Tag: Tax

IRS Provides Benefit Plan Relief to Louisiana Flood Victims

IRS Louisiana FloodOn August 14, 2016, President Obama declared a major disaster in the State of Louisiana due to the severe storms and flooding that took place in several State parishes (“Louisiana Storms”). Following the declaration, the Internal Revenue Service (IRS) issued guidance postponing certain tax filings and payment deadlines for taxpayers who reside or work in the disaster area. The relief also provides qualifying individuals with expanded access to their retirement plan assets to alleviate hardships caused by the Louisiana Storms. Below is a summary of the filing extension for the Form 5500 series and administrative changes that employers can make to expedite plan loans and hardship distributions to Louisiana Storm victims.

Extension of Filing Deadlines 

Plan sponsors in the affected parishes listed below now have until January 17, 2017, to file Form 5500 series returns, provided the return had an original or extended due date falling on or after August 11, 2016, and before January 17, 2017.

Relaxation of Hardship Distribution and Plan Loan Requirements

IRS Announcement 2016-30 (“Announcement”), issued on August 30, 2016, modifies certain verification procedures that may be required under retirement plans with respect to loans and hardship distributions. This relief allows qualifying individuals to quickly access assets in their “qualified employer plan” to alleviate hardships caused by the Louisiana Storms. Qualifying individuals include employees and former employees who have a principal residence or place of employment on August 11, 2016, located in one of the parishes identified below or who have a son, daughter, parent, grandparent, or other dependent with a principal residence or place of employment in one of the listed parishes on that date (“Qualifying Individuals”).

  • Acadia

  • Ascension

  • Avoyelles

  • East Baton Rouge

  • East Feliciana

  • Evangeline

  • Iberia

  • Iberville

  • Jefferson Davis

  • Lafayette

  • Livingston

  • Pointe Coupee

  • St. Helena

  • St. Landry

  • St. Martin

  • St. Tammany

  • Tangipahoa

  • Washington

  • West Feliciana

  • Vermilion

Other parishes may be added based on damage assessment by Federal Emergency Management Agency (FEMA).

The amount available for a hardship distribution is limited to the maximum amount permitted under the retirement plan and the IRS rules. However, Qualifying Individuals are permitted to use hardship proceeds for any hardship arising from the Louisiana Storms, for example, to repair or replace a home and to acquire food and shelter. Also, a Qualifying Individual may continue to make elective deferrals into the plan (the usual requirement to suspend deferrals for six months does not apply). Plan administrators may rely on the Qualifying Individual’s representations as to the need for and amount of the hardship distribution, unless the plan administrator has actual knowledge to the contrary. As soon as practicable the plan administrator can obtain any required documentation from the participant. Hardship distributions are includible in gross income and subject to the 10 percent excise tax that normally applies to a payment made before age 59-1/2 (unless Congress provides relief).

The IRS is also relaxing procedural and administrative rules that may apply to plan loans for a need arising from the Louisiana Storms. For example, if spousal consent is required for a plan loan or distribution and the employee claims his or her spouse is deceased, the plan may make the loan in the absence of a death certificate if it is reasonable to believe, under the circumstances, that the spouse is deceased, and the plan administrator makes reasonable efforts to obtain a copy of the death certificate as soon as practicable.

For purposes of the Announcement, a “qualified employer plan” includes a plan that meets the requirements of Code sections 401(a), 403(a), and 403(b), or a plan described in Code Section 457(b). Defined benefit plans and money purchase pension plans qualify, but only with respect to in-service hardship distributions from separate accounts, such as employee contributions or rollover amounts.

To qualify for relief, the plan loan or hardship distribution must be made no earlier than August 11, 2016, and no later than January 17, 2017.

If your retirement plan does not provide for loans or hardship distributions but you would like to allow storm victims to obtain loans or hardships, or if you would like to add flexibility to existing plan provisions, the plan must be amended no later than the end of the first plan year beginning after December 31, 2016 (December 31, 2017, for calendar year plans).

ARTICLE BY Timothy Brechtel, Susan Chambers & Ricardo X. Carlo of Jones Walker LLP

© 2016 Jones Walker LLP

The Impact of Recently Proposed Regulations on Ineligible Nonqualified Plans Under Internal Revenue Code § 457(f)

qualified plans IRS taxThe Treasury Department and the Internal Revenue Service recently issued comprehensive proposed regulations governing nonqualified plans subject to tax under Internal Revenue Code § 457. Code § 457 prescribes the tax rules that apply to “eligible” and “ineligible” nonqualified deferred compensation plans. Code § 457(b) defines the requirements to be an “eligible” nonqualified plan; a deferred compensation plan that does not satisfy the requirements of Code § 457(b) is an “ineligible” plan under Code § 457(f). Eligible and ineligible plans may be maintained only by state or local governments or organizations exempt from tax under Code § 501(c). The proposed regulations make the following changes:

  • Eligible plans (Code § 457(b))

The proposed regulations would amend the final regulations issued in 2003 to reflect subsequent statutory changes made to Code § 457.

  • Ineligible plans(Code § 457(f))

The proposed regulations make good on the Service’s promise, made in Notice 2007-62, to issue “guidance regarding a substantial risk of forfeiture for purposes of § 457(f)(3)(B) under rules similar to those set forth under § 1.409A-1(d).” This promise prompted much concern amount ineligible plan sponsors and their advisors. Notice 2007-62 was aimed squarely at the interaction between Code § 457(f) and the then recently issued final regulations under Code § 409A. It was clear to many that the latter would have some consequences for the former. To what extent would Code § 409A force unwelcome changes to the rules governing ineligible plans of deferred compensation? When maintained by private sector tax-exempt entities, these plans are restricted to covering only senior management (or, in the parlance of ERISA, the “top-hat group”), which in many institutions, meant the chief executive officer. In particular, sponsors and their advisors worried about three, broad issues:

  • Will the narrower definition of ‘substantial risk of forfeiture” set forth in Code § 409A be applied to arrangements governed by Code § 457(f)?

  • Will elective deferrals continue to be allowed?

  • Will a non-compete agreement continue to operate to defer vesting (and hence the imposition of tax)?

Though not addressed in Notice 2007-62, sponsors of ineligible plans had the following additional worries relating to the interaction between Code § 457 and Code § 409A:

  • Code § 457 includes a carve-out for bona fide severance plans; Code § 409A similarly includes a carve-out for severance plans, but only for terminations based on an involuntary termination. It was only a matter of time they surmised, before the regulators intervened to “harmonize” the two provisions of the Code.

  • The final Code § 409A regulations contained detailed rules governing what constitutes an “involuntary termination of employment.” Whether a termination of employment is also (critically) important for purposes of Code §457, since only an involuntary termination can defer vesting. Will the same definition apply in each case?

  • How “constructive termination” actions (often referenced as “good reason” provisions) would operate as a basis for vesting of benefits for ineligible plans?

In this post, we examine the impact of the proposed regulations on ineligible plans under Code § 457(f) with a particular emphasis on the issues raised above. As a result—or at least it so appears—of comments received in response to Notice 2007-62, the worst fears of sponsors and advisors alike have not materialized. Once these rules are made final, however, there will be a “new” far more constrained “normal.” These regulations will introduce a new level of rigor into the design, maintenance and operation of ineligible deferred compensation plans.

Background                                                                                                  

A “plan” for purposes of Code § 457 includes “any plan, agreement, method, program, or other arrangement, including an individual employment agreement, of an eligible employer under which the payment of compensation is deferred. There are, however, certain plans that are not subject to Code § 457. These include bona fide vacation leave, sick leave, compensatory time, severance pay, disability pay, and death benefit plans, plans paying solely length of service awards to bona fide volunteers (or their beneficiaries), and bona fide severance pay plans. While these exceptions apply to eligible and ineligible plans alike, the exception for bona fide severance pay plans is of particular interest to sponsors of ineligible plans…

Continue reading…

ARTICLE BY Alden J. Bianchi, Tyrone P. Thomas & David R. Lagasse of Mintz, Levin, Cohn, Ferris, Glovsky and Popeo, P.C.
©1994-2016 Mintz, Levin, Cohn, Ferris, Glovsky and Popeo, P.C. All Rights Reserved.

