DUPTIN Part II.

March 2, 2023 by 1 Comment

This is the second part in a three-part series on the IRS’s DUPTIN screening procedure and electronic return rejections by Justin Schwegel. For Part I about Tanya and Alex’s DUPTIN experiences click here. Keith 

DUPTIN Electronic Return Rejections and Exceptions

To recap Part I, the IRS’s DUPTIN review procedure is aimed at preventing fraudulent tax returns and/or improper claims for tax credits. The IRS freezes refunds on returns where the primary or secondary SSN has already been used as a primary/secondary and rejects electronic returns claiming a child or dependent that has already been claimed.

The IRS takes its role as enforcer of the tax code seriously. However, the IRS role as benefits administrator is to ensure that taxpayers who claim benefits they are legally entitled to do not have these claims rejected. This role is just as important as fraud prevention. However, the IRS’s current DUPTIN procedure rejects many taxpayer claims for benefits to which they are entitled.

The IRS rejects a second electronic return if it claims an earned income credit or dependent exemption for an SSN that has already been claimed on another return (IRM 4.19.14.8.1.3). There are three exceptions. They are: 1) if there is a recertification indicator on the account of the taxpayer who filed first; 2) if the taxpayer who filed second has overcome an EITC audit (i.e. received a “no-change” letter) in the past two years; and 3) if the federal case registry shows that the second return belongs to the custodial parent.

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A recertification indicator requires a taxpayer to file form 8862 to recertify eligibility for certain tax credits. This is required if they have had an earned income credit, child tax credit, additional child tax credit, other dependent credit or American opportunity tax credit reversed under examination procedures outlined at Internal Revenue Manual (IRM) 4.19.14.7. A recertification requirement is the lowest bar the IRS can place for someone who has had these credits reversed and is far preferable to more punitive actions the IRS can take such as a 2-year or 10-year ban from claiming the credits.

The second exception shows a taxpayer has undergone an exam for the EITC and demonstrated to the satisfaction of the examiner that they were the rightful person to claim a qualifying child for EITC purposes. A taxpayer who has overcome a recent EITC audit is more likely to be entitled to the credits.

The Federal Case Registry Exception

The third exception relies on the information in the Federal Case Registry (FCR). The FCR is a national database of all child support cases handled by state child support agencies. It contains information about custodial parents for title IV-D and non-Title IV-D cases. Title IV-D cases get their name from Title IV Part D of the Social Security Act (SSA). Title IV-A of the SSA provides grants to states to provide assistance to “needy families with children and for child-welfare services.” Title IV-D allocates money to states to establish paternity and requires states to subrogate the claims of custodial parents against noncustodial parents for child support in order to reimburse state welfare programs. Essentially the federal government funds state welfare programs contingent on the state attempting to collect reimbursement from noncustodial parents who owe support. Non-Title IV-D cases are cases in which a support order has been entered but no claim for public assistance has been made.

States are obligated to maintain state case registries (SCRs) as a condition to receive federal funding. The FCR is built on these SCRs from which they pull information. In Florida, where our LITC is located, the Department of Revenue maintains the registry for Title IV-D cases and relies on 67 different county officials to report information to the state case registry in non-Title IV-D cases.

With so many moving parts, the integrity of the FCR is questionable. In the past the IRS exercised math error authority to reverse earned income credit claims where the claim conflicted with the information in the FCR. An IRS study found that 39% of those math errors were issued improperly and the credits were claimed correctly. Following this study, the IRS determined that the FCR data are not a reliable sword for using math error authority to reverse credit claims. They are also not a reliable shield to protect custodial parents from DUPTIN rejection of electronic returns.

It’s important to understand what these exceptions to the general DUPTIN electronic rejection mean. The IRS uses available data that demonstrate the second taxpayer to claim a child is possibly the person entitled to claim the child. If the FCR shows the second taxpayer is the custodial parent then it is more likely they really are. The same applies if the first taxpayer has had the credits reversed in the past or if the second taxpayer has recently overcome an audit.

The exceptions to the DUPTIN rejection rule only remove an information hurdle. Taxpayers falling under an exception will not have electronic returns rejected and will not lose out on credits if they do not know to file a paper return. However, the IRM makes clear that the exceptions do not change the fact that the return will still be flagged as DUPTIN and are “still subject to the DUPTIN examination process…” (IRM 4.19.14.8.1.3).

DUPTIN Audits: exam soft notices and full scope exams

A return flagged as DUPTIN will usually be subject to either an exam soft notice or a full scope exam. The first use of a TIN, for e.g. the earned income credit, is not flagged as a duplicate TIN (IRM 4.1.26.3.6(1)). Only returns filed after the first return are considered duplicates and flagged by the IRS software. A taxpayer can successfully submit a DUPTIN return either by paper or by falling under one of the three exceptions outlined above. The IRS’s default presumption is that the taxpayer who wins the race to file is correct. This presumption is transparently arbitrary.

IRM 21.5.10.4.2 and 21.3.1.6.48 describe “exam soft notices” sent to taxpayers whose returns are flagged for DUPTIN for the first time. Notices in the CP 87 series are sent to DUPTIN-flagged taxpayers for “information only” and no adjustments will be made unless the DUPTIN taxpayer initiates them.

Although IRM 4.1.26.3.6 states that taxpayers who have duplicated a TIN for more than one year are considered for audit, IRM 4.19.14.8.1 states that where a Dependent Database Business Rule has been broken the DUPTIN return will be selected. The Dependent Database is described in great detail at IRM 2.3.80 and it is clear that it includes information from past returns, including DUPTIN returns, information from the Social Security Administration, and information from the Federal Case Registry.

Most of IRM 4.19.14.8 describing the how the Dependent Database information will be applied to DUPTIN returns has been redacted. It is notoriously difficult to obtain redacted portions of the IRM because IRS often invokes the Freedom of Information Act (FOIA)  exception for law enforcement techniques and procedures at 5 USC 552(b)(7)(E). However, IRM 4.19.14.8(6) and IRM 4.19.14.8(7) strongly imply that if the information on the DUPTIN return conflicts with the information in the Federal Case Registry the return will be selected for audit, presumably even when it is a taxpayer’s first DUPTIN submission. As noted above, that database is not reliable.

