Author: Tom Yamachika

COVID-19 Federal and State Tax Relief

Here is a summary of Federal tax relief and credit provisions, courtesy of RIA Checkpoint. A summary of State tax relief provisions is below.

Federal Tax Relief

Filing and payment deadlines deferred. After briefly offering more limited relief, the IRS almost immediately pivoted to a policy that provides the following to all taxpayers—meaning all individuals, trusts, estates, partnerships, associations, companies or corporations regardless of whether or how much they are affected by COVID-19:
For a taxpayer with a Federal income tax return or a Federal income tax payment due on April 15, 2020, the due date for filing and paying is automatically postponed to July 15, 2020, regardless of the size of the payment owed.
The taxpayer doesn’t have to file Form 4868 (automatic extensions for individuals) or Form 7004 (certain other automatic extensions) to get the extension.
The relief is for (A) Federal income tax payments (including tax payments on self-employment income) and Federal income tax returns due on April 15, 2020 for the person’s 2019 tax year, and (B) Federal estimated income tax payments (including tax payments on self-employment income) due on April 15, 2020 for the person’s 2020 tax year.
No extension is provided for the payment or deposit of any other type of Federal tax (e.g. estate or gift taxes) or the filing of any Federal information return.
As a result of the return filing and tax payment postponement from April 15, 2020, to July 15, 2020, that period is disregarded in the calculation of any interest, penalty, or addition to tax for failure to file the postponed income tax returns or pay the postponed income taxes. Interest, penalties and additions to tax will begin to accrue again on July 16, 2020.
Favorable treatment for COVID-19 payments from Health Savings Accounts. Health savings accounts (HSAs) have both advantages and disadvantages relative to Flexible Spending Accounts when paying for health expenses with untaxed dollars. One disadvantage is that a qualifying HSA may not reimburse an account beneficiary for medical expenses until those expenses exceed the required deductible levels. But IRS has announced that payments from an HSA that are made to test for or treat COVID-19 don’t affect the status of the account as an HSA (and don’t cause a tax for the account holder) even if the HSA deductible hasn’t been met. Vaccinations continue to be treated as preventative measures that can be paid for without regard to the deductible amount.
Tax credits and a tax exemption to lessen burden of COVID-19 business mandates. On March 18, President Trump signed into law the Families First Coronavirus Response Act (the Act, PL 116-127), which eased the compliance burden on businesses. The Act includes the four tax credits and one tax exemption discussed below.
Payroll tax credit for required paid sick leave (the payroll sick leave credit). The Emergency Paid Sick Leave Act (EPSLA) division of the Act generally requires private employers with fewer than 500 employees to provide 80 hours of paid sick time to employees who are unable to work for virus-related reasons (with an administrative exemption for less-than-50-employee businesses that the leave mandate puts in jeopardy). The pay is up to $511 per day with a $5,110 overall limit for an employee directly affected by the virus and up to $200 per day with a $2,000 overall limit for an employee that is a caregiver.
The tax credit corresponding with the EPSLA mandate is a credit against the employer’s 6.2% portion of the Social Security (OASDI) payroll tax (or against the Railroad Retirement tax). The credit amount generally tracks the $511/$5,110 and $200/$2,000 per-employee limits described above. The credit can be increased by (1) the amount of certain expenses in connection with a qualified health plan if the expenses are excludible from employee income and (2) the employer’s share of the payroll Medicare hospital tax imposed on any payments required under the EPSLA. Credit amounts earned in excess of the employer’s 6.2% Social Security (OASDI) tax (or in excess of the Railroad Retirement tax) are refundable. The credit is electable and includes provisions that prevent double tax benefits (for example, using the same wages to get the benefit of the credit and of the current law employer credit for paid family and medical leave). The credit applies to wages paid in a period (1) beginning on a date determined by IRS that is no later than April 2, 2020 and (2) ending on December 31, 2020.
Income tax sick leave credit for the self-employed (self-employed sick leave credit). The Act provides a refundable income tax credit (including against the taxes on self-employment income and net investment income) for sick leave to a self-employed person by treating the self-employed person both as an employer and an employee for credit purposes. Thus, with some limits, the self-employed person is eligible for a sick leave credit to the extent that an employer would earn the payroll sick leave credit if the self-employed person were an employee.
Accordingly, the self-employed person can receive an income tax credit with a maximum value of $5,110 or $2,000 per the payroll sick leave credit. However, those amounts are decreased to the extent that the self-employed person has insufficient self-employment income determined under a formula or to the extent that the self-employed person has received paid sick leave from an employer under the Act. The credit applies to a period (1) beginning on a date determined by the IRS that is no later than April 2, 2020 and (2) ending on December 31, 2020.
Payroll tax credit for required paid family leave (the payroll family leave credit).  The Emergency Family and Medical Leave Expansion Act (EFMLEA) division of the Act requires employers with fewer than 500 employees to provide both paid and unpaid leave (with an administrative exemption for less-than-50-employee businesses that the leave mandate puts in jeopardy). The leave generally is available when an employee must take off to care for the employee’s child under age 18 because of a COVID-19 emergency declared by a federal, state, or local authority that either (1) closes a school or childcare place or (2) makes a childcare provider unavailable. Generally, the first 10 days of leave can be unpaid and then paid leave is required, pegged to the employee’s pay rate and pay hours. However, the paid leave can’t exceed $200 per day and $10,000 in the aggregate per employee.
The tax credit corresponding with the EFMLEA mandate is a credit against the employer’s 6.2% portion of the Social Security (OASDI) payroll tax (or against the Railroad Retirement tax). The credit generally tracks the $200/$10,000 per employee limits described above. The other important rules for the credit, including its effective period, are the same as those described above for the payroll sick leave credit.
Income tax family leave credit for the self-employed (self-employed family leave credit). The Act provides to the self-employed a refundable income tax credit (including against the taxes on self-employment income and net investment income) for family leave similar to the self-employed sick leave credit discussed above. Thus, a self-employed person is treated as both an employer and an employee for purposes of the credit and is eligible for the credit to the extent that an employer would earn the payroll family leave credit if the self-employed person were an employee.
Accordingly, the self-employed person can receive an income tax credit with a maximum value of $10,000 as per the payroll family leave credit. However, under rules similar to those for the self-employed sick leave credit, that amount is decreased to the extent that the self-employed person has insufficient self-employment income determined under a formula or to the extent that the self-employed person has received paid family leave from an employer under the Act. The credit applies to a period (1) beginning on a date determined by IRS that is no later than April 2, 2020 and (2) ending on December 31, 2020.
Exemption for employer’s portion of any Social Security (OASDI) payroll tax or railroad retirement tax arising from required payments. Wages paid as required sick leave payments because of EPSLA or as required family leave payments under EFMLEA aren’t considered wages for purposes of the employer’s 6.2% portion of the Social Security (OASDI) payroll tax or for purposes of the Railroad Retirement tax.
As of this writing, further Federal relief is in the works. The Senate yesterday passed a $2 trillion additional relief package, which the House is scheduled to vote on today.