Tax Treatment of Bitcoin Has Many Open Questions

bitcoinIt has been over two years since the IRS came out with its initial position on the tax treatment of Bitcoin and other virtual currencies, but there has yet to be any follow-up on questions that this initial position has raised. The American Institute of Certified Public Accountants has written a letter to the IRS urging the Service to publish additional guidance to provide more certainty on these open issues.

IRS Notice 2014-21 stated that virtual currencies are to be treated as property, not as currency. This was potentially good news to Bitcoin investors, since it would allow them to pay the lower long-term capital gains tax rate on profits if they held the Bitcoin for over a year. On the other hand, this position was  inconvenient for consumers and merchants who use and accept virtual currencies as a means of exchange, because each transaction, no matter how small, must be reported in order to determine the amount of gain  or loss every time a consumer uses the virtual currency as a means of exchange, and every time the merchant converts the virtual currency received in a transaction into U.S. currency.

In the two years since the IRS published Notice 2014-21, this classification of virtual currencies as property rather than a currency, many other questions have been raised, but have not been addressed. The letter from the AICPA sets them out:

(1) Determining Fair Market Value of the Virtual Currency: The IRS should publish guidance on whether a taxpayer can use any published exchange rate to determine the fair market value of virtual currencies, and whether the taxpayer must use the same published exchange rate for all other transactions. The letter notes that there are  wide variance in the fair market value of Bitcoin on four Bitcoin published rates (Google, Bitcoin exchange rate, Bitstamp, CEX and Winkdex), citing an example selected at the same time, reflecting a range of value from a low of $227.84 to a high of $231.14.

(2) Expenses of Obtaining Virtual Currencies: Are the expenses to mine virtual currencies currently deductible, or are they to be added to the basis of the mined currency? This would normally be an easy call – costs would normally be added to the basis of the property that is manufactured – but the 2014 guidance intimates that this might not be the case.

(3) Tracking Basis of Virtual Currency: Because virtual currencies are treated as property, the taxpayer must track the cost of purchasing each unit acquired, in order to determine the taxable gain when it is sold (including every time a consumer uses it to purchase goods and services).  The AICPA letter says that tracking the basis for virtual currency is virtually impossible when it is used in everyday commerce, and asked for the IRS to consider alternative means to determine basis.

(4) General Transaction Rules Applicable to Property: The AICPA letter asks whether the general tax rules applicable to property (rather than currencies) would apply to virtual currencies. For example, the letter asks whether a taxpayer would be able to take advantage of the tax free like-kind exchange rules of section 1031 if one type of virtual currency is exchanged for a different type of virtual currency (for example, a Bitcoin for Ethereum exchange).

(5) Character of Virtual Currencies Held By Merchants: How should virtual currencies that are accepted by a merchant be classified for tax purposes – as a capital asset or as an ordinary income asset?

(6) Charitable Contributions: Does a contribution of virtual currencies to a charitable organization require a formal appraisal? The general rule is that if a taxpayer donates property worth more than $5,000 to a charitable organization, the taxpayer must obtain a formal appraisal to support the amount to be deducted as a charitable contribution. There is an exception, where an appraisal is not needed for the donation of securities that are traded on a published exchange. The letter asks whether the donation of virtual currency should be subject to the same exception, since they are traded on published exchanges.

(7) Is Virtual Currency a Commodity: If virtual currencies are treated as a commodity, would it be subject to the mark-to-market rules for commodity traders?

(8) How About a De Minimus Exception For Small Transactions: The letter asks the IRS for an exception to the rule requiring a taxpayer to report each virtual currency transaction as a taxable sale of property when used to make small consumer purchases.

(9) Retirement Accounts: Can virtual currencies be held as an investment in a qualified retirement plan (like a 401(k) plan)? The rules for eligible investments in such plans limit the types of property than can be held in a qualified retirement plan.

(10) Foreign Reporting Requirements: Are virtual currencies subject to Foreign Bank Account Reports (FBAR) and/or Foreign Bank Account Tax Compliance Act (FATCA) reporting?

As these issues get worked out, others are likely to arise. Until they are addressed by the IRS, the uncertainty will likely inhibit the growth of virtual currencies in the U.S. economy.

To see a copy of the AICPA letter to the IRS, please click here.

ARTICLE BY Marvin A. Kirsner of Greenberg Traurig, LLP

©2016 Greenberg Traurig, LLP. All rights reserved.

In Wake of Panama Papers Scandal Obama Calls for Stricter Bank Regulations, Tax Rules

In a news conference today President Obama addressed rules and proposed regulations announced Thursday intended to help the U.S. fight tax evasion and other crimes connected to anonymous offshore companies and accounts.  The announcements come after a month of intense review by the administration following the first release of the so-called Panama Papers, millions of documents stolen or leaked from Panamanian law firm Mossack, Fonseca.  The papers have revealed a who’s who of international politicians, business leaders, sports figures and celebrities involved with financial transactions accomplished through anonymous shell corporations.

The new regulations include a “customer due diligence” rule requiring banks, mutual funds, securities brokers and other financial institutions to determine, verify and keep records about the actual ownership of the companies with whom they do business.  The administration has also proposed regulations requiring owners of foreign-owned “single-member limited liability companies” to obtain employer identification numbers from the IRS.  In an effort to increase transparency and address “the problem of global tax avoidance,” both rules are intended to make more easily discoverable the actual ownership of offshore companies and accounts, allowing for easier investigation of suspected fraud, tax evasion and money laundering.  Currently, companies can do business in the U.S. anonymously by registering in states that do not require full disclosure of actual ownership.

The new rules create regulatory obligations for a broad array of financial institutions, and potential new obligations for off-shore investors.  A further release of Panama Papers is expected on Monday, with the identities of many U.S. companies and individuals involved in such “anonymous” shell corporations likely to be revealed, and greater scrutiny of such transactions and the financial institutions involved with them likely to follow.

Article By Raymond C. Marshall & David S. Cannon of Sheppard, Mullin, Richter & Hampton LLP

Copyright © 2016, Sheppard Mullin Richter & Hampton LLP.

The Proposed Political Subdivision Regulations: A Puzzling Reference Impacts Legal Framework of Official Legal Signals

Treasury recently issued proposed regulations that tell us whether an entity is a “political subdivision” that can issue tax-exempt bonds on its own behalf. One requirement is that an entity must serve a “governmental purpose” to be a political subdivision. The proposed regulations say that an entity is only organized for a governmental purpose if the entity operates “in a manner that provides a significant public benefit with no more than incidental benefit to private persons.” As support for this statement, the proposed regulations contain this citation: “Cf., Rev. Rul. 90–74 (1990–2 CB 34).”

This year marks the 90th anniversary of The Bluebook: A Uniform System of Citation, and last year, the 20th edition of the text was published. The Bluebook is written by law review editors at several top-tier law schools.  Depending on your perspective, it is either what it purports to be (a uniform system of citation) or a loathsome testament to the “reflex desire of every profession to convince the laity of the inscrutable rigor of its methods.”[1]  (Or both.)  There have been several pretenders to the throne, including the Maroonbook, created at the University of Chicago law school years ago, which has faded away, and the ALWD Citation Manual, created by teachers of legal writing in law school as a more user-friendly alternative. The ALWD manual has been adopted by a few jurisdictions, but the Bluebook still reigns. Each text provides for the usage of “citation signals” that introduce the citation and explain its relevance to the point that the author is making; the “Cf.” signal in the proposed political subdivision regulations is an example.

The signal “cf.” is an abbreviation for the Latin word “confer,” which translates to “compare.” It depends on which edition of The Bluebook you’re reading, but the 18th Edition (we work on a shoestring budget here at The Public Finance Tax Blog), like most modern editions, says this about the “cf.” signal: “Cited authority supports a proposition different from the main proposition but sufficiently analogous to lend support. . . The citation’s relevance will usually be clear to the reader only if it is explained.” Among the signals that an author can use to show that the cited authority supports the position the author asserts, “cf.” is the weakest.

But because the proposed political subdivision regulations offer no other support for the position that an entity cannot provide more than incidental private benefits and remain a political subdivision, one can only believe that Treasury must have meant something entirely different and that, at long last, the lowly “cf.” signal might be taking on new prominence.