Unfortunately, once a return is selected for audit, subsequent year returns from the same taxpayer flagged as DUPTIN can be audited and have refunds frozen pending the results of the first DUPTIN examination (IRM 4.19.14.8.1(8)).

EITC DUPTIN audits are “full scope” audits. This means the entire return is open to adjustment, including filing status, EITC, child tax credits, child and dependent care credits, student loan interest deductions, American opportunity tax credits, etc.

IRS audits are difficult to overcome. As noted above, where a survivor of domestic violence has changed their address without updating the IRS or Postal Service, they will likely lose by default because they will never receive nor respond to the audit notice.

Gulfcoast Legal Services submitted a FOIA Request for IRS statistics on taxpayer success rates in correspondence exams from 2017 to 2021. The results are concerning:

Source: IRS FOIA Response 2023-01945

About 40% of taxpayers fail to respond to correspondence exam notices. In an average year less than one in five taxpayers were fully successful at overcoming their exams (i.e. receiving a “no-change” letter). For 2021 only 30% of taxpayers who responded to correspondence exams were successful.

Only in the unlikely event that the DUPTIN audit is overcome, i.e. the “determination is made to no-change the case,” will the other taxpayer be audited (4.1.26.3.6(2)).

Other DUPTIN cases

Although the focus above has been on those returns where competing returns claim qualifying children or dependents, this is not the only context in which the IRS’s DUPTIN procedures come into play. IRM 21.6.7.4.5 describes IRS procedures if a taxpayer identification number is used as a primary on one tax return and a secondary on another tax return. The IRS procedure is to post the second return to the master file and freeze any refund on the second return while it requests additional information. These delays alone can cause harm to financially vulnerable taxpayers.

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DUPTIN Part I.

March 1, 2023 by 2 Comments

The IRS’s duplicate taxpayer identification number (DUPTIN) procedure unnecessarily rejects electronic returns and creates harm for individuals seeking to file their taxes.  Guest blogger Justin Schwegel has written a three-part series that explains the process and takes us through some of the problems created when the IRS rejects a valid return because it arrives after an earlier filed return claims as dependents one or more of the persons on the later filed return.  Justin is the director of the low income taxpayer clinic at Gulf Coast Legal Services located in Bradenton, Florida. 

The problem Justin identifies is one mentioned by the National Taxpayer Advocate in her annual report and one that the American Bar Association Tax Section brought up with the Commissioner in the annual courtesy call that occurred in December of 2022.  The Tax Section will provide further written comments on the issue in the near future.  Its brief comments to the Commissioner in advance of the courtesy call stated:

The National Taxpayer Advocate’s 2021 Annual Report to Congress (the “2021 Annual Report”) included e-filing barriers as “Most Serious Problem #8.” For members of the low-income taxpayer community, a common reason for rejected e-filing submissions is where a dependent’s Social Security Number (“SSN”) has already been used in a previously filed return for the same tax year.  The 2021 Annual Report indicates that during the 2021 filing season this was the reason for rejecting over 1.5 million e-filed returns (with mismatched dependent SSNs responsible for almost another 1.5 million rejections).  As the 2021 Annual Report indicates, forcing the taxpayer to paper file a return with an uncorrected error does not improve matters for either the Service or the taxpayer.  We would like to discuss changes to the e-filing system that could address these barriers.

As Justin describes, the current IRS practice fosters a race to file first in order to gain the upper hand.  The system also causes some taxpayers whose returns are rejected to think that they cannot claim dependents they are legally entitled to claim.  I look forward to the ABA comments and to the creation of a system that will better protect taxpayer rights while allowing the IRS to administer the electronic filing of returns in a reasonable manner.  Keith

This is the first part in a three-part series on the IRS’s DUPTIN screening procedure. Part I will explore two case studies where the IRS DUPTIN screening procedure harmed taxpayers whose lawful claims for credits were erroneously rejected. Part II will describe in detail how the IRS’s DUPTIN screening procedure functions.  Part III discusses various credits at stake in DUPTIN rejection cases and proposes some possible solutions.

The IRS’s duplicate taxpayer identification number (DUPTIN) procedure is aimed at preventing fraudulent tax returns and/or improper claims for tax credits. It does this by freezing a refund on the second tax return filed if a social security number for the primary or secondary has already been used on a prior return. It also rejects electronic returns that claim qualifying children or dependents if their social security number has already been used on a prior return. The DUPTIN procedure also triggers heightened scrutiny of these “DUPTIN” returns when certain criteria are met.

The reason for the DUPTIN procedure is logical. It would be a problem if the IRS paid 1,000 tax refunds where 1,000 different returns listed the same social security number for a qualifying child to claim the earned income credit EITC and child tax credit (CTC). Unfortunately, because of how the procedure is structured, many returns are improperly rejected, and many taxpayers are improperly denied credits they are entitled to by law.

The first part of this series will explore the procedural problems these taxpayers can face when trying to overcome the IRS’s DUPTIN process and negative financial consequences they have suffered. Rejecting the second electronic return that is filed is arbitrary. It also creates a knowledge hurdle. Many taxpayers do not know they can still claim the credits by filing a paper return.  Those who do not know they can file a paper return suffer economic harm by not obtaining the tax benefits of claiming a dependent or qualifying child. Those who do file a paper return suffer economic harm caused by the delay in obtaining the refund for which they qualify since it can take months or years for the IRS to process paper returns and issue a refund.

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Improper DUPTIN rejections are a systemic problem that create individual problems for real taxpayers. The two case studies below are real examples of taxpayers who suffered economic harm due to improper DUPTIN rejections. The knock-on effects they experienced are not unique to DUPTIN returns, but they are also not uncommon when untangling DUTPIN problems.

To resolve individual problems created by the systemic DUPTIN problem, the taxpayers were forced to deal with still more systemic problems in a cascade of procedural obstacles. This article is about the IRS DUPTIN screening process. However, the subsequent systemic obstacles taxpayers must overcome due to improper DUPTIN rejections is important context for understanding the scope of the problem created by the improper DUPTIN rejections.

