A Look at Tax Provisions for Low-Income Americans in the American Rescue Plan Act

We welcome back guest blogger Omeed Firouzi, who works as a staff attorney at the Taxpayer Support Center at Philadelphia Legal Assistance.  Today’s post provides more substantive tax than most.  In the discussion of the tax break for unemployment insurance, Omeed picks up on comments made by frequent commenter Bob Kamman.  Keith

The American Rescue Plan Act, signed into law by President Joe Biden on March 11, 2021, provides immediate IRS-administered relief for millions of taxpayers and creates more potentially long-term changes that will impact low-income and middle-income taxpayers.

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NEW ECONOMIC IMPACT PAYMENTS

Already, the new $1.9 trillion COVID relief law has led to the distribution of $1,400 stimulus payments for millions of Americans. This round of economic impact payments total $1,400 per person, including per adult dependent (a group that was excluded from the first two rounds; undocumented parents can now obtain payments for their children who have Social Security numbers as well).

The income eligibility guidelines are similar to the last two rounds in that the full $1,400 payments go to single filers who make up to $75,000, married filing jointly filers who make up to $150,000, and head of household filers who make up to $112,500. There are smaller payments for single filers who make up to $80,000, married filers who make up to $160,000, and head of household filers who make up to $120,000. Anyone with a Social Security number authorized for work, who is not a nonresident immigrant and not a dependent, can get a payment.

Congress authorized the IRS to look to 2019 and 2020 returns to determine eligibility. This time, Congress also specifically authorized the IRS to make “additional payments,” through rolling eligibility determinations, for individuals who file 2020 returns that make them eligible for additional stimulus payment. Therefore, if a taxpayer has a 2019 return on record right now that makes them eligible for partial or no stimulus payment but then they file a 2020 return that makes them eligible for more stimulus payment, they should get the additional payment.

Beneficiary recipients (Social Security, SSI, VA, RRB recipients) will automatically get payments. The payments are again protected from offset for federal and state tax debts, debts to federal agencies, unemployment overpayments, and child support. Congress was unable to protect the payments from garnishment by private debt collectors but members of Congress are considering introducing legislation to remedy this issue.

Non-filers who don’t receive the aforementioned benefits qualify for these payments as well. If these individuals used the Expedited Filing Portal last year that created 2019 returns, they should get these payments as well – since 2019 return information is used for eligibility. We are still awaiting guidance as to whether such a portal will return this time, particularly in light of President Biden’s January 22 executive action. Already though, the IRS revived the “Get My Payment” tool on its website with an IRS EIP Information Center too (www.irs.gov/eip).

If an individual’s income dropped in 2021 such that they are eligible for more payment now than they were based on current information or if they have a child born in 2021, they can claim the additional stimulus payment as a refund on their 2021 return. Alternatively, if an individual’s 2019 return makes them eligible for payment but a 2020 return would make them ineligible, were it to be filed, they may want to wait to file the 2020 return until they receive the stimulus payment – and the law makes clear they won’t have to pay back any excess.

EXPANDED CHILD TAX CREDIT

One aspect of the American Rescue Plan Act that has gotten significant attention is the expanded Child Tax Credit (CTC). Only for tax year 2021, the law makes the CTC fully refundable and enlarges it to $3,600 for each child 0-5 years old and $3,000 for each child 6-17 years old, including children who are 17.

Notably, the expanded CTC may begin to impact families already starting around this summer. The law authorizes the IRS to make periodic, advance payments of half of the child tax credit from this summer until December 2021. If the payments are distributed monthly, it could mean that families receive $300/month or $250/month – a new monthly child allowance that, if made permanent, has the potential to reduce child poverty in half. The other half of the credit would then be claimed on a 2021 return. Significantly, the law also abolishes the minimum income earnings requirement for receipt of the expanded CTC thus bringing millions more within this safety net’s reach.

Further, the law directs the IRS to develop an “online information portal” where individuals can update their information for purposes of this credit. This portal could be vital because the distribution of the expanded CTC will be based on the most recent return, whether that be 2019 or 2020, available but since the enlarged benefit incorporates potential non-filers, the portal could be useful for them or for individuals whose children are born this year.

The full $3,600 or $3,000 will be available for single filers who make up to $75,000, married couples who make up to $150,000, and head of household filers who make up to $112,500. However, single filers who make up to $200,000 or married couples who make up to $400,000 can still access a $2,000 child tax credit. If one makes less than $40,000 as a single filer, $50,000 as a head of household filer, or $60,000 as a married filing jointly filer, they need not pay back any overpayment on a 2021 return.

UC TAX FORGIVENESS

Weeks ago, Senator Dick Durbin and Congresswoman Cindy Axne’s proposal to exempt from taxation the first $10,200 of unemployment compensation individuals received in 2020 appeared to be a longshot possibility. Negotiations over the federal weekly unemployment supplement and its duration though led to this provision’s inclusion in the final legislation. A major change in the middle of the tax filing season, this aspect of the law will avoid surprise, large tax bills for millions and will boost the finances of those who had tax withheld.

