is wiped out by the loss and limitation of deductions, and, in some states, can actually result in a net tax increase.
And the bill most certainly does provide substantial, if not “massive,” tax cuts for wealthy taxpayers like President Trump and his family.
Let us take a look at the truth about some of the effects of the GOP tax act.
While the new standard deduction amounts are technically almost double what they were under previous tax law, with the elimination of the personal exemption deduction for a taxpayer and spouse the actual additional deduction is much less.
Under the old law, a single filer could claim a standard deduction of $6,500 and a personal exemption of $4,150 in 2018, for a total of $10,650. Under the act, that filer gets a standard deduction of $12,000, but no personal exemption. The net tax income has been reduced by $1,350. The deduction is increased by $2,700 for a married couple. A tax cut, true. But not “double,” and certainly not “massive.”
For taxpayers who are still able to itemize under the new act, the elimination of the personal exemption deduction means net taxable income is actually increased by $4,150 or $8,300. This increase in taxable income is substantially more for my clients, most of whom are from New Jersey, and taxpayers in other highly taxed states like New York and California when you factor in the $10,000 limitation on the itemized deduction for taxes. While the tax rates are slightly lower, the bottom line is that these taxpayers will be getting a tax increase and not a tax cut.
The doubling of the Child Tax Credit from $1,000 to $2,000 will also result in a tax increase for many taxpayers. For taxpayers in the old 10 percent and 15 percent brackets the tax benefit of a personal exemption would have been $415 or $623, so there is a tax cut here. But those in the 25 percent and 28 percent brackets would have received a tax benefit of $1,038 and $1,162 – so their tax has been slightly increased. This reduces the overall benefit of the lower tax rates.
And what of replacing the personal exemption for other dependents who do not qualify for the $2,000 Child Tax Credit? Only taxpayers in the former 10 percent bracket actually see a tax cut. As explained above, under the old law, taxpayers in the 15 percent, 25 percent and 28 percent brackets would have received a tax benefit equal to $623, $1,038, and $1,162. A bigger tax increase here, again reducing the benefit of the lower tax rates.
There has been much talk about the effects of the limited $10,000 ($5,000 if married filing separately) itemized deduction for property taxes and state and local income or sales taxes combined in the act. One little-mentioned effect is that this limitation substantially increases the “Marriage Tax Penalty.”
Two working single individuals, either living together or separately, who itemize can each claim a deduction of up to $10,000 in combined property taxes and state and local income or sales taxes. That is a total of $20,000 in itemized deductions on the two returns. For my clients in New Jersey, it is not hard for each individual to reach the $10,000 maximum, or come close to it, even if they both own and live in one home.
If these two individuals, who both work and have their own separate income, were married, the itemized deduction would still be limited to $10,000. Filing separately would not make any difference, as the limitation is $5,000 for married taxpayers filing separate returns.
So, by having joined together in holy matrimony this dual-income couple will probably be paying tax on $10,000 more in net taxable income, which would result in over $2,000 in additional federal income tax.
The act repeals all miscellaneous itemized deductions subject to the 2 percent of adjusted gross income exclusion. This includes unreimbursed employee business expenses. However, it keeps the above-the-line adjustment to income for educator expenses, which is a deduction for unreimbursed business expenses. While teachers obviously perform a vital service to the community and the country, Congress apparently believes they are more important than other municipal public service employees, like police officers, firefighters and emergency medical technicians, who also incur out-of-pocket expenses in the performance of their equally important jobs.
And the repealed miscellaneous deductions also include investment expenses. But the act keeps the itemized deduction for investment interest, obviously an investment expense. This deduction is still limited to net investment income. The new tax law will actually increase the deduction for investment interest in many cases, as deductible investment expenses are no longer a factor in determining net investment income.
In reacting and responding to the changes made by the Tax Cuts and Jobs Act, one must look carefully at what the new law actually says and not rely on the “party” line that is being presented in the press.
By Matt Townsend
President Donald Trump’s corporate tax cuts are already having a big impact.
The main takeaway at the halfway point of earnings season is that corporations are going to make more money—lots more—as their statutory tax rate gets axed to 21 percent from 35 percent. Corporate chiefs already are making plans for the windfall, with some detailing specific investments in infrastructure or technology along with their one-time charges and benefits.
So far a record 75 percent of companies have raised their profit guidance, according to strategists at JPMorgan Chase & Co. Taking into account the benefits of lower corporate taxes, Wall Street expects U.S. firms to increase capital expenditures by as much as 6.8 percent this year—more than five times the projected growth in 2017.
There are other needs too beyond capital spending: Higher pay for workers in a tight labor market, balance-sheet repair and returns to investors through buybacks and dividends. Many of the big announcements so far represent multiyear plans with big headline numbers but only broadly sketched details.
Citing the lower tax rate, AT&T Inc. said free cash flow this year will surge almost 20 percent to $21 billion, giving the phone carrier more financial flexibility.
The telecom giant had already announced it would invest an additional $1 billion in the U.S., helping the company prepare for the transition to a new fifth-generation mobile network, and give $1,000 bonuses to workers, thanks to reforms that Chief Executive Officer Randall Stephenson called “capital freeing.”
Chief Financial Officer John Stephens also made clear the company sees reform strengthening AT&T’s financial position. “We see a significant boost to our balance sheet, reducing $20 billion of liabilities and increasing shareholder equity by a like amount,” he said last week on a call.
Lockheed Martin Corp., the world’s largest defense contractor, is earmarking some of its expected windfall for pensioners. The company plans to contribute $5 billion in cash, satisfying its required obligations until 2021.
The company is also increasing its commitment to initiatives like employee training, charitable contributions for education in science and math, and the Lockheed Martin Ventures fund by $200 million, CEO Marillyn Hewson said on a call.
Lockheed projects earnings will more than double this year to $15.50 a share, buoyed by the U.S. tax cuts and higher deliveries of its F-35 Lightning II fighter jet.
Merck & Co. expects its tax rate will fall to about 20 percent from 35 percent, providing added flexibility for major capital expenditures, in addition to research and development.
The drugmaker expects to spend $12 billion over five years, including $8 billion in the U.S., with oncology, vaccines and animal health targeted for investment, CFO Rob Davis said on a call. Merck will also pay one-time bonuses to some of its 69,000 employees.
Priorities also include the dividend, business development deals and repurchases, to the extent possible.
Merck finished the year with $21 billion in cash, and plans to repatriate about $17 billion over time. The proceeds will be invested in the company, its dividend, and remaining money will go toward deals and share repurchases.
