2018 Tax Law Changes: IRS Releases Withholding Calculator

The changes to the individual income tax effective for 2018 will be fully felt next filing season. As paychecks start rolling in for employees, IRS has released an online withholding calculator that will allow people to adjust withholdings to reflect the changes.   The old withholding system was based largely on personal exemptions. The new law, ostensibly at least for the next eight years, eliminates the deduction for personal exemptions and dependents.

In its place, among other changes, the new law doubles the standard deduction, boosts the child tax credit and lowers the tax rates.

These changes will for most taxpayers lower federal income taxes; to adjust withholding to minimize serving up an even larger interest free loan to Uncle Sam taxpayers should submit a new Form W 4 with their employers.

The online calculator will allow people to enter information, including projected income and eligibility for credits like the CTC and EITC, to see if they should prepare a new W4. Of course, if taxpayers do nothing, and the law reduces taxes, the effect will be just a greater refund next year. Yet, as some have noted, not everyone wins under the new law. An article in the WSJ from earlier this year points out for families who have older kids that have aged out of CTC eligibility but who would have qualified as dependents, the new law may in fact increase taxes and a failure to adjust withholdings may leave those taxpayers short and potentially subject to penalties. Our blogging friends at Surly Subgroup in a post by Sam Brunson made a similar point.

The loss of the dependency exemption will also impact individuals who do not have social security numbers since they can no longer claim the child tax credit and it will impact and taxpayers who previously claimed dependents who were qualified relatives since these dependents do not create a child tax credit to offset the loss of the exemption.  Taxpayers with dependents that will not generate the child tax credit need to carefully consider the withholding tables and the tax impact of the changes on their 2018 return.  Because this aspect of the new law does not receive as much attention as the tax cuts, an unpleasant surprise could be waiting for many taxpayers next filing season and for the IRS.  If even a small percentage of taxpayers under withhold that previously over withheld, the IRS could find many more accounts in the collection stream with all of the additional work that entails.  Getting the withholding amount correct seems like a small thing but it can have significant downstream consequences for taxpayers and the IRS.

I do not have much else to add other than to note that the online calculator does not require individuals to add identifying information that would potentially allow IRS to associate a taxpayer’s entered (or deleted) information with the taxpayer. That is key for privacy. I get a little antsy when I get a reminder email from an airline or retailer when I have not followed through with a purchase after submitting some information (e.g., an email from Southwest reminding me that flights were still available to West Palm Beach as I had explored fares to escape the endless winter here in Philadelphia). I suspect the government could have a keen interest in taxpayers who fiddle around with a withholding calculator, just as IRS would have interest in taxpayers and preparers changing information when preparing returns on tax software, especially for items that are not subject to information reporting or withholding.

 

 

Government Seeks Reversal of District Court Decision That Invalidated PTIN User Fees

One of the more interesting cases from last year was Steele v US, where a DC district court upheld regulations imposing a PTIN requirement for preparers but held that the IRS did not have authority to require preparers to pay a user fee for obtaining or renewing a PTIN. In Steele, the District Court in invalidating the fees largely relied on the reasoning in Loving, and applied the Independent Offices Appropriations Act (IOAA) which authorizes agencies to charge fees for “a service or thing of value provided by the agency.” The lower court essentially held that the IRS’s fees were a backdoor attempt at regulating return preparers, stating that IRS “may not charge fees for PTINs because this would be equivalent to imposing a regulatory licensing scheme and the IRS does not have such regulatory authority” after Loving.

The government appealed, and it just filed its opening brief.

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The main argument that the government makes on appeal is that the district court failed to appreciate the service and value associated with obtaining a PTIN:

The PTIN provides a special benefit to tax return preparers because, as even the District Court held, it is required by statute and regulation to lawfully prepare returns for compensation. If a return preparer does not obtain a PTIN and provide it on returns he or she prepares, the preparer is subject to penalties of up to $25,000 per year, I.R.C. § 6695(c), as well as to being enjoined from preparing returns, I.R.C. § 7407. Return preparers comprise only a tiny fraction of the U.S. population, and the members of the general public who are not preparers have no occasion to request PTINs and receive no direct benefit from their issuance to those individuals who are return preparers. The issuance of PTINs thus provides a special benefit to the recipients of the PTINs, and therefore the IOAA authorizes the IRS to charge a user fee for PTINs.

In addition the government emphasized that the PTIN program helps “to protect preparers’ SSNs, which was Congress’s purpose in authorizing the IRS to create and mandate the use of the PTIN.”