State Tax Relief

The Hawaii Department of Taxation has issued Announcement 2020-01, “Relief for Taxpayers Affected by the COVID-19 Emergency.” The Announcement says that if you have an income tax return or payment for the year 2019 that is due between April 20, 2020 and June 20, 2020, then your return, payment, or both are now due on July 20, 2020. No form, no letter, or anything else is required to claim this deadline extension.
To be clear, this only covers income tax for 2019. It does not cover:
  • Any other tax type.  Monthly or annual returns for General Excise, Withholding, Transient Accommodations, Estate and Generation-Skipping, Fuel, Liquor, Tobacco, and Rental Motor Vehicle/Tour Vehicle Taxes are still due at the same time. Payments are still due at the same time. If electronic filing or payments are required, they are still required.
  • Income tax for any other year. Delinquent payments for any past year are still due and payable, and interest continues to run until the payment is made.
  • Estimated income tax for 2020. In particular, the estimated tax for the first quarter of 2020 is still required to be paid by April 20, 2020.
Also, not everyone gets a benefit from the deadline extension! If you are due a tax refund, claim it as soon as possible! The Tax Office is still processing mailed-in and electronic returns. If you don’t claim your refund, the State will happily keep it for another three months – and they don’t have to pay you interest for doing so!

The SECURE Act of 2019

This year’s federal tax act is called the Setting Every Community Up for Retirement Enhancement (SECURE) Act of 2019, Public Law No. 116-94.  Its focus was on qualified retirement plans of various kinds, and many of the changes made are very technical. 

Here are some of the changes that may affect the most people:

  • Participants in 401(k) and other defined contribution plans, including traditional IRAs, had to take distributions from their plans at age 70-1/2 under the old law (“required minimum distribution”).  Under the new law, participants can leave money in the plan until age 72.  (Assuming they don’t need the money.)
  • Participants in traditional IRAs can continue contributing money to their plans past age 70-1/2.  The old law didn’t allow further contributions after that age.
  • Parents now can withdraw up to $5,000 from their individual 401(k) or similar qualified plan for childbirth or adoption expenses, and avoid paying the 10% penalty that normally is assessed for an early distribution.
  • For graduate students, stipends and non-tuition fellowship payments can now be counted as compensation and be used as the basis for IRA contributions.
  • Long-term part-time employees now must be given a chance to participate in a 401(k) plan that the employer offers.  To be eligible, an employee needs to put in either 1,000 hours in 1 year (as it was under old law) or 500 hours in 3 consecutive years of service.

For further details, there are several websites offering detailed explanations.  Here is one from the National Association of Plan Advisors.

What Made It Through the 2019 Session

Legislative Update: What Made It Through the 2019 Session

Here are some of the bills that crossed the finish line for this session. We also mention a couple that got caught by the business end of the Governor’s veto pen.
 

Vetoed Bills

REITs Dodge the Bullet Again
Real estate investment trusts, under federal law, are certain corporations that invest in real estate. They pay no corporate income tax, but their shareholders are supposed to pay tax on the dividends. This, however, doesn’t happen if the tax involved is state tax and the REIT shareholder lives out of state. In that case, the REIT does business and makes money here, the company doesn’t pay income tax, and the shareholders pay income tax to their home states. Some folks saw this as a tax loophole and urged passage of SB 301, a fix in the law that would make the REITs taxable here like any other corporation. The Governor thought there was too much risk that investments into Hawaii would dry up as a result.
 
SB 301 Status: VETO
 
Want to Collect Tax for Transient Vacation Rentals? No Dice
SB 1292 would have required large transient accommodations brokers, and permits all other transient accommodations brokers, to register as tax collection agents to collect and remit general excise and transient accommodations taxes on behalf of operators and plan managers using their services. Seems like a straightforward withholding tax bill? Not so to the counties, who are trying (so they say) to enforce their zoning laws that in some instances prohibit or restrict transient rentals. The bill collects the tax for the State (note that the tax is due whether the business is legal or not) but does not provide for information sharing with the counties. The counties argued, and apparently the Governor agreed, that signing the bill would be tantamount to the State condoning illegal activity.
 
SB 1292 Status: VETO
 
What follows is a selection of bills that have become law. They are presented in no special order.
 
Online Sellers Beware! We’re Going After You…for Income Tax!
Under U.S. constitutional law, a certain amount of connection between a potential taxpayer and a State is needed before the State has power to impose tax. South Dakota v. Wayfair Corp., 138 S. Ct. 2080 (2018), upheld a South Dakota law saying that nexus is established for sales tax purposes with $100,000 in sales or 200 separate transactions. We passed a similar law last year, applying it to our General Excise Tax with lightning speed. Act 41, SLH 2018 (HRS § 237-2.5). Why stop at sales tax? This year’s SB 495 applies the same standard to establish nexus for income tax. The tax press says Hawaii is the first state to do this.
 
