The IRS and the Treasury intend to provide regulations that will address issues affecting foreign corporations with previously taxed earnings and profits (PTEP). The regulations are in response to changes made by the Tax Cuts and Jobs Act (TCJA) ( P.L. 115-97)

The IRS and the Treasury intend to provide regulations that will address issues affecting foreign corporations with previously taxed earnings and profits (PTEP). The regulations are in response to changes made by the Tax Cuts and Jobs Act (TCJA) ( P.L. 115-97), and are intended to include rules for:

• the maintenance of PTEP in annual accounts and within certain groups;
• the ordering of PTEP upon distribution and reclassification; and
• the adjustment required when an income inclusion exceeds a foreign corporation's earnings and profits.

The IRS and Treasury intend to withdraw 2006 proposed regulations relating to the exclusion from gross income of PTEP and associated basis adjustments ( NPRM REG-121509-00), and issue new proposed regulations under Code Sec. 959 and Code Sec. 961.

Previously Taxed Earnings and Profits
Previously taxed earnings and profits (PTEP) are a foreign corporation's earnings and profits attributable to amounts which are or have been included in a U.S. shareholder's gross income under Code Sec. 951(a) or under Code Sec. 1248(a). Under the subpart F rules, a U.S. shareholder of a controlled foreign corporation (CFC) is generally currently taxed on certain income earned by the CFC, and on certain earnings invested in U.S. property.

To prevent double taxation, Code Sec. 959 provides that earnings and profits of the foreign corporation that are attributable to the inclusion are excluded from gross income when actually distributed. An exclusion is also allowed when earnings and profits are attributable to amounts included in the U.S. shareholder’s gross income that would otherwise again be included in gross income under the rule for investment of earnings in U.S. property.

To determine the amount of an actual distribution that is not taxable because it represents previously taxed income upon an actual distribution by the CFC, the earnings distributed are treated as attributable in the following order:

• first, to retained earnings that were required in prior years to be included in income on account of investments in excess passive assets, together with the earnings in prior years that were required to be included in income on account of investments in U.S. property under Code Sec. 956, allocated to each category on a pro rata basis ( "section 959(c)(1) PTEP");
• next, to retained earnings that were required to be included in income as subpart F income ( "section 959(c)(2) PTEP"); and
• finally, to other earnings and profits ( "section 959(c)(3) E&P").

Changes made by the TCJA created the need to account for new groups of PTEP, because section 959(c)(2) PTEP may arise due to income inclusions under Code Secs. 951(a)(1)(A), 245A(e)(2), 951A(f)(1), 959(e), 964(e)(4), or 965(a), or by applying Code Sec. 965(b)(4)(A). Those different groups of PTEP may be subject to different rules under Code Secs. 960, 965(g), 245A(e)(3), and 986(c).

In addition, Proposed Reg. § 1.960-3(c) establishes, for purposes of determining the amount of foreign income taxes deemed paid, a system of accounting for PTEP in annual accounts for each separate category of income ( "section 904 category") and further segregate each annual account among 10 PTEP groups.

Annual Accounts and Groups of Previously Taxed Earnings and Profits
The new regulations are expected to provide that an annual account must be maintained and each annual PTEP account must be segregated into 16 PTEP groups in each section 904 category:

• reclassified section 965(a) PTEP;
• reclassified section 965(b) PTEP;
• section 951(a)(1)(B) PTEP;
• reclassified section 951A PTEP;
• reclassified section 245A(e)(2) PTEP;
• reclassified section 959(e) PTEP;
• reclassified section 964(e)(4) PTEP;
• reclassified section 951(a)(1)(A) PTEP;
• section 956A PTEP;
• section 965(a) PTEP;
• section 965(b) PTEP;
• section 951A PTEP;
• section 245A(e)(2) PTEP;
• section 959(e) PTEP;
• section 964(e) PTEP; and
• section 951(a)(1)(A) PTEP.

Section 959(c)(1) PTEP will consist of PTEP groups (1) through (9), and section 959(c)(2) PTEP will consist of PTEP groups (10) through (16). Once PTEP is assigned to a PTEP group within an annual PTEP account for the year of the income inclusion under Code Sec. 951(a)(1) or the year of application of Code Sec. 965(b)(4)(A), the PTEP will be maintained in an annual PTEP account with a year that corresponds to the year of the account from which the PTEP originated if PTEP is distributed or reclassified in a subsequent tax year.

Additionally, the new regulations are expected to provide that:

• to the extent a CFC has E&P in a PTEP group that is in more than one section 904 category, any distribution out of that PTEP group is made pro rata out of the earnings and profits in each such category;
• dollar basis must be tracked for each annual PTEP account, and, to the extent provided in the regulations, separately for each PTEP group within an annual account; and
• distributions from any PTEP group reduce the shareholder’s stock basis under Code Sec. 961(b)(1) without regard to how that basis was originally created.

The regulations also will provide transition rules for annual PTEP accounts maintained before the regulations’ applicability date.

Ordering of Earnings and Profits upon Distribution and Reclassification
The new regulations are expected to provide that:

• a distribution will be a distribution of PTEP only to the extent it would have otherwise been a dividend under Code Sec. 316;
• a "last in, first out" approach will be required for sourcing distributions from annual PTEP accounts, subject to the special priority rule for PTEP arising due to Code Sec. 965;
• PTEP attributable to income inclusions under Code Sec. 965(a) or by reason of Code Sec. 965(b)(4)(A) receive priority when determining the group of PTEP from which a distribution is made; and
• reclassifications of PTEP under Code Sec. 959(a)(2) will be sourced first from section 965(a) PTEP, then section 965(b) PTEP, and then, under a last-in, first-out approach, pro rata from the remaining section 959(c)(2) PTEP groups in each annual PTEP account, starting from the most recent annual PTEP account.

Adjustments Due to an Income Inclusion in Excess of Current Earnings and Profits
The new regulations are expected to provide that:

• current E&P are first classified as section 959(c)(3) E&P, and then section 959(c)(3) E&P are reclassified as section 959(c)(1) PTEP or section 959(c)(2) PTEP, as appropriate, in full, which may result in creating or increasing a deficit in section 959(c)(3) E&P; and
• if a foreign corporation has a current-year deficit in E&P, that deficit will solely reduce the foreign corporation’s section 959(c)(3) E&P without affecting the amount of its section 959(c)(1) PTEP or section 959(c)(2) PTEP.

Application
The new regulations are expected to apply to tax years of U.S. shareholders and successors in interest ending after December 14, 2018, and to tax years of foreign corporations ending with or within the U.S. shareholders’ tax years. Before the regulations are issued, a shareholder can rely on the rules provided in the announcement notice if the shareholder and each related shareholder apply the rules consistently regarding the PTEP of all foreign corporations in which they own stock for all tax years beginning with the shareholder’s or related shareholder’s tax year that includes the tax year end of any such foreign corporation to which Code Sec. 965 applies.

The IRS has proposed regulations on the limitation on the business interest expense deduction under Code Sec. 163(j), as amended by the Tax Cuts and Jobs Act (TCJA) ( P.L. 115-97). The IRS also has issued a safe harbor that allows taxpayers to treat certain infrastructure trades or businesses as real property trades or businesses solely for purposes of qualifying as an electing real property trade or business under Code Sec. 163(j)(7)(B).

