Phoenix lawyer Bob Kamman, an occasional guest blogger and frequent commenter, turns 74 this week. He tells us that his clients won’t allow him to retire. And, some of them must file California returns, so he keeps up with developments west of the Colorado River.
Mr. Charles Rettig
Beverly Hills
I bet it feels great to be back in California, even with the recent bad weather and worse mass shootings. At least you are thousands of miles from the Capitol, where IRS is not always welcome or appreciated. Now that you are back among friends, though, you probably are expected to answer their tax questions. I can guess which one comes up the most: the MCTR.
Californians wish you had pushed IRS to answer this question before you left office November 12. After all, IRS should have anticipated it when Governor Newsom signed AB 192 into law on June 30, 2022.
More than 30 million beneficiaries know about Middle Class Tax Relief, but the rest of the country might want some details. It provided payments ranging from $200 to $1,050 for residents who filed a 2020 state income tax return with AGI less than $250,000 (single) or $500,000 (joint). Yes, in California that’s middle class.
But these were not tax rebates or tax refunds, because they weren’t based on whether tax was paid or how much. The General Assembly explained the purpose:
“Increased costs for goods, including gas, due to inflation, supply chain disruptions, the effects of the COVID-19 emergency, and other economic pressures have had a significant negative impact on the financial health of many Californians. The Legislature hereby finds and declares that the payments authorized . . .as added by this act, serve the public purpose of providing financial relief for Californians who may have been adversely impacted by these economic disruptions and do not constitute gifts of public funds within the meaning of Section 6 of Article XVI of the California Constitution.”
The state initiated direct deposits to more than 7 million filers, and then mailed another 9 million debit cards. Total cost: about $9 billion. And they haven’t finished yet.
The state law made it clear that these payments were not subject to state income tax. But apparently no one was sure how IRS would view them. So with an abundance of caution, envelopes and postage, the Franchise Tax Board (that’s what California calls its Department of Revenue) decided to send 1099-MISC forms to anyone who received $600 or more. The FTB explained it was doing this because “The MCTR payments may be considered federal income.”
Or, they may not be. Don’t ask them, ask IRS. It must be a difficult question, because so far there is no answer. And it has now become a subject of debate for tax practitioners.
There are those for whom “may be considered federal income” means “must be, if there is a 1099.” They are preparing and electronically filing returns already because they don’t want their clients to receive a CP-2000 notice proposing an assessment next year.
But there are others who reason that these payments come under the category of “general welfare.” The Internal Revenue Service has consistently concluded that payments to individuals by governmental units under legislatively provided social benefit programs for the promotion of the general welfare are not includible in a recipient’s gross income (“general welfare exclusion”). See, e.g., Rev. Rul. 74-205, 1974-1 C.B. 20; Rev. Rul. 98-19, 1998-1 C.B. 840. To qualify under the general welfare exclusion, payments must: (i) be made from a governmental fund, (ii) be for the promotion of general welfare (i.e., generally based on individual or family needs), and (iii) not represent compensation for services. Rev. Rul. 75-246, 1975-1 C.B. 24; Rev. Rul. 82-106, 1982-1 C.B. 16.
You see the problem here? And why it would be helpful to have a respected tax expert from California push IRS to decide how to answer this question, before the Taxpayer Service phone lines are jammed with Californians calling to ask what to do with their 1099 from the FTB?
The San Francisco Chronicle tried to get an answer from IRS in December. But it reported:
“The IRS could not provide a clear answer. ‘I can tell you, we are aware of it. California is not the only state doing this,’ IRS spokesman Raphael Tulino said. The only answer Tulino provided was this excerpt from IRS Publication 525. ‘In most cases, an amount included in your income is taxable unless it is specifically exempted by law. Income that is taxable must be reported on your return and is subject to tax. Income that is nontaxable may have to be shown on your tax return but isn’t taxable.’”
Fortunately, there is still one Great California Hope left in D.C. who might be able to push for an IRS answer. She is National Taxpayer Advocate Erin Collins. Her job is to listen to everyone, but she might pay more attention to you if you could explain to her the importance of this matter. Please, send her a text or give her a call.
Thanks in advance,
Bob Kamman
P.S. Do you ever hear from Kevin McCarthy or Nancy Pelosi? They might also encourage IRS to provide guidance for their constituents.
Thanks.
Yes! Yes! 1000X Yes! New Mexicans are in a similar situation and I, as a board member of NATP-NM, have been attempting to provide our members with accurate information based on general tax principles. The “wishful thinking” is that these rebates, refunds, payments are not taxable at the federal level. NM-TRD has stated that 1) they are “tax refunds” and 2) no 1099-G will be issued. One can only imagine the confusion for taxpros and taxpayers alike.
Is the implication that any individual or business that received funds based on COVID-related needs or a decline in income, such as a NY Empire Grant, should be tax-free federally? I am not aware of whether NY sent 1099s for those.
More broadly, two points to consider:
1. If you do get a 1099, it can be very hard to convince the IRS that you did not have taxable income even if that is the correct substantive answer. Maybe that is less of an issue when the payer is a State than where it is another taxpayer that may be taking a deduction for the payment and the IRS does not want to get whipsawed.
2. I have heard that some States take the position that their State pension fund entities are sovereign entities not subject to UBTI rules (giving them flexibility in not having to use blockers to invest in debt-financed partnerships) and that the IRS does not in practice challenge this, while other States that actually asked the IRS to confirm that got back PLRs to the effect that the IRS disagrees (and so are reluctant to invest in levered partnerships). Draw your own conclusions.
Hi Bob – I’m a legal reporter with Tax Notes. As I told Les in an email, I covered a January 20 virtual event called IRS Practitioner Seminar that was hosted by the California Society of Enrolled Agents. Ken Corbin, commissioner of the IRS Wage and Investment Division, gave an update on W&I developments and was asked during Q&A whether the IRS considers California’s Middle Class Tax Refund to be taxable income for federal income tax purposes. According to my notes/recording, Corbin said:
“So I believe, and I’ll have to verify – but I’ll take that question anyway, but I believe that it is not taxable. But I’ll have to figure out and confirm for you all how to report that on a federal tax return. We are aware that a number of the states have issued payments, not only California, but New York, Georgia, Illinois. I believe there are about 10 states that have issued payments. And I do not believe that is taxable on a federal tax return, but I’ll make sure that we come back to you all with a specific way on how to report that so that you’ll be able to get that on your client’s return accurately.”
Perhaps Corbin followed up with the CSEA and gave them more information?
First, Bob Kamman is brilliant. He’s a fantastic lawyer and has his finger on the pulse of everything important going on in the tax world.
Second, there is no second other than to say I’m pretty sure Bob is in his 40’s; otherwise I’m old!
If many take the position that the governmental monies are non-taxable, sams IRS guidance on the matter, and the taxpayer gets a 1099. I would report, so that a CP2000 (or worse) is not issued. You then can back it out, similar to a “received as nominee”.
In addition, I would complete a Form 8275 disclosure statement to avoid preparer penalties and the like