SB 495 Status: Act 221, SLH 2019
 
And Let’s Not Forget Marketplace Facilitators!
The bill discussed immediately above establishes the responsibility of an online seller to pay tax. But what if the online seller is selling someone else’s product, and that someone is out of state? SB 396 addresses the issue. Under this bill, the online seller acting on behalf of someone else is a marketplace facilitator, and the facilitator is considered the retailer in the transaction and must pay the GET. If the facilitator takes or processes product orders but doesn’t handle the money, the facilitator must submit a detailed report to the Department about who sold what to whom and for how much.
 
SB 396 Status: Act 2, SLH 2019
 
Conformity to the IRC, With a Break for Nonprofits
Hawaii income tax law usually conforms to much of the federal Internal Revenue Code. That normally helps both the taxpayer and the State. The taxpayer doesn’t have to do tax returns two radically different ways, and the State can easily piggyback on an IRS audit when the IRC and state law are similar. Last year, the State refused to conform to a TrumpTax provision denying business deductions for employee parking expenses but forgot to snuff out a similar provision requiring nonprofits to pay tax when they provide employee parking benefits. This year’s bill, SB 1130, fixes that effective for taxable years beginning in 2019. The bill also clarifies the Hawaii applicable exclusion amount for estate tax and conforms to federal provisions relating to Qualified Opportunity Zones (at least the ones located in Hawaii).
 
SB 1130 Status: Act 69, SLH 2019
 
So, What Really Is a Resort Fee?
Hotels both here and in other states and countries have been charging their guests “resort fees.” A resort fee is supposed to be a payment for amenities provided to guests of the hotel. But some hotels made it so difficult to decline the fee that tax authorities, including ours, concluded that such a fee could be a disguised part of the room rate, which in Hawaii is subject to the Transient Accommodations Tax (TAT), a 10.25% tax on transient accommodation rentals. Last year, the Legislature concluded that the State was getting shorted because it wasn’t getting the appropriate taxes on resort fees. It passed a bill to fix the issue but ran into problems by saying that EVERYTHING charged to a tourist is a resort fee. The bill was vetoed. This year, SB 380 clarifies that “mandatory” resort fees are subject to the TAT, effective July 1st. The Department recently posted a Tax Information Release announcing proposed rules to define what a mandatory resort fee is.
 
SB 380 Status: Act 20, SLH 2019
 
You Show Me a K-1, I’ll Show You a Withholding Obligation
Currently, S corporations doing business in Hawaii have an obligation to withhold Hawaii income tax on distributive shares of income credited to their nonresident shareholders-unless the shareholders file documentation obligating themselves to file Hawaii tax returns and to pay tax on those earnings. SB 1360 applies a similar withholding obligation to nonresidents who receive a Schedule K-1 showing passthrough income from partnerships or trusts. The bill took effect in 2019, but the Department of Taxation tells us they aren’t ready to enforce it. Department of Taxation Announcement 2019-08says that the “Department intends on requiring withholding under Act 232 no sooner than taxable years beginning after December 31, 2019.” So, don’t worry about it for this year.
 
SB 1360 Status: Act 232, SLH 2019
 
It’s Now Even More Expensive to Die Here
One of the most straightforward bills, and one of the earliest to be signed into law, was SB 1361, which adds a new 20% tax bracket for taxable estates over $10 million. This ties us with Washington state as the state imposing the highest estate tax rate. Note that we are talking about a Hawaii taxable estate over $10 million, not a Federal taxable estate over $10 million; Hawaii has a unified credit of only $5.49 million.
 
SB 1361 Status: Act 3, SLH 2019
 
Inching Up Support for Lights, Camera, and Action
Hawaii now provides a movie, television, and digital media production credit for productions that shoot here and help our local economy and talent pipelines. The credit was limited by a $35 million statewide limit. Some were concerned that with Hawaii Five-0 and Magnum, P.I. shooting here now, there wouldn’t be enough left in the $35 million to accommodate a feature film as well (think “Pirates of the Caribbean,” “Jurassic Park”), and wanted the statewide cap lifted entirely. SB 33, apparently a compromise deal, hoisted the cap to $50 million.
 
SB 33 Status: Act 275, SLH 2019
 
Dust Off Those Ancient Houses!
The Legislature established in SB 1394 a new tax credit that would provide a 30% tax credit for expenses to substantially rehabilitate a certified historic structure. Don’t worry about this one breaking the bank, however; payout of this credit is limited to $1 million statewide.
 
SB 1394 Status: Act 267, SLH 2019
 
Shades of Act 221-the Research Credit Has Returned!
Those of us who’ve been around the block a few times may remember Act 221 of 2001, a series of incentives for high tech development here in Hawaii that helped to develop the industry immensely, but at great cost to the state treasury. One of the incentives enacted back then was a souped-up version of the federal credit for increased research activities, known as Section 41. While the federal credit was based on an increase in research spending from one year to the next, the Hawaii credit was based on pure spending, if it was in Hawaii. In 2013, our lawmakers changed the Hawaii credit to one mirroring the federal credit. In SB 1314, we bring back the Act 221 version of the research credit. Key additions include shifting certification responsibility to DBEDT instead of DOTAX, and an annual aggregate cap of $5 million. This law sunsets at the end of 2024.
 
SB 1394 Status: Act 261, SLH 2019
 
Can’t Tax Tourist Rental Cars Only? Then Whack Everyone
In 2018, Act 215 enacted a surcharge on car rentals for those who didn’t have Hawaii drivers’ licenses. Thus, the tax was $5 per day on “tourists” and $3 per day on “locals.” This year, someone figured out that the surcharge was unconstitutional because it discriminated against interstate commerce. (It’s okay to give a “kamaaina discount” but you can’t do that if you’re a government.) With SB 162, the discrimination is cured-everyone pays the $5, effective July 1st.
 