Tanya Price

Tanya Price (pseudonym) got a restraining order against her abusive ex-husband Ed (pseudonym). The restraining order prevented Ed from coming near either herself or their son of whom she was awarded full custody. Tanya and Ed had a $5,000 joint deficiency from a 2020 married-filing joint return, and Tanya is not a good candidate for innocent spouse relief. When a taxpayer owes the IRS money, the IRS will generally not issue a refund to the taxpayer. Rather it will apply the overpayment and use it to pay down deficiency under the Treasury Offset Program.

Because Ms. Price was expected to get a refund of almost $7,000 on her 2021 return, I advised her to wait until after Ed filed. By waiting the IRS would offset his refund to reduce the joint deficiency since it is the IRS policy to collect from any party with a joint liability leaving the remaining parties on that liability with a reduced tax debt.  In March of 2022, Ed must have filed his return and the IRS offset his refund which left about $4,000 of the 2020 deficiency remaining.

Tanya attempted to file her 2021 tax return using popular online tax processing software. She was surprised when her return was rejected because someone else had already claimed her son. Tanya called the tax software company’s customer support which told her that she would simply have to take her son off the return and file without him. When she asked if there was any way to file an amended return later to claim the credits for the son who had lived with her for all of 2021, a representative told her that no, unfortunately nothing could be done.

Fortunately for Tanya, she was already an LITC client, and we helped her submit a paper return before April 15, 2022. We preemptively included a copy of the restraining order and a judge’s findings from her divorce proceedings that her son stayed with her all but one night after her separation from Ed in March of 2021.  In September 2022, $4,000 of her refund was offset to settle the 2020 deficiency and Tanya received a $3,000 refund. Many taxpayers in Tanya’s position receive an audit notice instead of a refund check.

Failure to pay and file penalties of $500 had accrued for 2020. The first-time abatement procedures described in the internal revenue manual (IRM) allow practitioners to request first-time abatements over the phone. However, after abatement, the failure to pay penalty can continue to accrue. Subsequent abatement requests can be made for the same year, but they must be made in writing using form 843.

Due to the DUPTIN rejection Ms. Price had to file a paper return. Other paper returns our LITC helped file had processing times exceeding one year. To avoid an additional penalty accrual, (and because getting through the IRS Practitioner line was nearly impossible) we waited until her 2021 return, which would pay off 2020, was received on her 2021 transcript. We called the practitioner priority service line to request abatement, but unfortunately, the return processed before the abatement request.

When the IRS processed the abatement, there was a $500 credit on the 2020 tax module, a year in which a joint return was filed. This credit was offset under the Treasury Offset Program to pay for Ed’s past due child support from a different relationship. Although the local taxpayer advocate was sympathetic to Ms. Price, first-time penalty abatement is not considered “apportionable” for injured spouse relief. Tanya was out $500.

Alex Black

Alex Black (pseudonym) thought his wife Wendy filed joint returns for 2015 and 2016 like she had for 2014. After their 2017 divorce Alex began to receive notices from the IRS enquiring about unfiled returns. Alex tried to file 2015 and 2016 returns electronically at a Volunteer Income Tax Assistance Center (VITA). That was when he learned Wendy had already claimed their children on a married filing separate return. His electronic returns were rejected due to DUPTIN. The VITA volunteer advised him to remove the children and submit the return.

In 2021 Alex came to our LITC for assistance in reestablishing an installment agreement to pay off his 2016 deficiency. The deficiency that arose, in part, because he had not claimed any qualifying children and his withholdings were insufficient. We reviewed his case and discussed his financial status and living arrangements in 2015 and 2016. He and his wife lived together for all of 2015 and 2016 until they moved apart halfway through 2017. Alex earned more and won the tiebreaker rules for which parent can claim qualifying children under IRC 152(c)(4)(B).

We assisted Alex in filing 2015 and 2016 amended returns in September of 2021. Alex had a large deficiency for 2016, but an amended return would result in a significant abatement under IRC 6404. Alex had already paid off his 2015 deficiency. Under the statute of limitations outlined at IRC 6511(a) we could only request a refund of payments made after September 2019. The original 2015 deficiency was $3,500 when it should have been closer to $250. Alex had paid off more than $4,500 he never should have owed including penalties and interest due to the DUPTIN electronic rejection. We could only request a refund of the $2,000 he had paid within the past two years.

Alex filed his 2016 amended return on September 9th, 2021. It was processed on August 8th, 2022 and the tax due was reduced from $4,000 to $1,000. However, the failure to file penalty which is capped at 25% of the amount of tax owed remained at $1,000, $750 more than the statute allows. We attempted to fix the penalty issue verbally over the practitioner hotline and failed. We submitted a written abatement request on form 843 and failed. The penalty was finally adjusted with assistance from the very helpful Clearwater, FL TAS office.

Unfortunately, the 2015 refund request was not so easy. The 2015 1040x was also submitted on September 9, 2021. The refund request explicitly cited the statute of limitations and limited the refund request to only those payments on or after October 1st, 2019, the first payment the taxpayer had made within the statute of limitations period.

In October 2022, Alex received a 105C letter from the IRS’s Kansas City campus advising that the refund request was rejected for being past the statute of limitations. I am compelled to note that September 9, 2021 is less than two years after October 1st 2019. The 105C also notified Alex of appeal rights. We submitted an appeal within a week.

In mid-January, the IRS sent a second 105C letter exactly the same as the first, but from the IRS’s Fresno campus. We submitted our second appeal to the IRS campus in Fresno on February 2, 2023. Yes, it was on Groundhog Day.

Examples of a bigger problem

Tanya and Alex are not alone. Every year the Gulfcoast Legal Services LITC and other LITCs around the country deal with similar complaints. Taxpayers file their tax returns electronically by default. In 2020, more than 94% of individuals who filed a 1040 did so electronically.  However, with few exceptions, the IRS rejects electronic returns that claim credits or exemptions for a child or dependent if another taxpayer has already claimed the same child or dependent. This is usually done by a different parent in the case of parents who are not together.