And now, members of the legal citation community are scrambling to react to what could be a revolution in citation signal usage.

“Just as Darwin had his finches and Mendel had his peas, we now have these proposed regulations from Treasury,” said one editor of ALWD.  “I guess ‘cataclysm’ is probably too strong of a word to describe it,” she told The Public Finance Tax Blog. “But oh yeah, we definitely noticed.”

She told us that “we at ALWD consider ourselves more describers of ‘what is’ in legal citation practice, rather than dispensers of ‘what ought to be’ like those silverspoons over at The Bluebook.”[2]

“The fact is,” the ALWD editor continued, “the meaning of ‘cf.’ has changed many times over the years, [3] and we may be witnessing the latest evolution of the phrase here. Who says that a government agency can’t be on the cutting edge of social change in important areas like citation policy?”

“It’s certainly true that ‘cf.’ has always been the signal that gives courts and lawyers the hardest time to understand,”[4] another editor told us. “But who says that regulations – particularly tax regulations – are supposed to be easy to understand?”

Over at The Bluebook, the editors were a bit less perturbed. “Look, we make the rules here,” said one editor, swatting away a fair trade soy latte offered up by a cowering 2L line-slugger. “We are mindful of the actual – I SAID NO FOAM! GET IT RIGHT, OR WE’RE CANCELING THE 5-HOUR BLUEBOOK EXAM FOR TOMORROW – usage  of these terms, though,” she said, “and we’re obviously going to resist changing our minds based on a single usage, even if it comes from the federal government.”

“In the past, we’ve resisted changing our minds based on some of the more fatuous uses of the cf. signal,[5] so we want to wait and see whether this is some kind of joke or mistake or just a passing fad, using ‘cf.’ to introduce the sole source of authority for a proposition.” She continued, “but it appears that this might be a good-faith attempt to finally give ‘cf.’ the rightful place it deserves instead of leaving it buried at the bottom of the pile of citation signals that show support.”

“But we’ve really got our hands full with preparations for the 21st edition, and dealing with those maniacs over at Baby Blue ripping off our work to worry about this, though. And no, all you weisenheimers; cf. does not stand for ‘couldn’t find,’ and no you’re not funny.”

It’s obviously easy to criticize the furor over the potential elevation of the status of the lowly “cf.” signal to something more as a tempest in the world’s nerdiest teapot. It’s not as though these mundane citation signal questions are literally[6] a matter of life and death.[7]

Calls to Judge Richard Posner, eminent judge of the U.S. Court of Appeals for the Seventh Circuit, and a frequent critic of the inanity of the world of legal citation, were left unreturned, although I think I heard the crackling of a bonfire in the background.

Article By John W. Hutchinson of Squire Patton Boggs (US) LLP
© Copyright 2016 Squire Patton Boggs (US) LLP

[1] Richard Posner, The Bluebook Blues, 120 Yale L. J. 850, 860-61 (2011).

[2] Cf. (not really) Ian Gallacher, Cite Unseen: How Neutral Citation and America’s Law Schools Can Cure our Strange Devotion to Bibliographical Orthodoxy and the Constriction of Open and Equal Access to the Law, 70 Alb. L. Rev. 491, 500, at n. 48 (2007) (citing Alex Glashausser, Citation and Representation, 55 Vand. L. Rev. 59, 78 (2002), as “praising the ALWD Manual as a populist instrument that promulgates citation rules predicated upon a consensus among legal professionals, rather than “the judgment of student editors at elite law schools”).

[3] Ira P. Robbins, Semiotics, Analogical Legal Reasoning, and the Cf. Citation: Getting our Signals Uncrossed, 48 Duke L.J. 1043, 1050 (March 1999) (“The authors of The Bluebook altered its definition – albeit subtly – almost every time the manual was printed between 1947 and 1996.”)

[4] See A. Darby Dickerson, An Un-uniform System of Citation: Surviving with the new Bluebook (Including Compendia of State and Federal Court Rules Concerning Citation Form), 26 Stetson L. Rev. 53, 221, at n. 90 (1996) (citing Chemical Bank v. Arthur Andersen & Co., 726 F.2d 930, 938 n.14 (2d Cir. 1984); Palmigiano v. Houle, 618 F.2d 877, 881 n.5 (1st Cir. 1980); Doleman v. Muncy, 579 F.2d 1258, 1264 (4th Cir. 1978); Gates v. Henderson, 568 F.2d 830, 837-38 (2d Cir. 1977); Local 194, Retail, Wholesale & Dep’t Store Union v. Standard Brands, Inc., 540 F.2d 864, 867 n.4 (7th Cir. 1976); Givens v. United States, 644 A.2d 1373, 1376 (D.C. App. 1994) (Mack, S.J., dissenting); Connell v. Francisco, 89a P.2d 831, 838 (Wash. 1995) (Utter, J., dissenting); see also Givens, 644 A.2d at 1374 n.3 (concerning the “but cf.” signal)). Dickerson goes on: “As one reviewer observed: ‘The introductory signals approved by the Bluebook have been the source of dispositive judicial debate. A single “cf.” signal in a Supreme Court decision fostered extensive scrutiny among the circuits, and, with singular irony, the Bluebook was the source of ultimate authority in settling the legal questions raised in the cases.’ Peter Phillips, Book Note, 32 N.Y.L. SCH. L. REV. 199, 199-200 (1987) (reviewing the Fourteenth Edition) (footnotes omitted). The case at issue was Stone v. Powell, 428 U.S. 465, 494 n.36 (1976). See Phillips, supra, at 200 n.8.”

[5] See, e.g., Peter Lushing, Book Review, 67 Colum. L. Rev. 599, 601 (1967) (providing a review of The Bluebook’s Eleventh Edition) (“Use cf. when you’ve wasted your time reading the case.”); Hohri v. United States, 793 F.2d 304, 312 n.4 (D.C. Cir. 1986) (Bork, J., joined by Scalia, Starr, Silberman, & Buckley, JJ., noting that the use of the cf. signal means that the cited authority is “probably inapposite”).

[6] Oxford English Dictionary, Third Ed., Sept. 2011, item I(1)(a), (b), but not (c). (available online at http://www.oed.com/view/Entry/109061?redirectedFrom=literally).

[7] Gallacher, supra n. 2 at 536, n. 38 (“At least one capital punishment appeal appears to have been decided based on the Supreme Court’s interpretation of a bibliographical signal, “cf.,” and the signal’s meaning in the context of the prisoner’s brief. Lambrix v. Singletary, 520 U.S. 518, 528-29 (1997).”). The language from the Lambrix opinion: “And it introduced that lone citation with a “cf.”–an introductory signal which shows authority that supports the point in dictum or by analogy, not one that “controls” or “dictates” the result.” 520 U.S. at 529.

IRS Expands Ability of Safe Harbor Plan Sponsors to Make Mid-Year Changes

The Internal Revenue Service (IRS) recently issued Notice 2016-16, which provides safe harbor 401(k) plan sponsors with increased flexibility to make mid-year plan changes.  Notice 2016-16 sets forth new rules for when and how safe harbor plan sponsors may amend their plans to make mid-year changes, a process which traditionally has been subject to significant restrictions.

Background

“Safe harbor” 401(k) plans are exempt from certain nondiscrimination tests (the actual deferral percentage (ADP) and actual contribution percentage (ACP) tests) that otherwise apply to employee elective deferrals and employer matching contributions.  In return for these exemptions, safe harbor plans must meet certain requirements, including required levels of contributions, the requirement that plan sponsors provide the so-called “safe harbor notice” to participants, and the requirement that plan provisions remain in effect for a 12-month period, subject to certain limited exceptions.

Historically, the IRS has limited the types of changes that a safe harbor plan sponsor may make mid-year due to the requirement that safe harbor plan provisions remain in effect for a 12-month period.  The 401(k) regulations provide that the following mid-year changes are prohibited, unless applicable regulatory conditions are met:

  • Adoption of a short plan year or any change to the plan year

  • Adoption of safe harbor status on or after the beginning of the plan year

  • The reduction or suspension of safe harbor contributions or changes from safe harbor plan status to non-safe harbor plan status

The IRS has occasionally published exceptions to the limitations on mid-year changes.  For example, plan sponsors were permitted to make mid-year changes to cover same-sex spouses following the Supreme Court of the United States’ decision in United States v. Windsor in 2013.