SB 162 Status: Act 174, SLH 2019
 

 

Last Minute Tax Opportunities for 2019

There are only a few days left to go before the year ends, but here are some actions you may take before the end of the year to improve your 2019 tax position.  (Courtesy of Thomson Reuters/Tax & Accounting, with some editorial comments by me.) 

Increase 2019 itemized deductions via a “bunching strategy.”  Many taxpayers who claimed itemized deductions in prior years will no longer be able to do so. That’s because the standard deduction has been increased and many itemized deductions have been cut back or abolished. Paying some otherwise-deductible-in-2020 itemized deductions in 2019 can decrease taxable income in 2019 and will not increase 2020 taxable income if 2020 itemized deductions would otherwise have still been less than the 2020 standard deduction. For example, a taxpayer who expects to itemize deductions in 2019 but not 2020, and usually contributes a total of $1,500 to charities each year, should consider making a total of $3,000 of charitable contributions before the end of 2019 (and skipping charitable contributions in 2020). 

(Editor’s Note:  Compared with the Federal standard deduction of $12,200 for single and $24,400 for joint filers, the Hawaii standard deduction is much lower — $2,200 for single or $4,400 for joint, for example — so most folks should itemize for Hawaii income tax anyway.)

Have an extra amount of withholding in order to solve an underpayment of estimated tax problem. Employees may discover that their prepayments of tax for 2019 have been too small because, for example, their estimate of income or deductions was off and they are underwithheld, or they failed to make estimated tax payments for unanticipated income, such as gains from sales of stock. Or they may be facing a penalty for underpayment of estimated tax because of the additional 0.9% Medicare tax and/or the 3.8% surtax on unearned income. To ward off or reduce an estimated tax underpayment penalty, employees can ask their employers to increase withholding for their last paycheck or paychecks to make up or reduce the deficiency. Employees can file a new Form W-4 or simply request that the employer withhold a flat amount of additional income tax. Increasing the final estimated tax payment for 2019 (due on Jan. 15, 2020) can cut or eliminate the penalty for a final-quarter underpayment only. It doesn’t help with underpayments for preceding quarters. By contrast, tax withheld on wages can wipe out or reduce underpayments for previous quarters because, as a general rule, an equal part of the total withholding during the year is treated as having been paid on each quarterly estimated payment date.

Take a retirement plan distribution in order to solve an underpayment of estimated tax problem. An individual can take an eligible rollover distribution from a qualified retirement plan before the end of 2019 if he or she is facing a penalty for underpayment of estimated tax and the extra withholding option described above is unavailable or won’t sufficiently address the problem. Unless the taxpayer chooses no withholding, the withholding rate for a nonperiodic distribution (a payment other than a periodic payment) that is not an eligible rollover distribution is 10% of the distribution. The taxpayer can also ask the payer to withhold an additional amount using Form W-4P. The taxpayer can then timely roll over the gross amount of the distribution, as increased by the amount of withheld tax, to a traditional IRA. No part of the distribution will be includible in income for 2019, but the withheld tax will be applied pro rata over the full 2019 tax year to reduce previous underpayments of estimated tax. 

Be sure to take required minimum distributions (RMDs). Taxpayers who have reached age 70-½ by Dec. 31, 2019 should be sure to take their 2019 RMD from their IRAs or 401(k) plans (or other employer-sponsored retired plans). Failure to take a required withdrawal can result in a penalty of 50% of the amount of the RMD not withdrawn. Those who turned age 70-½ in 2019 can delay the first required distribution to 2020. However, taxpayers who take the deferral route will have to take a double distribution in 2020-the amount required for 2019 plus the amount required for 2019. This strategy could make sense if the taxpayer will be subject to a lower tax rate next year. 

Caution.  Section 114 of the SECURE Act (P.L. 116-94), that was signed into law on December 20, changes the required beginning date for minimum distributions from a rule based on the calendar year in which the taxpayer attains age 70 1/2 to a rule based on the calendar year in which the taxpayer attains age 72. However, this law change is effective for distributions required to be made after Dec. 31, 2019, with respect to individuals who attain age 70-1/2 after that date. Thus, the change will not affect year-end 2019 planning.

(Editor’s Note:  We’ll be following up with further posts describing the changes made by the SECURE Act.)

Establish a Keogh plan.  A self-employed person who wants to contribute to a Keogh plan for 2019 must establish that plan before the end of 2019. If that is done, deductible contributions for 2019 can be made as late as the taxpayer’s extended tax return due date for 2019.

Use IRAs to make charitable gifts. Taxpayers who have reached age 70-½ by the end of 2019, own IRAs, and are thinking of making a charitable gift should consider arranging for the gift to be made by way of a qualified charitable contribution, or QCD-a direct transfer from the IRA trustee to the charitable organization. Such a transfer (not to exceed $100,000) will neither be included in gross income nor allowed as a deduction on the taxpayer’s return. But, since such a distribution is not includible in gross income, it will not increase AGI for purposes of the phaseout of any deduction, exclusion, or tax credit that is limited or lost completely when AGI reaches certain specified level.

A qualified charitable contribution before year end is a particularly good idea for retired taxpayers who don’t need all of their as-yet undistributed RMD for living expenses. That’s because a charitable contribution distribution reduces the amount of the RMD that must be withdrawn, resulting in tax savings.

Observation.  The SECURE Act change noted in the Caution above has no effect on this rule. That is, the rule continues to apply to taxpayers who have reached age 70-1/2 by the end of the tax year.

Make year-end gifts. A person can give any other person up to $15,000 for 2019 without incurring any gift tax. The annual exclusion amount increases to $30,000 per donee if the donor’s spouse consents to gift-splitting. Anyone who expects eventually to have estate tax liability and who can afford to make gifts to family members should do so. Besides avoiding transfer tax, annual exclusion gifts take future appreciation in the value of the gift property out of the donor’s estate, and they shift the income tax obligation on the property’s earnings to the donee who may be in a lower tax bracket (if not subject to the kiddie tax).