The IRS has proposed regulations on the limitation on the business interest expense deduction under Code Sec. 163(j), as amended by the Tax Cuts and Jobs Act (TCJA) ( P.L. 115-97). The IRS also has issued a safe harbor that allows taxpayers to treat certain infrastructure trades or businesses as real property trades or businesses solely for purposes of qualifying as an electing real property trade or business under Code Sec. 163(j)(7)(B).

Business Interest Limitation
For tax years beginning after 2017, the deduction of interest paid or incurred on debt properly allocable to a trade or business is limited to the sum of:

30 percent of the taxpayer’s adjusted taxable income (but not less than zero);

the taxpayer’s business interest income (not including investment income); and

the taxpayer’s floor plan financing interest.

The proposed regulations provide general rules and definitions related to the limitation, as well as rules for calculating the limitation in consolidated group, partnership, and international contexts. The regulations affect taxpayers that have deductible business interest expense, other than certain small businesses, electing real property trades or businesses, electing farming businesses, and certain utility businesses. The IRS is also withdrawing a prior notice of proposed rulemaking on the disallowance of a deduction for certain interest paid or accrued by a corporation under former Code Sec. 163(j).

The proposed regulations will generally be effective for tax years ending after the date the Treasury Decision adopting them as final is published in the Federal Register. However, taxpayers can apply certain provisions to tax years beginning after December 31, 2017, so long as the rules are consistently applied.

Safe Harbor
Further, in Rev. Proc. 2018-59, a safe harbor is provided allowing taxpayers to treat certain infrastructure trades or businesses as electing real property trades or businesses not subject to the Code Sec. 163(j) business interest deduction limit. These include trades or businesses that are conducted in connection with the designing, building, managing, operating, or maintaining of certain core infrastructure projects for purposes of private activity bond financing proposals. If a taxpayer makes this election, the taxpayer must use the alternative depreciation system (ADS) to depreciate property. Taxpayers may apply the safe harbor to tax years beginning after December 31, 2017.

Comments Requested
Public comments to the proposed regulations should be submitted no later than 60 days after the date that the notice of proposed rulemaking is published in the Federal Register. Send submissions to: CC:PA:LPD:PR (REG-106089-18), Room 5203, P.O. Box 7604, Ben Franklin Station, Washington, DC 20044. Submissions may be hand-delivered Monday through Friday between the hours of 8 a.m. and 4 p.m. to CC:PA:LPD:PR (REG-106089-18), Courier's Desk, Internal Revenue Service, 1111 Constitution Avenue, NW, Washington, DC, 20224, or sent electronically, via the Federal Rulemaking Portal at http://www.regulations.gov (indicate IRS and REG-106089-18).

A public hearing has been scheduled for February 25, 2019. It will be held on February 25, 2019, beginning at 10 a.m., in the Main IRS Auditorium, Internal Revenue Building, 1111 Constitution Avenue, NW, Washington, DC 20224.

A nonprofit corporation that operated a medical-marijuana dispensary legally under California law was not allowed to claim deductions for business expenses on its federal return. Code Sec. 280E, which prevents any trade or business that consists of trafficking in controlled substances from deducting any business expenses, applied.

A nonprofit corporation that operated a medical-marijuana dispensary legally under California law was not allowed to claim deductions for business expenses on its federal return. Code Sec. 280E, which prevents any trade or business that consists of trafficking in controlled substances from deducting any business expenses, applied.

Meaning of "Consists of"
The corporation argued that a business does not "consist of" drug trafficking within the meaning of Code Sec. 280E unless its activities relate exclusively with drug trafficking (i.e., selling marijuana). Since its dispensary offered services and goods to its clients other than the sale of medical marijuana, the corporation claimed that Code Sec. 280E does not apply to any of its activities.

The court rejected this argument, noting that it had previously considered and rejected the same argument in an earlier case involving a different taxpayer ( M. Olive, Dec. 59,146, aff’d, CA-9, 2015-2 ustc ¶50,377). Although the phrase "consists of" in common usage refers to an exhaustive or exclusive list, the court noted that the corporation’s interpretation would render Code Sec. 280E ineffective. For example, a drug dealer selling a single item that was not a controlled substance would not be covered by the provision. The court found that various dictionary definitions, certain usage in other Code Sections, and case law that considered the meaning of the phrase did not require an interpretation based on exclusiveness.

Non-Trafficking Trades or Businesses
Although Code Sec. 280E applied to deductions related to the corporation’s marijuana sales, the court had previously ruled that it does not apply to any separate, non-trafficking trades or businesses ( Californians Helping to Alleviate Med. Problems, Inc. (CHAMP), Dec. 56,935). The court considered whether any of the corporation’s non-trafficking activities were separate trades or businesses. According to the corporation, non-trafficking activities consisted of sales of products with no marijuana, therapeutic services, and brand development.

The court concluded that the sale of products other marijuana than at the corporation’s dispensaries was too closely linked to the sale of the marijuana itself to constitute a separate trade or business. The products generally related to the promotion or use of marijuana and were sold by the same staff that sold the marijuana. Similarly, free "holistic" services that were paid for with approximately one percent of the proceeds from its marijuana sales were not a separate trade or business. Finally, the corporation’s brand development activity was entirely entwined with the marijuana business and could not be treated as a separate enterprise.

Cost of Goods Sold
Although the corporation was not entitled to any business deductions, it was liable for tax only on its gross receipts as reduced by cost of goods sold. For purposes of determining cost of goods sold, the court determined that the corporation could not apply Code Sec. 263A to include indirect expenses. Code Sec. 263A(a)(2) specifically prohibits the capitalization of otherwise nondeductible costs, such as drug trafficking expenses. Therefore, only direct expenses (and a few specified indirect expenses) required to be included in cost of goods sold under the general rules of Code Sec. 471 could be taken into account. For purposes of applying Code Sec. 471, the corporation was considered a reseller rather a producer because it had no ownership in the plants from which the marijuana it sold was produced.

The IRS released the optional standard mileage rates for 2019. Most taxpayers may use these rates to compute deductible costs of operating vehicles for:

The IRS released the optional standard mileage rates for 2019. Most taxpayers may use these rates to compute deductible costs of operating vehicles for:

• business,
• medical, and
• charitable purposes.

Some members of the military may also use these rates to compute their moving expense deductions.

2019 Standard Mileage Rates
The standard mileage rates for 2019 are:

• 58 cents per mile for business uses;
• 20 cents per mile for medical uses; and
• 14 cents per mile for charitable uses.

Taxpayers may use these rates, instead of their actual expenses, to calculate their deductions for business, medical or charitable use of their own vehicles.

FAVR Allowance for 2019
For purposes of the fixed and variable rate (FAVR) allowance, the maximum standard automobile cost for vehicles places in service after 2018 is:

• $50,400 for passenger automobiles, and
• $50,400 for trucks and vans.

Employers can use a FAVR allowance to reimburse employees who use their own vehicles for the employer’s business.

2019 Mileage Rate for Moving Expenses
The standard mileage rate for the moving expense deduction is 20 cents per mile. To claim this deduction, the taxpayer must be:

• a member of the Armed Forces of the United States,
• on active military duty, and
• moving under an military order and incident to a permanent change of station.

The Tax Cuts and Jobs Act of 2017 suspended the moving expense deduction for all other taxpayers until 2026.

Unreimbursed Employee Travel Expenses
For most taxpayers, the Tax Cuts and Jobs Act suspended the miscellaneous itemized deduction for unreimbursed employee travel expenses. However, certain taxpayers may still claim an above-the-line deduction for these expenses. These taxpayers include:

• members of a reserve component of the U.S. Armed Forces,
• state or local government officials paid on a fee basis, and
• performing artists with relatively low incomes.