AbbVie Inc., maker of the top-selling drug Humira, plans to spend $2.5 billion on capital projects in the U.S. as a result of tax reform and is evaluating expansion of its U.S. facilities, according to CEO Richard Gonzalez. The drugmaker also will accelerate pension funding by $750 million and increase non-executive pay, though it didn’t provide details.
AbbVie said on Jan. 26 its tax rate will plummet to 9 percent this year. It was 19 percent in 2017. As a result the company boosted its annual profit guidance to as much as $7.43 a share, a 13 percent jump.
“U.S. tax reform enables more efficient access to our foreign cash, and the ability to deploy it in the United States,” Gonzalez said on the call.
Roche Holding AG’s tax rate will drop from 26.6 percent last year to the low 20 percent range. The tax cut means core earnings per share will rise by a high single-digit rate this year; without the reduction, earnings might have been little changed. The drugmaker didn’t announce any increase in investment.
“We do benefit from the U.S. tax reform,” Severin Schwan, CEO of Roche, said in a conference call. “We have been one of the biggest taxpayers in the United States.”
Diageo Plc, British American Tobacco Plc and Societe Generale SA also said the tax law would lower their rates. Lenovo Group Ltd. posted a surprise loss after taking a $400 million charge related to the tax-law changes, while adding that its U.S. operations may benefit from a lower rate in the longer term.
The Big Gorilla
The company with the biggest decision to make is Apple Inc., with a net cash position of $163 billion—the sum of its $285 billion cash hoard and debt of $122 billion. Apple’s aim is to reduce that to zero and will announce more specific plans when it reviews results for the current quarter ending in March, Chief Financial Officer Luca Maestri said on a call.
“When you look at our track record of what we’ve done over the last several years, you’ve seen that effectively we were returning to our investors essentially about 100 percent of our free cash flow,” Maestri said. “And so that is the approach that we’re going to be taking.”
Last quarter, Apple paid $3.34 billion in dividends and repurchased more than $10 billion of its stock.
The company had no difficulty financing acquisitions before tax reform, he said, and doesn’t see any now, either. Apple made 19 acquisitions last year.
“It’s always the customer experience in mind, right, that we make acquisitions,” Maestri said.
“We look at all sizes and we will continue to do so.”
—With assistance from Jing Cao, Mark Gurman, Blaise Robinson, Jared S. Hopkins, Julie Johnsson, Caroline Chen, Brandon Kochkodin, Phil Serafino and Scott Moritz
By Kevin Crowley, David Wethe and Alex Nussbaum
Oilmen, wildcatters and particularly refiners are reaping billions in gains from President Donald Trump’s tax overhaul, helping boost the staying power of old-style energy even as the world searches for cleaner fuels.
The tax adjustments come as crude prices have rallied 54 percent since June. Together, the price rise and the new tax code have supercharged the oil industry in ways that could test the resolve of money managers who’ve vowed to divest from companies that have powered the world’s economic engines for two centuries. The top four refiners this week reaped $7 billion in gains, led by a $2.7 billion jump announced Friday by the biggest, Phillips 66.
Meanwhile, the tax overhaul appears to be a mixed bag for solar purveyors and wind farms. They could face higher borrowing costs because the federal tax credits they retain probably won’t be as attractive to large banks that now have lower tax liabilities.
“Oil is a resilient industry and it isn’t going away any time soon,” said Irving Levine, who manages $120 million as chief executive officer of Copley Financial Services Group in Fall River, Massachusetts. “Tax reform, in the long run, only increases their profitability.”
While corporate America has praised Trump’s tax cuts for creating jobs and reviving flagging industries, it’s the icing on the cake for industries that revolve around oil. Crude prices are at levels last seen in 2014 and everyone from supermajor oil titans to family-owned businesses were already gung-ho on U.S. oil and gas.
The tax windfall? Simply an added bonus.
Exxon Mobil Corp., the world’s largest publicly traded producer by market value, on Monday praised the “pro-growth business climate here in the U.S.” as it announced plans to spend $50 billion over five years and triple production in the Permian Basin.
For Murphy Oil Corp., a much smaller driller than Exxon, the overhaul makes it easier to repatriate foreign cash and will “significantly lower tax in the future” on drilling in the Gulf of Mexico and Texas shale fields, said John Eckart, the Eldorado, Arkansas-based company’s chief financial officer, on a conference call Thursday.
“We have great returns with the 21 percent rate and compete internationally well now,” he told analysts on a conference call. “So it’s a big help for us this tax reform, very positive.”
Refiners are among the biggest winners from the reforms.
For Phillips 66, Valero Energy Corp., Marathon Petroleum Corp. and Andeavor, the four biggest independent oil refiners, the U.S. tax code overhaul has been more profitable than their actual business. They posted one-time tax gains of $7 billion combined in the fourth quarter, matching their net incomes for all of 2016, according to data compiled by Bloomberg.
Marathon’s board was so enthusiastic it approved a 15 percent dividend increase. Even without the tax gain, Phillips 66 beat earnings estimates by 19 cents. It’s an extra boost to an industry already riding high from fat margins after from turning raw crude oil into fuels and strong worldwide demand for gasoline and diesel.
For U.S. explorers, the law should mean a $190 billion boost in asset values, researcher Wood Mackenzie Ltd. said in an estimate released Tuesday. That will more than compensate for other changes in the law that could limit deductions for past losses or encourage individual states to raise fees on local production.
ConocoPhillips and EOG Resources Inc. are among those that posted one-time tax gains, while Shell and BP Plc have indicated the overhaul was a negative for them. These are non-cash elements to earnings and all companies have said that in the long term the reforms will be positive.
“Going forward, of course, it’s very positive,” Ben van Beurden, chief executive officer of Royal Dutch Shell Plc, said in a Bloomberg TV interview on Thursday. The $10 billion Shell plans to spend annually in the U.S. over the next few years “is going to be doing well in a much more advantageous tax environment.”
For pipeline companies, the big fear was losing the tax status that makes them attractive investments. Many are structured as master limited partnerships, which don’t pay corporate income taxes. Those fears proved to be unfounded and the provision was left alone.
In a conference call Wednesday, Enterprise Products Partners LP noted that the tax overhaul “appropriately preserves the favorable tax attributes for master limited partnerships and encourages MLPs to continue investing in infrastructure growth opportunities, which contributes to U.S. job and GDP growth.”
The overhaul provided a quick shot in the arm for utilities, which suddenly found themselves flush with extra cash they had set aside for Uncle Sam. Dominion Energy Inc. reported a $988 million fourth-quarter gain, thanks to the lower rates. NextEra Energy Inc. raised its 2018 forecast by about 45 cents, to a range of $7.45 to $7.90 a share.