A gift by check to a noncharitable donee is considered to be a completed gift for gift and estate tax purposes on the earlier of:

  1. the date on which the donor has so parted with dominion and control under local law so as to leave the donor with no power to change its disposition, or
  2. the date on which the donee deposits the check (or cashes it against available funds of the donee) or presents the check for payment, if it is established that:

… the check was paid by the drawee bank when first presented to the drawee bank for payment;

… the donor intended to make a gift;

… the donor was alive when the check was paid by the drawee bank;

… delivery of the check by the donor was unconditional; and

… the check was deposited, cashed, or presented in the calendar year for which completed gift treatment is sought and within a reasonable time of issuance.

Thus, for example, a $15,000 gift check given to and deposited by a grandson on Dec. 31, 2019 is treated as a completed gift for 2019 even though the check doesn’t clear until 2020 (assuming the donor is still alive when the check is paid by the drawee bank).

Watch out for the use-it-or-lose-it rule. Unused cafeteria plan amounts left over at the end of a plan year must generally be forfeited (use-it-or-lose-it rule). A cafeteria plan can provide an optional grace period immediately following the end of each plan year, extending the period for incurring expenses for qualified benefits to the 15th day of the third month after the end of the plan year. Benefits or contributions not used as of the end of the grace period are forfeited. Under an exception to the use-it-or-lose-it rule, at the plan sponsor’s option and in lieu of any grace period, employees may be allowed to carry over up to $500 of unused amounts remaining at year-end in a health flexible spending account.

Taxpayers thus should make sure they understand their employer’s plan and should make last-minute purchases before year end to the extent that not doing so will result in losing benefits. In most cases, a trip to the drug store, dentist or optometrist, for goods or services that the taxpayer would otherwise have purchased in 2020, can avoid “losing it.”

Paying by credit card creates deduction on date of credit card transaction.  Taxpayers should consider using a credit card to pay deductible expenses before the end of the year. Doing so will increase their 2019 deductions even if they don’t pay their credit card bill until after the end of the year.

(Editor’s note:  The following is for non-U.S. individuals only.)  Renew ITINs that expire on Dec. 31.  Any individual filing a U.S. tax return is required to state his or her taxpayer identification number on that return. Generally, a taxpayer identification number is the individual’s Social Security number (SSN). However, IRS issues Individual Taxpayer Identification Numbers (ITINs) to individuals who are not eligible to be issued an SSN but who still have a U.S. tax filing obligation.

Unlike SSNs, ITINs expire if not used on a return for three consecutive years or after a certain period. For example, ITINs issued in 2011 and 2012 (i.e., those with middle digits 83, 84, 85, 86, and 87) will expire on December 31, 2019.

Anyone whose ITIN is expiring at the end of 2019 needs to file a complete renewal application, Form W-7, Application for IRS Individual Taxpayer Identification Number.

Legislative Update: Donovan’s Dozen!

Recently, an alert and concerned reporter, when visiting the offices of Senate Ways and Means Committee Chair Donovan Dela Cruz, spotted a whiteboard with 14 bill numbers written on it.  All of the bills are supposed to be revenue raisers, so we thought it important to share them.  (Yes, I know that a “dozen” is 12, but two of them were already dead when we got the list, and Donovan’s Fourteen doesn’t sound catchy.  That’s my story, and I am sticking to it.)

So here they are, in order of bill number:

Closing the REIT Loophole?  Real Estate Investment Trusts, or REITs, are allowed under federal tax law to pay no tax at the corporate level if they distribute their net earnings to their shareholders as dividends.  The Feds receive one layer of federal tax.  Our state generally conforms to the REIT law, but we tend to miss out because the REIT doesn’t pay state income tax and its shareholders are taxed on their dividends where they live, which generally isn’t in Hawaii.  SB 301 proposes to fix this by treating REITs as regular corporations.  Proponents say it closes a giant loophole.  Opponents note that REITs have invested lots of money in Hawaii and passing an extra tax will cause them to pack up and leave.

Resort Fees as a Price of Lodging?  Many resorts in the U.S. and other countries charge “resort fees” as the price of hotel amenities and services.  Our Tax Department has taken the position that if the fees are mandatory for a guest staying the night, they are part of the room rate and subject to 10.25% Transient Accommodations Tax.  SB 380 proposes to write into law that mandatory resort fees are subject to TAT.  A similar bill passed last year without the word “mandatory,” meaning that meals, Internet service fees, in-room movies, and similar items would be subject to TAT.  The Governor vetoed last year’s bill.

We Don’t Like the Timeshare Tax Formula, So Let’s Double It!  TAT applies as well to timeshare owners occupying their own units.  Because there is no room rate, it applies to half the average daily maintenance fee for a week.  The Department is saying this amount is grossly inadequate, but it apparently never made use of a procedure in existing law to challenge the formula.  SB 382, instead, applies the tax to 100% of the average daily maintenance fee.  (This measure is dead, but its substance may appear in other bills.)

All Aboard for Single Sales Factor!  When businesses operate in many states, it’s always a challenge to figure out how much business is taxable by each state.  Most states take a weighted average of the property factor (how much property is in the state divided by how much property is everywhere), payroll factor, and sales factor and multiply it by net income from everywhere to yield net income taxable in the state.  The classic formula, which Hawaii now has, is an equally weighted average.  Most states have upweighted the sales factor, and 31 states ignore the other two factors, at least for some classes of taxpayers.  The basic idea is that the formula would favor those who export.  SB 394 would have Hawaii join the 31 states.

Conveyance Tax on Short Commercial Leases:  Hawaii imposes conveyance tax when real property is sold or leased and the deed or lease is then recorded.  We presently exempt leases of less than five years from the tax, although leases for more than one year need to be recorded.  SB 395 would restrict the exemption to residential leases one year or less and would repeal the exemption altogether for commercial property.  For leases the tax is applied to the present value of rent payable under the lease, capitalized at 6%.