Notice 2018-3, I.R.B. 2018-2, 285, as modified by Notice 2018-42, I.R.B. 2018-24, 750, is superseded.

The IRS has provided guidance and examples for calculating the nondeductible portion of parking expenses. In addition, the IRS has provided guidance to tax-exempt organizations to help such organizations determine how unrelated business taxable income (UBTI) will be increased by the nondeductible amount of such fringe benefit expenses paid or incurred.

The IRS has provided guidance and examples for calculating the nondeductible portion of parking expenses. In addition, the IRS has provided guidance to tax-exempt organizations to help such organizations determine how unrelated business taxable income (UBTI) will be increased by the nondeductible amount of such fringe benefit expenses paid or incurred.

The IRS also has provided transitional estimated tax penalty relief to tax-exempt organizations that offer qualified transportation fringe benefit expenses and were not required to file a Form 990-T, Exempt Organization Business Income Tax Return, last filing season.

Parking Fringe Expenses
The Tax Cuts and Jobs Act (TCJA) ( P.L. 115-97) added Code Sec. 274(a)(4) to preclude employers from deducting Code Sec. 132(f) qualified transportation fringe benefits expenses paid or incurred after December 31, 2017. Qualified transportation fringe benefits include van pools, transit passes, bicycle commuting, and qualified parking.

There are two types of calculations. The first is for cases where the employer pays a third party for the use of its parking lot for the employer’s employees. The second is for cases where the employer owns or leases the parking lot.

Employer contracts with third party. When an employer contracts with a third party for the use of the parking lot, the disallowance under Code Sec. 274(a)(4) is generally the amount that the employer pays to the third party. However, if that monthly amount exceeds $260 an employee, the employer must treat the excess as additional compensation. Thus, the monthly amount in excess of $260 is excluded from the disallowance amount.

For example, if Employer A pays $300 per month for each of the employer’s ten employees to park, $31,200 (($260 x 10) x 12) is disallowed under Code Sec. 274(a)(4). The remaining $4,800 (($40 x 10) x 12) is not subject to the Code Sec. 274(a)(4) and remains deductible.

Employer owns or leases the parking lot. According to the IRS, until it issues further guidance, employers may use any reasonable method to calculate the Code Sec. 274(a)(4) disallowance in cases where the employer owns or leases the parking lot. The IRS has provided a four-step reasonable method:

• Calculate the disallowance for reserved employee spots.
• Determine the primary use of the remaining spots (for the general public (over 50 percent) or for employees).
• Calculate the allowance for reserved nonemployee spots.
• Determine the remaining use and allocable expenses.

For example, an Employer E, owns a surface parking lot adjacent to its plant. E incurs $10,000 of total parking expenses. E’s parking lot has 500 spots that are used by its visitors and employees. E has 50 spots reserved for management and has approximately 400 employees parking in the lot in non-reserved spots during normal business hours on a typical business day. Additionally, E has 10 reserved nonemployee spots for visitors.

Step 1. Because E has 50 reserved spots for management, $1,000 ((50/500) x $10,000) is the amount of total parking expenses that is nondeductible for reserved employee spots.

Step 2. The primary use of the remainder of E’s parking lot is not to provide parking to the general public because 89% (400/450 = 89 percent) of the remaining parking spots in the lot are used by its employees. Therefore, expenses allocable to these spots are not excluded from the Code Sec. 274(a)(4)

Step 3. Because 2 percent (10/450) of E’s remaining parking lot spots are reserved nonemployee spots, the $200 allocable to those spots ($10,000 x 2 percent)) is not subject to the Code Sec. 274(a)(4) disallowance. That amount continues to be deductible.

Step 4. E must reasonably determine the employee use of the remaining parking spots during normal business hours on a typical business day and the expenses allocable to employee parking spots.

Further guidance will be issued on these and other issues in the form of proposed regulations at a later date.

Increase Unrelated Business Taxable Income
TCJA added Code Sec. 512(a)(7), which requires exempt organizations to increase UBTI by any amount for which a deduction is not allowable under Code Sec. 274 and which is paid or incurred after December 31, 2017, for any qualified transportation fringes and any parking facility used in connection with qualified parking.

The rules governing tax-exempt organizations mirror the rules for employers under Code Sec. 274(a)(4). Therefore, the expenses for a parking facility used in connection with qualified parking are treated as nondeductible qualified fringe benefit expenses. Thus, a tax-exempt organization must increase its UBTI under Code Sec. 512(a)(7) by the disallowed amount. In addition, until the IRS releases further guidance, a tax-exempt organization with only one unrelated trade or business can reduce the increase to UBTI under Code Sec. 512(a)(7) to the extent that the deductions directly connected with the carrying on of that unrelated trade or business exceed the gross income derived from such unrelated trade or business.

Estimated Tax Penalty Relief
An exempt organization may be subject to the unrelated business income tax under Code Sec. 511 at corporate rates. The organization reports its unrelated business income on Form 990-T, Exempt Organization Business Income Tax Return, if its gross income from unrelated business is $1,000 or more. Further, the organization must make quarterly estimated tax installment payments under Code Sec. 6655 if its estimated tax is expected to be $500 or more.

Code Sec. 6655 imposes an addition to tax for failure to make a sufficient and timely estimated income tax payment. To avoid the underpayment penalty, each installment generally must equal at least 25 percent of the lesser of:

• 100 percent of the tax shown on the current year's tax return or of the actual tax if no return is filed (current-year safe harbor); or
• 100 percent of the tax shown on the corporation's return for the preceding tax year, provided a positive tax liability was shown and the preceding tax year consisted of 12 months (preceding-year safe harbor).

The IRS has recognized that Code Sec. 512(a)(7) may cause some exempt organizations to owe unrelated business income tax and have to pay estimated income tax for the first time. These organizations would not be able to use the preceding-year safe harbor, and may need more time to develop knowledge and processes to comply with estimated tax payment requirements.

In light of this, the IRS is waiving the addition to tax for failure to make estimated income tax payments for an exempt organization that:

• provides qualified transportation fringes to an employee for which estimated income tax payments, affected by changes made by TCJA to Code Sec. 274 and Code Sec. 512, would otherwise be required to be made on or before December 17, 2018;
• was not required to file a Form 990-T, Exempt Organization Business Income Tax Return, for the tax year preceding the organization’s first tax year ending after December 31, 2017; and
• timely pays the amount reported for the tax year for which relief is granted.

Taxpayers that do not qualify for this relief can avoid an addition to tax for underpayment of estimated income tax if they meet one of the statutory safe harbor or exception provisions under Code Sec. 6654 or Code Sec. 6655.

To claim the waiver, the exempt organization must write "Notice 2018-100" on the top of its Form 990-T.

The IRS has released initial guidance on the new Code Sec. 83(i), added by the 2017 Tax Cuts and Jobs Act ( P.L. 115-97).

Code Sec. 83 generally provides for the federal income tax treatment of property transferred in connection with the performance of services. Code Sec. 83(i) allows certain employees to elect to defer recognition of income attributable to the receipt or vesting of qualified stock for up to five years.

The IRS has released initial guidance on the new Code Sec. 83(i), added by the 2017 Tax Cuts and Jobs Act ( P.L. 115-97).

Code Sec. 83 generally provides for the federal income tax treatment of property transferred in connection with the performance of services. Code Sec. 83(i) allows certain employees to elect to defer recognition of income attributable to the receipt or vesting of qualified stock for up to five years.