Long term, however, lower rates present utilities with a conundrum. State regulators require them to pass savings onto customers, which will reduce cash flow. Utilities may argue they should be allowed to invest some of the money to make generating plants and power lines more reliable. Already, American Electric Power Co. is in talks with regulators in 11 states about the issue. Meanwhile, the company said it will cut planned 2020 capital spending 8.3 percent to $5.5 billion.
None of the major solar, wind and fuel cell energy companies have reported fourth-quarter results yet. Even when they do, lower corporate tax rates likely won’t be much of a boost because the companies regularly post losses and owe no income taxes.
Regardless of recent trends, electric vehicles and the specter of carbon taxes make fossil fuels a poor long-term investment, according to David Richardson, an executive director at Impax Asset Management, which focuses on sustainability and has about $15.3 billion under management.
“For long-term investors, there are uncompensated risks in owning fossil fuels and we think there are better opportunities in the energy markets that would be around energy efficiency, which has higher returns on investment,” Richardson said.
By Ben Steverman and Patrick Clark
If exploiting a tax loophole is as much an art as a science, then the tax planning profession is poised for a creative renaissance.
The inspiration is the tax law signed by President Donald Trump in December. The patrons are affluent Americans who can afford advice from the nation’s more ingenious accountants, tax lawyers and financial advisers.
And the new medium they’re experimenting with? A 20 percent deduction for so-called pass-through businesses, whose income is taxed on firm-owners’ personal returns.
It’s early days, and the Internal Revenue Service has yet to issue guidance on how to interpret the hastily passed law. That hasn’t stopped tax pros from circulating proposals and riffing on each other’s ideas, as the industry seeks to coalesce around strategies that will save their clients money while standing up to scrutiny by the IRS and judges. Some pass-through owners may be instructed to group together their diverse businesses to minimize their tax bills, while others may be told to split pieces off.
“I’m sure folks will try to push the edge of the envelope,” said Mark Nash, a tax partner at PricewaterhouseCoopers LLP. “They always do.”
Trump and Congressional Republicans have said middle-class Americans and small businesses will be the biggest beneficiaries under the $1.5 trillion tax cut. But the strategies under consideration to take advantage of the 20 percent pass-through deduction show how top earners could ultimately reap the biggest gains.
All taxpayers who earn less than $157,500, or $315,000 for a married couple, can now deduct 20 percent of the income they receive via pass-through businesses from their overall taxable income. If taxpayers earn above those amounts and aren’t service professionals, they must meet tests to take the full deduction—the size of their deduction depends on how much they pay in employee wages or how much they’ve invested in capital like real estate.
For “service professionals,” the break fully phases out if they earn more than $207,500 if they’re single, or $415,000 if they’re married.
There’s ambiguity with the rules, though. For example: What’s a service business? The tax code already specifies an official list that includes health, law, accounting, actuarial science, performing arts, consulting, athletics, financial services and brokerage services. But that language is “broad and vague and the IRS has never provided guidance as to what those terms mean,” Nash said.
Plus, that section of the new legislation ends with a puzzling coda. Also excluded are “any trade or business” where the “principal asset” is the “reputation or skill” of its employees or owners. Few are really sure what this means.
“If I put 10 professionals in a room, I’m going to have 10 different ideas of what’s going to be excluded,” said Edward Reitmeyer, a tax partner at accounting firm Marcum LLP.
That kind of confusion creates opportunities to work around the service definitions or to re-cast businesses in ways that arguably fall outside the excluded categories.
Office Real Estate
One strategy being discussed is to combine diverse businesses into a single entity. Let’s say you’re an accountant who also invests in real estate, managing hotels and other properties. Depending on how the IRS writes the regulations, it might make sense to put everything in one company, according to Richard Kollauf, director of business advisory at BMO Private Bank.
Instead of appearing to the IRS to be an accountant—a service-based profession that wouldn’t qualify for the pass-through break over the income limit—you look more like a real estate magnate, who would qualify because of large capital investments.
Or, if your business makes the majority of its money through your service profession, the opposite strategy could work. By breaking different businesses apart, service business owners could have at least some of their income qualify for the pass-through deduction. A medical practice might do a fair amount of debt collection or other back-office support. Those divisions could be spun off into a separate “management company,” which could qualify for the break.
Taking it a step further—service professionals may also consider buying new real estate and adding it to their business portfolios. That’s an option under consideration by Nicholas Sher, a CPA, with offices in midtown Manhattan. Sher said he’s thinking about buying an office condo through a new entity—which would then lease it back to his firm, Sher & Associates. He could then try to take the 20 percent deduction through the condo entity.
“If I had the right location I would do it in a second,” Sher said.
Business owners who do that may be tempted to drive a hard bargain with themselves—to maximize the money that qualifies for the deduction. But keep in mind: The IRS has rules about transactions with yourself, and you may have to use market prices.
“Tax lawyers are very good at dreaming up these things,” said Indiana University Bloomington Professor Bradley Heim, an economist who studies tax policy.
A service business could also spin off an employee-leasing entity, to get around the professional service restrictions, according to Kenneth Brier, a partner at tax-planning firm Brier & Ganz based outside Boston. Employee-leasing entities tend to charge mark-up prices as a way to make a profit.
For instance, instead of paying its attorneys $200,000 a year, a law firm could pay its leasing spinoff a marked-up price of $250,000 per employee—shifting profits from the law firm to the leasing entity. While the lawyers in the new spin-off unit would be doing legal work just like before, Brier said he believes their new employer could qualify for the deduction as an employee-leasing company.
At least theoretically. Not all these strategies will work. IRS regulations could shut down some loopholes, forcing tax planners to improvise new, riskier tactics to get around the rules. The most aggressive techniques might require a legal fight with the IRS. (But don’t worry: Creative tax strategies won’t send you to prison unless you’re actually lying to the IRS.)
The agency might have trouble keeping up. Adjusting for inflation, the Taxpayer Advocate Service estimates the IRS budget has been cut by 20 percent since 2010.
The estimated cost of the pass-through deduction is $415 billion over the coming decade, according to the nonpartisan Joint Committee on Taxation. The tax break could be even more expensive if IRS regulations can’t keep gamesmanship to a minimum.
“You have to be careful. There are people out there who come up with hare-brained ideas,” said Eric Hananel, a CPA and principal at UHY Advisors. “Tax considerations are important but you can’t let a tax consideration drive a business decision.”
Not all tax planning strategies are controversial. A married doctor making $500,000 might drop her taxable income below the threshold by maximizing contributions to retirement plans and a health savings account (HSA), and strategically giving money to charities, perhaps through a donor-advised fund.