We Got Online Sellers, Now Let’s Go for Their Marketplaces:  Previously, online sellers could offer products to Hawaii customers without paying Hawaii tax.  That gave them an advantage over local stores.  Last year, following a state-friendly U.S. Supreme Court ruling, our state adopted a law requiring many of those businesses to register and pay general excise tax.  The businesses then said they would pay tax on their own sales but wouldn’t if they were merely representing sellers didn’t have to pay tax to Hawaii.  SB 396 solves that problem by taxing the marketplace provider as if it sold the product directly.  This bill already has been sent to the Governor’s desk.

And Let’s Not Forget Income Tax:  When our state adopted the law last year on the heels of the favorable Supreme Court decision, as described in the previous paragraph, the law applied to general excise tax only.  SB 495 would create a similar law that applies to income tax.  But wait – we have other tax types too, such as Franchise, Public Service Company, or Transient Accommodations, so what are we going to do about them?

You Foreign? You Withhold!  When a nonresident sells real estate in Hawaii, our laws require withholding of 7.25% of the gross price.  That way, it’s less likely that the owner would be able to skip town without paying state taxes, such as income tax on capital gains.  Under current law, entities, such as corporations and partnerships, are exempt from withholding if they register with our DCCA even though they might have been formed in another state.  SB 712 subjects foreign entities to this withholding scheme whether they registered with DCCA or not. 

Online Travel Companies Beware, We’ll Get Our TAT Yet!  Suppose an online travel company (OTC) sells a hotel room to a tourist for $150 a night and pays the local hotel $120.  The hotel pays TAT on the $120.  After years of litigation, the Hawaii Supreme Court ruled that the OTC doesn’t pay TAT on the $30 because it’s not a hotel or a hotel operator.  SB 714 would require the OTC to pay TAT on the $30.  It also contains the substance of SB 380 and SB 382, previously discussed.  (This measure is dead, but its substance may appear in other bills.)

The “AirBnB Bill” Returns Yet Again:  This bill is about “transient vacation rentals,” from bed and breakfast establishments to people just wanting to rent out a room in their house for a little extra money to help make ends meet.  Those who do so are confronted with state laws imposing GET and TAT on the proceeds, and county zoning laws that often forbid TVR use in residential properties altogether.  A bill passed in 2016 proposed to allow TVR platforms such as AirBnB and Flipkey to collect and pay over the state taxes, but the bill was vetoed because of county objections.  This incarnation of the bill, SB 1292, would require the platforms to collect and pay over the tax and provides a citation process with monetary fines for hosts who do not register.

Do we Really Trust Foreigners to Pay Tax?  Currently, we don’t tax Subchapter S corporations, but we do tax their shareholders.  To ensure that non-Hawaii shareholders pay appropriate business taxes, we ask that they file a statement that they will file Hawaii returns and pay taxes.  If they don’t, we withhold Hawaii tax at the company level.  SB 1360 applies the same concept to partnerships, estates, and trusts, except we don’t give the out-of-state partners and beneficiaries the option.  We will just withhold.

When the Certainties in Life — Death and Taxes — Happen at the Same Time:  SB 1361 hikes the maximum estate tax rate to 20%, which would be tied for the highest state estate tax rate in the country.  The rate would kick in for taxable estates over $10 million.  This bill already has been sent to the Governor’s desk.

Jacking Up Conveyance Taxes Again:  Conveyance tax is imposed whenever Hawaii real estate is sold or leased.  SB 1362 proposes to hoist the tax on a condominium or single-family residence for which the owner is not eligible for a county homeowners’ exemption.  For properties $2 to $4 million, the tax would go from 0.6% to 1%, an increase of 67%.  For properties $4 to $6 million, the tax would go from 0.85% to 2%, an increase of 135%.  For properties $6 to $10 million, the tax would go from 1.1% to 3%, an increase of 172%.  For properties $10 million or more, the tax would go from 1.25% to 4%, an increase of 220%. 

A Half Penny for the Keiki!  We’ve written about this before.  SB 1474 proposes a 0.5 percentage point increase in the GET in order to raise $200 million or so for K-12 schools and $50 million for the University of Hawaii.  The bill has crossed over from the Senate, but Finance Chair Sylvia Luke has been quoted as saying that the bill won’t get a hearing in the House.  This bill is probably dead.

ABA Sales & Use Tax Deskbook — Cyber Monday Deal!

On Monday, November 26, the American Bar Association (ABA) will offer a Cyber Monday promotion of 40% off + free shipping.

One of the works being offered is the “ABA Sales & Use Tax Deskbook.”  I’m co-author of the Hawaii chapter.

If you’re interested, head to https://www.americanbar.org/products/inv/book/345782509/.

 

Winners and Losers in the 2018 Legislative Session

Legislative Update:  Winners and Losers of the 2018 Session

We’ll now go through some of the losers, the bills that are now dead, and the winners, which have been sent up to the Governor’s office for approval or veto.