The guidance clarifies three key issues related to Code Sec. 83(i):

• the application of the requirement that eligible corporations must make grants to not less than 80 percent of all employees who provide services to the corporation in the United States;
• the application of federal income tax withholding to the deferred income related to the qualified stock; and
• the ability of an employer to opt out of permitting employees to elect the deferred tax treatment even if the requirements under Code Sec. 83(i) are otherwise met.

Code Sec. 83(i) applies to stock attributable to stock options exercised, or restricted stock units (RSUs) settled, after December 31, 2017. Further guidance will be issued on these and other issues in the form of proposed regulations at a later date.

Eligible Corporations
Companies who wish to be eligible corporations and offer the Code Sec. 83(i) election must have a written plan under which, in such calendar year, not less than 80 percent of all employees who provide services to the corporation in the United States (or any possession of the United States) are granted stock options, or are granted RSUs, with the same rights and privileges to receive qualified stock.

The IRS clarifies that the determination of whether a corporation qualifies as an eligible corporation is made "with respect to any calendar year." Furthermore, to meet the 80-percent requirement, the corporation must have granted "in such calendar year" stock options to 80 percent of its employees or RSUs to 80 percent of its employees. So the determination that the corporation is an eligible corporation must be made on a calendar-year basis, and whether the corporation has satisfied the 80-percent requirement is based solely on the stock options or the RSUs granted in that calendar year to employees who provide services to the corporation in the United States. In calculating whether the 80 percent requirement is satisfied, the corporation must take into account the total number of individuals employed at any time during the year in question as well as the total number of employees receiving grants during the year.

Employment Taxes
Employment taxes include Federal Insurance Contributions Act (FICA) taxes, Federal Unemployment Tax Act (FUTA) tax, and federal income tax withholding. FICA and FUTA taxes related to deferral stock remain unaffected.

Deferral stock are considered wages under Code Sec. 3402. When the wages are treated as paid, the employer must make a reasonable estimate of the value of the stock and make deposits of the amount of income tax withholding liability based on that estimate. The wages are subject to withholding at the maximum rate of tax, and withholding is determined without regard to the employee’s Form W-4. By January 31 of the following year, the employer must determine the actual value of the deferral stock on the date it is includible in the employee’s income, and report that amount and the withholding on Form W-2 and Form 941. With respect to income tax withholding for the deferral stock that the employer pays from its own funds, the employer may recover that income tax withholding from the employee until April 1 of the year following the calendar year in which the wages were paid. An employer that fails to deduct and withhold federal income tax is liable for the payment of the tax whether or not the employer collects it from the employee.

Not Eligible Stock
Code Sec. 83(i) imposes a number of requirements and limitations that must be met for an election to be allowed. Although the election, if allowed, may be made by an employee, the corporation is responsible for creating the conditions that would allow an employee to make the election. If a corporation does not intend to create the conditions that would allow an employee to make the election, the terms of a stock option or RSU may provide that no election under Code Sec. 83(i) will be available with respect to stock received upon the exercise of the stock option or settlement of the RSU. This designation would inform employees that no Code Sec. 83(i) election may be made with respect to stock received upon exercise of the option or settlement of the RSU, even if the stock is qualified stock.

Highly anticipated foreign tax credit regulations have been issued that provide guidance on the significant changes made to the foreign tax credit rules by the Tax Cuts and Jobs Act ( P.L. 115-97).

Highly anticipated foreign tax credit regulations have been issued that provide guidance on the significant changes made to the foreign tax credit rules by the Tax Cuts and Jobs Act ( P.L. 115-97). The proposed regulations address:

• allocation and apportionment of the deductions under Code Secs. 861 through 865, and adjustments to the foreign tax credit limitation under Code Sec. 904(b)(4);
• transition rules for overall foreign loss, separate limitation loss, and overall domestic loss accounts under Code Sec. 904(f) and (g), and for the carryover and carryback of unused foreign taxes under Code Sec. 904(c);
• addition of separate foreign tax credit limitation categories for foreign branch income and global intangible low-taxed income (GILTI), and other updates to the foreign tax credit limitation rules;
• calculation of the high-tax income exception from subpart F income;
• determination of the Code Sec. 960 deemed paid credits and the gross-up under Code Sec. 78; and
• the election under Code Sec. 965(n) not to apply the net operating loss deduction when calculating the Code Sec. 965 transition tax.

Deduction Allocation and Apportionment
The proposed regulations generally apply the existing approach of the expense allocation rules to income in the new Code Sec. 951A (GILTI) and foreign branch categories. The proposed regulations also provide for exempt income and exempt asset treatment for income in the GILTI category that is offset by the Code Sec. 250 deduction. This will reduce the amount of expenses apportioned to the GILTI category.

Rules are provided for the allocation and apportionment of the Code Sec. 250 deduction. A new rule addresses loans to partnerships by certain partners and their affiliates to prevent abusive borrowing arrangements that artificially increase foreign source income. Under the proposed regulations, interest income attributable to borrowing through a partnership is allocated across the foreign tax credit separate categories in the same manner as the associated interest expense.

The proposed allocation and apportionment regulations also revise the netting rule for controlled foreign corporations (CFCs), and provide rules for: valuing assets, characterizing stock for elections related to research and experimentation (R&E) expenses, and applying the Code Sec. 904(b)(4) adjustment.

Because the existing expense allocation rules have not been updated since 1988, the Treasury Department and IRS expect to reexamine existing approaches to allocating and apportioning expenses, including for example the rules for allocating interest, R&E expenses, stewardship and general and administrative expenses.

Limitations
The proposed regulations eliminate deadwood, and reflect statutory amendments made prior to the TCJA. New and transitional rules account for the separate categories for GILTI and foreign branch income. For example, foreign tax credit carryovers will by default remain in the general category, but taxpayers are allowed to allocate the transitional FTC carryovers to the foreign branch category. Also, the look-through rules are revised to clarify that nonpassive look-through payments cannot be assigned to a Code Sec. 951A category, and are generally assigned to the general category or the foreign branch category.

Additionally, changes are made to the rules relating to the passive category for high-taxed income, export financing income, and financial services income. Also addressed is the separate category for income resourced under a treaty, and rules for assigning the Code Sec. 78 gross-up and Code Sec. 986(c) gain or loss to a separate category.

Deemed Paid Tax Credits
The proposed regulations provide rules for determining a domestic corporation’s deemed paid taxes under Code Sec. 960, as revised by the TCJA. The proposed regulations treat a GILTI inclusion as a subpart F inclusion for purposes of Code Sec. 960(c). The proposed regulations also reflect the changes made by the TCJA to the Code Sec. 78 gross-up.

Proposed regulations provide much anticipated guidance on the base erosion and anti-abuse tax (BEAT) under Code Sec. 59A and related reporting requirements. The regulations are proposed to apply generally to tax years beginning after December 31, 2017, but taxpayers may rely on these proposed regulations until final regulations are published.

Proposed regulations provide much anticipated guidance on the base erosion and anti-abuse tax (BEAT) under Code Sec. 59A and related reporting requirements. The regulations are proposed to apply generally to tax years beginning after December 31, 2017, but taxpayers may rely on these proposed regulations until final regulations are published.

Code Sec. 59A was added by the Tax Cuts and Jobs Act (TCJA) ( P.L. 115-97) and imposes a tax on base erosion payments of taxpayers with substantial gross receipts. The tax is equal to the base erosion minimum tax amount for the tax year. The TCJA also added reporting obligations regarding the BEAT for 25-percent foreign-owned corporations subject to Code Sec. 6038A and foreign corporations subject to Code Sec. 6038C.