The IRS already has guidance on how to claim this $10,200 exclusion if you have not filed a return but it remains unclear what taxpayers who already filed should do. It is possible taxpayers will have to file superseding or amended 2020 returns. If so, it will be convenient that 1040-Xs can be filed electronically now but nevertheless, it could also add to the backlog of unprocessed returns. It is uncertain if the IRS will instead try to automatically refund individuals but recently, the same Democratic members of Congress who crafted the exclusion wrote to the IRS requesting as much

It should be noted that this tax forgiveness applies per person – so up to $20,400 of UC could be forgiven from tax for a married couple – and only applies for individuals making up to $150,000 in adjusted gross income. But there’s a potentially thorny issue of statutory interpretation at play: does the $150,000 AGI limit include your unemployment compensation in 2020? If a taxpayer received $10,200 in unemployment compensation as part of $150,001 in AGI in 2020, can they exclude the UC or not because their income is too high? If the taxpayer received more than $10,200 in UC (let’s say, $20,000) and that $20,000 put them above $150,000, how much of that is part of AGI that goes into determining eligibility for this forgiveness provision?

The statutory construction here is important as Section 9042 of the American Rescue Plan Act reads that Section 85 of the Code (the section that made unemployment compensation taxable) is amended by adding the special $10,200 tax forgiveness rule “if the adjusted gross income for such taxable year is less than $150,00.” The statute goes on to read “for purposes of [the paragraph describing the forgiveness], the adjusted gross income of the taxpayer shall be determined…without regard to this section.”

So far, in its guidance regarding this new forgiveness, the IRS seems to have taken the position that “without regard to this section” means that all of a taxpayer’s unemployment compensation is included in your AGI. If your AGI is above $150,000, even if without your unemployment compensation in 2020 you would’ve been eligible for this exclusion, you won’t be able to claim it, the Service says. Some observers agree but there appears to be disagreement among tax professionals as to this interpretation, particularly since it would seem to encourage married couples to file separate returns to lower their particular AGIs in order to each claim this benefit. It would be interesting to hear from members of Congress who crafted this language to ascertain their legislative intent.

EXPANDED EITC

For 2021 only, the law triples the maximum Earned Income Tax Credit for childless workers from $543 to $1,502 – a proposal long sought by President Biden’s economic adviser, Jared Bernstein. Childless workers who are not full-time students can now start getting the EITC at  age 19, former foster youth can start getting it age 18, and the upper age limit of 65 is gone – again, all for 2021. The “EITC lookback period” will be applicable for 2021 tax year too so individuals can use 2019 earned income if the latter is higher.

There are a few permanent changes to the EITC though. Married but separated individuals can receive the EITC for themselves (as if they are single essentially) if they meet certain criteria. The married person would have to live with a qualifying child for more than half of the year and not reside with their spouse for at least six months of the year or not live with their spouse by December 31 and have a separation agreement. Another permanent change is an increase in the limit on investment income to $10,000 that individuals can have in figuring EITC eligibility. Also, people are otherwise eligible for EITC can get a single-filer EITC if they are have children who don’t have Social Security numbers.

EXPANDED ACA ASSISTANCE

In addition to the UC tax forgiveness, another major change in the middle of the filing season has to do with Affordable Care Act Premium Tax Credits. For 2020 only, if an individual received more ACA premium tax credits than they should have based on their income and family information, they do not need to pay back the credits on their returns. If a taxpayer already filed their 2020 return, it is possible they may need to file an amended return. Again, this process could add to the processing backlog at the IRS but it will also mean relief for a lot of taxpayers.

Going forward, for 2021 and 2022, the law removes the 400 percent federal poverty line cap for ACA premium assistance. Premium assistance is also now more generous in that premiums for benchmark health plans are capped at 8.5 percent of household income and individuals who make up to 150 percent of the federal poverty line are eligible to pay zero premiums. For 2021 only, individuals who receive unemployment compensation in 2021 are eligible for zero premiums and also get lower out-of-pocket costs.

OTHER ITEMS

The law also expands the child and dependent care credit as it will now be fully refundable for 2021 and will increase to $4,000 for one individual or $8,000 for two or more individuals; the credit will also cover 50% of eligible expenses. Lastly, the law also excludes from taxation any student loan debt cancelation that occurs from December 31, 2020 to January 1, 2026. As such, if the President or Congress does cancel federal student loan debt, federal taxation of canceled debt income in such a scenario would not be of concern to individuals.

All told, these dramatic changes will be enormously impactful in the lives of clients of low-income taxpayer clinic practitioners. Practitioners like me will also surely be navigating questions and concerns about the implementation of these measures. The IRS will certainly have new hurdles to overcome in the process. Ultimately, one thing is clear: these are major changes that require our focus.

Can Intentionally Filing an Improper Information Return Justify a Claim for Damages Under Section 7434?…Part IV

We welcome back guest blogger Omeed Firouzi who brings us up to date on litigation over the scope of section 7434’s cause of action for the fraudulent filing of information returns. Christine

Internal Revenue Code Section 7434 has been the subject of numerous posts here. In the aftermath of the Liverett decision in the Eastern District of Virginia in 2016, courts have largely agreed that while  intentionally wrongful overreporting of income  on an information return constitutes “fraudulent filing,” misclassification itself (actually receiving a 1099-MISC instead of a W-2 with no dispute about the income amount) is not actionable under section 7434.