The government on appeal attempts to separate the PTIN requirement from the regulation regime that Loving struck down. In so doing, the government emphasizes that while PTINs played a key role in that ill-fated regulatory regime (essentially only registered or licensed return preparers were eligible for a PTIN in the pre-Loving world) PTINs have a value and role that is distinct from regulating preparers.

As readers may recall, the district court’s conclusion mooted the alternative argument that the user fees IRS charged were excessive. If the government prevails on appeal, that issue will resurface.

Stay tuned.

For a prior post on Steele see here

Scamming Taxpayers: 2018 Version

IRS has released information this week about the latest twist on identify theft related tax scams. This scam involves thieves who access personal client information from preparers, and then submit fraudulent tax returns claiming a refund. The funds arrive via direct deposit in a legitimate bank account. The thieves then pounce on the unsuspecting refund recipient, leaving messages detailing how the IRS has issued an erroneous refund and in order to correct the situation the individual must send the cash to a collection agency. Some versions of the scam threaten criminal prosecution; others threaten a so-called blacklisting of the individual’s social security number.

IRS notes that new versions of the scam are appearing; it all stems, however, from thieves compromising personal information from a preparer’s client files. Earlier this month, IRS reminded preparers on ways to secure data.

All of this reminds me about the generational shift in  tax preparation and filing and how technology has changed the dynamics, mostly for the better but in its wake creating 21st century problems and legal issues. We have discussed the effects of this shift, including recently in Delinquency Penalties: Boyle in the Age of E-Filing, where we looked at an amicus brief the ACTC filed in Haynes v US. That case tees up if a taxpayer who uses an authorized e-filer expecting that the return be timely filed can avoid a delinquency penalty if in fact there was an error in the processing of the e-filed return but the IRS or the preparer did not notify the taxpayer of the error in time to fix the glitch.

For more on the changes in tax administration relating to the shift, I recommend a review of the Electronic Tax Administration Advisory Committee (ETAAC) annual reports; recently that group has shifted its focus to more directly include security issues generally and identity theft tax refund fraud in particular. The 2017 report discusses what IRS, working with private sector and other government partners, has done and its progress in recent years. As this week’s IRS news release indicates, IRS efforts to secure the tax system from creative and motivated thieves is a little bit like whack a mole; one scam disappears and a new one pops up in its place.

 

 

Spotlight on IRS Guidance: A Look at Recent Blog Posts on How Agencies Communicate

Subtitle: And a Nudge to Look at the National Taxpayer Advocate Purple Book’s Proposal to Formalize the NTA in the Rulemaking Process

Last week I attended an outstanding presentation on the recently enacted tax legislation that Tal Tigay, Brian Volz, Cuyler Lovett, Brian Thaler, and Howard Gavin (all from PWC) gave for the Villanova Graduate Tax Program. The Power Point presentation  summarizes the new legislation’s main individual, corporate, and international provisions. The presentation included review of the legislative process that led to a number of substantive decisions in the legislation and covered how any technical changes legislation will not be able to rely on a simple majority in the Senate to pass, but instead will need 60 votes for cloture to avoid a likely filibuster.

There are  numerous areas where the legislation is in need of further clarification. My colleague Professor Ed Liva, Director of the Villanova Graduate Tax program, noted in his introductory remarks that in today’s charged environment in DC, it may be difficult to get the 60 votes in the Senate to get a technical corrections bill passed, putting even greater pressure on IRS and Treasury to get guidance out in the form of regulations or less formal guidance.

The pressing need for tax guidance in light of the legislation leads me to a fascinating series of posts from our blogging colleagues at Notice & Comment, which last week hosted an online symposium on how agencies communicate.

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As part of that series, there are three posts sweeping in IRS: one by Professor Andy Grewal called Involuntary Rulemaking that discusses IRS use of less formal guidance like Chief Counsel Advice, a post by Professors Susan Morse and Leigh Osofsky called How Agencies Communicate: Introduction and an Example, discussing how IRS sometimes fills the gap in regulations and less formal advice by using examples, and Interim-Final or Temporary Regulations: Playing Fast and Loose with the Rules (Sometimes), a post by Professor Kristin Hickman discussing Treasury’s use of temporary regulations. All of the posts are worth a careful read, as does Professor Bryan Camp’s outstanding post a couple of weeks ago in Tax Prof called Treasury Regulations and the APA that looks at the Tax Court’s opinion in SIH Partners v Commissioner involving an APA challenge to longstanding regulations under Section 965. (Bryan’s post is part of a series of posts he regularly places on Tax Prof called Lessons from the Tax Court; for tax procedure types the series is a must read).

