This installment of Tax Help Desk features a selection of situations and solutions that appeared in the inbox this spring.
Q-1: One of the issues that the Tax Help Desk has seen is the US taxpayer—the US citizen or resident alien filing the regular Form 1040—who receives some income from a foreign source. This income may be a pension or some social security from a foreign country that the taxpayer used to work in years ago.
What do they do now? Is it taxable here in the US on the taxpayer’s Form 1040? What about the foreign taxes paid or withheld?
A-1: The taxpayer that we are speaking of is not currently travelling in, or working in, the foreign country—so the use of the Form 2555, and the foreign earned income exclusion, under IRC Sec 911 do NOT work.
The taxpayer is a US citizen or resident alien with a green card or a travel visa, and sometimes they are taxed on their “worldwide income” under IRC Sec 1, and regulation 1.1-1(b) and regulation 1.1-1(c). This leaves the taxpayer with some hope under the tax treaty and the use of Form 8833. This is when we look to the tax treaty that the IRS has with the foreign country for some exception to the taxation of the income in BOTH countries.
If this tax position does not work, then we as tax practitioners would look to IRC Sec 901, Form 1116 and the foreign tax credit to eliminate the tax effect of double taxation. Either way we need to be aware of the existence of income from foreign sources and the possibility that the taxpayer is being subject to tax twice on the same income.
Q-2:A never-ending issue is the tax effect of debt cancellation income. This may take the form of a cancellation of a debt, the forgiveness of a loan, the loss of property through a foreclosure where there is “recourse” debt, or maybe the taxpayer negotiated a reduction in their student loan or their credit card. The taxpayer will bring us a Form 1099-C, or maybe a Form 1099-A, or maybe just some paperwork where their taxpayer’s mortgage was reduced or a loan or debt was renegotiated. In any of the situations mentioned above, the issue we face as the tax preparer is how we might be able to eliminate or reduce the tax effect of COD income.
A-2: The key that we have to battle the Form 1099-C and COD income is IRC Sec 108 and the various provisions under this code section that allow us to exclude from income the debt cancellation income. The provisions of IRC Sec 108 contain a laundry list of conditions which (if the taxpayer is covered under, involved in, or otherwise qualifies for) can eliminate the inclusion of this debt relief in income.
The taxpayer needs to qualify for or be covered under the provisions of the bankruptcy code, be insolvent, have qualified “farm” debt, have what is defined as “qualified real property business indebtedness”, be eligible under rules covering a mortgage secured by the taxpayers’ principal residence, have “eligible” student loan forgiveness, or some changes in 2018 due to death.
So the bottom line here is that the debt forgiveness must be tied to some event, some circumstance identified in the IRC that qualifies the COD income to be excludable from income. Then in support of that position under IRC Sec 108, the taxpayer will file the Form 982 in support of this non-taxable event. There are some ramifications that result from this non-taxable event and those can be found in the bottom half of the Form 982, and their called tax attributes. Basically this reduction in tax attributes is a cost to the ability to exclude from taxable income the COD income under IRC Sec 108.
Q-3: The Tax Help Desk will receives all kinds of estate, trust and death issues, crossing our desk on a regular basis because NSA members and tax practitioners just see this event once or twice a year… so it is not something that you deal with on a regular basis.
Thes issues surround things like what form(s) to file, or “Does income pass through the estate or trust or does it just get taxed directly to the beneficiary?” Is there stepped-up basis in the inherited assets? What happens to the decedent’s home, their personal residence, or their retirement accounts?
There are many tax issues that the death of a taxpayer can produce, and how to handle them is a perfect time to ask us here at the Tax Help Desk.
We like the challenge of the estate or trust tax situation, the filing of the Form 1041, and the many aspects that that form brings to the table. The key to any “at death” engagement is to ask some questions, get documents like wills, trust instruments, and 1099’s if they have already been issued—or even copies of pension plans and IRA investments that the deceased taxpayer had or owned.
The key to a successful estate or trust tax engagement is to be well informed.
The Tax Help Desk can offer some checklists, an engagement letter, some answers on how “distributable net income” (DNI) works, or the tax concept of income in respect of a decedent (IRD). We can help with:
- What to do about the “required minimum distribution” (RMD) in the year of death or how it affects the beneficiaries of a decedents’ pension or IRA;
- Assist with the “stepped-up” basis rules under IRC Sec 1014;
- Why partnership assets can change for a beneficiary of a deceased partner interest in a 1065, and why that same deceased taxpayers’ interest in a C-Corporation or S-Corporation does not benefit from a stepped-up basis in the assets of the 1120 or 1120-S entity;
- And more!
All of this and more is available to you as a member of this nationally-renowned tax and accounting organization. You have five free questions as part of your membership and there is no time like the present to make use of your benefits… it works for you and your clients. Drop us an e-mail anytime.