Some Bills Dead for This Session

HB 207 Status:  Dead (Estate and Conveyance Tax Hikes)

HB 1718 Status:  Dead (Nonrefundable Credit for Child Care Costs)

HB 2007 Status:  Dead (GET Exemption for Service and Maintenance Facilities for Non-Jet Aircraft)

HB 2462 Status:  Dead (GET Exemption for Sales of Farm Equipment and Machinery to Producers)

HB 2605 Status:  Dead (“AirBnB Bill” to Allow Withholding Tax on Transient Vacation Rentals)

HB 2702 Status:  Dead (Tax on Real Estate Investment Trusts)

SB 2100 Status:  Dead (Expand Solar Credit to Include Battery Backup Systems)

SB 2890 Status:  Dead (GET Applied to “Marketplace Providers”)

SB 2905 Status:  Dead (Credit for On-Site Early Childhood Facilities)

SB 2910 Status:  Dead (Loan Green Infrastructure Fund $ to State Agencies at 3.5%)

TrumpTax Is Alive and Well, but Hawaii Is Stuck in 2017

For the last sixty years, the Hawaii income tax law has conformed, to a great degree, to the federal Internal Revenue Code.  That normally helps both the taxpayer and the State.  The taxpayer doesn’t have to do tax returns two radically different ways, and the State can easily piggyback on an IRS audit when the IRC and state law are similar.  SB 2821, however, refuses to conform in several key areas, most of which affect individual tax.  The federal amendments limit itemized deductions, such as state and local tax, mortgage interest, and miscellaneous itemized deductions (those deductible if they exceed 2% of AGI).  The state bill provides that those federal amendments don’t apply.  The state bill also decouples from bonus depreciation and section 179 changes, key elements in the federal code.  The state standard deduction, personal exemption, and all tax rates are unchanged.  Business tax changes, including disallowance of a writeoff for entertainment expenses, are adopted.  The federal estate and generation-skipping tax changes similarly are not adopted; the Hawaii estate tax kicks in using the federal limits in place for 2017.
SB 2821 Status:  ACT 27

HARPTA!  Bless You!  A Cure for the Wrong Disease?

The Hawaii Real Property Tax Act, or HARPTA for short, provides that when a nonresident person or company sells Hawaii real property, 5% of the gross price is withheld to pay possible tax liabilities, such as income tax on capital gains.  SB 508 changes the withholding percentage to 7.25%, the same as the top capital gains rate.  The Senate wanted the rate even higher, at 9%, perhaps on the theory that some of these properties are rented and the GET and TAT on the rentals can be collected from the withheld income tax.

SB 508 Status:  ACT 122

The Bob Nakata Act

The Rev. Bob Nakata has devoted 20 years of his life to issues surrounding homelessness and affordable housing in Hawaii, including tirelessly prowling the Capitol halls this year lobbying for affordable housing bills.  HB 2748, dubbed the “Bob Nakata Act,” adds $200 million to the Rental Housing Trust Fund, puts $10 million into the Dwelling Unit Revolving Fund, and expands and extends the GET exemption for construction of affordable units.

HB 2748 Status:  ACT 39

You Can’t See It or Touch It, But We Can Tax It!

To protect our local business people, Hawaii has a Use Tax.  A buyer has a choice between buying from someone who is subject to General Excise Tax (a local store, perhaps) and someone who is outside our taxing jurisdiction (an online seller, perhaps).  If the buyer chooses to buy from the latter, the buyer needs to pay Use Tax, generally the same as the GET that would have been levied on the local seller.  We already have extended the Use Tax beyond purchases of tangible goods, so that it also applies to the import of services and contracting.  HB 2416 broadens the Use Tax to apply to the value of intangible property imported or used in the State, while exempting the sale of intangible property exported or used outside the State.  The bill exempts stocks and other securities, bonds and other evidence of debt, commodity futures and similar options and rights, interests in land, or dividends.  Still, the trouble is in the details.  Intangible property isn’t like a mango that stays put, so figuring out whether it’s been imported will be a challenge.  And then, are we ready for the results?

HB 2416 STATUS:  ACT 183

Class, Your Assignment Is to Fix Our Unreasonably Low Real Property Taxes, and Not Tell the Pesky Money Chairs!

Hawaii has the lowest real property tax in the nation.  Many see that as a good thing; the teachers’ union sees it as an opportunity to slap a surcharge on that tax to Help Our Keiki.  Because our state constitution now gives all the real property tax to the counties, constitutional changes are needed before such a bill can take effect.  SB 2922 puts the question on the ballot for voters in 2018.  The voters only will be asked to give the Legislature the power to impose the tax, so the implementing legislation, which would define what is subject to the surcharge as well as the amount of the surcharge, can be changed at any time.  Furthermore, there is no guarantee that any of the new tax will find its way into the classroom.  Why?  The State now appropriates almost $2 billion in General Fund money to the Department of Education.  While the constitutional amendment earmarks the new tax for education, there is nothing to prevent the existing $2 billion from being “repurposed.”  Interestingly, the legislation in both the Senate and the House bypassed the respective money committees entirely.  In the Senate, it was heard by Education and Judiciary, while the House referred it only to Education.

SB 2922 Status:  To Ballot

Special Fund Housekeeping Bill Transforms into Money Grab, Then Returns to Normal

HB 1652 started out as a housekeeping bill, to get rid of some special funds that weren’t being used, following a State Auditor’s report identifying those funds.  But then the Senate did two things.  First, it added “auto-raid” provisions placing new dollar caps on fourteen different special funds, so that if the special fund has more money at the end of the State fiscal year the excess is dropped into the state general fund.  Then, it added a provision that increases by 40% the “central services skim,” a fee that the State sucks out of most special funds and plops into the general fund, ostensibly for services that the State provides to the fund (although the skim may exceed by far the cost of those services).  The Conference Committee returned the bill to its original mild-mannered form.

HB 1652 Status:  ACT 164

Let’s Apply 14% Tax to Everything on a Hotel Bill!

A “resort fee,” which also goes on your bill if you stay at a hotel not only in Hawaii but also in many locations in the mainland U.S., Mexico, and the Caribbean, is to pay not for basic lodging, but for amenities such as use of the hotel’s weight room, or pool, or Wi-Fi internet service.  But some think that it’s in substance part of the room charge, so that the Transient Accommodations Tax at 10.25% needs to be imposed on top of the GET at 4% or 4.5%.  The Department has been distinguishing room charges from fees subject only to the GET by asking whether the fees are mandatory for a guest staying at the hotel.  SB 2699, however, reacts to the issue by making all resort fees subject to TAT whether they are mandatory or not, and by defining a “resort fee” as “any charge or surcharge imposed by an operator, owner, or representative thereof to a transient for the use of the transient accommodation’s property, services, or amenities.”  This could mean ANYTHING on the guest’s hotel bill, including meal charges, massages, Internet fees, or phone charges.  This certainly was not the intent of the TAT when it was enacted, and it would be far different from most hotel room taxes across the country and internationally if the tax is applied in this manner.