Today I will focus on Professor Hickman’s Notice & Comment post. In her post she notes how Treasury has skirted pre-promulgation APA notice and comment requirements with what she believes is an excessive use of temporary regulations (an issue we have discussed on PT in the context of the Chamber of Commerce challenge to the temporary anti-inversion regs). Calling the practice short-sighted, Professor Hickman laments that “post-promulgation notice and comment are an inadequate substitute for pre-promulgation procedures that themselves are already a second-best proxy for the legislative process.” Adding to the concern, Professor Hickman notes that social science research suggests that once a decision has been made and Treasury is administering a regulation it is less likely to change gears and respond to comments.

Professor Hickman’s comments have broad appeal, especially among  administrative law scholars who might find Treasury’s use of temporary regulations (or interim final regulations in admin law speak) to be an outlier agency practice. The argument also finds a soft landing spot among those who may not like the IRS, for both legitimate and perhaps less legitimate reasons.

Perhaps because I come at the issue more from the perspective of thinking about agency rulemaking as it applies to individual taxpayers, and especially lower income taxpayers, when reading Professor Hickman’s post I thought of the recent National Taxpayer Advocate (NTA) Report and its Purple Book. The Purple Book is a concise summary of suggestions that the NTA believes will strengthen taxpayer rights and improve tax administration. One of the NTA’s recommendations is that Congress should amend Section 7805 to require that IRS/Treasury should be required to solicit comments from the NTA when it promulgates regulations. And for good measure, the NTA proposes that Treasury should have to address those comments in the preamble to the final rules.

This mirrors a proposal I made when I last wrote a longish article about Treasury’s rulemaking process, in the 2012 Florida Tax Review’s A New Paradigm for IRS Guidance: Ensuring Input and Enhancing Participation.  I made a similar suggestion to amend Section 7805, drawing on Section 7805(f), which requires Treasury to solicit input from the Small Business Administration when proposed rules were likely to have an impact on small business taxpayers. I noted that the absence of participation is particularly troubling for rules that have a likely impact on those the agency is less likely or able to consider in the first instance (such as low income taxpayers or other taxpayers without much voice), and that the tax system would be better if there were a more formalized role for proxies like the NTA that could ensure all voices and views are before the agency.

The NTA proposal is a bit more nuanced than mine, as in my article I pegged the requirement to Treasury promulgation of final regs, while the Purple Book proposal adds that the requirement should also apply when Treasury is contemplating issuing temporary regulations.

The increasing attention around IRS’s rulemakng practice is likely to be intensified given the pressing need for guidance following the passage of the sweeping tax legislation. While it seems unlikely that Congress can in a bipartisan way approach the issue from an agency best practices perspective, perhaps the tax legislation’s passage will nudge the IRS to reflect further not just on the public’s need for guidance but also think about the process it uses get that guidance to the public.

 

 

Flora and Preparer Penalties: Preparer Two Weeks Late to File Suit in District Court

As we move into tax season, it is worth remembering that IRS has a significant arsenal of civil and criminal penalties to address misbehaving preparers. I recently came across a federal district court case, Bailey v. United States that discussed an exception to the Flora full payment rule for preparers subject to penalties for preparing tax returns or refund claims that have understatements stemming from unreasonable positions or willful/reckless conduct. For preparers, that penalty can be fairly sizeable, as under Section 6694 the amount of the penalty is the greater of $1,000 for each return or refund claim ($5,000 if the understatement is due to willful or reckless conduct) or 50% (75% for willful/reckless conduct) of the income derived by the tax return preparer with respect to the return or claim for refund.

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These penalties are not subject to the deficiency procedures, meaning that if IRS examines a preparer and determines that the preparer’s conduct in preparing the return or refund claim warrants a penalty, the preparer will generally have to pursue a refund suit to guarantee judicial review of the penalty. (I’ll skip the CDP discussion on this, a topic we also have discussed, which turns on whether a preparer has previously had an opportunity to dispute the penalty through its rights to have Appeals consider the matter).

We have often discussed the Flora rule, which requires full payment to ensure jurisdiction for a refund suit. Flora presents a considerable barrier, especially for moderate income persons subject to the penalty but also stemming from the fact that some civil penalties, including the variety of penalties preparers are subject to, can be very significant; Keith has written about that before here, suggesting perhaps it is time to rethink Flora in light of the impact and potential unfairness of requiring full payment to get a court to review the Service’s penalty determination.