Some law firms and other pass-through entities may wind up converting to so-called C corporations, which now enjoy tax rates of 21 percent, instead of 35 percent. (There’s a potential drawback: Corporate profits get taxed a second time when they’re received by individuals, usually as dividends.)
Expect lots of creativity from America’s tax experts this year. After all, most of them have a strong incentive to bend the rules. As well-paid service professionals, they’re personally excluded from the new law’s biggest benefits. “That’s an issue near and dear to every lawyer and accountant’s heart,” said Jack Wilk, managing partner of the law firm Wilk Auslander.
The provision in the Tax Cuts and Jobs Act for a deduction of up to 20 percent of pass-through trade or business income is one of the more complex parts of the law.
New Code Section 199A, in effect from 2018 to 2025, creates a deduction under which a non-C corporation business owner can deduct against their taxable income -- subject to a limitation and a phaseout -- an amount equal to the lesser of 20 percent of “combined qualified business income” (determined by distributive shares excluding owner wages or guaranteed payments in the case of a flow-through entity) or 20 percent of tentative taxable income less net capital gain.
At a webinar hosted by AccountingToday, David De Jong, a CPA and a partner at Rockville, Md.-based law firm Stein Sperling Bennett De Jong Driscoll PC, described the steps necessary to compute the deduction:
If the taxpayer’s taxable income, ignoring this deduction, is less than $315,000 on a joint return or $157,000 otherwise, their deduction is the lesser of the figures from Step 1 or Step 2. These numbers are indexed in 2019 and succeeding years for cost of living.
If their taxable income, ignoring this deduction, is more than $415,000 on a joint return or $207,500 otherwise, the computation under Step 2 is limited by the greater of:
‘Sharpen your pencil’
Although preparation software will do some of the complicated calculations, now is the time to prepare your clients, according to Ruth Wimer, a CPA and a partner in the Washington, D.C., office of law firm Winston & Strawn LLP.
“Code Section 199A will keep accountants busy,” she observed. “Individual taxpayers will have to decide what trade or business they are in, and decide if it is a specified service or not. If they happen to have more than one trade or business, they have to sort out the accounts for each and separate the payroll wages for each. A single LLC might operate multiple trades or businesses, so you will have to sharpen your pencil and figure what is the income from each trade or business that is eligible.”
“There is a huge divide between specified services and non-specified services, and then there’s also the distinction of who even has a trade or business, since only a trade or business can get the deduction,” Wimer said. She noted that “trade or business” is not precisely defined by Section 199A, and that for higher-income taxpayers, W-2 wages paid both to themselves and to others is a key factor in obtaining the 20 percent deduction.
“The new deduction encourages entrepreneurship,” she noted. “For example, accountants, attorneys and journalists working as independent contractors or through their own LLC have qualified business income, whereas employees do not. And it encourages those who are not yet making a lot of money. Once they get over a maximum threshold for ‘specified Services,’ there’s no deduction at all.”
“It’s easy for lower-income individuals to obtain the 20 percent deduction for qualified business income,” she said. Individuals with total income less than $157,500 for single filers and $315,000 for joint filers can deduct 20 percent of qualified business income even if from a ‘specified service’ and also without regard to the amount of employee payroll or depreciable assets. It is only higher-income taxpayers that receive no deduction or that are subject to the Form W-2 limits.”
“The complexity starts for individuals with over $157,500 to $207,500 [single] and $315,000 to $415,000 income [joint],” she said. “In that range, ‘specified service’ income gets phased out to zero but at the same time is also subject increasingly to the Form W-2 limits until no further deduction can be had. Other than ‘specified services’ [income] just gradually becomes subject to the Form W-2 limits. The Form W-2 limit is the greater of 50 percent of wages or 25 percent of wages plus 2.5 percent of the unadjusted bases of depreciable tangible property used in the trade or business.”
For higher-income taxpayers, the new law encourages hiring employees, Wimer observed, “This is because the higher the payroll of the trade or business, the higher the permitted deduction,” she said. “Trades or businesses with depreciable assets used in the business have an alternative to using just Form W-2 wages.”
But the special definition of Form W-2 wages is not included on Form W-2 at all, she indicated. “Although not an insurmountable task, the proper number to use for Form W-2 wages must be gleaned from the payroll records and isolated as directly related to the particular trade or business,” she said, noting that one legal entity may have multiple trades or businesses. “The definition of Form W-2 wages is generally that used for withholding purposes with the addition of employee qualified plan deferrals.”
“However, remember that the ‘specified service’ deduction is completely gone once the taxpayer is over $207,500 (single) and $415,000 (joint),” she said. “Non-specified service can retain the 20 percent deduction indefinitely, subject to the Form W-2 wage limitation.”
Wimer observed that there has been much angst over the determination of “specified services” by high-income taxpayers, noting that it’s not important to lower-income taxpayers because, for them, the 20 percent deduction applies regardless of the characterization as a specified service. She noted that “specified services” includes not only those listed (attorneys, accountants) but also any business where the principal asset is the “reputation or skill” of its employees or owners. “Thus, higher-income taxpayers are put in the ironic position of stating that neither the skills nor the reputation of employees is the principal asset of the trade or business.”
Interest on Home Equity Loans Often Still Deductible Under New Law
WASHINGTON - The Internal Revenue Service today advised taxpayers that in many cases they can continue to deduct interest paid on home equity loans.
Responding to many questions received from taxpayers and tax professionals, the IRS said that despite newly-enacted restrictions on home mortgages, taxpayers can often still deduct interest on a home equity loan, home equity line of credit (HELOC) or second mortgage, regardless of how the loan is labelled. The Tax Cuts and Jobs Act of 2017, enacted Dec. 22, suspends from 2018 until 2026 the deduction for interest paid on home equity loans and lines of credit, unless they are used to buy, build or substantially improve the taxpayer’s home that secures the loan.
Under the new law, for example, interest on a home equity loan used to build an addition to an existing home is typically deductible, while interest on the same loan used to pay personal living expenses, such as credit card debts, is not. As under prior law, the loan must be secured by the taxpayer’s main home or second home (known as a qualified residence), not exceed the cost of the home and meet other requirements.
New dollar limit on total qualified residence loan balance
For anyone considering taking out a mortgage, the new law imposes a lower dollar limit on mortgages qualifying for the home mortgage interest deduction. Beginning in 2018, taxpayers may only deduct interest on $750,000 of qualified residence loans. The limit is $375,000 for a married taxpayer filing a separate return. These are down from the prior limits of $1 million, or $500,000 for a married taxpayer filing a separate return. The limits apply to the combined amount of loans used to buy, build or substantially improve the taxpayer’s main home and second home.