Nevertheless, a small handful of federal district court decisions very recently have left the door open, at least in the preliminary stages of litigation, to the possibility that Section 7434 could encompass misclassification claims. The United States District Court for the Western District of Washington in September became the most recent court to address the matter.

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The facts in Ranko v. Gulf Maine Products Co. Inc., Et. Al. involve taxpayer William Ranko and his work for seafood processor and wholesaler Gulf Marine. Ranko filed suit in King County Superior Court but Gulf Marine removed the case to the federal district court, on the basis of diversity of citizenship. Mr. Ranko alleges several causes of action, including violations of Section 7434 and various employment-related claims.

With regard to the specific federal tax issue at hand, Mr. Ranko alleged that Gulf Marine misclassified him as an independent contractor in tax years 2016, 2017, and 2018. Mr. Ranko was referred to as an Outside Sales Manager and was treated as an employee, he alleged, yet his employer failed to withhold taxes. As a result of such misclassification, Mr. Ranko owed more federal taxes than he should have. While there is no evidence in the case that Mr. Ranko filed a Form SS-8 to challenge his misclassification before the IRS, the facts alleged do seem to support Mr. Ranko’s contention that he was an employee.

Mr. Ranko attested that such misclassification was itself a violation of Section 7434. Though Mr. Ranko separately claimed nonpayment of wages, he did not allege that the actual amounts on the 1099-MISC filed by Gulf Marine were incorrect. Rather, he alleged that the “fraudulent filing” under 7434 was the wrongful, intentional filing of 1099s rather than the W-2s that he should have received.

Interestingly, unlike several other courts that have analyzed Section 7434 at length, the court here did not engage in an extensive analysis of the Liverett decision and its interpretation of the legislative history behind Section 7434. Rather, the court focused on the intentionality of the employer’s alleged misconduct in allowing Mr. Ranko’s claim to move forward. Indeed, the court noted that “the misclassification enabled Gulf Marine to avoid tax liability by failing to ‘pay one half of the payroll taxes” and that such “allegations are sufficient to raise a reasonable inference that Gulf Marine willfully filed a fraudulent information return with respect to payments purported to have been made to” Mr. Ranko. Consequently, the court denied Gulf Marine’s motion to dismiss this cause of action.

The Ranko court appears to be part of the aforementioned trend of district courts that have refused to dismiss outright the possibility that misclassification on its own is actionable under Section 7434. Part of how the Ranko court got here too relied on the Greenwald v. Regency Mgmt. Servs., LLC decision in the U.S. District Court for the District of Maryland in 2019.

The Greenwald case was brought by Maryland employment attorney Richard Neuworth (who I’ve incidentally had the privilege of getting to know at various ABA Tax Section conferences and who has been a resource on misclassification work) as he has sought to protect wronged employees in such cases. In Greenwald, the workers alleged that their information returns did not include commissions (on which taxes were not withheld) that they received after their employment ended, and so those information returns constituted “fraudulent filing.” The court there agreed there were sufficient grounds for a claim under 7434. But the Ranko court here appears to be going even further in stating that even when there is no dispute at all about the dollar amount reported on the information return, there can be a 7434 claim.

The Ranko court may be helping to break new ground here. Then again, the District of New Jersey recently again ruled the other way on this matter. Ultimately, as discussed extensively on this blog, the issue is one of statutory interpretation. Whether “fraudulent” is an adjective that describes the filing in a broad sense or whether “fraudulent” only relates to “payments” will continue to vex courts for some time to come, absent congressional action. Notably though, the statutory text at Section 7434(a) does not include the words “amount,” “compensation” or “income.”

Rather, the statute states the willful filing must be “with respect to payments purported to be made.” The Ranko court appears to be construing the statute broadly to understand that the phrase, “payments purported to be made,” encompasses any payments and fraud that is present with respect to such payments. In other words, fraud “with respect to [the] payments” is not limited solely to fraud in the amount of the payment reported.

Instead, the argument is that the payments should have been reported or handled differently. This could encompass different specific acts, but the Ranko court is clearly concerned that the employer’s treatment and reporting of the payments as non-employee compensation burdens the employee with taxes they should not owe. This is not only due to the lack of withholding but also simply due to the different FICA/Medicare tax burdens on employees versus non-employees. Should the case move further along, it will be fascinating to see whether the court will find that it was Congress’ intent to protect such individuals from employer misconduct.

The Barrier of the Anti-Injunction Act for Low Income Taxpayers

Today we welcome back guest blogger Omeed Firouzi, who discusses a recent case involving a dispute over employees’ tax withholding. Omeed notes that withholding disputes may become more frequent as the payroll tax deferral plays out. Christine

The Tax Anti-Injunction Act has been the subject of several posts on this site over the years. The law garnered national political attention in the summer of 2012 in the aftermath of the U.S. Supreme Court’s NFIB v. Sebelius decision. In NFIB, the Supreme Court upheld the Affordable Care Act’s individual mandate on the basis that the shared responsibility payment was within Congress’ taxing authority. The Tax Anti-Injunction Act (26 U.S.C. Section 7421) reads, in relevant part:

No suit for the purpose of restraining the assessment or collection of any tax shall be maintained in any court by any person, whether or not such person is the person against whom such tax was assessed.