Most taxpayers likely do not know they can still claim a qualifying child or dependent after an electronic return is rejected. This can be done by filing a paper return. The requirement to file a paper return is a knowledge hurdle that prevents many parents legally entitled to claim credits for their children, like Alex and Tanya, from receiving the credits.  As discussed in these scenarios, the knowledge hurdle exists at VITA sites and among practitioners as well as taxpayers.

Many parents who know that they can file a paper return have paper returns audited and lack the capacity to overcome an audit. Where there is domestic violence, survivors may move away from an abusive spouse or partner and not update their address. Some victims fear an ex will discover their new address through forwarding information. If they file a paper return due to a DUPTIN rejection and are audited they may lose by default because they do not respond.

GLS has had several cases where IRS DUPTIN procedures prevented a survivor of domestic violence from getting a refund they were entitled to under statute. We have also had cases where the parent entitled to credits was audited under the IRS’s DUPTIN procedures. It is important to keep in mind the domestic violence context when examining the IRS’s DUPTIN procedures.

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Your Advice is Sought – A Threshold Inquiry for Penalty Abatement

February 17, 2023 by 3 Comments

Today’s guest blogger is Joseph Cole, LL.M.  He is an Senior Associate Attorney at RJS Law in San Diego, California.  His practice includes federal and state tax controversy. Taxpayers often argue their accuracy relate penalties should be excused because their accountant made an error while preparing their tax return.  Today’s post discusses how taxpayers must first show they relied on actual professional advice involving professional judgment from an accountant or tax advisor (as opposed to the tax return error being attributed to a clerical-type error) in order to obtain relief from accuracy related penalties. 

The post struck a special cord with me since I recently lost a penalty case, Mulu v. Commissioner, TC Summary Opinion 2023-2 in which the taxpayer did not review the return prepared by a paid but ghosting preparer.  Had my client reviewed the return he could have corrected the incorrect job title placed on the return but would not have been able to understand and fix the incorrect depreciation and business expense claims which caused the liability giving rise to the additional tax, to which he agreed, and the penalty with which he did not agree.  I did not view job title as an important facet of the return but the court did creating a result that surprised me.  Keith

The Tax Court’s recent Patacsil  (Patacsil v. Comm’r, TC Memo 2023-8) illustrates a threshold inquiry a taxpayer may need to overcome when he or she seeks relief from penalties.  The taxpayers in Patacsil sought relief from accuracy related penalties claiming they relied on the advice of their tax advisor.  Judge Holmes’ opinion illustrates that taxpayers may only be eligible for relief when they rely an actual advice from a tax advisor, i.e. professional judgment or analysis of a tax advisor, as opposed to “tax preparation” or clerical tasks associated with a tax advisor’s duties. 

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To briefly summarize the Patacsil case, the taxpayers owned several group homes. Some of the properties they owned were lost in foreclosure.   Among other things, the taxpayers claimed NOL carry-forwards, claimed Cancellation of Indebtedness Income (COI) was excluded from income because of insolvency exception, and various Schedule C losses.  (There were some procedural issues raised like implied consent in pleadings I would be remiss if I did not briefly mention).

The Court ruled against the taxpayers on most of the issues that were in dispute.  Among other things, the taxpayers could not exclude COI income for one of the years in question, they could not claim NOL carry-forwards, and could not claim many of their Schedule C deductions.  Like many tax court opinions, the Patacsil opinion ends with a discussion of penalties. 

Like many other taxpayers, the Patacsils sought professional help in preparing their returns.  The Patacsils argued that they should be entitled to relief from accuracy related penalties because they relied on the advice of their tax advisor.  The Tax Court looked to whether the taxpayers received advice from their tax preparer in determining whether they were eligible for relief from accuracy related penalties. 

Tax Accounting, for lack of a better term, comprises of tax advice (i.e., tasks that involve judgment or analysis) and tax preparation (i.e., tasks that are clerical in nature.).  The case law differentiates between tax advice and tax preparation.  (See Woodsum v. Comm’r, 136 TC 585 (2011)).  Advice requires special training.

In Patacsil, the court determined reporting business expenses on a Schedule C may not constitute tax advice because the accountant in the case simply transcribed figures provided by the taxpayers and did not exercise any judgments or perform any analysis regarding the deductions.  The Patacsil decision did grant the Taxpayers relief for accuracy related penalties related to claimed NOL’s because it considered the treatment of NOL’s “tax-law arcana.”  The court did not apply the three part Neonatology Associates test for the Schedule C deductions because the taxpayers did not rely on advice, and the Neonatology Associates test only applies to advice.  (Some Procedurally Taxing posts touching on Neonatology Associates can be found here and here). 

The case law provides lists other tasks that do not constitute advice for penalty relief purposes.  To give some examples, a tax preparer’s failure to report income on a tax return may not constitute advice. (See Woodsum and Viola v. Comm’r, TC Memo 2013-213).  The failure to report income in these cases was deemed to be based on some clerical error rather than specific advice from the tax preparer.  These failures to report income were attributed in part to the taxpayers neglecting to carefully review their return. A tax preparer is not providing advice when the preparer is merely inputting data into software.  (See Pankratz v. Comm’r, TC Memo 2021-26). 

Seeking the services of a professional tax preparer does not make a taxpayer completely immune to potential penalties.  While a taxpayer may rely on their tax preparer’s professional judgment, they may not necessarily rely on their tax preparer’s clerical work if they wish to avoid penalties.  

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IRS Acquiesces in Action on TurboTax Decision

February 13, 2023 by 3 Comments

Guest blogger Bob Kamman analyzes the latest IRS announcement on the taxability of special state payments made in 2022. Previous PT coverage is here and here. PT readers may also be interested in Professor Annette Nellen’s excellent posts on the issue. Christine

As promised a week earlier, IRS announced late Friday afternoon, February 10, in Information Release 2023-23, its views on whether various “special payments made by 21 states in 2022″ are taxable. 