SB 2699 Status:  VETOED

Online Sellers Beware!  We’re Going After You!

Under U.S. constitutional law, a certain amount of connection between a potential taxpayer and a State is needed before the State has power to impose tax.  Quill Corp v. North Dakota, 504 U.S. 298 (1992), held that some physical presence is needed before substantial nexus can be found.  However, states have been closing in on online sellers who have lots of business in those states, arguing that a sufficient amount of activity will give the state the necessary nexus.  South Dakota took this position and went after one large online seller, and the case, Wayfair Corp. v. South Dakota, has been accepted by the U.S. Supreme Court and may yield a clarifying opinion later this year.  In the meantime, SB 2514 adopts provisions similar to those in South Dakota, saying that nexus is established with $100,000 in sales or 200 separate transactions.

SB 2514 Status:  ACT 41

What Happened at the End of 2017?

The federal tax overhaul passed, and there were other major developments as well.  Please see the below, with content by RIA Checkpoint with occasional commentary from me.
Major tax reform. On December 22, President Trump signed into law the “Tax Cuts and Jobs Act” (P.L. 115-97), a sweeping tax reform law that will entirely change the tax landscape.
This comprehensive tax overhaul dramatically changes the rules governing the taxation of individual taxpayers for tax years beginning before 2026, providing new income tax rates and brackets, increasing the standard deduction, suspending personal deductions, increasing the child tax credit, limiting the state and local tax deduction, and temporarily reducing the medical expense threshold, among many other changes. The legislation also provides a new deduction for non-corporate taxpayers with qualified business income from pass-throughs.
For businesses, the legislation permanently reduces the corporate tax rate to 21%, repeals the corporate alternative minimum tax, imposes new limits on business interest deductions, and makes a number of changes involving expensing and depreciation. The legislation also makes significant changes to the tax treatment of foreign income and taxpayers, including the exemption from U.S. tax for certain foreign income and the deemed repatriation of off-shore income.
[Our Department of Taxation just submitted “conformity bills” to our Legislature that would pick up most of the federal changes for Hawaii purposes.  Reference:  Senate Bill 2821, House Bill 2394.]
Regulations issued for electing out of new partnership audit rules. The IRS has issued final regulations on the election out of the centralized partnership audit regime rules, which are generally effective for tax years beginning after Dec. 31, 2017. Under the new audit regime, any adjustment to items of income, gain, loss, deduction, or credit of a partnership for a partnership tax year (and any partner’s distributive share thereof) generally is determined, and any tax attributable thereto is assessed and collected, at the partnership level. The applicability of any penalty, addition to tax, or additional amount which relates to an adjustment to any such item or share is also be determined at the partnership level. However, new regulations provide guidance on how eligible partnerships that are required to furnish 100 or fewer Schedules K-1 (Partner’s Share of Income, Deductions, Credits, etc.) may elect out of this new regime.
 
Safe harbor methods for nonbusiness casualty losses. The IRS provided safe harbor methods that individual taxpayers may use in determining the amount of their casualty and theft losses for their personal-use residential real property and personal belongings. Taxpayers often have difficulty determining the amount of their losses under the IRS regulations. In order to provide certainty to both taxpayers and the IRS, the safe harbor methods provide easier ways for individuals to measure the decrease in the fair market value of their personal-use residential real property following a casualty and to determine the pre-casualty or theft fair market value of personal belongings. In addition, the IRS provided a safe harbor under which individuals may use one or more cost indexes to determine the amount of loss to their homes as a result of Hurricane and Tropical Storm Harvey, Hurricane Irma and Hurricane Maria.
Deductions denied for house rented to daughter. The Ninth Circuit determined that married taxpayers weren’t entitled to claim business deductions with regard to their second house that they rented to their daughter at below-market rates. During 2008 through 2010, the taxpayers reported rental income from daughter ($24,000 for 2008, $24,000 for 2009, and $6,000 for the first three months of 2010) and claimed deductions relating to the property for, among other things, mortgage interest, taxes, insurance, and depreciation. Overall, they claimed net losses for each year of $134,360, $84,600, and $107,820. The Court determined that the daughter’s use of the house was, in effect, personal use by her parents for purposes of Code Sec. 280A(d)(1)’s limit on deductions with respect to a dwelling unit used for personal purposes. Because she didn’t pay fair market rent, they didn’t qualify for an exception to the general rule in Code Sec. 280A(e) disallowing deductions in excess of rental income. [Seriously.  What were these taxpayers thinking?]
 
 
Standard mileage rates increase for 2018.  The optional mileage allowance for owned or leased autos (including vans, pickups or panel trucks) increased by 1¢ to 54.5¢ per mile for business travel after 2017. This rate can also be used by employers to provide tax-free reimbursements to employees who supply their own autos for business use, under an accountable plan, and to value personal use of certain low-cost employer-provided vehicles. The rate for using a car to get medical care increased by 1¢ to 18¢ per mile.
Taxpayer was liable for million dollar FBAR penalty. The Ninth Circuit found that a taxpayer wilfully failed to file a Report of Foreign Bank and Foreign Accounts (FBAR) where IRS assessed a penalty of approximately $1.2 million penalty against the taxpayer for failing to disclose her financial interests in an overseas account. The Court rejected a variety of the taxpayer’s arguments, ranging from the contention that the imposition of the penalty violated the U.S. Constitution’s excessive fines, due process, and ex post facto clauses, to assertions that it was barred by statute of limitations or treaty provisions. [IRS 1, Weaselly Taxpayer 0.]