Proposed BEAT Rules
The proposed regulations generally provide rules for determining whether a taxpayer is an applicable taxpayer on which the BEAT may be imposed and rules for computing the taxpayer’s BEAT liability. In particular, the proposed regulations provide rules:

• for determining whether a taxpayer is an applicable taxpayer on which the BEAT may be imposed ( Proposed Reg. §1.59A-2);
• for determining the amount of base erosion payments (Proposed Reg. § 1.59A-3(b));
• for determining base erosion tax benefits arising from base erosion payments (Proposed Reg. §1.59A-3(c));
• for determining the amount of modified taxable income, which is computed in part by reference to a taxpayer’s base erosion tax benefits and base erosion percentage of any net operating loss deduction (Proposed Reg. §1.59A-4);
• for computing the base erosion minimum tax amount, which is computed by reference to modified taxable income (Proposed Reg. §1.59A-5);
• for applying the proposed regulations to partnerships (Proposed Reg. § 1.59A-7);
• that are specific to banks and registered securities dealers;
• that are specific to insurance companies;
• that disregard certain transactions having a principal purpose of avoiding Code Sec. 59A (anti-abuse rules) (Proposed Reg. § 1.59A-9);
• regarding the general application of the BEAT to consolidated groups (Proposed Reg. § 1.1502-59A);
• addressing limitations on a loss corporation’s items under Code Secs. 382 and 383 in the context of the BEAT (Proposed Reg. § 1.383-1); and
• regarding reporting and record keeping requirements under Code Sec. 6038A.

Proposed Applicability Dates
Consistent with the Code Sec. 59A applicability date, the proposed regulations (other than the proposed reporting requirements for qualified derivatives payments (QDP)) are proposed to apply to tax years beginning after December 31, 2017. However, taxpayers may rely on these proposed regulations for tax years beginning after December 31, 2017, until final regulations are published, provided the taxpayer and all related parties consistently apply the proposed regulations for all those tax years that end before the finalization date.

The proposed reporting requirements for QDPs apply to tax years beginning one year after the final regulations are published. However, the simplified QDP reporting requirements are proposed to apply to tax years beginning after December 31, 2017.

Any provision that is finalized after June 22, 2019, will apply only to tax years ending on or after the date of filing of the proposed regulations in the Federal register.

The IRS will grant automatic consent to accounting method changes to comply with new Code Sec. 451(b), as added by the Tax Cuts and Jobs Act ( P.L. 115-97). In addition, some taxpayers may make the accounting method change on their tax returns without filing a Form 3115, Application for Change in Accounting Method. These procedures generally apply to tax years beginning after December 31, 2017. Rev. Proc. 2018-31, I.R.B. 2018-22, 637, is modified.

The IRS will grant automatic consent to accounting method changes to comply with new Code Sec. 451(b), as added by the Tax Cuts and Jobs Act ( P.L. 115-97). In addition, some taxpayers may make the accounting method change on their tax returns without filing a Form 3115, Application for Change in Accounting Method. These procedures generally apply to tax years beginning after December 31, 2017. Rev. Proc. 2018-31, I.R.B. 2018-22, 637, is modified.

All Events Test
Under Code Sec. 451(b), the date that an accrual basis taxpayer takes an item into account as revenue in its applicable financial statement (AFS) is also the deadline for treating the item as satisfying the all events test. This rule also applies to any portion of an item, any other financial statement identified by the IRS, and income from a debt instrument with original issue discount (OID).

Automatic Consent
The automatic consent procedures apply to a taxpayer with an AFS that:

• wants to change to a method of accounting that complies with Code Sec. 451(b); and/or
• for the year of the change, is not adopting Financial Accounting Standards Board (FASB) and International Accounting Standards Board (IASB) financial accounting standards for revenue recognition, titled "Revenue from Contracts with Customers (Topic 606)" that were announced on May 28, 2014.

For income from a debt instrument having OID, the Code Sec. 481(a) adjustment period for the change is six tax years (year of change plus the next five tax years). However, this applies only for the taxpayer’s first tax year beginning after December 31, 2018.

The automatic consent procedures do not apply to a taxpayer that wants to make a change to a method that adopts the FASB/IASB standard, or to a special accounting method as described in Code Sec. 451(b)(2).

Streamlined Procedure
For its first tax year beginning after December 31, 2017, a qualified taxpayer can change its accounting method to comply with Code Sec. 451(b) without filing a Form 3115. An eligible taxpayer must either:

• meet the Code Sec. 448(c) gross receipts test for a small business taxpayers (i.e., taxpayer’s average annual gross receipts for the three prior tax years cannot exceed $25 million); or
• be making the change to comply with Code Sec. 451(b)(1)(A) and/or (b)(4), and the Code Sec. 481(a) adjustment for each of the changes is zero.

These streamlined procedures do not apply to a taxpayer that wants to make a change to a method that adopts the FASB/IASB standard, or to a special accounting method as described in Code Sec. 451(b)(2), or certain other concurrent accounting method changes. Tax shelters also are not eligible.

The IRS warns that consent granted under the streamlined procedures is not a determination that the new accounting method is permissible, and that taxpayers using the streamlined change method do not receive audit protection.

The IRS has issued transition relief from the "once-in-always-in" condition for excluding part-time employees under Reg. §1.403(b)-5(b)(4)(iii)(B). Under the "once-in-always-in" exclusion condition, once an employee is eligible to make elective deferrals, the employee may not be excluded from making elective deferrals in any later exclusion year on the basis that he or she is a part-time employee.

The IRS has issued transition relief from the "once-in-always-in" condition for excluding part-time employees under Reg. §1.403(b)-5(b)(4)(iii)(B). Under the "once-in-always-in" exclusion condition, once an employee is eligible to make elective deferrals, the employee may not be excluded from making elective deferrals in any later exclusion year on the basis that he or she is a part-time employee.

Part-Time Employee Exclusion Conditions Under Final 403(b) Regulations
The Department of the Treasury and the IRS issued final regulations under Code Sec. 403(b) that were generally effective starting after 2008. Part of the final regulations include Reg. §1.403(b)-5(b)(4)(iii)(B), which covers the conditions that an employer must satisfy before excluding a part-time employee from the plan. The IRS parses the regulation to impose three separate conditions for an employee to be excluded—

• a "first-year" exclusion condition, under which the employer must reasonably expect the employee to work fewer than 1,000 hours during the employee’s first year of employment;
• a "preceding-year" exclusion condition, under which the employee must have actually worked fewer than 1,000 hours in the preceding 12-month period; and
• the "once-in-always-in" exclusion condition, under which the employee may be excluded under the part-time exclusion if and only if, in the employee’s first year of employment, the employee meets the first-year exclusion condition, and, in each exclusion year ending after the first year of employment, the employee has met the preceding-year exclusion condition.

The effect of the once-in-always-in exclusion condition is that once an employee does not meet the part-time exclusion conditions, whether in the initial year of employment or for any exclusion year, the employee may no longer be excluded from making elective deferrals under the part-time exclusion.

Employers Surprised by Once-In-Always-In Condition
Employers requested transition relief because many were unaware that the part-time exclusion included the once-in-always-in exclusion condition. Many employers applied the first-year exclusion condition for an employee’s first year, and applied the preceding-year exclusion condition separately for each succeeding exclusion year, but did not apply the once-in-always-in exclusion condition to prevent an employee who failed to meet either the first-year exclusion condition or the preceding-year exclusion condition from being excluded in all subsequent exclusion years.