Aside from these limited exceptions, safe harbor plan sponsors were generally not permitted to make mid-year changes.  This led to some difficulties for plan sponsors, particularly in situations where events outside the plan sponsor’s control might ordinarily cause a plan sponsor to want to make a mid-year plan change.

Permissible Mid-Year Changes

Notice 2016-16 clarifies that certain changes to safe harbor plans made on or after January 29, 2016, including changes that alter the content of a plan’s required safe harbor notice, do not violate the safe harbor qualification requirements simply because they occur mid-year.  A “mid-year change” for this purpose includes (1) a change that is first effective during a plan year, but not effective at the beginning of a plan year, or (2) a change that is effective retroactive to the beginning of the plan year, but adopted after the beginning of the plan year.

Mid-year changes that alter the plan’s required safe harbor notice content must meet two additional requirements:

  1. The plan sponsor must provide an updated safe harbor notice that describes the mid-year change and its effective date must be provided to each employee required to receive a safe harbor notice within a reasonable period before the effective date of the change.  The timing requirement is deemed satisfied if the notice is provided at least 30 days, and no more than 90 days, before the effective date of the change.

  2. Each employee required to be provided a safe harbor notice must also have a reasonable opportunity (including a reasonable time after receipt of the updated notice) before the effective date of the mid-year change to change the employee’s cash or deferred election.  Again, this timing requirement is deemed satisfied if the election period is at least 30 days.

Mid-year changes that do not alter the content of the required safe harbor notice do not require the issuance of a special safe harbor notice or a new election opportunity.

Prohibited Mid-Year Changes

Certain mid-year changes remain prohibited, including:

  • A mid-year change to increase the number of years of service that an employee must accrue to be vested in the employee’s account balance under a qualified automatic contribution arrangement (QACA) safe harbor plan

  • A mid-year change to reduce the number of employees eligible to receive safe harbor contributions

  • A mid-year change to the type of safe harbor plan, such as changing from a traditional 401(k) safe harbor plan to a QACA

  • A mid-year change to modify or add a matching contribution formula, or the definition of compensation used to determine matching contributions if the change increases the amount of matching contributions

  • A mid-year change to permit discretionary matching contributions

In addition, mid-year changes that are already subject to conditions under the 401(k) and 401(m) regulations (including changes to the plan year, the adoption of safe harbor status mid-plan year, and the reduction or suspension of safe harbor contributions, as described above) are still prohibited, unless applicable regulatory conditions are met.  These changes are also not subject to the special notice and election opportunity requirements.

Conclusion

Notice 2016-16 fundamentally changes the rules regarding mid-year changes to safe harbor 401(k) plans.  Prior to Notice 2016-16, mid-year changes were assumed to be impermissible, subject to the limited exceptions described above.  Going forward, however, mid-year changes that are not specifically prohibited are permitted, so long as the notice requirements, where applicable, are met, and other regulatory requirements are not violated.

Notice 2016-16 should prove particularly helpful for safe harbor plan sponsors that have struggled with the limitations imposed on safe harbor plans by the inability to make mid-year changes when non-safe harbor plans would do so (for example, if a record-keeper changes administrative procedures or other events outside the plan sponsor’s control require mid-year changes).  However, safe harbor plan sponsors wishing to make mid-year changes will still need to consult with advisors to determine whether a proposed amendment is permissible, or whether the amendment is subject to additional regulatory requirements.  In addition, plan sponsors wishing to make a mid-year change that would alter the plan’s required safe harbor notice content must assume the additional cost of issuing a special safe harbor notice and must plan ahead to make sure the supplemental notice is delivered on time.

The IRS is also requesting comment on additional guidance that may be needed with respect to mid-year changes to safe-harbor plans, and specifically as to whether additional guidance is needed to address mid-year changes relating to plan sponsors involved in mergers and acquisitions or to plans that include an eligible automatic contribution arrangement under Section 414(w) of the Internal Revenue Code.  Comments may be submitted in writing not later than April 28, 2016.

Article By Jeffrey M. Holdvogt, Stephen Pavlick, PC & Sarah G. Raaii of McDermott Will & Emery
© 2016 McDermott Will & Emery

January 2016 Tax Credits & Incentives Update

tax man liftingwiderHMB Tip of the Month:  As provided in two of the cases highlighted in this monthly update, a taxpayer that meets all of the criteria of a statutory tax credit (in which funding is available) may be successful in court when it faces a challenge to its eligibility to the credit from the jurisdiction that administers the credit.  If a taxpayer faces such a challenge and the denial of the credit is material to the taxpayer, a taxpayer should explore its options with a trusted consultant.

Recent Announcements of Credit/Incentives Applications and Packages

Massachusetts– Global business giant General Electric Co. announced January 13 that it is relocating its corporate headquarters from Connecticut to Massachusetts as part of a deal that includes a $145 million state and local tax incentive package.  GE will begin relocating its Fairfield, Connecticut, corporate headquarters to Boston this summer and expects to complete the move by 2018.

Connecticut’s Governor Malloy offered an incentive package to GE in August 2015, but it apparently was not enough to persuade the company to stay.  The move will bring 800 jobs to Boston, specifically to the Seaport District.  Massachusetts offered up to $120 million through state grants and other programs, and the city offered up to $25 million in property tax relief.

Additional incentives include $1 million in grants for workforce training; up to $5 million for an innovation center to forge connections between GE, research institutions, and the higher education community; commitment to existing local transportation improvements in the Seaport District; appointment of a joint relocation team to ease the transition for employees moving to Boston; and assistance for eligible employees looking to buy homes in Boston.

Legislative, Regulative and Gubernatorial Update

Alaska- Alaska Governor Walker released legislation (HB 246 and HB 247) on January 19 detailing his proposal to end many of the state’s oil tax credits and establish a low-interest loan program to support exploration and production.  Jerry Burnett, deputy commissioner of the Alaska Department of Revenue, said current oil prices and production levels have forced a reconsideration of how the state encourages oil industry investment. “We can end up paying 55 to 65 percent of the project during development and 85 percent of exploration [costs],” he said. “It’s a fairly generous program. It seemed like a good idea when oil was $100 a barrel.”  With oil prices currently at around $27 per barrel, the Walker administration wants to pivot away from tax credits — many of which the state repurchases from companies — and instead focus on creating a loan program to back companies developing petroleum resources.

Illinois–   Several bills were introduced in the Illinois House on January 27.

HB 4545 creates the Manufacturing Job Destination Tax Credit Act and amends the Illinois Income Tax Act. It provides for a credit of 25% of the Illinois labor expenditures made by a manufacturing company in order to foster job creation and retention in Illinois. The Department of Revenue is authorized to award a tax credit to taxpayer-employers who apply for the credit and meet the certain Illinois labor expenditure requirements. The bill sets minimum requirements and procedures for certifying a taxpayer as an “accredited manufacturer” and for awarding the credit.

HB 4544 would amend the Illinois Income Tax Act to authorize a credit to taxpayers for 10% of stipends or salaries paid to qualified college interns. The credit is limited to stipends and salaries paid to 5 interns each year, and limits total credits to $3,000 for all years combined. The bill provides that the credit may not reduce the taxpayer’s liability to less than zero and may not be carried forward or back.

Finally, HB 4546 would amend the Service Occupation Tax Act and the Retailers’ Occupation Tax Act to provide that, by March 1, 2017, and by March 1 of each year thereafter, each business located in an enterprise zone may apply with the Department of Commerce and Economic Opportunity for a rebate in an amount not to exceed 1% of the amount of tax paid by the business under the Acts during the previous calendar year for the purchase of tangible personal property from a retailer or serviceman located in Illinois. The legislation provides that the Department of Commerce and Economic Opportunity shall pay the rebates from moneys appropriated for that purpose.

Indiana– SB 125 introduced on January 5 would resurrect a program that has struggled to maintain political support since it was proposed in 2005. The bill would allow a refundable credit for qualified in-state production expenditures of at least $50,000. The program would be open to producers of films, television programs, audio recordings and music videos, advertisements, and other media for marketing or commercial use. It excludes obscene content and television coverage of news and athletic events.