Bailey implicates an implicit statutory exception to Flora for the 6694 penalties. IRS asserted $70,000 in penalties due to what IRS felt was his willful or reckless conduct. As per Section 6694(c)(1), if a preparer pays at least 15% of the Section 6694 penalty within 30 days of IRS making notice and demand, the preparer can stay collection and file a refund claim. Section 6694(c)(2) also provides that if a preparer fails to file suit in district court within the earlier of (1) 30 days after the Service denies his claim for refund or 30 days of the expiration of 6 months after the day on which he filed the claim for refund, then paragraph (1) of Section 6694(c) no longer applies. That suggests that a preparer can avoid the full payment rule; to that end see note 1 of the 2016 Bailey opinion, discussing the logical Flora implication of Section 6694(c)(2).

In Bailey, the preparer paid $10,500, or 15 percent of the penalty within 30 days of the IRS notice. He filed a refund claim on March 28, 2014. At the time of the suit, IRS did not deny the claim. Thirty days after the expiration of 6 months (and a day) from the time he filed his claim was October 29, 2014. Bailey filed his refund suit in district court on November 12, 2014. That filing was two weeks late, and he no longer was eligible to take advantage of the exception to Flora.

Because the preparer missed the deadline, the district court granted the government’s motion to dismiss the suit. The failure to comply with the time requirements in Section 6694(c)(2) meant that absent the preparer’s full payment of the penalty, the district court did not have subject matter jurisdiction over the suit. Because the dismissal was without prejudice, the preparer could cure his error by fully paying the balance and refiling his complaint.

Instead of full paying, the preparer filed another action in federal court in 2017; this time, the suit alleged personal misconduct among IRS employees; in light of a motion to dismiss the preparer filed a motion to substitute the US as a party to the suit and restated his allegations that his conduct did not warrant a penalty. In November of last year the court dismissed that suit.

Tax Court Decides Scope and Standard of Review in Whistleblower Cases

In a fully reviewed Tax Court opinion, Kasper v Commissioner, the Tax Court held that the scope of review in whistleblower cases is subject to the record rule and that the standard of review is abuse of discretion. The opinion is an important development in the progression of treating tax cases as a subset of cases within the mainstream of administrative law generally and the Administrative Procedure Act.

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The opinion concerns whistleblower claim relating to a former employee’s allegations that his employer had a longstanding pattern of uncompensated overtime for its employees. The whistleblower claim connected to taxes because it claimed that the millions of dollars in unpaid overtime would have led to substantial employment tax on the compensation.

The IRS rejected the claim in 2011, and in so doing sent a boilerplate rejection that was not really responsive to the particulars of the claim. In a bankruptcy proceeding involving Kasper’s former employer, IRS collected over $37 million in taxes relating to unpaid withholdings. Kasper wanted some of that, connecting his whistleblower claim to the IRS actions in the bankruptcy proceeding.

The opinion notes that the parties tried the case to “establish the contents of the administrative record and ordered the parties to brief the issues of the scope and standard of review in whistleblower cases to help us figure out both what we can look at and how to look at the IRS’s work in whistleblower cases.”

The opinion clears the fog on the scope and standard of review in whistleblower cases. In so doing, it explores an issue we have covered in PT and an area that I have discussed extensively in IRS Practice and Procedure, especially in revised Chapter 1.7, namely the precise relationship between the APA and the workings of the IRS.

The importance of Kasper is that it establishes that whistleblower cases, unlike deficiency cases which predate the APA and which have a defined set of procedures establishing a clear legislative exception to the path of judicial review of agency action, are subject to the same rules as applied to court review of other agency adjudications. There are there main aspects of that principle:

  • Scope of Review: Tax Court review of whistleblower determinations are subject to the record rule, meaning that the parties are generally bound to the record that the agency and party made prior to the agency determination
  • Standard of Review: the Tax Court will review whisitleblower determinations on an abuse of discretion basis; and
  • Chenery Rule Applies: The Tax Court can uphold the Whistleblower Office determination only on the grounds it actually relied on when making its determination.

What makes Kasper one of the most significant tax procedure cases of the new year is that in reaching those conclusions it walks us through and synthesizes scope and standard of review and Chenery principles in other areas, such as spousal relief under Section 6015 and CDP cases under Section 6220 and 6330.