Transition Relief for Once-In-Always-In Condition
The IRS is providing transition relief, including—

• operations relief for a transition period referred to as the "Relief Period";
• relief regarding plan language; and
• a fresh-start opportunity after the "Relief Period" ends.

The operations "Relief Period" begins with tax years beginning after December 31, 2008. For plans with exclusion years based on plan years, the "Relief Period" ends for all employees on the last day of the last exclusion year that ends before December 31, 2019. For plans with exclusion years based on employee anniversary years, the "Relief Period" ends, with respect to any employee, on the last day of that employee’s last exclusion year that ends before December 31, 2019.

The IRS has provided interim guidance for the 2019 calendar year on income tax withholding from wages and withholding from retirement and annuity distributions. In general, certain 2018 withholding rules provided in Notice 2018-14, I.R.B. 2018-7, 353, will remain in effect for the 2019 calendar year, with one exception.

The IRS has provided interim guidance for the 2019 calendar year on income tax withholding from wages and withholding from retirement and annuity distributions. In general, certain 2018 withholding rules provided in Notice 2018-14, I.R.B. 2018-7, 353, will remain in effect for the 2019 calendar year, with one exception.

The IRS and the Treasury Department intend to develop income tax withholding regulations to reflect changes made by the Tax Cuts and Jobs Act (TCJA) ( P.L. 115-97), as well as other changes in the Code since the regulations were last amended, and certain miscellaneous changes consistent with current procedures.

Withholding Allowances
The IRS delayed the release of the 2018 Form W-4, Employee’s Withholding Allowance Certificate, in order to reflect changes made by the TCJA, such as changes in itemized deductions available, increases in the child tax credit, the new credit for other dependents, and the suspension of personal exemption deductions. Notice 2018-14 provided relief for employers and employees affected by the delay.

In June, the IRS released a draft 2019 Form W-4 and instructions, which incorporated changes that were meant to improve the accuracy of income tax withholding and make the withholding system more transparent. However, in response to stakeholders’ comments, the IRS later announced that the redesigned Form W-4 would be postponed until 2020. The IRS intends to release a 2019 Form W-4 before the end of 2018 that makes minimal changes to the 2018 Form W-4.

The 2019 Form W-4 and the computational procedures in IRS Publication 15 (Circular E), Employer’s Tax Guide, will continue to use the term "withholding allowances" and related terminology to incorporate the withholding allowance factors specified in Code Sec. 3402(f) and the additional allowance items in Code Sec. 3402(m). Until further guidance is issued, references to a "withholding exemption" in the Code Sec. 3402 regulations and guidance will be applied as if they were referring to a withholding allowance.

Changes in Status
The guidance provides that if an employee experiences a change of status on or before April 30, 2019, that reduces the number of withholding allowances to which he or she is entitled, and if that change is solely due to the changes made by the TCJA, the employee generally must furnish a new Form W-4 to the employer by May 10, 2019. However, if an employee no longer reasonably expects to be entitled to a claimed number of allowances due to a change in personal circumstances that is not solely related to TCJA changes, the employee must furnish his or her employer a new Form W-4 within 10 days after the change. Similarly, if an employee claims married filing status on Form W-4 but divorces his or her spouse, the employee must furnish the employer a new Form W-4 within 10 days after the change.

Failure to Furnish
The IRS and the Treasury Department intend to withdraw the regulations under Code Sec. 3401(e), and modify other regulations, so that an employee who fails to furnish a Form W-4 will be treated as "single" but entitled to the number of withholding allowances determined under computational procedures provided in IRS Publication 15. Until further guidance is issued, however, employees who fail to furnish a Form W-4 will be treated as single with zero withholding allowances.

Additional Allowances
Until further guidance is issued, a taxpayer may include his or her estimated Code Sec. 199A passthrough deduction in determining whether he or she can claim the additional withholding allowance under Code Sec. 3402(m) on Form W-4.

Alternative Procedure
The IRS and the Treasury Department intend to update the withholding regulations to explicitly allow employees to determine their Form W-4 entries by using the IRS withholding calculator ( www.irs.gov/W4App) or IRS Publication 505, Tax Withholding and Estimated Tax, instead of having to complete certain schedules included with the Form W-4. However, the regulations are expected to provide that an employee cannot use the withholding calculator if the calculator’s instructions state that it should not be used due to his or her individual tax situation. The employee will need to use Publication 505 instead.

Alternative Methods
The IRS and the Treasury Department intend to eliminate the combined income tax withholding and employee FICA tax withholding tables under Reg. §31.3402(h)(4)-1(b), due to this alternative procedure’s unintended complexity and burden.

Lock-In Letters
The IRS may issue a "lock-in letter" to an employer, which sets the maximum number of withholding allowances an employee may claim. If the employer no longer employs the employee, the employer must send a written response to the IRS office designated in the lock-in letter that the employee is not employed by the employer. The IRS and the Treasury Department intend to eliminate the written response requirement. Pending further guidance, employers should not send a written response to the IRS under Reg. §31.3402(f)(2)-1(g)(2)(iv).

Pension, Annuity Payments
The payor of certain periodic payments for pensions, annuities, and other deferred income generally must withhold tax from the payments as if they were wages, unless the individual payee elects not to have withholding apply. Before 2018, if a withholding certificate was not furnished to the payor, the withholding rate was determined by treating the payee as a married individual claiming three withholding exemptions. The TCJA amended this rule so that the rate "shall be determined under rules prescribed by the Secretary." The IRS has determined that, for 2019, withholding on periodic payments when no withholding certificate is in effect continues to be based on treating the payee as a married individual claiming three withholding allowances.

Comments Requested
The IRS and the Treasury Department request comments on both the interim guidance and the guidance that should be provided in regulations. Comments must be received by January 25, 2019. Comments should be submitted to: CC:PA:LPD:PR (Notice 2018-92), Room 5203, Internal Revenue Service, P.O. Box 7604, Ben Franklin Station, Washington, D.C., 20044. Submissions may be hand-delivered Monday through Friday between the hours of 8 a.m. and 4 p.m. to CC:PA:LPD:PR (Notice 2018-92), Courier’s Desk, Internal Revenue Service, 1111 Constitution Avenue, N.W., Washington, D.C., 20224. Alternatively, taxpayers may submit comments electronically to Notice.comments@irscounsel.treas.gov (include "Notice 2018-92" in the subject line of any electronic submission).

During economic downturns, many people often look for ways to supplement their regular employment compensation. Or, you may be engaging in an activity - such as gambling or selling items on an online auction - that is actually earning you income: taxable income. Many individuals may not understand the tax consequences of, and reporting requirements for, earning these types of miscellaneous income. This article discusses how you report certain types of miscellaneous income.

Reporting your miscellaneous taxable income

For most people, gambling winnings and hobby income are uncommon types of taxable income. Gambling winnings and hobby income, as well as prizes and awards, represent "miscellaneous income" and are reported on Line 21 of your Form 1040 as "other income."

Hobby income

Hobbies are generally considered under the tax law as activities that are not pursued "for profit." However, the tax law provides that if your hobby shows a profit in at least three of the last five tax years, including the current year, you are assumed to be trying to make money. However, you can rebut the assumption -- that you are not out to run a profitable business even if you regularly have losses -- with evidence to the contrary. Just because you love what you are doing in a sideline business does not mean it's a hobby for tax law purposes. In fact, one secret to business success is often enjoying your work. Profits you receive from an activity that is a hobby and not a for-profit business are reported as "other income" on Line 21 of your Form 1040.