This law was at the center of a recent case decided in the U.S. District Court for the District of Oregon in July 2020. The plaintiff in this case, Alex Wright, alleged in a class action suit that his employer, Atech Logistics, Inc., wrongly withheld more taxes than they should have. Wright alleged unpaid wages and unpaid overtime as well.

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With regard to the federal tax component of his case, Wright specifically alleged that Atech improperly rounded up his Federal Insurance Contributions Act (FICA) withholding on his paychecks to the next penny “instead of down as required by 26 C.F.R. Section 31.3102-1(d).” Consequently, Wright “on behalf of a proposed class of all current and former Atech employees…[sought] a $200 statutory penalty, a declaratory judgment that Atech violated the law, and attorney’s fees and costs.”

The magistrate judge agreed with Atech’s claim that the Anti-Injunction Act and the Declaratory Judgment Act “bar Wright’s claims relating to Atech’s alleged FICA tax miscalculation.” Virtually all of the court’s analysis relies on controlling precedent in the Ninth Circuit courtesy of the very similar case Fredrickson v. Starbucks Corp., 840 F.3d 1119, 1124 (9th Cir. 2016). In Fredrickson, the Ninth Circuit ruled that the Anti-Injunction Act barred Starbucks employees’ claims of improper federal and state tax withholding that the employees alleged was “based on an improper estimate of tips received.” The Fredrickson court cited U.S. Supreme Court precedent to justify its ruling, specifically United States v. Am. Friends Serv. Comm., 419 U.S. 7, 10 (1974), a case that found an employer’s withholding of taxes to be a kind of collection that can’t be enjoined under the Anti-Injunction Act. The Wright magistrate here, in turn, cited these precedents to recommend that the district court “grant Atech’s motion to dismiss.” The magistrate states plainly that Wright and his fellow employees could not challenge their employer’s tax withholding because the employees were attempting to restrain a collection of tax in direct contravention of the Anti-Injunction Act.

The court’s ruling here presents a frustrating predicament for taxpayers like Mr. Wright. When employers actively withhold more taxes than they should, workers are seemingly left with little recourse because of courts’ sweepingly broad interpretation of a decades-old statute. Such rulings mean that taxpayers like Mr. Wright are forced to pursue other options. One such option might be a refund suit, as suggested by the court in a footnote (“he can seek a refund of any amount Atech improperly withheld.”)

This route would lead Mr. Wright down a path of paying, through withholding, taxes that he should not have to pay, in violation of the “right to pay no more than the correct amount of tax,” per the Taxpayer Bill of Rights. He would then need to file a return or make a claim on which he would somehow seek a refund of the improperly withheld taxes. If that fails, he would then possibly have to file a refund suit (six months after filing the return or within two years from a notice of disallowance) – something he could of course only do after having paid all the taxes in full thanks to the Flora rule much discussed on this blog. During this entire process, it is unclear, per that very same Am. Friends case, whether he could seek injunctive relief against his employer, because of the Anti-Injunction Act, if he continues to work for him and the employer continues to withhold improperly.

What to make of the fact that this timeline may not yield success and could be cumbersome? The Supreme Court made clear in Am. Friends that the “frustrat[ing]” or “inadequate” nature of a refund suit does not change the fact the Anti-Injunction Act bars such suits. There are at least a couple of perplexing questions that come to mind here. First, if a worker can sue their employer under the Fair Labor Standards Act (FLSA) for failure to pay them proper wages or overtime pay, why can’t a worker sue their employer for failure to pay them enough in net take-home pay after tax deductions? The same principle of adequate, proper pay under federal law would seem to apply in the case of FICA deductions as would apply in FLSA cases (and of course both FICA and FLSA are products of the same New Deal progeny of the Depression-era federal social safety net overhaul).

Second, a worker can challenge their active misclassification, for example, as an independent contractor. If the worker succeeds, and their employer is ineligible for Section 530 safe harbor protections, the employer would have to abide by the IRS SS-8 determination and start withholding income and employment taxes. The tax withholding would change in real time as a result of the worker’s action to challenge their status; no separate proceeding is required. In addition to filing form SS-8, workers can also file a Form 3949-A to report “failure to pay tax” or “failure to withhold,” among other tax violations. If workers are permitted, even with the Anti-Injunction Act on the books, to take these actions related to their employers’ withholding, why should Mr. Wright’s claims be barred?

If these results seem inconsistent, consider the vexing nature of the Anti-Injunction Act that was articulated in the Supreme Court’s aforementioned NFIB decision. In NFIB, the Court famously saved the Affordable Care Act and its individual mandate partly on the grounds that the penalty for lack of health insurance (“the shared responsibility payment”) functionally amounted to a tax that Congress had the power to create.

But the Court interestingly held that the Anti-Injunction Act was not applicable to the shared responsibility payment because Congress specifically structured it as a “penalty” rather than as a “tax” that would be couched in the language of the Anti-Injunction Act. Therefore, while the individual mandate was upheld, the tax that enforces it was considered a “penalty” that was constitutionally a tax but notably not a tax for purposes of the Anti-Injunction Act – so suits against it could be maintained and the court could rule on its merits.

