IRS updates FAQs on HIRE Act; provides details affidavit requirement and issues revised Form 941

The IRS has been busy issuing guidance on the provisions of the Hiring Incentives to Restore Employment (HIRE) Act, which temporarily suspends an employer’s 6.2 percent OASDI tax paid for covered employees, and also provides a new worker tax credit. The IRS has not only recently updated its online frequently asked questions (FAQs) on claiming the payroll tax forgiveness credit, the agency also issued a revised Form 941, Employer’s Quarterly Federal Tax Return, and instructions for claiming the this payroll tax exemption, applicable to qualified new hires in 2010. Further, the IRS’s updated FAQs provide more explanations of covered employees and the affidavit requirement.

Covered employees

In general, employers cannot hire a covered employee to replace another employee. The IRS’s revised instructions for Forms W-2, Wage and Tax Statement, and W-#, Transmittal of Wage and Tax Statements, provides an exception to this rule for covered employees hired to replace employees who voluntarily separated from employment or for cause (including downsizing).

Affidavit requirements

Covered employees must certify that they have been unemployed for the 60-day period immediately before beginning work or, alternatively, that they worked fewer than 40 hours for another employer during the 60-day period. The IRS issued Form W-11, Hiring Incentives to Restore Employment (HIRE) Act Employee Affidavit, in April. Thus, employees must attest to two basic statements on the Form W-11.

The IRS’s updated FAQs explain that employers must sign the affidavit before filing an employment tax return applying payroll tax forgiveness. If an employer obtains the signed affidavit from a qualified employee after paying wages to the employee, the employer can still apply the payroll tax exemption to determine its liability on these wages. Some cases, however, may require filing a corrected return for a prior quarter.

Updated Form 941

In late May, the IRS also posted a new version of Form 941, Employers Quarterly Federal Tax Return, and instructions, for claiming the payroll tax exemption. On the newly revised Form 941, employers will claim the exemption related to wages paid after March 31 on lines 6a through 6e. Employers will claim the exemption related to wages paid between March 19 and March 31 on lines 12C through 12e.

These lines ask the employer to report the number of qualified employees first paid exempt wages or tips during the quarter, the number of qualified employees who were paid exempt wages or tips during the quarter, and the amounts of wages and tips paid to qualified employees (which are multiplied by 0.062). The amounts are then subtracted from total Social Security and Medicare tax reported on line 5d.

The instructions also provide that employers cannot claim payroll tax forgiveness and the Work Opportunity Tax Credit (WOTC) for the same employee; employers must choose.

Audits of wealthy individuals trending upward, IRS Oversight Board reports

The IRS Oversight Board recently released its 2009 annual report to Congress. The report evaluates the IRS’s performance during the 2009 fiscal year (FY), enumerates strategic challenges affecting tax administration, and provides measures the agency’s performance during FY 2009. According to the Oversight Board’s report, audits of individuals with incomes above $1 million grew 29 percent in FY 2009 compared to FY 2008. However, the number of audits of wealthy individuals represented only 2.58 percent of all individual audits in FY 2009.

Audits

Individuals. In FY 2009, the IRS undertook 28,349 audits of individuals with incomes in excess of $1 million, according to the Oversight Board. In FY 2008, the number of audits of individuals with incomes above $1 million was 21,874. The difference between FY 2008 and FY 2009 represented a 29 percent increase, the Oversight Board reported.

In total, the IRS conducted 1,099,630 audits of individuals in FY 2009. The FY 2009 number of all individual audits was down slightly (-34,307) from FY 2008.

Corporations. Audits of corporations with assets of more than $10 million also grew in FY 2009 compared to FY 2008, but at a slower rate than audits of individuals. The IRS undertook 9,406 audits of corporations with assets in excess of $10 million in FY 2009. That number rose to 9,536 audits of corporations with assets above $10 million in FY 2009. The growth rate in audits of corporations with assets of $10 million or more from FY 2008 and FY 2009 was 1.4 percent.

Tax administration

The Oversight Board warned that U.S. tax administration has two systemic weaknesses: the tax gap and archaic information technology. The tax gap, which is the difference between what taxpayers owe and what they actually pay, is estimated to be approximately $290 billion. The Board cautioned that this to be “unacceptably high.”

The Oversight Board also warned that the IRS relies on outdated technology. The agency uses obsolete automated systems for key operational and financial management functions, the Oversight Board reported. According to the Oversight Board, the IRS has made little progress in correcting these two weaknesses.

However, the Oversight Board found some changes. The IRS launched a return preparer oversight initiative earlier this year, which the Board predicted would increase compliance with the tax laws. The agency also has restructured its Customer Account Data Engine (CADE).

Customer service

The Oversight Board also added its voice to the recent chorus of criticism about poor customer service at the IRS. “For the past two years, the IRS toll-free telephone service has been characterized by constant resources and growing demand; the inevitable result of these two factors has been a decline in service levels,” the Oversight Board noted.

June 2010 tax compliance calendar

As an individual or business, it is your responsibility to be aware of and to meet your tax filing/reporting deadlines. This calendar summarizes important tax reporting and filing data for individuals, businesses and other taxpayers for the month of June 2010.