The following examples illustrate these points.
Example 1: In January 2018, a taxpayer takes out a $500,000 mortgage to purchase a main home with a fair market value of $800,000. In February 2018, the taxpayer takes out a $250,000 home equity loan to put an addition on the main home. Both loans are secured by the main home and the total does not exceed the cost of the home. Because the total amount of both loans does not exceed $750,000, all of the interest paid on the loans is deductible. However, if the taxpayer used the home equity loan proceeds for personal expenses, such as paying off student loans and credit cards, then the interest on the home equity loan would not be deductible.
Example 2: In January 2018, a taxpayer takes out a $500,000 mortgage to purchase a main home. The loan is secured by the main home. In February 2018, the taxpayer takes out a $250,000 loan to purchase a vacation home. The loan is secured by the vacation home. Because the total amount of both mortgages does not exceed $750,000, all of the interest paid on both mortgages is deductible. However, if the taxpayer took out a $250,000 home equity loan on the main home to purchase the vacation home, then the interest on the home equity loan would not be deductible.
Example 3: In January 2018, a taxpayer takes out a $500,000 mortgage to purchase a main home. The loan is secured by the main home. In February 2018, the taxpayer takes out a $500,000 loan to purchase a vacation home. The loan is secured by the vacation home. Because the total amount of both mortgages exceeds $750,000, not all of the interest paid on the mortgages is deductible. A percentage of the total interest paid is deductible (see Publication 936).
How the new tax law will affect your clients’ S corporations
By Nellie Akalp
With the passage of the sweeping tax overhaul, small businesses and entrepreneurs are scrambling to understand how the changes will affect them. Much of 2018 will be spent figuring out all the implications, but that doesn’t stop anxious clients from turning to you now to figure out how to make the most of the changes.
For small businesses, the most pressing changes are the reduction in the tax rate for C corporations and the 20 percent tax deduction for pass-through entities. As such, we need to retool conventional thinking and help clients decide whether they should structure their business as a C Corp or a pass-through entity.
While the dust is still settling, here are some of the key considerations that small businesses should be thinking about in light of the new tax landscape:
What to know about the pass-through deduction
Before the new plan, people who owned small pass-through businesses typically paid income taxes based on their individual tax rate. For taxable years beginning after Dec. 31, 2017 and before Jan. 1, 2026, individuals can generally deduct 20 percent of their qualified business income from a pass-through entity (like an S Corp, partnership or sole proprietorship). This is a big change, and of course, the devil is in the details. Here are some of the key things your clients should know:
• There are limits. The deduction phases out beginning at $157,500 of income for single taxpayers and $315,000 for couples filing jointly.
• If your clients weren’t familiar with the term “qualified business income” before, they will be now. QBI is the net amount of income, gain, deduction and loss with respect to the trade or business. QBI does not include investment-related income or loss, such as capital gains or losses, dividend income or interest income.
• QBI also doesn’t include whatever is paid to the taxpayer as reasonable compensation for their services. In addition, QBI excludes certain service businesses, such as the fields of accounting, health, law, engineering, architecture, financial services, etc., where the principal asset of the business is the reputation or skill of one or more of its employees.
• And, QBI does not include any amount paid to the individual by an S corporation that is treated as reasonable compensation for their services. So if your client owns 50 percent of an S corporation that pays them $50,000 in wages and allocates $100,000 of income, then their QBI from the S Corp only includes the $100,000 of income (not the $50,000 of wages). Surely, there will be many who will want to shift their payments so there’s less in wages and more in income in order to increase the amount of their QBI and thus, increase the amount of the 20 percent deduction. However, everyone needs to keep in mind that the IRS expects reasonable compensation for the services performed and work done. And just as the IRS has monitored this closely to ensure that individuals weren’t improperly avoiding FICA or self-employment taxes, we can expect the IRS to look closely to ensure that individuals who conduct work for S corporations are reporting proper compensation for their services.
Corporation tax rates are attractive, but remember double taxation
One of the central tenets of the Tax Cuts and Jobs Act is the reduction of the C corporation tax rate from 35 to 21 percent. This may lead some pass-through entities to wonder if they’d be better off as a C Corp instead. While the corporate tax rate has been reduced to an attractive 21 percent, there still remains the concept of double taxation. When income is earned by the corporation, it’s first taxed at the business level. Then, when the corporation distributes its income to shareholders, the shareholder pays tax on the dividend.
With strategic planning and tax guidance, taxpayers may be able to reduce some of their tax liability by forming a C Corp now—but in many cases if an entrepreneur is looking to take the bulk of the profits out of the business (rather than re-investing it back into the business), a pass-through entity will be preferable.
The bottom line? The pass-through deduction is tricky business, and there are no standard guidelines yet. CPAs and financial professionals will most likely need to look at each client’s situation on a case by case basis. There will be no shortage of work for everyone in the coming year.
Here are some thoughts:
• S corporations are still advantageous in many situations, though are increasingly risky in others— particularly in passive income situations (such as rental real estate income).
• C corporations shouldn’t necessarily look to elect S Corp status just because of this tax bill, especially if the corporation isn’t contemplating a sale or closure in the foreseeable future. While the corporate tax rate is “permanent,” the deduction based on QBI is set to expire at the end of 2025 (it could also be eliminated by Congress after 2020).
• Business owners should continue to think about their business structure in terms of their specific business needs and practices, as opposed to focusing solely on the changes from the Tax Cuts and Jobs Act. It’s also smart to wait for the IRS to release additional guidance on abusive situations.
• And lastly, one of the key advantages in forming a corporation remains the ability to minimize the personal liability of the business owners. This advantage is unaltered by the new tax bill.
IRS cops scouring crypto accounts to build tax evasion cases
By David Voreacos
The Internal Revenue Service, fresh off its success in uncovering U.S. assets hidden in Swiss banks, has assigned elite criminal agents to investigate whether Bitcoin and other cryptocurrencies are being used to cheat the taxman.
A new team of 10 investigators is focusing on international crimes. In addition to following undeclared assets that are flowing out of Swiss banks after a crackdown, it will also build cases against tax evaders who use cryptocurrency. The promise of anonymity that has drawn money launderers and drug dealers to virtual coins is also attracting tax cheats, the IRS has said.
The agency hasn’t charged anyone yet, but the cases will come, Don Fort, chief of the IRS Criminal Investigation Division, said in an interview.
“It’s possible to use Bitcoin and other cryptocurrencies in the same fashion as foreign bank accounts to facilitate tax evasion,” Fort said.