For expenditures of less than $6 million, the credit would be equal to 35 percent of those expenses, or 40 percent of expenditures in an economically distressed location. For qualified production expenditures of at least $6 million, the Indiana Economic Development Corporation would be tasked with setting the credit level, which could not exceed 15 percent. Those credits would also need to be preapproved by the agency.

The bill takes a broad approach to defining expenditures but excludes wages, salaries, and benefits paid to directors, producers, screenwriters, and actors who do not live in Indiana. The program would be capped at $2.5 million annually and sunset at the end of 2019. It also includes clawback provisions preventing taxpayers from claiming unused credits and requiring them to repay any credits that have already been claimed if they fail to satisfy the bill’s conditions.

Maryland- On January 27, Maryland Governor Hogan proposed a series of education-focused legislative proposals including an education tax credit. The proposed tax credit would be provided to private citizens, businesses, and nonprofits that make donations to public and non-public schools to support basic education needs such as books, supplies, technology, academic tutoring, tuition assistance, and special needs services. The credit would also target the promotion of pre-K programs and enrollment. The credit would be awarded through the Department of Commerce with the total level of credits phased in over three years to $15 million in fiscal year 2018.

Massachusetts– On January 27, Massachusetts Governor introduced legislation (H 3978) which would restore the film tax credit to the structure when the credit was introduced in 2005 and use the revenue generated to increase the annual cap on the low-income housing tax credit by $5 million, and to phase-in over four years the use of single-factor apportionment for all corporate taxpayers who do business in more than one state.

New Jersey– Governor Christie conditionally vetoed on January 11 two Senate bills that would have renewed the recently expired film tax credit program.  The vetoed Senate bills, S 779 and S 1952, would have renewed the recently expired film tax credit program, funding the program at $60 million annually for seven years.  The film tax credit program that expired in 2015 allowed production companies to claim up to a 20 percent tax credit on expenses.

In his veto message, Christie called the bills expensive and said they offer “a dubious return for the State in the form of jobs and economic impact, and that I believe we should consider, if at all, during the upcoming budget negotiation process.”

Senate Democrats issued a joint statement claiming that Christie supports tax credits for big companies “but when it comes to an industry that helps small local businesses he looks the other way.” The senators said that by not reauthorizing the film tax credit program, Christie is starving the film industry in New Jersey and making the state uncompetitive with neighboring states.

New Jersey– L. 2016, S2880, effective 01/19/2016, provides up to $25 million in Economic Redevelopment and Growth Grant (ERG) tax credits to Rutgers, the State University of New Jersey, for eligible projects including buildings and structures, open space with improvements, and transportation facilities. The law also raises the ERG program cap from $600 million to $625 million.

New Jersey– L. 2016, S3182, effective 01/19/2016, permits a 2-year extension for a developer of a “qualified residential project” or “qualified business facility” to submit documentation to the New Jersey Economic Development Authority supporting its credit amount under the Urban Transit Hub Tax Credit program. The law also provides an additional two years for developers to submit information on the credit amount certified for any tax period, the failure of which subjects the amount to forfeiture. In addition, the law permits a one-year extension for a developer of a qualified residential project to submit documentation of having received a temporary certificate of occupancy to receive tax credits under the Economic Redevelopment and Growth Grant program. The deadline for a business to submit documentation that it met the capital investment and employment requirements under the Grow New Jersey Assistance Program (for a credit applications made before July 1, 2014), is extended to July 28, 2018.

New Jersey– L. 2016, S3232, effective 01/11/2016, allows certain businesses that have previously been approved for a grant under the Business Employment Incentive Program (BEIP) to direct the New Jersey Economic Development Authority to convert the grant to a tax credit. The law provides an alternative means to satisfy the backlog of unpaid grant obligations, approved before the phase out of the BEIP, due to fiscal constraints. Requests to convert grants to tax credits must be made within 180 days of the law’s enactment. The law also establishes a priority for issuing the tax credits favoring older outstanding grant obligations.

Virginia– The Virginia Department of Historic Resources has amended regulations 17 VAC §§ 10‐30‐10 through 10‐30‐160, effective February 10, 2016. The numerous amendments relating to the historic rehabilitation tax credit include the requirement to provide certain information on the “Evaluation of Significance” on the Historic Preservation Certification Application. The requirement for an independent audit reporting and review procedures is increased to $500,000 or greater, and for projects with rehabilitation expenses of less than $500,000 an agreed upon procedures engagement report by an independent accountant must be used. The fee structure for processing rehabilitation certification requests has been revised, and the fees charged by the Department for reviewing rehabilitation certification requests have also been increased. The entitlement to the credit has been changed from January 1, 1997 to January 1, 2003; consequently, the section on projects begun before 1997 has been updated to reflect the new 2003 date. The amendments also added or modified certain definitions.

Washington– With the backing of unions, HB 2638 was introduced on January 18 which would require Boeing to keep its in-state employment levels near a 2013 baseline for the company to claim the full value of a reduced business and occupation (B&O) tax rate and the B&O tax credit for aerospace product expenditures.

The legislation, similar to the failed HB 2147 from 2015, is a reaction to what labor and other critics say is the loss of thousands of Boeing jobs in Washington since lawmakers in 2013 extended the aerospace industry tax incentives from 2024 to 2040.

HB 2147 was reintroduced in this session, but HB 2638 is the proposal proponents intend to pursue this year. HB 2638 would set a baseline of 83,295 in-state employees, roughly the same as the company’s 2013 Washington workforce. After Boeing’s workforce falls 4,000 below that level — which has already happened — the value of the tax incentives would be cut in half. If Boeing’s workforce falls to 5,000 fewer than the baseline, the company would pay normal B&O tax rates and lose the ability to claim the tax credit.  HB 2638 is less incremental than HB 2147, which would have increased the B&O tax rate closer to normal by 2.5 percent for every 250 employees below the baseline.

Case Law

California– In a case in which Ryan U.S. Tax Services, LLC (Ryan), a tax advisory and site selection firm, challenged the validity of a regulation concerning contingent fee practitioners advising taxpayers who submit applications for the California Competes Tax Credit, the California Superior Court, Sacramento County, has said that it will grant Ryan’s petition and request for declaratory relief. Cal. Rev. & Tax. Cd. § 17059.2 and Cal. Rev. & Tax. Cd. § 23689 (sometimes hereinafter referred to as the statutes) each set forth 11 factors on which the Governor’s Office of Business and Economic Development (GO-Biz) is to allocate the credit.  GO-Biz also adopted regulations to implement the credit program, including the application process for tax credit allocation. Cal. Code Regs. 10 § 8030(b)(10) requires applicants for tax credits to provide certain information on the tax form, including the name of any consultant providing services related to the credit application, the consultant’s fee structure and cost of services, and whether payment to the consultant is influenced by whether a credit is awarded.

Moreover, Cal. Code Regs. 10 § 8030(g)(2)(H) provides that GO-Biz will evaluate any other information requested in the application, including but not limited to the reasonableness of the fee arrangement between the applicant and any consultant and it further provides that any contingent fee arrangement must result in a fee that is no more than a reasonable hourly rate for services. Ryan contended, among other things, that the regulation is inconsistent with the statutes because it expands the qualifications for tax credit applicants, that is, it adds to the exclusive list of 11 qualifying factors in the statutes a new factor, the amount of consultant fees paid by tax credit applicants. GO-Biz argued that the legislature delegated to it broad authority to fill in the details of the tax credit program, and while the statutes do not explicitly list consultant fees as a consideration, they fall within the scope of the factor that authorizes GO-Biz to consider the extent to which the anticipated tax benefit to the state exceeds the projected benefit to the taxpayer from the tax credit (Cal. Rev. & Tax. Cd. § 17059.2(a)(2)(K); Cal. Rev. & Tax. Cd. § 23689(a)(2)(K)) by ensuring that tax credits are used for job creation and are not unnecessarily diverted to unreasonable consultant fees.