The announcement is a landmark “Action on Decision.”  Rather than expressing its views on a court ruling, IRS simply admitted that it will go along with what TurboTax and H&R Block have been doing for weeks. 

Of course, that’s not what IRS said in the Notice.  But it’s the only conclusion that can be drawn from the failure to cite any precedent or establish any new framework for analysis. Instead, we are told that “IRS will not challenge the taxability of payments related to general welfare and disaster relief.”

“Challenge” may be a word that describes working at IRS, but is it an appropriate term for interaction between the Service and taxpayers? 

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When I worked at National Office in the 1970s, one of the joys of reading the Washington Post was its daily example of bureaucratic “Gobbledygook.”  This 139-word sentence from the Notice would definitely be a winner, if the feature still existed:

The IRS has reviewed the types of payments made by various states in 2022 that may fall in these categories and given the complicated fact-specific nature of determining the treatment of these payments for federal tax purposes balanced against the need to provide certainty and clarity for individuals who are now attempting to file their federal income tax returns, the IRS has determined that in the best interest of sound tax administration and given the fact that the pandemic emergency declaration is ending in May, 2023 making this an issue only for the 2022 tax year, if a taxpayer does not include the amount of one of these payments in its 2022 income for federal income tax purposes, the IRS will not challenge the treatment of the 2022 payment as excludable for income on an original or amended return.

Translation: TurboTax and other software companies, along with H&R Block and other major tax preparation companies have been ignoring these payments for the last three weeks.  Exclusion was the only practical solution.

Still, IRS did not answer all of the questions that tax preparers are asking, perhaps because IRS did not ask any of us to review the announcement.  Here are three examples:

Massachusetts:

The Bay State had two programs last year.  For one of them, it refunded about 14% of the state income tax that individuals paid.  IRS must have called the Massachusetts Department of Revenue, asked them what was happening, and were told about this program.  So, they put it in the category of “state tax refunds” taxable only if claimed as an itemized deduction on last year’s 1040.

But there was also a “Covid-19 Essential Employee Premium Payments” program, which sent $500 payments to Massachusetts residents with household income less than 300% of federal poverty level and earned income of at least $12,750 in 2020 or $13,500 in 2021.  Everyone was considered an Essential Employee, so this was in the nature of an Earned Income Credit.  No 1099’s were issued because the amounts were under $600.  The IRS announcement ignores these payments.

Illinois:

As an IRS footnote explains, “Illinois and New York issued multiple payments and in each case one of the payments was a refund of taxes, which should be treated as noted above, and one of the payments is in the category of disaster relief payment.” 

Illinois made one refund of property taxes, only to people who paid property taxes.  They also made payments to people who filed state income tax returns, regardless of whether they paid state income tax.  The amounts in this second category were $50 per person, and $100 per dependent up to three. Which would you say should be reported as a tax refund, and which is disaster relief?  There were AGI limits for both of these payments.

California:

Some of the payments from this 2022 legislation are not being made until early in 2023.  California taxpayers, however, report receiving 1099-MISC forms from the Franchise Tax Board for 2022 even though their debit cards had not yet been issued last year.  The IRS announcement has some of them worried that it applies only to 2022 payments, and that this time next year, after having more time to think about it, IRS will issue new guidance.

Parting Thoughts:

The last word on this issue should come from Michael Desmond, former Chief Counsel, who participated in a Webinar sponsored by Tax Analysts on February 1, along with former Commissioner Charles Rettig and former National Taxpayer Advocate Nina Olson. Not referring specifically to this situation, which had not yet attracted media attention, but to IRS challenges in general on how to spend new funding, Desmond said:

And I look at that through an enforcement lens, perhaps, when things go wrong on the back end and you do end up in an audit situation, but I think the IRS can really do a lot on the front end to lay out those programs in a way, put guidance out on the front end and address all of the open questions or as many as possible for new programs like that, so you don’t have compliance issues on the back end. Having more resources, I look at it from the lens of Counsel, but having more resources to be able to issue letter rulings in areas where historically there has not been the staffing to do that, to answer those questions on the front end. That is, call it compliance, call it enforcement, call it service, whatever it is, from the taxpayers perspective, getting those questions answered through a letter ruling up front, through published guidance up front, so you never have the audit start, you don’t have the enforcement issue on the back end is I think a way that the deployment of resources, the new resources can really be utilized effectively, and that will increase voluntary compliance.

That “former” in front of his title is unfortunate.

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Property Tax Strict Foreclosure – A Follow Up

February 10, 2023 by 1 Comment

Guest blogger Anna Gooch of the Center for Taxpayer Rights follows up on a prior post and discusses how other states in addition to Michigan have engaged in the practice of using strict foreclosure to combat delinquent property taxes. As Anna discusses, the practice raises significant constitutional issues, with a case stemming from Minnesota heading to the Supreme Court. Les

In November 2022, I wrote a post about a case, Hall v. Meisner, in which the Sixth Circuit Court of Appeals held that the state of Michigan cannot pursue “strict foreclosure” when a property owner becomes delinquent in property tax payments. Strict foreclosure occurs when a creditor takes both the legal and the equitable title to the debtor’s secured property in the event of default. This means that the creditor can acquire full ownership of property for a sum significantly less than the fair market value of the property. A public sale does not accompany the foreclosure. Strict foreclosure, I thought, is rare throughout the United States, and as the Hall court put it, the practice is “unconscionable” and violative of both the federal and state constitutions. However, since my last post, I have been made aware of several cases with nearly the same facts as those in Hall, including one case recently granted cert by the Supreme Court.

Here is a general overview of the substantially similar facts in Hall v. Meisner, Fair v. Continental Resources, Nieveen v. TAX 106, andTyler v. Hennepin County (throughout this post, I will refer to these four district court cases as the “Hall cases”). Through a series of statute-determined processes, a locality — usually the city or county in which the property is located — determines that a property owner is delinquent in making property tax payments. The property owner is notified of the delinquency and given an opportunity to make the outstanding payment. The timing and nature of the notices varies across states. After a specified amount of time, the locality receives the title through deed transfer or tax certificate sale of the property. After the period for redemption has passed and the former owner has made no attempt to exercise this right, the locality is free to sell or otherwise transfer ownership of the property. At no point during this process does the former property owner receive the fair market value of the property in excess of the tax, penalties, and interest owed. Instead, the government retains the sale proceeds after the outstanding property tax has been paid. In many cases, this is more than 10 times the amount of the tax due.