Hobby losses and expenses

You cannot deduct your hobby expenses in excess of income you derived from the hobby, and you can only deduct qualifying expenses if you itemize your deductions. Expenses that you incurred in generating hobby income are generally deductible as miscellaneous itemized deductions, subject to the two-percent floor, on Schedule A. If you incurred losses in connection with your hobby activities, you may generally be able to deduct these "hobby losses" but only to the extent of income produced by the activity.

However, some expenses that are deductible whether or not they are incurred in connection with a hobby (such as taxes, interest and casualty losses) are deductible even if they exceed hobby income. These expenses, however, will reduce the amount of your hobby income against which your hobby expenses can be offset. Your hobby expenses then offset the reduced income in the following order:

1. Operating expenses, generally;

2. Depreciation and other basis adjustment items.

As mentioned above, your itemized deduction for hobby expenses is subject to the two-percent floor on miscellaneous itemized deductions.

Gambling winnings

Gambling winnings, whether legal or illegal, are included in your gross income. If you have winnings from a lottery, raffle, or other types of gambling activities, you must report the full amount of your winnings on Line 21 of your Form 1040 as "other income." The taxable gains are the amount by which your winnings exceed the amount you wagered. If any taxes were withheld from your winnings, you should receive a Form W-2G showing the total paid to you in Box 1, and the amount of income taxes withheld in Box 2. You need to include the amount in Box 2 in the amount of taxes paid on Line 59 of your 1040.

Gambling losses

You can deduct your gambling losses as an itemized deduction for the year on Schedule A (Form 1040), line 28. However, you cannot deduct gambling losses that exceed your winnings. Thus, you can deduct losses from gambling up to the amount of your gambling winnings. You cannot reduce your gambling winnings by your gambling losses and report the difference. You must report the full amount of your winnings as income and claim your losses (up to the amount of winnings) as an itemized deduction. Therefore, your records should show your winnings separately from your losses.

You can reduce your gambling winnings by your wagering losses regardless of whether the underlying transactions are legal or illegal. Moreover, gambling losses may be offset against all gains arising out of wagering transactions, and not merely against gambling winnings. However, gambling losses can only be used to offset gambling gains during the same year.

Moreover, you cannot use your gambling losses to reduce taxable income from non-gambling sources, and they cannot be used as a carryover or carryback to reduce gambling income from other years. For example, the value of complimentary goods you might receive from a casino as an inducement to gamble are gains from which gambling losses can be deducted.

Casinos, lotteries and other payers of gambling winnings of $600 or more ($1,200 for bingo or slot machines and $1,500 for keno) report the winnings on Form W-2G, Certain Gambling Winnings.

If you have any questions about tax and reporting requirements in connection with hobby activities and other sources of income, please call our office.

The saver's credit is a retirement savings tax credit that can save eligible individuals up to $1,000 in taxes just for contributing up to $2,000 to their retirement account. The saver's credit is an additional tax benefit on top of any other benefits available for your retirement contribution. It is a nonrefundable personal credit. Therefore, like other nonrefundable credits, it can be claimed against your combined regular tax liability and alternative minimum tax (AMT) liability.

Who qualifies for the saver's credit

To qualify for the credit, you must be 18 years old (as of the close of the tax year of the contribution), not a full-time student, and not claimed as a dependent on another's return. The calculation of the credit amount depends on a percentage of your adjusted gross income (AGI).

The credit can be claimed for contributions or deferrals made to a number of retirement plans, including: traditional and Roth IRAs (other then rollover contributions), voluntary "after-tax" employee contributions to Section 403(b) annuities and qualified retirement plans, qualified cash or deferred arrangements, including elective contributions made to 401(k) plans, tax sheltered annuities, SIMPLE plans, simplified employee pensions (SEPs), and eligible deferred compensation plans of governmental employers.

Determining your credit amount

IRS Form 8880, Credit for Qualified Retirement Savings Contributions, is used to calculate the amount of the saver's credit, which is then reported on Line 51 of Form 1040. The credit is determined as a percentage of your "qualifying contribution." A taxpayer's qualifying contribution is limited to $2,000 per year. The percent varies depending on your adjusted gross income (AGI).

For 2009, the credit is 50 percent of the maximum $2,000 ceiling for married couples filing jointly with a combined AGI of $33,000 or less. For example, if each spouse makes the maximum $2,000 contribution for the credit, for a total of $4,000, they can claim a total saver's credit of $2,000 ($4,000 x 50 percent) on their joint return). If AGI for 2009 is above $33,000 but not over $36,000, the credit is 20 percent of qualifying contributions ($800 in the above example: $4,000 x 20 percent). If AGI for 2009 is above $36,000 but not over $55,500, the credit is 10 percent of qualifying contributions.

For single taxpayers, if AGI for 2009 is $16,500 or less, the percentage is 50 percent. If AGI for 2009 is above $16,500 but not over $18,000, the credit is 20 percent of qualifying contributions. If AGI for 2009 is above $18,000 but not over $27,750, the credit is 10 percent of qualifying contributions. For 2009, the credit is phased out when AGI exceeds $55,000 for joint return filers, $41,625 for heads of households, and $27,750 for single and married filing separately.

Contribution reductions

The amount of contributions to be taken into account in determining the credit, however, must be reduced by any distributions from such qualified retirement plans over a "test period." The test period includes the current tax year, two preceding tax years, and the following tax year up to the due date of the return including extensions. A qualifying contribution is also reduced by nontaxable distributions received from Roth IRAs during the testing period (unless you roll them over). The contribution reduction rule even applies to "special" distributions, such as those taken to pay first-time homebuyer expenses or higher education costs.

Exceptions apply for certain distributions, such as trustee-to-trustee transfers or rollover distributions to other qualified retirement accounts (for example, a rollover from a traditional IRA to a Roth IRA).

Example. Jenny contributes $2,500 to her 401(k) during Year 4, but took a $1,000 taxable IRA withdrawal during Year 2. Her qualifying contribution for purposes of computing her saver's credit for Year 4 is $1,500 ($2,500-$1,000).

The saver's credit is available in addition to other benefits you receive contributing to a retirement plan. For example, if you make a $1,000 deductible contribution to a traditional IRA, you may also qualify to take the saver's credit for that contribution. In fact, since your deduction for the IRA contribution reduces AGI, you may even qualify for a higher credit percentage.

A consequence of the economic downturn for many investors has been significant losses on their investments in retirement accounts, including traditional and Roth individual retirement accounts (IRAs). This article discusses when and how taxpayers can deduct losses suffered in Roth IRAs and traditional IRAs ...and when no deduction will be allowed.

Traditional IRAs

Losses on investments held in a traditional IRA, funded only by contributions that you deducted when you made them, are never deductible. Even when you cash out the IRA after retirement, losses cannot be deducted. The theory behind this rule is that you already received a tax benefit in your deduction for making contributions and any loss lowers the amount of taxable income you must realize when you make retirement withdrawals. The technical explanation is that you are presumed to have a zero basis in your account.

On the other hand, if you make nondeductible traditional IRA contributions, and liquidate all of the investments in your traditional IRA, a loss can be recognized if the amounts distributed are less than the remaining unrecovered basis in the traditional IRA. You claim a loss in a traditional IRA on Schedule A, Form 1040, as a miscellaneous itemized deduction subject to the two percent AGI floor.