The court agreed with Ryan that the regulation was invalid. Limiting consultant fees does not preserve tax credits or ensure that tax credits will be used to create new, good-paying jobs. The statutes provide the 11 factors to be used in allocating credits. The cost of a consultant’s services is a matter between the taxpayer and the consultant. Even if the statutes are construed as allowing GO-Biz to consider whether consultant fee arrangements are reasonable, the court found that the regulation’s de facto ban on contingent fee arrangements to be arbitrary and not reasonably necessary to carry out the purposes of the statutes because it effectively disqualifies businesses that have contingent fee arrangements with their consultants from receiving the credit. The court will enter judgment in the case after a formal judgment is prepared, approved, and signed. (Ryan U.S. Tax Services, LLC v. State of California, Cal. Super. Ct. (Sacramento County), Dkt. No. 34-2014-00167988, 01/07/2016.)

Kansas– The Kansas Department of Revenue ruled that a third party cannot furnish electric service or enter into a solar power purchase agreement (PPA) with a Kansas homeowner, as the Retail Electric Suppliers Act (RESA) prohibits the furnishing of electric service by any person or company other than the certified public utility for a particular territory, and so it was moot whether the charges a non-utility billed to a Kansas customer were taxable. The Department declined to speculate about the potential answer should the Kansas Legislature sometime authorize non-utilities to enter into PPAs, but the company was encouraged to resubmit the question if it is not directly answered by the legislation should such PPA agreements be legalized. (Kansas Opinion Letter No. O-2016-001, , 01/25/2016 .)

Kentucky– The U.S. District Court for the Eastern District of Kentucky has ruled that a Noah’s Ark-themed tourist attraction cannot be denied sales tax incentives by Kentucky on grounds that the project advanced religion in violation of First Amendment protection from state establishment of religion. The Court found that the religious-based theme park met the neutral criteria for the tax incentives and, therefore, the state could not deny the incentives for Establishment Clause reasons. In addition, in denying the tax incentives, the state violated the Free Exercise Clause of the First Amendment. Consequently, the Court enjoined the state of Kentucky and its Tourism, Arts, and Heritage Cabinet from applying the Tourism Development Act in a way that excludes Ark Encounter from the program based on its religious purpose and message or based on its desire to utilize any exception in Title VII of the Civil Rights Act for which it qualifies concerning the hiring of its personnel.Ark Encounter, LLC, et al. v. Parkinson, et al., U.S. Dist. Ct. (E.D. KY), Dkt. No. 15-13-GFVT, 01/25/2016.

Article By Jennifer Zimmerman of Horwood Marcus & Berk Chartered
© Horwood Marcus & Berk Chartered 2016. All Rights Reserved.

January 2016 Tax Credits & Incentives Update

tax man liftingwiderHMB Tip of the Month:  As provided in two of the cases highlighted in this monthly update, a taxpayer that meets all of the criteria of a statutory tax credit (in which funding is available) may be successful in court when it faces a challenge to its eligibility to the credit from the jurisdiction that administers the credit.  If a taxpayer faces such a challenge and the denial of the credit is material to the taxpayer, a taxpayer should explore its options with a trusted consultant.

Recent Announcements of Credit/Incentives Applications and Packages

Massachusetts– Global business giant General Electric Co. announced January 13 that it is relocating its corporate headquarters from Connecticut to Massachusetts as part of a deal that includes a $145 million state and local tax incentive package.  GE will begin relocating its Fairfield, Connecticut, corporate headquarters to Boston this summer and expects to complete the move by 2018.

Connecticut’s Governor Malloy offered an incentive package to GE in August 2015, but it apparently was not enough to persuade the company to stay.  The move will bring 800 jobs to Boston, specifically to the Seaport District.  Massachusetts offered up to $120 million through state grants and other programs, and the city offered up to $25 million in property tax relief.

Additional incentives include $1 million in grants for workforce training; up to $5 million for an innovation center to forge connections between GE, research institutions, and the higher education community; commitment to existing local transportation improvements in the Seaport District; appointment of a joint relocation team to ease the transition for employees moving to Boston; and assistance for eligible employees looking to buy homes in Boston.

Legislative, Regulative and Gubernatorial Update

Alaska- Alaska Governor Walker released legislation (HB 246 and HB 247) on January 19 detailing his proposal to end many of the state’s oil tax credits and establish a low-interest loan program to support exploration and production.  Jerry Burnett, deputy commissioner of the Alaska Department of Revenue, said current oil prices and production levels have forced a reconsideration of how the state encourages oil industry investment. “We can end up paying 55 to 65 percent of the project during development and 85 percent of exploration [costs],” he said. “It’s a fairly generous program. It seemed like a good idea when oil was $100 a barrel.”  With oil prices currently at around $27 per barrel, the Walker administration wants to pivot away from tax credits — many of which the state repurchases from companies — and instead focus on creating a loan program to back companies developing petroleum resources.

Illinois–   Several bills were introduced in the Illinois House on January 27.

HB 4545 creates the Manufacturing Job Destination Tax Credit Act and amends the Illinois Income Tax Act. It provides for a credit of 25% of the Illinois labor expenditures made by a manufacturing company in order to foster job creation and retention in Illinois. The Department of Revenue is authorized to award a tax credit to taxpayer-employers who apply for the credit and meet the certain Illinois labor expenditure requirements. The bill sets minimum requirements and procedures for certifying a taxpayer as an “accredited manufacturer” and for awarding the credit.

HB 4544 would amend the Illinois Income Tax Act to authorize a credit to taxpayers for 10% of stipends or salaries paid to qualified college interns. The credit is limited to stipends and salaries paid to 5 interns each year, and limits total credits to $3,000 for all years combined. The bill provides that the credit may not reduce the taxpayer’s liability to less than zero and may not be carried forward or back.

Finally, HB 4546 would amend the Service Occupation Tax Act and the Retailers’ Occupation Tax Act to provide that, by March 1, 2017, and by March 1 of each year thereafter, each business located in an enterprise zone may apply with the Department of Commerce and Economic Opportunity for a rebate in an amount not to exceed 1% of the amount of tax paid by the business under the Acts during the previous calendar year for the purchase of tangible personal property from a retailer or serviceman located in Illinois. The legislation provides that the Department of Commerce and Economic Opportunity shall pay the rebates from moneys appropriated for that purpose.

Indiana– SB 125 introduced on January 5 would resurrect a program that has struggled to maintain political support since it was proposed in 2005. The bill would allow a refundable credit for qualified in-state production expenditures of at least $50,000. The program would be open to producers of films, television programs, audio recordings and music videos, advertisements, and other media for marketing or commercial use. It excludes obscene content and television coverage of news and athletic events.

For expenditures of less than $6 million, the credit would be equal to 35 percent of those expenses, or 40 percent of expenditures in an economically distressed location. For qualified production expenditures of at least $6 million, the Indiana Economic Development Corporation would be tasked with setting the credit level, which could not exceed 15 percent. Those credits would also need to be preapproved by the agency.

The bill takes a broad approach to defining expenditures but excludes wages, salaries, and benefits paid to directors, producers, screenwriters, and actors who do not live in Indiana. The program would be capped at $2.5 million annually and sunset at the end of 2019. It also includes clawback provisions preventing taxpayers from claiming unused credits and requiring them to repay any credits that have already been claimed if they fail to satisfy the bill’s conditions.

Maryland- On January 27, Maryland Governor Hogan proposed a series of education-focused legislative proposals including an education tax credit. The proposed tax credit would be provided to private citizens, businesses, and nonprofits that make donations to public and non-public schools to support basic education needs such as books, supplies, technology, academic tutoring, tuition assistance, and special needs services. The credit would also target the promotion of pre-K programs and enrollment. The credit would be awarded through the Department of Commerce with the total level of credits phased in over three years to $15 million in fiscal year 2018.

Massachusetts– On January 27, Massachusetts Governor introduced legislation (H 3978) which would restore the film tax credit to the structure when the credit was introduced in 2005 and use the revenue generated to increase the annual cap on the low-income housing tax credit by $5 million, and to phase-in over four years the use of single-factor apportionment for all corporate taxpayers who do business in more than one state.

New Jersey– Governor Christie conditionally vetoed on January 11 two Senate bills that would have renewed the recently expired film tax credit program.  The vetoed Senate bills, S 779 and S 1952, would have renewed the recently expired film tax credit program, funding the program at $60 million annually for seven years.  The film tax credit program that expired in 2015 allowed production companies to claim up to a 20 percent tax credit on expenses.