Regulators in the U.S. and around the world are rushing to tighten rules in response to the frenzy over digital coins. A booming market for the coins made some investors millionaires virtually overnight before Bitcoin fell 44 percent this year.
The Securities and Exchange Commission formed a group to combat potential fraud, which has cracked down on companies that sell digital tokens illicitly and warned investors they might get fleeced.
“The biggest challenge for the IRS is this really new technology,” said Lisa Zarlenga, a tax attorney at Steptoe & Johnson LLP. “They need to educate themselves on what is a blockchain, how do we learn what’s on the blockchain, and how do we follow it?”
Blockchains are online ledgers that record transactions in virtual currencies. They can be public or private. Because there’s no central authority in the blockchain, people can often store wealth secretly and serve as their own bankers.
IRS criminal agents, who can arrest people and help send them to prison, have benefited from the work of the agency’s revenue agents. They formed a team in 2013 to study the use of virtual currencies to avoid taxes by moving money in and out of offshore accounts.
That team spent two years helping to prepare a legal summons seeking the identities of all customers of Coinbase Inc., one of the largest virtual currency exchanges, from 2013 to 2015. After a legal fight, the IRS narrowed its request but still argued it had a “reasonable basis” to believe many Bitcoin users weren’t paying taxes. They likened Bitcoin exchanges to the “Wild West” days of unregulated barter exchanges in the late 1970s and early 1980s.
“Billions of dollars in Bitcoins are currently being transferred by malware ransomers, online drug dealers, tax evaders and other criminals, all of whom are emboldened by what they perceive to be law enforcement’s inability to pierce Bitcoin’s pseudo-anonymity,” Justice Department Tax Division attorneys argued in a Sept. 1 court filing.
On Nov. 29, a judge in San Francisco ruled that Coinbase must turn over information on accounts with at least $20,000. She cited IRS data that only 800 to 900 U.S. taxpayers reported Bitcoin gains on their returns from 2013 through 2015.
“That more than 14,000 Coinbase users have either bought, sold, sent or received at least $20,000 worth of Bitcoin in a given year suggests that many Coinbase users may not be reporting their Bitcoin gains,” U.S. Magistrate Judge Jacqueline Scott Corley wrote. “The IRS has a legitimate interest in investigating these taxpayers.”
Fort said his unit is focusing on how users convert cash to cryptocurrency and back. “We know that you want to get your money out at some point,” he said.
In addition to individuals who evade taxes, Fort’s agents are looking at unlicensed exchanges in the U.S. and overseas. They are working with other criminal agents around the U.S. and stationed abroad.
The Criminal Investigation Division gained expertise in tracking cryptocurrency by working on hundreds of identity-theft cases. The division has shrunk in recent years as Congress has reduced funding, resulting in a loss of 21 percent of agents since 2011.
As a result, the division is forming specialized teams with expertise to develop high-impact cases. Aside from cryptocurrency and the flow of funds out of Switzerland, the international team will focus on tax crimes involving expatriates and cases arising out of the Foreign Account Tax Compliance Act.
Tax attorney James R. Brown said many of his investor clients believe that effective regulation and law enforcement would bring legitimacy to cryptocurrency as an asset class.
“They don’t believe that the ultimate source of value comes from skirting around the rules or cheating or criminal activity,’’ said Brown, a partner at Ropes & Gray LLP. “They see the future differently.”
—With assistance from Olga Kharif and Ben Bain
5 common types of back office occupational fraud, and how AI can stop them
By Anant Kale
Often with their gray file cabinets and outdated paint jobs, corporate backrooms aren’t the most scintillating destinations, or topics of conversation. Yet for many companies they remain vitally important as the epicenter of occupational fraud detection.
So what are the most common tactics of employees looking to defraud companies on their expense reports, and how is the burgeoning field of artificial intelligence already helping stop them?
1. Mislabeled expenses: This trick is as old as cashless transactions themselves. For most of us, when we purchase, say, pillowcases at Walmart, we rightly expect to see the word “Walmart” spelled out clearly on our bank statements. But of course transparency isn’t as much of a value in the gentleman’s club industry.
To monitor these transgressions for employers, today’s AI systems can automatically cross-check each expense report receipt with data from review sites like Yelp and TripAdvisor. For example, one machine learning program detected employee meals reimbursed at "K-Kel, Inc," which, it turns out, was actually a receipt for the Spearmint Rhino strip club in Las Vegas.
2. Subtle transfers of wealth: Sometimes it’s fun to take the team for coffee. We’ve all been there; it’s not a crime. Sometimes it’s also OK to spend more than $20 at Starbucks—maybe grab a sandwich for the flight, to go along with the latte and the fruit plate.
But what’s not OK is when employees expense a hefty total at a retailer like Starbucks when they’re actually refilling their gift cards with the funds. This isn’t treating the team or treating your belly; it’s treating yourself to low-level fraud.
3. The illicit upgrade: Those who travel often for work learn something pretty quickly: it’s a lot less glamorous than it seemed when we were younger. Such a realization can lead to frustration, and even a sense of entitlement that can manifest itself in upgrades at odds with corporate policy.
In one interesting example, one company’s AI technology caught an employee from a U.S. auto manufacturer upgrading his rental car—against policy—to a Mercedes.
4. Gateways to larger crimes: Occasionally employees will find themselves involved in larger, fraudulent webs. Whether it’s via a side hustle or a broader scheme at the day job, some employees have eyes on prizes well outside the company’s established parameters.
Along those lines, AI discovered, for a major semiconductor company, that one of the attendees at a business meal was an employee of a company on the U.S. Department of Commerce's barred list.
5. Using the “Miscellaneous” distinction to hide stuff: The “misc” category is helpful; it can be a major time suck to itemize all the tiny transactions of a common business trip. In other words, no one wants to hear all about that $2.25 spent at the parking meter in front of the business lunch.
Yet where there is great freedom there’s also opportunity to exploit. AI has helped companies catch numerous sorts of expense policy violations loitering in the “misc” column. These include: extra luggage, personal dry cleaning, TSA Pre-checks and other willful missteps.
Expense reporting auditing clearly isn’t the most sensational topic, and perhaps that’s why conversations about it rarely leave the drab walls of the backroom. But what is exciting is saving money and reinvesting it back into the company, and its people. In 2018, “artificial intelligence” doesn’t mean robots making humans cocktails while we lounge by the pool; instead, it is beginning to serve us in daily, practical endeavors like catching occupational fraud and making the workplace more transparent.
Tax overhaul seen spurring more acrimonious divorce negotiations
By Ben Steverman
President Donald Trump’s tax law could make divorce an even more miserable experience, according to a new survey of the nation’s top matrimonial attorneys.