June 3

Employers. Semi-weekly depositors must deposit employment taxes for payroll dates May 26-28.

June 4

Employers. Semi-weekly depositors must deposit employment taxes for payroll dates May 29-June 1.

June 9

Employers. Semi-weekly depositors must deposit employment taxes for payroll dates June 2-4.

June 10

Employees who work for tips. Employees who received $20 or more in tips during May must report them to their employer using Form 4070.

June 11

Employers. Semi-weekly depositors must deposit employment taxes for payroll dates June 5-8.

June 15

Monthly depositors. Monthly depositors must deposit employment taxes for payments in May.

June 16

Employers. Semi-weekly depositors must deposit employment taxes for payroll dates June 9-11.

June 18

Employers. Semi-weekly depositors must deposit employment taxes for payroll dates June 12-15.

June 23

Employers. Semi-weekly depositors must deposit employment taxes for payroll dates June 16-18.

June 25

Employers. Semi-weekly depositors must deposit employment taxes for payroll dates June 19-22.

June 30

Employers. Semi-weekly depositors must deposit employment taxes for payroll dates June 23-25.

IRS allows exclusion for wrongful death payment, which included payment for emotional distress

The IRS recently determined, in a private letter ruling, that a survivor could exclude from income a payment received for the wrongful death of another. The payment was intended to provide compensation for wrongful death and personal injury, including a resulting claim for emotional distress.

Background

An individual was killed in an accident. The individual’s survivor successfully brought claims for wrongful death and intentional infliction of emotional distress. The survivor was awarded compensatory damages, prejudgment interest and punitive damages.

Subsequently, a government entity passed a law to provide compensation to the survivors of all the individuals who were killed in the accident. The law was intended to provide compensation for wrongful death and physical injury, including claims for emotional distress. The law voided all prior court judgments. The original payor of the damages transferred an amount to the government entity, which, in turn, would pay the survivors and all other claimants.

The survivor took a payment from the government entity. The survivor asked the IRS if the payment would be excluded from gross income under Code Sec. 104.

Exclusion

Generally, compensatory damages received by a taxpayer on account of personal physical injury or physical sickness are excluded from gross income while damages on account of emotional distress are not. Congress amended the Code Sec. 104 exclusion in the Small Business Job Protection Act of 1996. Among other things, the 1996 Small Business Act provides that the income exclusion is generally limited to amounts received on account of personal physical injuries or physical sickness. The 1996 Small Business Act further provides that even though emotional distress is not considered a physical injury or a physical sickness, damages not in excess of the amount paid for medical care for emotional distress are excluded from income.

Proposed regs

The IRS has issued proposed regs relating to the exclusion from gross income for amounts received on account of personal physical injuries or physical sickness. The proposed regs also provide that a taxpayer may exclude damages received for emotional distress attributable to a physical injury or physical sickness. Additionally, the proposed regs eliminate the requirement that injuries or sickness be based on tort or tort-type rights.

IRS analysis

The IRS determined that the survivor’s recovery, awarded by the government entity, would be for the wrongful death of the decedent. The wrongful death recovery would be received on account of a personal injury under Code Sec. 104(a)(2). Therefore, the recovery payment would be excluded from the taxpayer’s gross income.

IRS begins 401(k) compliance check questionnaire

 401(k) plans represent the most preferred vehicle for retirement savings today - making up more than 60 percent of retirement plans, according to the IRS. However, 401(k) plans are also the most non-compliant type of retirement plan as well, according to a study by IRS Employee Plans Examinations. In light of the popularity and non-compliance of 401(k) plans, the IRS has launched a 401(k) “Compliance Check Questionnaire Project.”

The objective of the repost is to identify the areas where additional education, guidance, and outreach regarding 401(k) compliance are needed. The responses will also enable the IRS to determine where the agency needs to focus its enforcement efforts in order to address non-compliance related to the plans. Although the IRS has indicated that the questionnaire is not an audit or an investigation of the plans selected to complete the questionnaire, the agency has indicated that a plan sponsor’s failure to respond may result in further enforcement action.

Random sample

As part of the project, the IRS has randomly selected 1,200 401(k) plans from among plans that filed a Form 5500 for the 2007 plan year. These plans will receive a letter from the IRS with instructions to complete the 401(k) questionnaire using a website established for this purpose, or mailing the questionnaire back to the IRS. Recipients of the questionnaire have 90 days to complete and return the questionnaire. If a plan sponsor receives a letter to complete the questionnaire, they must follow the instructions included in the letter. Plan sponsors that wish to complete the questionnaire on-line will receive personal identification numbers and other information needed to create an on-line profile for purposes of providing the information on-line.

Categories

The questionnaire includes the following categories:

• Demographics;
• 401(k) plan participation;
• Employer and employee contributions;
• Top heavy and nondiscrimination rules;
• Distributions and plan loans;
• Other plan operations;
• Automatic contribution arrangements;
• Designated Roth features;
• IRS voluntary compliance programs; and
• Plan administration.