In his veto message, Christie called the bills expensive and said they offer “a dubious return for the State in the form of jobs and economic impact, and that I believe we should consider, if at all, during the upcoming budget negotiation process.”

Senate Democrats issued a joint statement claiming that Christie supports tax credits for big companies “but when it comes to an industry that helps small local businesses he looks the other way.” The senators said that by not reauthorizing the film tax credit program, Christie is starving the film industry in New Jersey and making the state uncompetitive with neighboring states.

New Jersey– L. 2016, S2880, effective 01/19/2016, provides up to $25 million in Economic Redevelopment and Growth Grant (ERG) tax credits to Rutgers, the State University of New Jersey, for eligible projects including buildings and structures, open space with improvements, and transportation facilities. The law also raises the ERG program cap from $600 million to $625 million.

New Jersey– L. 2016, S3182, effective 01/19/2016, permits a 2-year extension for a developer of a “qualified residential project” or “qualified business facility” to submit documentation to the New Jersey Economic Development Authority supporting its credit amount under the Urban Transit Hub Tax Credit program. The law also provides an additional two years for developers to submit information on the credit amount certified for any tax period, the failure of which subjects the amount to forfeiture. In addition, the law permits a one-year extension for a developer of a qualified residential project to submit documentation of having received a temporary certificate of occupancy to receive tax credits under the Economic Redevelopment and Growth Grant program. The deadline for a business to submit documentation that it met the capital investment and employment requirements under the Grow New Jersey Assistance Program (for a credit applications made before July 1, 2014), is extended to July 28, 2018.

New Jersey– L. 2016, S3232, effective 01/11/2016, allows certain businesses that have previously been approved for a grant under the Business Employment Incentive Program (BEIP) to direct the New Jersey Economic Development Authority to convert the grant to a tax credit. The law provides an alternative means to satisfy the backlog of unpaid grant obligations, approved before the phase out of the BEIP, due to fiscal constraints. Requests to convert grants to tax credits must be made within 180 days of the law’s enactment. The law also establishes a priority for issuing the tax credits favoring older outstanding grant obligations.

Virginia– The Virginia Department of Historic Resources has amended regulations 17 VAC §§ 10‐30‐10 through 10‐30‐160, effective February 10, 2016. The numerous amendments relating to the historic rehabilitation tax credit include the requirement to provide certain information on the “Evaluation of Significance” on the Historic Preservation Certification Application. The requirement for an independent audit reporting and review procedures is increased to $500,000 or greater, and for projects with rehabilitation expenses of less than $500,000 an agreed upon procedures engagement report by an independent accountant must be used. The fee structure for processing rehabilitation certification requests has been revised, and the fees charged by the Department for reviewing rehabilitation certification requests have also been increased. The entitlement to the credit has been changed from January 1, 1997 to January 1, 2003; consequently, the section on projects begun before 1997 has been updated to reflect the new 2003 date. The amendments also added or modified certain definitions.

Washington– With the backing of unions, HB 2638 was introduced on January 18 which would require Boeing to keep its in-state employment levels near a 2013 baseline for the company to claim the full value of a reduced business and occupation (B&O) tax rate and the B&O tax credit for aerospace product expenditures.

The legislation, similar to the failed HB 2147 from 2015, is a reaction to what labor and other critics say is the loss of thousands of Boeing jobs in Washington since lawmakers in 2013 extended the aerospace industry tax incentives from 2024 to 2040.

HB 2147 was reintroduced in this session, but HB 2638 is the proposal proponents intend to pursue this year. HB 2638 would set a baseline of 83,295 in-state employees, roughly the same as the company’s 2013 Washington workforce. After Boeing’s workforce falls 4,000 below that level — which has already happened — the value of the tax incentives would be cut in half. If Boeing’s workforce falls to 5,000 fewer than the baseline, the company would pay normal B&O tax rates and lose the ability to claim the tax credit.  HB 2638 is less incremental than HB 2147, which would have increased the B&O tax rate closer to normal by 2.5 percent for every 250 employees below the baseline.

Case Law

California– In a case in which Ryan U.S. Tax Services, LLC (Ryan), a tax advisory and site selection firm, challenged the validity of a regulation concerning contingent fee practitioners advising taxpayers who submit applications for the California Competes Tax Credit, the California Superior Court, Sacramento County, has said that it will grant Ryan’s petition and request for declaratory relief. Cal. Rev. & Tax. Cd. § 17059.2 and Cal. Rev. & Tax. Cd. § 23689 (sometimes hereinafter referred to as the statutes) each set forth 11 factors on which the Governor’s Office of Business and Economic Development (GO-Biz) is to allocate the credit.  GO-Biz also adopted regulations to implement the credit program, including the application process for tax credit allocation. Cal. Code Regs. 10 § 8030(b)(10) requires applicants for tax credits to provide certain information on the tax form, including the name of any consultant providing services related to the credit application, the consultant’s fee structure and cost of services, and whether payment to the consultant is influenced by whether a credit is awarded.

Moreover, Cal. Code Regs. 10 § 8030(g)(2)(H) provides that GO-Biz will evaluate any other information requested in the application, including but not limited to the reasonableness of the fee arrangement between the applicant and any consultant and it further provides that any contingent fee arrangement must result in a fee that is no more than a reasonable hourly rate for services. Ryan contended, among other things, that the regulation is inconsistent with the statutes because it expands the qualifications for tax credit applicants, that is, it adds to the exclusive list of 11 qualifying factors in the statutes a new factor, the amount of consultant fees paid by tax credit applicants. GO-Biz argued that the legislature delegated to it broad authority to fill in the details of the tax credit program, and while the statutes do not explicitly list consultant fees as a consideration, they fall within the scope of the factor that authorizes GO-Biz to consider the extent to which the anticipated tax benefit to the state exceeds the projected benefit to the taxpayer from the tax credit (Cal. Rev. & Tax. Cd. § 17059.2(a)(2)(K); Cal. Rev. & Tax. Cd. § 23689(a)(2)(K)) by ensuring that tax credits are used for job creation and are not unnecessarily diverted to unreasonable consultant fees.

The court agreed with Ryan that the regulation was invalid. Limiting consultant fees does not preserve tax credits or ensure that tax credits will be used to create new, good-paying jobs. The statutes provide the 11 factors to be used in allocating credits. The cost of a consultant’s services is a matter between the taxpayer and the consultant. Even if the statutes are construed as allowing GO-Biz to consider whether consultant fee arrangements are reasonable, the court found that the regulation’s de facto ban on contingent fee arrangements to be arbitrary and not reasonably necessary to carry out the purposes of the statutes because it effectively disqualifies businesses that have contingent fee arrangements with their consultants from receiving the credit. The court will enter judgment in the case after a formal judgment is prepared, approved, and signed. (Ryan U.S. Tax Services, LLC v. State of California, Cal. Super. Ct. (Sacramento County), Dkt. No. 34-2014-00167988, 01/07/2016.)

Kansas– The Kansas Department of Revenue ruled that a third party cannot furnish electric service or enter into a solar power purchase agreement (PPA) with a Kansas homeowner, as the Retail Electric Suppliers Act (RESA) prohibits the furnishing of electric service by any person or company other than the certified public utility for a particular territory, and so it was moot whether the charges a non-utility billed to a Kansas customer were taxable. The Department declined to speculate about the potential answer should the Kansas Legislature sometime authorize non-utilities to enter into PPAs, but the company was encouraged to resubmit the question if it is not directly answered by the legislation should such PPA agreements be legalized. (Kansas Opinion Letter No. O-2016-001, , 01/25/2016 .)

Kentucky– The U.S. District Court for the Eastern District of Kentucky has ruled that a Noah’s Ark-themed tourist attraction cannot be denied sales tax incentives by Kentucky on grounds that the project advanced religion in violation of First Amendment protection from state establishment of religion. The Court found that the religious-based theme park met the neutral criteria for the tax incentives and, therefore, the state could not deny the incentives for Establishment Clause reasons. In addition, in denying the tax incentives, the state violated the Free Exercise Clause of the First Amendment. Consequently, the Court enjoined the state of Kentucky and its Tourism, Arts, and Heritage Cabinet from applying the Tourism Development Act in a way that excludes Ark Encounter from the program based on its religious purpose and message or based on its desire to utilize any exception in Title VII of the Civil Rights Act for which it qualifies concerning the hiring of its personnel.Ark Encounter, LLC, et al. v. Parkinson, et al., U.S. Dist. Ct. (E.D. KY), Dkt. No. 15-13-GFVT, 01/25/2016.