Almost two thirds of respondents said they expect divorce negotiations to become more acrimonious following a change to the tax treatment of alimony, a poll by the American Academy of Matrimonial Lawyers showed. The new law includes a controversial provision that scraps the tax break divorcees get for paying alimony—starting with divorces finalized next year.
Battles will ensue since alimony payers will have less of a tax incentive to be generous to their former spouses. The provision allows recipients to omit the alimony they receive from their taxable income, but divorce lawyers don’t expect that to offset the loss from a lower payout. The change could also have lasting consequences for child support, which is often calculated in tandem with alimony.
Previous rules “made it much easier to do divorce negotiations,” said Madeline Marzano-Lesnevich, a New Jersey divorce attorney who is the president of the 1,650-member American Academy of Matrimonial Lawyers. She said she expects more resentment from alimony recipients—often women who downshifted careers to take care of children—and more divorce cases to head to court.
Alimony, also known as spousal support or maintenance, is typically paid by the higher-earning spouse for a period of time after a divorce. Under former Internal Revenue Service rules, money paid to a former spouse could be subtracted from the payer’s taxable income, lowering his or her tax burden. Taxes had to be paid on any alimony received, but recipients typically had much lower incomes, and thus paid lower tax rates than those providing the alimony.
“It did make a very big economic difference,” divorce attorney Alyssa Rower, founding partner of the New York matrimonial firm Rower LLC, said, referring to the alimony deduction. “It allowed people to pay more.”
A Price for Delay
As more and more married people each pursue their own careers, alimony has become a less important part of some divorce settlements. Many states have limited the amount of time that people can receive alimony, on the theory that it should help divorcing spouses get on their feet but not provide unlimited support. New Jersey ended lifetime alimony in 2014.
An initial version of the Republican tax bill called for the elimination of the alimony deduction beginning in 2018—prompting a brief rush to finalize divorces at the end of last year, Marzano-Lesnevich said. The final legislation only affects divorces finalized in 2019 and beyond. That gives time for divorcing couples and their attorneys to adjust to the new rules, but it also means couples could pay a price for any delay in settling their affairs beyond Dec. 31.
“Starting in the latter half of the year, people are going to get pretty hysterical to get their divorces done,” Rower said.
Trump wants sales tax applied to online purchases, Mnuchin says
By Toluse Olorunnipa
President Donald Trump “feels strongly” that the U.S. should permit collection of state and local sales taxes on purchases made over the internet, Treasury Secretary Steven Mnuchin said on Thursday.
Mnuchin, speaking at a hearing before the House Ways and Means Committee, said he has spoken with Trump about the issue, and that the president “does feel strongly” that state and local taxes should be applied to the purchases.
The prospect of collecting sales tax on online purchases has been a long-standing point of contention between internet-based retailers and their brick-and-mortar rivals. Trump has previously gone after internet giant Amazon.com Inc., saying last year that it does “great damage to taxpaying retailers.”
Brent Gardner, chief government affairs officer for Americans for Prosperity, a political network led by billionaire industrialists Charles and David Koch, blasted the idea of requiring online retailers to collect state and local sales taxes as tantamount to creating “new taxes on everyday consumer goods such as items purchased over the internet” that would “disproportionately impact those who can least afford it.”
Amazon began collecting sales taxes on purchases in all states that levy them earlier last year, despite an exemption that allows online retailers to avoid collecting them in places where they don’t have a physical presence. But Amazon still avoids charging shoppers sales taxes when they buy from one of its third-party vendors—sales that make up about half the company’s volume.
Untaxed third-party sales might provide an advantage over brick-and-mortar retail chains, which have their own robust online operations but have to collect sales tax on all purchases in states where they have physical presences. Many large chains have stores in almost every state.
At the federal level, several bipartisan bills have been introduced to allow states to mandate collection of the taxes, with the most recent one re-introduced last year and endorsed by Amazon. A previous bill passed the Senate.
Legislation introduced last year by Kristi Noem, a South Dakota Republican, would permit states to collect taxes on most online sales but require them to provide free software to in-state businesses, allowing them to figure out the tax rate in the buyer’s home jurisdiction.
Since a 1992 Supreme Court ruling established the precedent for exempting online retailers from sales taxes, various states have enacted “Amazon laws” to tax online sales the same way that brick-and-mortar sales are taxed. The Supreme Court ruling said states couldn’t require out-of-state retailers to collect sales taxes from consumers unless those retailers had a physical presence —through branches, warehouses or employees—where the consumers were located.
The court may revisit the issue in a case it is hearing this year in which South Dakota challenges the 1992 ruling.
Largely because of that ruling, which predated the rise of widespread online retailing, states miss out on as much as $13 billion a year in sales taxes from online and catalog purchases, according to a 2017 study by the federal Government Accountability Office.
—With assistance from Spencer Soper, Matt Townsend and Lynnley Browning
Corporate whistleblower protections cut by Supreme Court
By Greg Stohr
The U.S. Supreme Court narrowed an anti-retaliation provision in the 2010 Dodd-Frank financial law, insulating publicly traded companies from some whistleblower lawsuits.
The court unanimously threw out a lawsuit against Digital Realty Trust Inc. by a former company official who was fired after complaining internally about alleged violations of federal securities laws.
Writing for the court, Justice Ruth Bader Ginsburg said Dodd-Frank authorized whistleblower lawsuits only by people who had reported the alleged misconduct to the Securities and Exchange Commission. Lower courts had been divided on the issue.
The core purpose of the Dodd-Frank whistleblower provision was “to motivate people who know of securities law violations to tell the SEC,” Ginsburg wrote, quoting from a Senate report.
The disputed provision is one of two major federal protections for corporate whistleblowers. The 2002 Sarbanes-Oxley Act lets workers press complaints with the Labor Department even if they didn’t report the alleged violation to the SEC. Dodd-Frank allows whistleblowers more time to file cases and authorizes larger awards.
Ginsburg said Congress had “a more far-reaching objective” with Sarbanes-Oxley. “It sought to disturb the corporate code of silence that discouraged employees from reporting fraudulent behavior not only to the proper authorities, such as the FBI and the SEC, but even internally.”
San Francisco-based Digital Realty pointed to a provision in Dodd-Frank that defines whistleblowers as people who provide information to the SEC. The suing employee, Paul Somers, said that definition doesn’t apply to the anti-retaliation part of the law.
Justice Clarence Thomas wrote a separate opinion, joined by Justices Samuel Alito and Neil Gorsuch, to say the court should have limited its analysis to the text of the statute and not consulted the Senate report.