If Congress decided to recategorize FICA taxes in a way that did not explicitly tie them to the language of the Anti-Injunction Act, then Mr. Wright may have gotten past the initial barrier here. However, even with the Anti-Injunction Act firmly in place, we likely have not heard the final say on this matter.

Consider that currently some employers are following through on President Trump’s recent executive order on suspension of the employee share of FICA taxes. Absent congressional action, these taxes will have to be repaid. That could lead to large amounts of FICA withholding on some paychecks right before the deadline for repayment. That could mean miscalculations and inaccuracies, whether intentional or not, that produce improper withholding on paychecks. In turn, frustrated taxpayers might turn to the courts to recoup unauthorized deductions as workers try to make ends meet during an economic crisis. It remains to be seen how all of these developments will unfold considering courts’ generally broad reading of the Anti-Injunction Act.

Can Intentionally Filing an Improper Information Return Justify a Claim for Damages Under Section 7434?

In today’s post, guest blogger Omeed Firouzi discusses the availability of civil damages for misclassified workers who receive inaccurate information returns from their employer. Christine

One of the most intriguing issues in tax law involves the interpretation of 26 U.S.C. Section 7434. As discussed extensively in various posts here, Section 7434 clearly encompasses situations in which taxpayers are issued income-reporting information returns that intentionally misstate the amount of their income. It is less clear if Section 7434 applies to situations in which a taxpayer is given the wrong kind of information return even if the amount of income is correct. Most courts that have ruled on this issue have found that a taxpayer who is misclassified as an independent contractor – and thus receives a Form 1099-MISC rather than a Form W-2 – does not have a cause of action under Section 7434.

These courts have largely followed the lead of the Liverett court, where the United States District Court for the Eastern District of Virginia undertook a thorough analysis of the statutory language and the legislative history of the law and found that it does not encompass pure misclassification. No circuit court has ruled on the issue but a consensus in the lower courts has emerged. The United States District Court for the District of Maryland recently also followed the lead of Liverett in Alan Wagner v. Economy Rent-A-Car Corp., et al.

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Wagner involves a Maryland taxpayer who filed suit under various Maryland employment-related statutes and Section 7434 as he alleged willful misclassification through the fraudulent reporting of payments on a 1099 instead of a W-2. In November 2013, the taxpayer initially signed a contract that agreed to “a fixed monthly salary of $5,000 per month plus commission…based on the value of contracts [he] procured for” the company. Ultimately, the taxpayer became a “full-time…employee” and received a W-2 for several consecutive tax years.

Then in 2016, the taxpayer alleges that his employer “began to pressure” him to accept 1099 classification and “when [he] refused, it is alleged that [the employer] began to withhold his commission payments.” The two parties subsequently entered into a “separation agreement” pursuant to which the taxpayer’s employer agreed to pay him “a ‘net’ sum of $45,000 in three installments ‘in exchange for a non-solicitation agreement.’” These payments were issued on a Form 1099 rather than on a W-2.

However, yet again, the court joined the growing consensus in rejecting the notion that Section 7434 applies here.  The court noted that Section 7434 “creates a private cause of action only where an information return is fraudulent with respect to the amount purportedly paid to the plaintiff.” The court also held that “the first rule of Liverett [is that] … plaintiffs cannot prevail under § 7434 by merely alleging that they have been misclassified as independent contractors, or received the wrong type of information return.”

The court recognized that Greenwald v. Regency Mgmt. Servs., LLC, 372 F. Supp. 3d 266, 270 (D. Md. 2019) carved out an exception such that “if the misclassification causes the underreporting of paid wages,” there may be a 7434 cause of action. The case was distinguishable from Greenwald though in that there was no misstatement in the amount of income in question the taxpayer received; the receipt of the aforementioned $45,000 was never in dispute. The proper classification of this income was the central tenet of the taxpayer’s 7434 claim. Consequently, the court found that “on its face, this is a ‘misclassification’ claim which cannot support a § 7434 action.” As such, the claim was dismissed.

The complexity here lies in the modifiers within 7434, as Stephen Olsen has previously described here. A “fraudulent information return with respect to payments purported to be made” clearly applies to reported compensation but when taxpayers are issued 1099s instead of W-2s, the amounts on those information returns will be different anyway. W-2s include withholding and deductions which typically do not appear on Forms 1099-MISC. If an employer willfully misclassifies a taxpayer as an independent contractor and the employer intentionally disregards obligations to withhold Social Security and Medicare taxes, is that information return not, per se, “fraudulent…with respect to payments”?

