Posts in category: Tax, Real Estate, Private Wealth

The Employee Retention Credit (ERC) was introduced as a part of the Coronavirus Aid, Relief, and Economic Security (CARES) Act in 2020 to help businesses keep employees on their payroll during the COVID-19 pandemic. The credit was designed to provide financial relief to businesses that experienced significant declines in revenue or were forced to suspend operations due to government orders. However, the complexity of the ERC and aggressive marketing by some promoters have led to a significant number of erroneous claims being filed.

The IRS has been diligently working to identify and address these improper claims. A recent review has revealed that a substantial portion of the claims submitted show a high risk of being improper. As a result, the IRS has announced new measures to ensure compliance and protect taxpayers.

IRS’s Current Position on ERC Claims – In a recent announcement (IR-2024-169), the IRS outlined its plans to deny tens of thousands of high-risk ERC claims while resuming the processing of low-risk claims. This decision comes after months of digitizing information and analyzing data to assess the validity of over 1 million ERC claims, representing more than $86 billion.

• High-Risk Claims – The IRS has identified that between 10% and 20% of the ERC claims fall into the highest risk category. These claims exhibit clear signs of being erroneous, or even fraudulent in some cases, and fall outside the eligibility guidelines established by Congress. The IRS will be denying these high-risk claims in the coming weeks. This group includes filings with warning signals such as:
  • Claims that significantly deviate from the established eligibility criteria.
  • Claims submitted by businesses that do not meet the revenue decline or suspension of operations requirements.
  • Claims that appear to be inflated or fraudulent.
• Medium-Risk Claims – In addition to the high-risk claims, the IRS estimates that between 60% and 70% of the claims show an unacceptable level of risk. These claims will undergo additional analysis to gather more information and improve the agency’s compliance review. The goal is to speed up the resolution of valid claims while protecting against improper payments. Taxpayers with claims in this category may experience delays as the IRS conducts further investigations.
• Low-Risk Claims – Approximately 10% to 20% of the ERC claims are considered low-risk, showing no eligibility warning signs. The IRS will prioritize the processing of these claims to ensure that eligible taxpayers receive their refunds promptly. Businesses with low-risk claims can expect to see their refunds processed in the coming months, provided there are no additional issues identified during the review.

Generally, the IRS will work on the oldest claims first, but no claims received after September 14, 2023, when the IRS’s moratorium on processing claims began, will be processed at this time. The IRS has emphasized that businesses with pending ERC claims should not call the service’s toll-free numbers as information on the status of the processing of claims isn’t available to the phone assisters.

Availability of a Voluntary Withdrawal Program – The IRS has also introduced a special ERC Withdrawal Program to help businesses that may have submitted improper claims. This program allows taxpayers to withdraw their ERC claims voluntarily, avoiding future compliance issues and potential penalties. The withdrawal process is particularly beneficial for those who were pressured or misled by ERC marketers or promoters into filing ineligible claims. Who should consider withdrawal:

• Businesses with Unprocessed Claims – If your ERC claim has not yet been processed by the IRS, you can use the withdrawal program to request that the IRS not process your claim. This will prevent any future compliance issues and potential penalties.
• Businesses with Uncashed Refund Checks – If you have received an ERC refund check but have not yet cashed or deposited it, you can still withdraw your claim. The IRS will treat the claim as though it was never filed, and no interest or penalties will apply.
• Businesses with Concerns About Claim Validity – If you are concerned about the validity of your ERC claim and believe it may not meet the eligibility criteria, it is advisable to consider the withdrawal program. This will help you avoid potential audits and compliance actions by the IRS.