In my last post, I discussed the reasons that the Sixth Circuit cited in striking down Michigan’s strict foreclosure law. In this post, I review the reasons that lower and other circuit courts are citing in upholding laws substantially the same as Michigan’s. A caveat: I am by no means a SALT expert, nor am I an authority on the state laws mentioned here (those of Nebraska, Minnesota, and Michigan). These cases, however, are significant from a taxpayer rights perspective and deserve attention.

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Generally, there are three main arguments presented by plaintiffs in the Hall cases. The courts’ and the governments’ responses to these arguments in the Hall cases are largely the same.

Takings Clause

The most compelling argument in favor of the petitioners in the Hall cases is that the state’s strict foreclosure law violates the Takings Clause. As a reminder, the Fifth Amendment’s Takings Clause prevents the government from seizing private property for public use without just compensation. To be protected by the Takings Clause, a person must have an “interest” in the property at issue. Common law principles recognize that a property owner has an interest in the equity proceeds of their property.

The courts in the Hall cases find that the Takings Clause does not apply in these strict foreclosure situations for two reasons. First, they say that state law has overridden common law recognition of this property interest and that courts have consistently upheld the application of the state statute. Rejecting the district court’s application of this argument in Hall v. Meisner on appeal, the Sixth Circuit wrote, “The government may not decline to recognize long-established interests in property as a device to take them.” Automatically accepting the terms of a statute without considering how this deference interacts with centuries of common law and with constitutional requirements is a threat to taxpayer rights.

Second, in a rather perplexing argument, the Fair court states that because the Supreme Court has held that taxes are not takings, the steps taken by the state to collect taxes cannot be considered takings either. The Fair court writes, “If taxes, as the U.S. Supreme Court has held, are not takings, we do not see how efforts to collect that tax, whether through the sale of a lien on the property or sale of the property itself, could be characterized as a taking.” This misstates the nature of the plaintiffs’ Takings Clause arguments, namely that the act of foreclosure is not the taking. The taking, in plaintiffs’ view, is the state’s refusal to return the excess equity to the owner. The Fair framing also leads to strange parallels. I think it’s safe to assume that if the IRS levied several thousands of dollars from my bank account to satisfy a $50 debt, we would not argue that the IRS was justified in doing so because it recovered income tax. Indeed, the Tax Code does not permit this result; the IRS must return levy proceeds in excess of the tax liability it was entitled to collect. The Taxpayer Bill of Rights ensures that the taxpayer pays no more than the correct amount of tax, and IRC §§ 6331, 6342, and 6343 support this.

Procedural Due Process

A second argument made in the Hall cases is that the state violates the 14th Amendment’s Due Process clause in not providing adequate notice to the property owner in advance of the strict foreclosure proceedings. In each of the state statutes at issue here, there are several points during the process at which the locality must notify the property owner of the delinquency, of the consequences of a foreclosure, and of the right to redeem. Generally, the courts conclude that as long as adequate notice is provided to the property owner, there is no taking. Across these cases, the courts find that enough time was provided between the initial notices and the closing of the sale or redemption period, so no violation of due process rights occurred.

Excessive Fines

Though this argument has not been successful for the plaintiffs in any of the strict foreclosure cases I’ve read, all the plaintiffs have made an Eighth Amendment claim, arguing that in retaining the equity in excess of the property tax (plus costs, fees and interest), the government violates the Eighth Amendment’s Excessive Fines clause.

Finding that the state’s retention of the property owner’s equity is valid, the district court relies on a 1993 Supreme Court case, Austin v. United States, which established that the “fines” encompassed by the Eighth Amendment are limited to those intended to punish. The Supreme Court wrote, “The Cruel and Unusual Punishments Clause is self-evidently concerned with punishment. The Excessive Fines Clause limits the government’s power to extract payments, whether in cash or in kind, ‘as punishment for some offense.’” The Supreme Court’s analysis distinguishes between punitive fines and remedial fines. A remedial fine is not subject to the limitations of the Eighth Amendment.

In the Hall cases, the courts explain that the equity retained by the government is not a punitive fine for two main reasons. First, just because the government recovers a lot of money doesn’t mean the fine is punitive. Second, the fines targeted in the Eighth Amendment have historically been tied to criminal offenses. Here, the courts find that the state did not intend to punish the property owners for non-payment of property tax; rather, the payment in question is merely to remedy the non-payment. Therefore, according to the courts, the Eighth Amendment does not apply. 

Once again, I don’t agree with the courts’ analysis here. I think that a penalty added to a tax is intended to punish the taxpayer. A payment of the outstanding tax, interest, and penalties would remedy the government’s unsatisfied interest; retaining the equity beyond this amount goes beyond remedy.

Conclusion

Of these cases, Hall has received a decision in favor of the taxpayer (and of all Michigan property owners) from the Sixth Circuit Court of Appeals. Meanwhile, the Tyler case out of Minnesota is heading to the Supreme Court. I will keep you all updated on these and other cases as they unfold.

Filed Under: Foreclosure, Levy Tagged With:

An Open Letter to the Last IRS Commissioner

February 3, 2023 by 6 Comments

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.

Filed Under: miscellaneous Tagged With:

Now is the Time for IRS to Enhance Digital Services

January 23, 2023 by 2 Comments

Today’s guest post features first time contributor Jessica L. Jeane, who is the VP of Tax Policy & Strategic Partnerships, at Western CPE. In this post, Jessica discusses the state of the IRS’s digital services offerings, a key theme in the recently issued  National Taxpayer Advocate’s Annual Report to Congress. As Jessica discusses, the IRS has made some progress for both taxpayers and tax pros, but there is lots of room for improvement. Les

It likely comes as no surprise to readers that the IRS isn’t winning any awards in the digital services realm. A few old adages come to mind when thinking about the long-awaited improvement needed for the IRS’s digital communications or more formally digital tax administration services. Maybe something along the lines of: there’s no time like the present, seize the day, or even in the words of Elvis Presley, “it’s now or never.”