Article By Jennifer Zimmerman of Horwood Marcus & Berk Chartered
© Horwood Marcus & Berk Chartered 2016. All Rights Reserved.

Tax Talk: When Reporting Gifts at Discounted Values, a Qualified Appraisal is Crucial

A common method for transferring wealth from one generation to the next involves contributing assets to a partnership or limited liability company, then transferring minority interests in the partnership or LLC to descendants or other family members.  Done correctly, the technique allows donors to reduce their taxable estates by making gifts at reduced values, because of discounts for lack of control and lack of marketability.  In so doing, the donor also effectively shifts the tax on any appreciation of the underlying assets to the younger generation.

In order to benefit from this estate planning technique, however, it is crucial that the gift is adequately disclosed on a gift tax return and its value backed by a qualified appraisal or a detailed description of the method used to determine the fair market value of the transferred partnership or LLC interest.  Unfortunately, we have encountered situations recently in which a gift was not supported by a qualified appraisal, leading the Internal Revenue Service to challenge the value claimed by the donor and to propose additional gift tax, penalties and interest.  Such challenges can lead to significant uncertainty, stress and legal expense—even if the donor’s valuation ultimately is sustained.

This article describes what constitutes a qualified appraisal and the information that is necessary if no appraisal is provided, and offers some practical advice for donors based on our recent experiences dealing with the IRS in audits and administrative appeals involving disputed gift tax valuations.

IRS Form 709, United States Gift (and Generation-Skipping Transfer) Tax Return, requires donors to disclose whether the value of any gift reflects a valuation discount and, if so, to attach an explanation.  If the discount is for “lack of marketability, a minority interest, a fractional interest in real estate, blockage, market absorption, or for any other reason,” the explanation must show the amount of, and the basis for, the claimed discounts.  Moreover, in order for the statute of limitations to begin running with respect to a gift, the gift must be adequately disclosed on a return or statement for the year of the gift that includes all of the following:

  • A complete Form 709;

  • A description of the transferred property and the consideration, if any, received by the donor;

  • The identify of, and relationship between, the donor and each donee;

  • If the property is transferred in trust, the employer identification number of the trust and a brief description of its terms (or a copy of the trust);

  • A statement describing any position taken on the gift tax return that is contrary to any proposed, temporary or final Treasury regulations or IRS revenue rulings; and

  • Either a qualified appraisal or a detailed description of the method used to determine the fair market value of the gift.

While most of these requirements are straightforward, the last generally requires the donor to provide a more complete explanation.  Fortunately, the IRS has published regulations that describe what constitutes a qualified appraisal and what information must be provided in lieu of an appraisal.

With respect to the latter, the description of the method used to determine fair market value must include the financial data used to determine the value of the interest, any restrictions on the transferred property that were considered in determining its value, and a description of any discounts claimed in valuing the property.  If the transfer involves an interest in a non-publicly traded partnership (including an LLC), a description must be provided of any discount claimed in valuing the entity or any assets owned by the entity.  Further, if the value of the entity is based on the net value of its assets, a statement must be provided regarding the fair market value of 100% of the entity (determined without regard to any discounts in valuing the entity or any assets owned by the entity), the portion of the entity subject to the transfer, and the fair market value of the transferred interest as reported on the return.[1]

Donors and their counsel will rarely have the expertise needed to provide such a description.  While it may be relatively simple to provide some of the factual information, determining the appropriate actuarial factors and discount rates is a highly complex and specialized field.  Moreover, even if a donor or his or her counsel happened to have the relevant expertise, a description that is not prepared by an independent expert may be viewed suspiciously by the IRS because of a lack of impartiality.  Moreover, if the description (or the appraisal, for that matter) is prepared by the donor’s counsel, it may negate the attorney-client privilege, at least with respect to any work papers prepared by the attorney in connection with the description or appraisal.

For these reasons and others, we strongly recommend that donors obtain an appraisal from an independent, reputable valuation firm before claiming discounts with respect to a gift of a partnership or LLC interest.  The applicable Treasury regulations provide that the requirement described above will be satisfied if, in lieu of submitting a detailed description of the method used to determine the fair market value of the transferred interest, the donor submits an appraisal of the transferred property prepared by an appraiser who meets all of the following requirements:

  • The appraiser holds himself or herself out to the public as an appraiser or performs appraisals on a regular basis;

  • Because of the appraiser’s qualifications, as described in the appraisal that details the appraiser’s background, experience, education, and membership, if any, in professional appraisal associations, the appraiser is qualified to make appraisals of the type of property being valued; and

  • The appraiser is not the donor or the donee of the property or a member of the family of the donor or donee or any person employed by the donor, the donee or a member of the family of either.

Further, the appraisal itself must contain all of the following:

  • The date of the transfer, the date on which the transferred property was appraised, and the purpose of the appraisal;

  • A description of the property;

  • A description of the appraisal process employed;

  • A description of the assumptions, hypothetical conditions, and any limiting conditions and restrictions on the transferred property that affect the analyses, opinions and conclusions;

  • The information considered in determining the appraised value, including, in the case of an ownership interest in a business, all financial data used in determining the value of the interest that is sufficiently detailed to allow another person to replicate the process and arrive at the appraised value;

  • The appraisal procedures followed, and the reasoning that supports the analyses, opinions, and conclusions;

  • The valuation method used, the rationale for the valuation method and the procedure used in determining the fair market value of the asset transferred; and

  • The specific basis for the valuation, such as specific comparable sales or transactions, sales of similar interests, asset-based approaches, merger-acquisition transactions and the like.[2]

While there is no firm rule on when or how often appraisals must be obtained, appraisals that are more than a year old may be less reliable—particularly if there is good reason to believe that the value of the underlying assets has changed—and thus more vulnerable to challenge.

An appraisal that meets all of the requirements described above is not unassailable, of course, but if the IRS does choose to challenge a gift tax valuation that is supported by such an appraisal, the donor will be in a significantly stronger position in the resulting examination or proceeding than a donor who failed to obtain a qualified appraisal or opted to rely on a stale appraisal.

In sum, obtaining a qualified appraisal is a crucial step in any estate planning or gifting strategy that involves making gifts of assets valued at a discount.  Although donors may occasionally balk at the time and expense of preparing a reliable appraisal, it is almost certainly less time-consuming and costly than battling the IRS in an examination, administrative appeal or in litigation and should give donors confidence that their gifts are unlikely to be successfully challenged by the IRS.

Article By Ivan H. Gold of Schiff Hardin LLP
© 2015 Schiff Hardin LLP

[1] Treas. Reg. § 301.6501(c)-1(f)(2)(iv).

[2] Treas. Reg. § 301.6501(c)-1(f)(3).

In three weeks! Attend the 3rd Annual Bank & Capital Markets Tax Institute West – December 3-4 in San Diego

When: December 3-4, 2015
Where: The Westin San Diego, San Diego, California

Register today!

We are proud to announce that BTI West will be coming back for a third year! For 49 years the annual BTI East in Orlando has provided bank and tax professionals from financial institutions and accounting firms in-depth analysis and practical solutions to the most pressing issues facing the industry, and from now on professionals on the west coast can expect the same benefits on a regular basis.The tax landscape is continually changing; you need to know how these changes affect your organization and identify the most efficient and effective plan of action. At BTI West you will have access to the same exceptional content, networking opportunities and educational value that have made the annual BTI East the benchmark event for this industry.

In an industry that thrives on both coasts, we will continue to offer exceptional educational and networking opportunities to ALL of the hard-working banking and tax professionals across the country. Join us at the 2nd Annual Bank and Capital Markets Tax Institute WEST, where essential updates will be provided on key industry topics such as General Banking, Community Banking, GAAP, Tax and Regulatory Reporting, and much more.

The Bank Tax & Capital Markets Institute Conference – West will feature a full one-day program consisting of keynote presentation, deep-dive technical sessions, and peer exchange and networking time.