How to Withdraw an ERC Claim:

To take advantage of the claim withdrawal procedure, follow the special instructions provided by the IRS at IRS.gov/withdrawmyERC. Here is a summary of the steps:

• Consult with Your Payroll Company: If your professional payroll company filed your ERC claim, consult with them. Depending on how the claim was filed, the payroll company may need to submit the withdrawal request on your behalf.
• Submit a Withdrawal Request: If you filed your ERC claim yourself and have not received, cashed, or deposited a refund check, you can fax your withdrawal request to the IRS using a computer or mobile device. The IRS has set up a special fax line to receive these requests, enabling the agency to stop processing before the refund is approved.
• Mail the Withdrawal Request: If you are unable to fax your withdrawal request, you can mail it to the IRS. However, this method will take longer for the IRS to receive and process.
• Respond to Audit Notices: If you have been notified that your ERC claim is under audit, you can send the withdrawal request to the assigned examiner or respond to the audit notice if no examiner has been assigned.
• Return Uncashed Refund Checks: If you have received a refund check but have not cashed or deposited it, you can still withdraw your claim. Mail the voided check along with your withdrawal request using the instructions provided by the IRS.

The IRS’s recent actions to deny high-risk ERC claims and resume processing low-risk claims are part of a broader effort to ensure compliance and protect taxpayers. Businesses that have submitted ERC claims should carefully review their eligibility and consider the voluntary withdrawal program if they have any concerns about the validity of their claims.

It is strongly advised that all businesses exercise caution and seek professional guidance when dealing with ERC claims. The complexity of the ERC and the aggressive marketing tactics used by some promoters have led to a significant number of improper claims. By taking proactive steps, such as withdrawing questionable claims and ensuring compliance with IRS guidelines, businesses can avoid potential audits, penalties, and other compliance actions.

If you have any questions or need assistance with your ERC claim, please do not hesitate to contact our office. We are here to help you navigate this complex process and ensure that your business remains in compliance with IRS requirements.

A frequent question, and a situation where taxpayers often make tax mistakes, is whether it is better to receive a home as a gift or as an inheritance. It is generally more advantageous tax-wise to inherit a home rather than to receive it as a gift before the owner’s death. This article will explore the various tax aspects related to gifting a home, including gift tax implications, basis considerations for the recipient, and potential capital gains tax implications. Here are the key points that highlight why inheriting a home is often the better option.

RECEIVED AS A GIFT 

First let’s explore the tax ramifications of receiving a home as a gift. Gifting a home to another person is a generous act that can have significant implications for both the giver (the donor) and the recipient (the donee), especially when it comes to taxes. Most gifts of this nature are between parents and children. Understanding the tax consequences of such a gift is crucial for anyone considering this option.  

Gift Tax Implications – When a homeowner decides to gift their home to another person (whether or not related), the first tax consideration is the federal gift tax. The Internal Revenue Service (IRS) requires individuals to file a gift tax return if they give a gift exceeding the annual exclusion amount, which is $18,000 per recipient for 2024. This amount is inflation adjusted annually. Where gifts exceed the annual exclusion amount, and a home is very likely to exceed this amount, it will necessitate the filing of a Form 709 gift tax return.

It’s worth mentioning that while a gift tax return may be required, actual gift tax may not be due thanks to the lifetime gift and estate tax exemption. For 2024, this exemption is $13.61 million per individual, meaning a person can gift up to this amount over their lifetime without incurring gift tax. The value of the home will count against this lifetime exemption. 

Note: The lifetime exclusion was increased by the Tax Cuts and Jobs Act (TCJA) of 2017, which without Congressional intervention will expire after 2025, and the exclusion will get cut by about half.   

Basis Considerations for the Recipient – For tax purposes basis is the amount you subtract from the sales price (net of sales expenses) to determine the taxable profit. The tax basis of the gifted property is a critical concept for the recipient to understand. The basis of the property in the hands of the recipient is the same as it was in the hands of the donor. This is known as “carryover” or “transferred” basis. 

For example, if a parent purchases a home for $200,000 and later gifts it to their child when its fair market value (FMV) is $500,000, the child’s basis in the home would still be $200,000, not the FMV at the time of the gift. If during the parent’s time of ownership, the parent had made improvements to the home of $50,000, the parent’s “adjusted basis” at the time of the gift would be $250,000, and that would become the starting basis for the child.