Okay, the last one is probably a little dramatic, but the overarching point here is that now is the time for the IRS to enhance its digital communications tools for taxpayers and tax professionals. But don’t take my word for it, just ask the National Taxpayer Advocate (NTA) Erin M. Collins.

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Seize the Day (Or the Funding)

Indeed, the need for improved digital services in both the areas of customer service and compliance has been a consistent concern of Collins’. And she again reiterates the importance of ramping up these digital communications efforts in the Online Access for Taxpayers and Tax Professionals section of the 2022 NTA Annual Report to Congress released earlier this month.

In fact, of all the steps the IRS could take to improve the taxpayer experience, creating robust online accounts should be the highest priority and will prove the most transformational, according to Collins. “Providing tax information and services accessible through a robust online account and seamlessly integrated digital communication tools are essential for taxpayers, their representatives, and IRS employees,” she wrote.

And why is now the time for the IRS to expand its digital services, you may ask. I’ll give you 5 billion reasons. I won’t, but the IRS’s recent funding boost of nearly $80 billion under the Inflation Reduction Act (IRA) (P.L. 117-169) serves as a good one. Specifically, the IRA provided $4.74 billion to the IRS for business systems modernization.

As Collins noted, most taxpayers have been conducting business with various financial institutions digitally for at least the last two decades, and it’s high time the IRS offers online accounts with comparable functionality. Importantly, doing so would eliminate the need for calling the IRS (good luck there) or mailing paper correspondence (the IRS’s Achilles heel).

In that vein, the IRS has been working on (or working toward working on) expanding its digital services for years, and most recently in accordance with statutory requirements since 2019 pursuant to the Taxpayer First Act (TFA) (P.L. 116-25). Under the TFA, the IRS was required to provide Congress a report on its “comprehensive customer service strategy.” And starting on page 41 of the TFA Report to Congress (2021), the IRS details its goals for expanding digital services. Yet as Caleb Smith noted in his Procedurally Taxing post last year, the report contains a lot of aspirational buzzwords rather than a clear path forward. And what’s more, fast forward over two years later (okay, and a pandemic), the IRS is missing the mark. To the IRS’s credit, however, it has made some meaningful advancements in its digital services lineup over the last few years, but it still has a long way to go. Just take a look at the Treasury Inspector General for Tax Administration’s (TIGTA) audit report released last November detailing its less than stellar review of the IRS’s Taxpayer Digital Communications (TDC) program. In case you haven’t read it, I’ll save you the suspense and tell you that TIGTA weighed and measured the IRS’s implementation of the TDC program and it was found wanting.

Generally, the TDC program is intended to enable taxpayers and practitioners to better communicate and securely share information with the IRS. Best laid plans, am I right? Except in this case, the plans weren’t laid out too well, according to TIGTA’s findings, which note that the IRS failed to proactively identify IRS functions or operations for which digital communication may have provided sizable benefits for both taxpayers and IRS employees. TIGTA’s evaluation further concludes that the IRS’s management of the TDC program was more focused on completing various program installations than actually maximizing the IRS’s ability to communicate digitally with taxpayers.

Tax Pros’ Efforts are Instrumental in Effective Tax Administration

While we often focus on the taxpayer implications of various tax procedure and administration issues, it is important to note the impact on the tax professional, as well as not discount that impact’s effect on the taxpayer. Plainly put, the important role tax professionals play in effective tax administration and compliance while minimizing taxpayer burdens cannot be overstated.

And as our tax pros know better than anyone, and let’s just call a spade a spade, communicating with the IRS ain’t easy. During 2022, the IRS answered only 11 percent of calls – an “all-time low.” And 52 percent of correspondence currently remains unprocessed in the IRS’s backlog of inventory that goes beyond standard processing timeframes.

“Taxpayers or their representatives wanting to interact online need and deserve quality service options and quick responses from the IRS,” Collins wrote in the 2022 NTA Annual Report to Congress. “Today, most taxpayers and tax professionals can’t depend on receiving either, causing dissatisfaction that can lead to distrust in tax administration.”

In a solid effort to increase its digital tax services, the IRS rolled out the Tax Pro Account feature in 2021, which at the time was called a “groundbreaking step” by former Commissioner Chuck Rettig. “This is the first, basic step toward a more fully integrated digital tax system that will benefit taxpayers, tax professionals, and the IRS,” Rettig said.

And while the Tax Pro Account certainly received a warm welcome from practitioners, it hasn’t lived up to industry expectations. In fact, Collins refers to its name as a “misnomer,” because it offers only very basic functions for tax pros, such as digitally signing and transmitting a Form 2848, Power of Attorney and Declaration of Representative.

What it fails to provide, however, is secure messaging and the ability to upload documents. According to Collins, needed upgrades to the Tax Pro Account should include practitioners’ ability to:

  • view all clients’ Online Accounts through their Tax Pro Account portal;
  • view all changes and new information posted in the taxpayer’s account;
  • view all notices and letters mailed to the taxpayer;
  • view the status of pending refunds and requests;
  • view information on digital payment options;
  • upload requested documents relating to notices or correspondence on a tax issue; and
  • send messages to an IRS employee working their client’s case.

“Tax professionals are key to a successful tax administration.  The challenges of the past three filing seasons have pushed tax professionals to their limits, raising client doubts in their abilities and creating a loss of trust in the system – often through no fault of the tax professional.”- Collins

Good News

While the digital services situation remains dreary today, the good news is that the IRS not only states that it is committed to expanding digital services, it now has the funding to do it. “The Inflation Reduction Act affords the IRS the funding and opportunity to implement numerous improvements to the online services offered to taxpayers and tax professionals,” the IRS said in its comments included within Collins’ report.