Example. During 2008, you made $2,000 in nondeductible contributions to a traditional IRA. Your basis in the IRA at the end of 2008 is $2,000. During 2008, the IRA earned $400 in dividend income and you withdrew $600 from the account. As a result, at the end of 2008 the value of your IRA was $1,800 ($2,000 contributed plus $400 dividends minus $600 withdrawal). You compute and report the taxable portion of your $600 withdrawal and your remaining basis on Form 8606, Nondeductible IRA.

In 2009, the year you retired, your IRA lost $500 in value. At the end of 2009, your IRA balance was $1,300 ($1,800 balance at the end of 2008 minus the $500 loss). Your remaining basis at that time in your IRA is $1,500 ($2,000 nondeductible contributions minus the $500 basis in the prior withdrawal). You withdraw the $1,300 balance remaining in the IRA. You can claim a loss of $200 (your $1,500 basis minus the $1,300 withdrawn) on Form 1040, Schedule A. The allowable loss is further subject to the two percent adjusted gross income (AGI) floor on miscellaneous itemized deductions.

If you made significant nondeductible contributions to an IRA over the last few years, and may be considering withdrawing the entire balance in all of your traditional IRAs before the end of the year in order to recognize a loss, keep in mind doing so will mean losing the opportunity to defer gain if the value of your investments in the accounts increases. Those withdrawn amounts cannot be recontributed at a later date.

Roth IRA losses

When you experience losses on Roth IRA investments, you can only recognize the loss for income tax purposes, if and when all the amounts in the Roth IRA accounts have been distributed and the total distributions are less than your basis (e.g. regular and conversion contributions).

To report a loss in a Roth IRA, all the investments held in your Roth IRA (but not traditional IRAs) must be liquidated. Moreover, the loss is an ordinary loss for income tax purposes, not a capital loss, and can only be claimed as a miscellaneous itemized deduction subject to the two percent of AGI floor that applies to miscellaneous itemized deductions on Form 1040, Schedule A.

Since all Roth IRAs must be completely liquidated to generate a loss deduction, it generally provides only a small comfort to investments gone sour. Closing all your Roth IRAs generally forgoes future appreciation on that amount.

You may have done some spring cleaning and found that you have a lot of clothes that you no longer wear or want, and would like to donate to charity. Used clothing that you want to donate to charity and take a charitable deduction for, however, is subject to a few rules and requirements.

Under IRS guidelines, clothing, furniture, and other household items must be in good used condition or better, to be deductible. Shirts with stains or pants with frayed hems just won't cut it. Furthermore, if the item(s) of used clothing are not in good used condition or better, and you wish to deduct more than $500 for a single piece of clothing, the IRS requires a professional appraisal.

For donations of less than $250, you must obtain a receipt from the charity, reflecting the donor's name, date and location of the contribution, and a reasonably detailed description of the donation. It is your responsibility to obtain this written acknowledgement of your donation.

Used clothing contributions worth more than $500

If you are deducting more than $500 with respect to one piece of used clothing you donate, you must file Form 8283, Noncash Charitable Contributions, with the IRS. For donated items of used clothing worth more than $500 each, you must attach a qualified appraisal report is to your tax return. The Form 8283 asks you to include information such as the date you acquired the item(s) and how you acquired the item(s) (for example, were the clothes a holiday gift or did you buy the items at the store).

Determining the fair market value of used clothing

You may also need to include the method you used to determine the value of the used clothing. According to the IRS, the valuation of used clothing does not necessarily lend itself to the use of fixed formulas or methods. Typically, the value of used clothing that you donate, is going to be much less than you when first paid for the item. A rule of thumb, is that for items such as used clothing, fair market value is generally the price at which buyers of used items pay for used clothing in consignment or thrift stores, such as the Salvation Army.

To substantiate your deduction, ask for a receipt from the donor that attests to the fact that the clothing you donated with in good, used condition, or better. Moreover, you may want to take pictures of the clothing.

If you need have questions about valuing and substantiating your charitable donations, please contact our office.

Employers commonly use per-diem allowance arrangements to reimburse employees for business expenses incurred while traveling away from home on business. Each year, the IRS publishes per-diem rates for travel within the continental U.S. The per-diem rates for meals, lodging and incidental expenses can be used instead of using your actual expenses. There are two approved methods for substantiating your per-diem expenses, including the "high-low" method (found in IRS Publication 1542). This article is intended to help you calculate your per-diem travel expenses under the "high-low" method.

What is required under a per-diem plan?

Per diems require only that your employee substantiate the time, place, and business purpose of these expenses. When you use the "high-low" method for calculating the per-diem rate allowance, your expenses under this method will be deemed substantiated as long as it does not exceed IRS-established federal per diem rates for two categories:

1. Lodging; and

2. Meals.

The federal per-diem rates for these two categories are listed in IRS Publication 1542.

The high-low method

As mentioned, one of the two approved methods for using the per-diem rates is the "high-low" method. The high-low method is a simplified method for figuring your lodging, meals and incidental expenses. This method requires employers to use only two per-diem rates to reimburse employee travel expenses--one for high-cost locations and one for low-cost locations. For 2009, the per-diem rate for travel to a "high-cost" locality is $296 ($198 for lodging and $58 for meals and incidental expenses). The 2009 per-diem rate for travel to "low-cost" areas is $158 ($113 for lodging and $45 for meals and incidental expenses).

Under the high-low method, there are a significant number of localities (published n Publication 1542) that qualify for a "high" 2009 per diem rate of $296. Any locality not listed as "high" is automatically considered "low cost" and qualifies for a per diem rate of $158. The federal per-diem rates are deemed substantiated as long as they do not exceed the high or low cost set by the IRS for the area.

While the past year has not been stellar for most investors, the tax law in many instances can step in to help salvage some of your losses by offsetting both present and future taxable gains and other income. Knowing how net capital gains and losses are computed, and how carryover capital losses may be used to maximum tax advantage, should form an important part of an investor's portfolio management program during these challenging times.

Net capital losses

Capital assets yield short-term gains or losses if the holding period is one year or less, and long-term gains or losses if the holding period exceeds one year. The excess of net long-term gains over net short-term losses is net capital gain.

Short-term capital losses, including short-term capital loss carryovers, are applied first against short-term capital gains. If the losses exceed the gains the net short-term capital loss is applied first against any net long-term capital gain from the 28-percent group (collectibles), then against the 25-percent group (recapture property), and last against the 15- (or zero) percent group. Long-term capital losses are similarly netted and then applied against the most highly taxed net gains that a taxpayer has.

If an investor's capital losses exceed capital gains for the year, he or she may offset losses against ordinary income to the extent of the lesser of: the excess capital loss; or $3,000 ($1,500 for married persons filing separate returns). Although several bills have been introduced to raise these dollar levels, which have not been adjusted for inflation for decades, none has yet to see the light of day.

Carryovers

Individuals may carry net capital losses to future tax years but not back to prior years. There is no limit on the number of years to which net capital losses may be carried over as there is with corporate taxpayers. Short-term and long-term capital losses are carried forward and retain their character. Capital loss carryovers that originate in several years are applied in the order in which incurred.

Dividend offsets. While qualified dividends are taxed at the net capital gains rate, they do not take part in the general computation of net capital gains and, therefore, are not reduced by capital losses, either in the same year or in carried forward years. Although your overall portfolio may have experienced a loss for the year, you must still pay tax on your dividend income.

If you need any advice on how to structure your portfolio over the next year to take advantage of current losses while protecting future gains from as much income tax as possible, please do not hesitate to call this office.