If a property’s fair market value (FMV) at the date of the gift is lower than the donor’s adjusted basis, then the property’s basis for determining a loss is its FMV on that date.

This carryover basis can have significant implications if the recipient decides to sell the home. The capital gains tax will be calculated based on the difference between the sale price and the recipient’s basis. If the home has appreciated significantly since it was originally purchased by the donor, the recipient could face a substantial capital gains tax bill upon sale.

Home Sale Exclusion – Homeowners who sell their homes may qualify for a $250,000 ($500,000 for married couples if both qualify) home gain exclusion if they owned and used the residence for 2 of the prior 5 years counting back from the sale date. However, when a home is gifted that gain qualification does not automatically pass on to the gift recipient. To qualify for the exclusion the recipient would have to first meet the 2 of the prior 5 years qualifications. Thus, where the donor qualifies for home gain exclusion it may be best taxwise for the donor to sell the home, taking the gain exclusion and gift the cash proceeds net of any tax liability to the donee.  

Of course, there may be other issues that influence that decision such as the home being the family home that they want to remain in the family.  

Capital Gains Tax Implications – The capital gains tax implications for the recipient of a gifted home are directly tied to the basis of the property and the holding period of the donor. If the recipient sells the home, they will owe capital gains tax on the difference between the sale price and their basis in the home. Given the carryover basis rule, this could result in a significant tax liability if the property has appreciated since the donor originally purchased it. Capital gains are taxed at a more favorable rate if the property has been held for over a year. For gifts the holding period is the sum of the time held by the donor and the donee, sometimes referred to as a tack-on holding period.

Special Considerations – In some cases, a homeowner may transfer the title of their home but retain the right to live in it for their lifetime, establishing a de facto life estate. In such situations, the home’s value is included in the decedent’s estate upon their death, and the beneficiary’s basis would be the FMV at the date of the decedent’s death, potentially offering a step-up in basis and significantly reducing capital gains tax implications, i.e., treated as if they inherited the property.

AS AN INHERITANCE

There are significant differences between receiving a property as a gift or by inheritance.  

Basis Adjustment – When you inherit a home, your basis in the property is generally “stepped up” to the fair market value (FMV) of the property at the date of the decedent’s death. However, occasionally this could result in a “step-down” in basis where a property has declined in value. Nevertheless, this day and age, most real estate would have appreciated in value over the time the decedent owned it, and the increase in value will not be subject to capital gains tax if the property is sold shortly after inheriting it. 

For example, if a home was purchased for $100,000 and is worth $300,000 at the time of the owner’s death, the inheritor’s basis would be $300,000. If the inheritor sells the home for $300,000, there would be no capital gains tax on the sale.

In addition, the holding period for inherited property is always considered long term, meaning inherited property gain will always be taxed at the more favorable long-term capital gains rates. 

Note: The Biden administration’s 2025–2026 budget proposal would curtail the basis step-up for higher income taxpayers.  

In contrast, if a property is received as a gift before the owner’s death, the recipient’s basis in the property is the same as the giver’s basis. This means there is no step-up in basis, and the recipient could face significant capital gains tax if the property has appreciated in value, and they decide to sell it. 

Using the same facts as in the example just above, if the home was gifted and had a basis of $100,000, and the recipient later sells the home for $300,000, they would potentially face capital gains tax on the $200,000 increase in value.

Depreciation Reset – For inherited property that has been used for business or rental purposes, the accumulated depreciation is reset, allowing the new owner to start depreciation afresh on the inherited portion and since the inherited basis is FMV at the date of the decedent’s death, the prior depreciation is disregarded. This is not the case with gifted property, where the recipient takes over the giver’s depreciation schedule.

Given these points, while each situation is unique and other factors might influence the decision, from a tax perspective, inheriting a property is often more beneficial than receiving it as a gift. However, it’s important to consider the overall estate planning strategy and potential non-tax implications. 

Please contact this office for developing a strategy that is suitable for your specific circumstances.