In what I believe is potentially even more significant is its discussion of exceptions within the record rule that allow parties to supplement the record at trial.   To that end the opinion lists DC Circuit (which it notes in an early footnote would likely be the venue for an appeal even though the whistleblower lived in AZ ) summary of those exceptions:

  • when agency action is not adequately explained in the record;
  • when the agency failed to consider relevant factors;
  • when the agency considered evidence which it failed to include in the record;
  • when a case is so complex that a court needs more evidence to enable it to understand the issues clearly;
  • where there is evidence that arose after the agency action showing whether the decision was correct or not; and
  • where the agency’s failure to take action is under review

As I observe in IRS Practice and Procedure, the clarity so to speak of cases such as Kasper in bringing categories of tax cases within the confines of administrative law is belied by the complexity and at times uncertainty surrounding basic administrative law principles. As  Kasper notes, there can be (and often are) disputes about what is the agency record, and nontax cases establish that the agency itself does not have the final word on what constitutes the record.

On the merits, the Tax Court concluded that the information that Kasper provided did not lead to the collection of the employment taxes in the bankruptcy case. Even though the whistleblower office did not consider the evidence pertaining to the bankruptcy court proceedings, the opinion notes that the IRS would have filed its proof of claim in the ordinary course, so its error in note considering the information was harmless.

NTA Issues 2017 Annual Report to Congress

Earlier today, the NTA released the 2017 Annual Report to Congress. In addition to its sections on most serious problems, legislative recommendations, ten most litigated issues and a dedicated volume on research studies, this year the report contains a Purple Book, which is a new feature and is described as a “concise summary of 50 legislative recommendations that she believes will strengthen taxpayer rights and improve tax administration.”

In the next few days, we will be reviewing the report, and will flag areas of interest for our readers. I am especially interested in the Purple Book, and think setting off recommendations relating to taxpayer rights in a separate volume is an excellent way to highlight the importance of taxpayer rights and help ensure that the IRS embraces taxpayer rights as a guiding principle of tax administration.

A good place to start is the preface, where the NTA discusses the funding challenges that IRS has faced and continues to face. While noting that a lack of funding is a major challenge, she notes that should not be the end of the conversation:

At the same time, limited resources cannot be used as an all-purpose excuse for mediocrity. There is not a day that goes by inside the agency when someone proposes a good idea only to be told, “We don’t have the resources.” In the private and nonprofit sectors, saying “we don’t have the resources” is the beginning of the discussion, not the end. Yet with the IRS, lack of resources often has become a reflexive excuse for not doing something, or worse, for doing things “to save resources” that harm taxpayers, foster noncompliance, and undermine taxpayer and employee morale.

The consequences of poor taxpayer service and a defeatist attitude toward tax administration are far reaching. The preface emphasizes that the IRS can do a “better job of using creativity and innovation to provide taxpayer service, encourage compliance, and address noncompliance.”

I look forward to reading the report.

NTA’s Reaction to Today’s Post on Misclassified Workers

Keith’s post this morning referenced the National Taxpayer Advocate Nina Olson’s blog post discussing the Mescalero case; her office reached out to us to provide some additional information that she had intended to share in a future blog post of her own.  Below is the latest, straight from the NTA:

After my blog posted, an analyst from TEGE contacted my senior research advisor, asking how we had come up with the estimate that it took only 1 or 2 hours to identify the workers and their tax payments.  My research advisor explained that there is a systemic way of searching and compiling the records.  Apparently the IRS had been searching each worker’s record manually, which took hours and hours…..This made me feel very sad, because clearly this analyst cared deeply and wanted to do the right thing.

It appears to me that the CCA may have been driven by the IRS’s concerns that is it “did not have the resources” to do these manual searches.  My office has committed to working with TEGE to show them how to do systemic searches, and then my office will go back to Chief Counsel and ask them to reconsider its CCA.

What is most disturbing about all this is that no one took seriously enough the taxpayer’s right to pay no more than the correct amount of tax, such that someone would think to explore whether there was a systemic way to pull this information.  This shows that there is still much work to do to embed the Taxpayer Bill of Rights in every aspect of IRS activity.

Thanks to the NTA for reaching out to Procedurally Taxing, and allowing us to publish her views.

For an index to all of the NTA’s blog posts see here

The NTA plays an important role in highlighting when tax administration neglects to take into account fundamental taxpayer rights, as well as highlighting ways that tax administrators can embrace and promote those rights.

Relatedly, the NTA is convening the third international taxpayer rights conference in the Netherlands on May 3rd and 4th. I attended the first two conferences, and I learned a great deal about tax administration generally and how other countries (and the US) are faring in incorporating taxpayer rights into all facets of tax administration. Information about the conference, including an agenda and registration, can be found here.