Further, that the term “fraudulent” comes before “information return” suggests that the type of information return itself, not just the amount, is relevant. This adjective-based analysis might seem overly simplistic but pre-Liverett case law – which is still good law – made it clear in a straightforward manner. For instance, the U.S. District Court for the Southern District of Florida found in a pair of misclassification cases that that “to establish a claim of tax fraud under 26 U.S.C. Section 7434,” one of the necessary elements was simply that the “information return was fraudulent.” In both Seijo v. Casa Salsa, 2013 WL 6184969 (SD Fla. 2013) and Leon v. Taps & Tintos, Inc., 51 F.Supp.3d 1290 (SD Fla. 2014), the willful issuance of a 1099 rather than a W-2 was sufficient proof for this prong of the claim. Strikingly, the Seijo court found that because a 1099 is a “form used to record payments made to an independent contracto[r] and [the worker] was not an independent contractor,” the intentional misclassification was actionable. It cited Pitcher v. Waldman, 2012 WL 5269060, at *4 (S.D. Ohio 2012) for support of the proposition that even if the “amount of the payment [is] not in dispute…[if] the form used to report that payment and the tax implications that went along with that form” are at issue, there could be a claim.

The specter of the “tax implications” that result from misclassification challenge a Liverett-based analysis like the one the Wagner court adopted. Liverett cited the legislative history of 7434 in that it noted how Congress was concerned with “malcontents who ‘sometimes file fraudulent information returns reporting large amount of income for judges, law enforcement officers, and others who have incurred their wrath.” The tax implications though that arise from such efforts are as similarly harmful for workers as misclassification itself. When a taxpayer is issued an information return that overstates their income, it creates additional, unwarranted tax burdens for them. When a taxpayer is issued an information return that is correct in income amount but wrong in the type of return because they were misclassified, it also creates an additional, unwarranted burden.

Congress was concerned with “significant personal loss and inconvenience” for taxpayers as a “result of the IRS receiving fraudulent information returns.” When taxpayers are willfully misclassified as independent contractors, they lose out on myriad benefits employees enjoy under various laws and they are saddled with a self-employment tax that can be onerous for low-income workers. Though the specific examples described in the legislative history do not exactly mirror misclassification cases, they provide a useful window into the broader purpose of the statute: the protection of taxpayers from fraudulent actors who create unnecessary burdens for them. Misclassification is such a burden. Further, one canon of statutory interpretation that was not advanced in Wagner but could arise in a future 7434 case is the notion that if Congress wanted to explicitly clarify that 7434 applied strictly to amounts, it could have done so in the intervening years. Since the law’s enactment in 1996, various, sweeping tax laws have passed under four presidents and misclassification has only grown as a problem in the meantime. Nevertheless, Congress has not amended 7434 to provide more clarity here. Considering the increasingly salient issue of misclassification, it may be that Congress will soon reexamine this vexing statute.

Tax Lawyers Can Fight the Coronavirus Crisis with the Internal Revenue Code

Today, we welcome guest blogger Bob Rubin. Bob practices in Sacramento, California as a partner in Boutin Jones, Inc. While he primarily focuses on tax procedure in both federal and state matters, he gets involved in other tax issues as well. Today, he writes about a possible use of one of the disaster provisions passed by Congress at an earlier time to protect workers today. He and I started working in the same branch of Chief Counsel, IRS 43 years ago this month. Keith

Under section 139, gross income does not include any amount received by an individual as a qualified disaster relief payment. A qualified disaster relief payment is one of four types of payments made to, or for the benefit of, an individual, but only to the extent any expense compensated by the payment is not otherwise compensated for by insurance or otherwise. The first and most relevant type of payment is any amount paid to reimburse or pay reasonable and necessary personal, family, living, or funeral expenses incurred as a result of a qualified disaster. President Trump’s Stafford Act Declaration for New York, California and Washington made section 139 applicable.

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The section 139 grants are not income to the employee/grantees, are not subject to employment taxes, are deductible by the employer/grantor and are not subject to information reporting under section 6041. The section 139 plan cannot discriminate based upon length of service or position. The grant cannot be in the nature of income replacement.

Besides section 139, see J. Comm. on Taxation, Technical Explanation of the Victims of Terrorism Relief Act of 2001, JCX-93-01 (Dec. 21, 2001) and Revenue Ruling 2003-12.  This is situation 3 in the revenue ruling:

Situation 3. Employer R makes grants to its employees who are affected by the flood described in Situation 1. The grants will pay or reimburse employees for medical, temporary housing, and transportation expenses they incur as a result of the flood that are not compensated for by insurance or otherwise. R will not require individuals to provide proof of actual expenses to receive a grant payment. R’s program, however, contains requirements (which are described in the program documents) to ensure that the grant amounts are reasonably expected to be commensurate with the amount of unreimbursed reasonable and necessary medical, temporary housing, and transportation expenses R’s employees incur as a result of the flood. The grants are not intended to indemnify all flood-related losses or to reimburse the cost of nonessential, luxury, or decorative items and services. The grants are available to all employees regardless of length or type of service with R.

Section 139 allows employers to assist employees who cannot meet their personal living expenses such as rent, mortgage payments or car payments on a tax-efficient basis. There should be a section 139 plan document that provides the benefits are payable without regard to length of service or position. The plan should require some type of modest substantiation such as a copy of a lease and a signed statement providing that the grantee cannot afford to pay $X of the rent.

California conforms to the income tax provisions of section 139. Employment taxes in California are administered by the California Employment Development Department (“EDD”). EDD Information Sheet State of Emergency or Disaster provides that section 139 grants are not subject to Personal Income Tax Withholding, but are subject to Unemployment Insurance contributions, the Employment Training Tax and State Disability Insurance contributions.