Additionally, the IRS said it is planning expansion of certain digital services available through the Tax Pro Account and has developed a list of enhanced features based directly on feedback from the tax professional community. We’ll cheers to that. 

Filed Under: Annual Report to Congress, Digital Services

The Low-Income Taxpayer and Form 1099-K

January 10, 2023 by 10 Comments

Today we welcome first-time guest blogger Nicole Appleberry. Professor Appleberry directs the Tax Clinic at the University of Michigan Law School, and she is also of Counsel with Ferguson, Widmayer & Clark PC. In this post she explains how the Forms 1099-K reporting requirements impact low-income taxpayers, and she brings us up to date on new IRS FAQ. Christine

It is a truth universally acknowledged (by tax professionals), that a taxpayer in possession of any income, from whatever source derived, may be in want of a tax advisor. The money is gross income under IRC 61, and tax may be due if it survives the narrowing of this broad river through a series of exclusions and deductions to the narrower stream of taxable income, and then pools above the levels where income and self-employment tax kick in. Along the way, another truth is self-evident: it is a good idea to keep meticulous records, as one generally has the burden of proof to show why all that income isn’t taxable. This could be because it’s excluded (like gifts and inheritances) or reduced by deductions (such as eligible business expenses that have been documented to the extent required).

The lay taxpayer public, who have generally not fully explored the “Internal Revenue Code and its festooned vines of regulations” (Bayless Manning, Hyperlexis and the Law of Conservation of Ambiguity: Thoughts on Section 385, 36 Tax Law. 9 (1982)), sometimes has its own set of tax “truths.” For example, that income is only taxable (and self-employment tax only applies) if you think you’re running a real business, not just a side hustle. If there’s enough cash for it to feel significant in your life. If the IRS finds out about it.

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There is, of course, much overlap between the professional and lay conceptions. Unfortunately, however, it is not perfect. Hence the common scenario faced by Low Income Taxpayer Clinic clients across the nation. They drove for Uber, Lyft, or DoorDash. Or maybe they used eBay to sell household items that would have otherwise been offloaded in a garage sale. In any event, they surely didn’t keep complete records showing mileage, basis, or anything else helpful. And just as surely, they didn’t report any of the income on their Form 1040 and were shocked when the IRS nevertheless found out and proposed a tax deficiency.

In the clinics, our job has generally been to search out ways to substantiate any business expenses and prove them to the IRS through whichever procedure is still available (responding to an audit, filing an appeal with the IRS Independent Office of Appeals, litigating in Tax Court, or down the line, submitting an audit reconsideration or an OIC Doubt as to Liability).

These cases have not, however, overwhelmed our clinics because there has been a limit to when the IRS finds out about certain kinds of income. IRC 6041A requires that any business that pays someone $600 or more for their services must file a reporting form (a 1099-MISC through the 2019 tax year; a 1099-NEC thereafter). This catches some folks, yes. But it’s limited because it doesn’t cover individuals who pay other individuals (such as when you hire your teenage neighbor to mow your lawn), and it doesn’t cover payments for goods (as opposed to services).

So the real juice is in IRC 6050W, which addresses the responsibilities of Payment Settlement Entities (PSEs). These are credit card companies and “third party settlement organizations” (TPSOs), which are the businesses like eBay, PayPal, Etsy, etc., that act as intermediaries, ensuring that providers of goods and services get paid by the unrelated purchasers. (Companies like Zelle, who effectuate electronic payments without a contractual relationship with the payees, are not TPSOs.) These PSEs have been required to issue a 1099-K when the year’s worth of payments to someone aggregated to more than $20,000 and there were more than 200 transactions. So, pretty weak juice, actually. It snares some, but still let many oblivious taxpayers proceed with their side gigs, free from unpleasant tax consequences (unless they lived in one of the 9 or so locations that had already imposed lower limits for state income tax purposes).

This little loophole came to an end with the American Rescue Plan Act of 2021, which changed the reporting limit to situations where the aggregate is more than $600, regardless of the number of transactions, initially effective for the 2022 tax year. It was done with little fanfare, and LITCs have been bracing themselves for the surge of new cases.

There’s a whole host of people who might be surprised. To be sure, the people with still-pretty-small side gigs. The new de minimis limit particularly stings because the IRC 6050W regulations provide that what counts are the original payments. Adjustments for credits, refunds, processing, service, or shipping fees are not taken into consideration. Say someone was paid $610, but fees and refunds take them down to $300, and after cost of goods sold they’ve only netted $100. They are likely to think they didn’t even make enough to owe self-employment tax, but if they don’t proactively report the situation on their 1040, the IRS is going to think that they owe both income and self-employment tax on the transaction (for the former, assuming that they have enough other income to lift them above the standard deduction).

There will also be people caught by the new rule who didn’t think they were operating businesses at all – like the folks replacing their garage sales with Facebook Marketplace, who most certainly don’t have documentation for their basis in the items sold. Or those who had enough friends inadvertently tag the Venmos for their share of meal or gift expenses as “goods and services” instead of “friends and family.”

We also expect to see at least some cases from situations where employers pay independent contractors for services using a TPSO. When both a 1099-NEC and a 1099-K might be appropriate, only the 1099-K should be issued. But small employers accustomed to issuing 1099-NECs may continue to do so, causing the income to be reported to the IRS twice. 

All of this is compounded by what we see in the LITCs: many people don’t get their mail, don’t open scary-seeming mail (and anything from the IRS definitely counts), or ignore any tax forms or notices they don’t understand, hoping that they’re not important.

Fortunately, we have one more year to get the word out and bring our professional and lay truths closer together. On December 23 the IRS issued Notice 2023-10 (blogged by Christine here), announcing that they are delaying the implementation of the reporting requirement until tax year 2023. A week later, they also updated their FAQs in Fact Sheet FS-2022-41.

The new FAQ provide more information about how to report the sale of personal items. The FAQ are quite detailed and will be helpful for those taxpayers who do get their notices, do read them, and are capable of navigating their way to the IRS website. So, all you wonderful tax advisors: time to help get the word out!

Filed Under: Information Returns Tagged With:
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