The Trump administration backed Somers, defending an SEC rule that said internal whistleblowers are protected even if they don’t lodge a complaint with the agency. The SEC received more than 4,200 reports of misconduct in 2016.
The case is Digital Realty v. Somers, 16-1276.
Democrats counter GOP tax-cut pitch by warning of long-term pain
By John McCormick
As voters complete their tax returns this year, Kelly Mazeski and other Democratic candidates in high-income, high-tax congressional districts want them to be thinking about the possible pain ahead.
Republicans are leaning hard on the tax cuts that are boosting take-home pay now as a central theme in their campaigns for the November congressional elections. Mazeski is telling residents in the affluent Chicago suburbs, where she’s seeking to unseat Republican Representative Peter Roskam, that what the GOP is offering is just a sugar high.
She’s reminding voters that when they file their 2018 returns next year, they’ll be hit by a cap on state and local taxes, known as SALT, and may end up owing more long after the election is over.
“He’s thrown his district under the bus,” Mazeski said of Roskam, who represents a suburban area west and northwest of Chicago.
It’s a tricky political message, one that doesn’t fit easily on a bumper sticker or in a 30-second ad. To pull it off, the Democrats trying to win Republican districts in high-tax states including Illinois, New Jersey, New York and California will need to turn the GOP’s strongest talking point into a vulnerability by getting voters to look beyond the immediate benefit of a cut in their income taxes.
Mazeski often talks about the issue on the campaign trail and highlighted it in a recent district-wide mailing to likely Democratic primary voters. “Because Roskam’s tax scam caps the deductibility of state and local taxes at $10,000, many will pay federal taxes on state and local tax payments for the first time in history,” the flier says.
Other Democratic candidates in states with high income or property taxes also have been emphasizing the limited deduction. Party strategists in Washington say it’s a topic likely to be part of campaign advertising later this year.
In a suburban Minneapolis congressional district race, the SALT issue was the first mentioned by Democrat Dean Phillips during a local television interview on Feb. 18 as he outlined his case against Republican Representative Erik Paulsen. “I’m afraid this will only put Minnesota further down the list of all the states that send money to Washington, based on what we get back,” he said.
Roskam has easily won re-election every two years since voters first sent him to the U.S. House in 2006. But he’s now one of the prime targets for Democrats as they seek to overturn Republican control of the chamber in November, when every House seat and one-third of those in Senate will be on the ballot. The district’s swing toward Democrat Hillary Clinton over Republican Donald Trump in the 2016 presidential election and the potential hit voters will feel on their tax returns next year are among the reasons why.
The state and local tax deduction, which had been unlimited, is capped at $10,000 under the tax legislation passed in December with only Republican votes, but that won’t show up until taxpayers file their 2018 returns next year. A near-doubling of the standard deduction will mean fewer will itemize, but residents in high-tax, high-income areas could still end up paying thousands of dollars more.
California, Illinois, New Jersey and New York alone are home to eight of the 21 congressional districts currently ranked as toss-ups by the nonpartisan Cook Political Report. The list includes the 6th in Illinois, where Mazeski is among seven Democrats competing ahead of a March 20 primary for right to challenge Roskam.
Many voters in the suburban Chicago district are well-educated and own sprawling homes. The median household income there is $97,387, compared to a national average of $57,617. It also ranks 12th out of the 435 congressional districts in the nation for use of the state and local tax deduction, according to the nonpartisan Tax Policy Center.
“I think it’s a potent issue for this district,” Mazeski said.
Roskam, who was chairman of the tax policy subcommittee of the Ways and Means panel when the tax bill was passed, is closely tied to the issue. He’s had tax protesters gather outside his district office and Democrat Dick Durbin, the senior senator from Illinois, has held an event in Roskam’s district to draw attention to the SALT issue.
Roskam has aggressively sold the legislation as a win for taxpayers, if they look at the package as a whole.
“Peter Roskam delivered tax relief for families in Illinois by lowering rates, increasing the child-tax credit and eliminating the Alternative Minimum Tax (AMT), which will save taxpayers thousands of dollars and create jobs,” Veronica Vera, his campaign spokeswoman, said in a statement.
Republicans and their allies are already spending heavily to try to convince Americans that the new law will improve the economy and their lives. The political network backed by billionaires Charles and David Koch is in the midst of a planned $20 million effort to sell the law to voters through advertising, workshops, town-hall style events, phone banks and door-to-door visits.
Support for the tax law among registered voters has moved up since its passage. Just 32 percent supported the law in early January, while 39 percent felt that way in early February, recent national surveys by Quinnipiac University show. Other national polls also have found increasing support for the tax cuts.
The tax law is central to the midterm plan Republican strategists are mapping out as they seek to steer the campaign away from controversies swirling about Trump’s administration and the president’s historically low poll ratings. At least for now, it’s also the party’s main legislative accomplishment from Trump’s first term in a Republican-controlled Washington.
But the equation for predicting the effects for an individual voter is hard to jam into a concise campaign message. It will depend on income, number of dependent children, property ownership and deductions taken by individual households. The Tax Policy Center estimates 80 percent of households nationally will get a tax cut in 2018 — with an average reduction of $1,600 — while 5 percent face a tax increase and the rest would pay roughly the same.
“It’s a process that people will have to slowly absorb this,” said Pat Callan, the managing broker and owner of a real estate office in Roskam’s district. “If they just focus on the SALT issue, they may be upset. But if they focus on the whole package, they probably are going to be better off.”
New Jersey’s 11th congressional district, which includes suburban and exurban areas outside New York City, is another area where the SALT issue is expected to get campaign attention. Among toss-up districts, it ranks the highest in the Tax Policy Center’s analysis for proportion of tax returns that use the deduction.
The contest there, in a district narrowly won by Trump, will be for an open seat following the announced retirement of Representative Rodney Frelinghuysen, one of 12 GOP House members to vote against the tax bill.
Former Congresswoman Ellen Tauscher, who worked for Clinton while she was secretary of state, is working to make sure the SALT issue is at the top of the list among those considered by California voters. She acknowledges it isn’t the easiest issue to explain.
“You have to connect the dots for people and that’s what our information campaign is doing,” said Tauscher, who is working with the Fight Back California political action committee that’s targeting seven Republican-held districts, including several where the deduction is heavily used.
Planned door-to-door canvasing will include both property owners and renters, since even those who don’t directly pay property taxes could still see higher housing costs. The message, Tauscher said, will be direct: “This was done to punish you. This was harvesting money from you to give to other people.”
Disclaimer: This article is for general information purposes only, and is not intended to provide professional tax, legal, or financial advice. To determine how this or other information in this newsletter might apply to your specific situation, contact us for more details and counsel.
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