Many employees are being furloughed because they cannot work from home. Others are being furloughed due to a decline in economic activity. Section 139 is a tax-efficient tool employers can use to soften the blow on employees.

In addition to Bob’s thoughts on this subject, we have also gathered thoughts from Omeed Firouzi. Omeed is an ABA Tax Section Christine Brunswick fellow who works with Philadelphia Legal Aid specializing in employment tax issues of low income taxpayers. He prepared this for people working with individuals who receive Form 1099 wages summarizing the FFCRA provisions. Keith

SICK LEAVE for 1099 worker

The credit for COVID-19-related sick leave is 100% of the self-employed person’s “sick-leave equivalent amount” if they themselves are self-quarantined/diagnosed. It is 67% of the SE person’s “sick-leave equivalent amount” if the SE taxpayer is “taking care of [their] child following the closing of the child’s school.”

The “sick-leave equivalent amount” = *to take care of yourself,* the lesser of 1) your average daily SE income or 2) $511 per day for up to 10 days (up to $5,110 in total) OR to *care for a sick family member or your child following the child’s school closure,* $200 per day for up to 10 days ($2,000).

Daily self-employment income in FFCRA is defined as the net earnings for the year divided by 260 (i.e. 260 days).

FAMILY LEAVE for 1099 worker 

The COVID-19-related “emergency family-leave credit” – eligible for up to 50 days – is 100% of the SE taxpayer’s “qualified family leave equivalent.”

The “qualified family leave equivalent” = the lesser of 1) $200 or 2) the average daily SE income for the taxable year per day. As MarketWatch put it, “the maximum total family-leave credit would be $10,000 (50 days times $200 per day).” The House Appropriations Democrats summarized it such that “in calculating the qualified family leave equivalent amount, an eligible self-employed individual may only take into account those days that the individual is unable to work for reasons that would entitle the individual to receive paid leave pursuant to the Emergency Family and Medical Leave Expansion Act.”

Further, there is no “double benefit” allowed for both of these credits. So these credits are “proportionally reduced for any days that the individual also receives qualified sick leave wages from an employer,” so this is especially relevant for our clients who work both W-2 and 1099 jobs simultaneously. (https://appropriations.house.gov/sites/democrats.appropriations.house.gov/files/Families%20First%20Summary%20FINAL.pdf). The statute specifically states that in such a scenario, “your self-employed equivalent benefit ‘shall be reduced (but not below zero) to the extent that the sum of the amount described…exceeds $2,000 ($5,110 in the case of any day any portion of which is paid sick time described in paragraph).”

Working Through an Employer’s Failure to File Form W-2 or 1099 with the IRS

We welcome guest blogger Omeed Firouzi to PT. Omeed is a Christine A. Brunswick public service fellow with Philadelphia Legal Assistance’s low-income taxpayer clinic, and he is an alum of the Villanova Law Clinical Program. His fellowship project focuses on worker classification. In this post, Omeed examines a recent case where the taxpayer unsuccessfully sought relief under section 7434 for her employer’s failure to report her compensation to the government at all. Litigation in this area is likely to continue. Christine

Tax season is upon us so I would be remiss if I did not cite fellow Philadelphian Ben Franklin’s famous maxim that “in this world nothing can be said to be certain, except death and taxes.” But whether you are filing your return as soon as possible or at 11:59 PM on April 15, there is one thing that is uncertain for many taxpayers: whether your employer filed an information return.

As we have seen in our clinic at Philadelphia Legal Assistance and more broadly, employers are increasingly not filing income reporting information returns with the Social Security Administration (SSA) and the Internal Revenue Service (IRS). The Internal Revenue Manual, at IRM 21.3.6.4.7.1, describes the proper procedure for IRS employees to follow should a taxpayer not receive an information return. The IRS website also provides tips and tools for how taxpayers should proceed in such situations.

Under the Internal Revenue Code and regulations promulgated under the Code, employers could be held liable – and subject to penalties – for failure to file correct information returns. However, the IRC and its accompanying regulations lack a clearly defined legal recourse for individual taxpayers when the employer fails to file any information return at all. No explicit cause of action exists for workers in this predicament. Recently, a taxpayer in New York unsuccessfully tried to make the case that 26 U.S.C. Section 7434 encompasses this situation.

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The statute states, in part:

If any person willfully files a fraudulent information return with respect to payments purported to be made to any other person, such other person may bring a civil action for damages against the person so filing such return.

This statute has been the subject of several previous Procedurally Taxing posts. As these posts described in detail, courts are in consensus that the statute at least encompasses an employer’s willful misstatement on an information return of the amount of money paid to a worker. The legislative history of Section 7434 reveals that when Congress drafted the legislation in 1996, its authors were concerned with the prospect of “taxpayers suffer[ing] significant personal loss and inconvenience as the result of the IRS receiving fraudulent information returns, which have been filed by persons intent on either defrauding the IRS or harassing taxpayers.” 

The case law is split on whether misclassified taxpayers can use Section 7434 to file suit against their employers for fraudulently filing a 1099-MISC rather than a W-2, if the dollar amount reported is correct. No circuit court has ruled on the issue but most courts have followed the lead of the U.S. District Court for the Eastern District of Virginia and its Liverett decision that found that Section 7434 does not apply to misclassification.

However, one aspect of Section 7434 where there is judicial consensus is that the statute does not encompass the non-filing of an information return.

The U.S. District Court for the Eastern District of New York recently joined the chorus of courts on this issue. In Francisco v. Nytex Care, Inc., the aforementioned New York taxpayer argued that her former employer, NYTex Care, Inc., violated Section 7434 by “failing to report payments made” to the taxpayer and other workers. The facts of the case are straightforward. Taxpayer Herlinda Francisco alleged NYTex Care, a dry cleaning business, “fail[ed] to identify [her] and other employees as employees” by failing to file information returns for tax years 2010, 2011, 2012, 2013, 2014, 2015, and 2016. Francisco filed suit under Section 7434 alleging that NYTex “willfully and fraudulently filed false returns…by failing to report” employees’ income.

The court principally cited Second Circuit precedent, set in Katzman v. Essex Waterfront Owners LLC, 660 F.3d 565 [108 AFTR 2d 2011-7039] (2d Cir. 2011) (per curiam), in dismissing the case. Katzman established that Section 7434 “plainly does not encompass an alleged failure to file a required information return.” In Nytex, the employer “did not report payments made” to the taxpayer and other employees but the court found that Section 7434 was not the appropriate remedy.

More broadly, the Nytex court examined the plain language of Section 7434, its legislative history, and other relevant case law in foreclosing this claim. The plain text of the statute, the court noted, necessitates a filing by definition; there must be a filed information return in order for it to be fraudulent. The court also looked to Katzman’s parsing of congressional intent for guidance; in Katzman, the Second Circuit ruled explicitly that “nothing in the legislative history suggests that Congress wished to extend the private right of action it created to circumstances where the defendant allegedly failed to file an information return.”

Further, the court even relied upon another case the same plaintiffs’ attorney brought in the Southern District of New York. In Pacheco v. Chickpea at 14th Street, Inc., the plaintiff there also brought suit under Section 7434 on the basis of the failure of their employer to file information returns but the Southern District “found [that situation] was not covered by the statute.” Ultimately, the Nytex court granted the Defendants’ motion to dismiss for failure to state a claim upon which relief can be granted because the court found no cognizable claim for alleged failure to file an information return under Section 7434.

The result in Nytex leaves it frustratingly unclear what remedies exist for workers who find themselves in this taxpayer’s predicament. Had the employer here actually filed a 1099-MISC with the IRS, a potential argument could’ve been made about misclassification and whether that is encompassed by Section 7434. There is more division in the courts about that issue as opposed to the question posed in Nytex. Had the employer willfully overstated the amount the taxpayer was paid, the court could’ve found a clear Section 7434 violation, based on the reporting of a fraudulent amount.

Of course, neither of those things happened here. Instead, there is an aggrieved taxpayer ultimately unable to rely on a statute that is both ambiguous and seemingly limiting all at once. Practically, she is left with no clear way to sort out her own tax filing obligations when no information returns were filed. The court interestingly does not identify an alternative course of action, or judicial remedy, the taxpayer could seek.

In relying on congressional intent, the court leaves the reader wondering if Congress ever envisioned that an employer’s failure to file an information return could cause “significant personal loss and inconvenience” to the worker. If it means a frozen refund check as part of an IRS examination, there is certainly loss and inconvenience there. As Stephen Olsen described at length previously, courts have deeply examined the statutory language in terms of whether the phrase “with respect to payments made” only modifies “fraudulent” or if the information return itself could be fraudulent even if the payment amount is correct.

That discussion raises an interesting question as it relates to Nytex: if a court found an actionable claim for non-filing under section 7434, how would it determine whether the failure to file was fraudulent or whether there was willfulness in the non-filing? Since there would be no information return, would the court be forced to look at what kind of regular pay the taxpayer got to ascertain what the information return likely would’ve been?

Then, the court would have to find that there was “willfulness” on the part of the employer, not merely an inadvertent oversight. To make matters more complex, the court would have to likely wrestle with how there could be a willful act in a case where the employer did not even act at all. If a court found willfulness, a potential argument could be that a non-filing is analogous to filing an information return with all zeroes on it thus leading the court to say it is, in effect, fraudulent in the amount.

For now though: what can a taxpayer do in such a situation? When employers fail to provide or file information returns, the IRS recommends that workers attempt to get information returns from their employers. If that fails, the IRS advises workers to request letters on their employer’s letterhead describing the pay and withholding. Should an employer not comply with these requests, the IRS can seek this information from an employer while taxpayers can file Substitute W-2s attaching other proof of income and withholding – such as bank statements, paychecks, and paystubs. If a taxpayer got an information return but the employer never filed it with the government, that might ease the burden on the taxpayer but the IRS will still seek additional verification.

Even then, taxpayers could get mired in lengthy audits and examinations all while waiting for a critical refund check they rely on to make ends meet every year. We have seen this pattern play out in our own clinic and I suspect as it befalls more taxpayers, there may be either a congressional or judicial reexamination of Section 7434 or another effort to address the problem of non-filing of information returns.