The May 17 individual income tax return deadline is fast approaching. For many tax professionals, the deadline is bittersweet. It means we have timely filed returns for the majority of, if not all (hopefully…), our 2020 individual clients; we have requested an extension until Oct. 15, 2021, for those individuals who may need more time to file; and we filed any 2017 tax year individual returns with a claim for credit for refund of federal income tax (Notice 2021-21).
Tax practitioners should take a well-deserved break before turning their attention to their to-do list and action items. While the bulk of the filing season may be behind us, there is work still to be done, particularly of the planning type. In this blog we will touch on three items that a number of practitioners may be dealing with:
- 2021 inflation adjustments changed by the American Rescue Plan Act of 2021 (ARP)
- Basics of how taxpayers can get paid for the child tax credit
- Issues surrounding the IRS recalculation of 2020 taxes, specifically:
2021 inflation adjustments
Based on client needs and the scope of our practices, many tax pros are performing tax planning services year-round. If you are not already performing these services, it may be something to consider because it cuts down on year-end surprises – both for the client and the tax professional. As part of the planning process, we need to have current information and be aware of any updates.
Each year the IRS updates certain amounts for inflation. In late 2020, the 2021 inflation amounts were announced. The ARP changed some of these amounts and, therefore, what was previously announced may no longer apply. In 2021, the IRS issued Rev. Proc. 2021-23 that provides for the ARP updated amounts. The ARP key inflation adjustments are presented below:
The chart provides the inflation updated numbers for CTC, EIC and PTC that may be useful when offering planning services to your clients in these three areas.
Basics of how taxpayers can get paid for the child tax credit
For tax years beginning in 2021, the ARP temporarily expands the CTC rules concerning eligibility and amount. The temporary changes for 2021 include:
- A qualifying child now includes a child who hasn’t turned age 18 by the end of 2021
- What this means: for tax year 2021 only, 17-year-olds qualify for the CTC
- An increase to $3,000 per qualifying dependent child age 17 or younger on Dec. 31, 2021
- If the child is under age 6 on Dec. 31, 2021, the credit increases to $3,600
- The CTC is fully refundable for most taxpayers
A provision of the ARP allows for temporary advance payments of the 2021 CTC. The IRS is tasked with establishing a program for the advance payment of the 2021 CTC. The IRS must make monthly advance payments in July through December 2021 that equal, in total, 50% of IRS’s estimate of the eligible taxpayer’s 2021 CTC. The IRS will look at the taxpayer’s 2020 return (or 2019 return, if 2020 is not yet filed) to determine eligibility for the advance CTC payments.
The IRS must also create an online portal to allow taxpayers to:
- Update information for relevant changes including:
- Change to the number of qualifying children
- Change to the taxpayer’s marital status
- Significant changes in income
- Any other factors determined by the IRS
- Elect out of the advance payments
When the 2021 Form 1040, U.S Individual Income Tax Return, is filed, the amount of the taxpayer’s CTC allowed for 2021 is to be reduced by the advance payments the taxpayer received during the year. The advance payments will be direct deposited and the IRS is required to provide the taxpayer a notice of advance payments received no later than Jan. 31 of the calendar year following any calendar year during which it makes one or more advance payments of the CTC to the taxpayer (2021 notices will be sent no later than Jan. 31, 2022).
If a taxpayer receives advance payments in excess of the CTC allowable, the excess generally will need to be repaid unless their modified AGI is below certain thresholds, in which case the excess is reduced by a safe harbor amount. It is anticipated the IRS will be issuing additional guidance on the safe harbor provisions.
When working with clients who are eligible for the child tax credit, there are two options available to the taxpayer for 2021:
- They can claim 100% of the 2021 CTC when they file their 2021 return in 2022, or
- They can receive 50% of the CTC during July-December 2021, and claim the other 50% when they file their 2021 return in 2022
Ryan and Grace are entitled to a $6,000 CTC in 2021 for their children Albert and Sonya. Unless they elect out, the IRS will make an advance payment of $250 per month, per child ($500 total) from July to December 2021. They will receive a total of $3,000 ($500 x 6 = $3,000) from the advance payments.
When the couple files their 2021 tax return, they will claim the additional $3,000 credit. If the couple elects out, they will claim the $6,000 when filing their 2021 tax return.
Individual circumstances will determine what is the best approach, and now may be a great time to start having these conversations with your clients. It is anticipated more will be announced in the coming months regarding the portal.
Issues surrounding the IRS recalculation of 2020 taxes
The ARP exempts up to $10,200 in unemployment insurance (UI) benefits from federal taxation in 2020. The ARP also suspends the requirement that taxpayers increase their tax liability by all or a portion of their excess advance payments of the premium tax credit (excess APTC) for tax year 2020.
Because the law changed after some taxpayers had filed their 2020 tax returns, many returns were filed without taking advantage of the provision that allows for the UI exclusion and/or excess APTC tax credit.
The IRS announced:
- UI: it will recalculate taxes on unemployment benefits and refunds to start in May
- Excess APTC: taxpayers who already filed their 2020 tax return and have excess APTC do not need to file an amended tax return or contact the IRS
The IRS is saying it will recompute. The question is, should taxpayers accept the recomputation or should an amended return be filed for 2020 when taxpayers have the UI exclusion or excess APTC? As with most items, facts and circumstances will dictate.
Regarding the excess APTC, in most cases, the IRS recomputation should be correct and no amended return is needed. The repayment of the excess APTC is based on household income and filing status. In limited circumstances, an amended return may need to be filed.
Frank made a 2020 deductible IRA contribution, as he wanted to reduce his adjusted gross income (AGI)/modified adjusted gross income (MAGI) and therefore reduce the dollar amount of the APTC he had to repay. His 2020 return was filed prior to enactment of ARP.
Because he now qualifies for the benefit without the IRA contribution, Frank realizes there are better uses for the money. Before the due date of the 2020 tax return, Frank can withdraw the IRA contribution and earnings, or he can instruct the IRA trustees to transfer the contribution and earnings to a Roth IRA.
An amended return will need to be filed as Frank no longer has an IRA contribution deduction under either scenario.
For many taxpayers, the unemployment exclusion will create a lower AGI and MAGI than the amount the taxpayer reported when the 2020 was filed.
The IRS stated it will have all the information it needs from the original filed return to make adjustments to amounts on the return caused by the lower AGI/MAGI. For example, the IRS stated it will adjust the returns for taxpayers who claimed the EIC and may now be eligible for an increase in the EIC due to the UI exclusion.
While not specifically addressed by the IRS, it is assumed they will also be able to recompute the 2020 recovery rebate credits and the 2021 economic impact payment.
In some cases, it may be necessary to file an amended return. The original tax return may not have all the information the IRS needs to make recomputations based on reduced AGI/MAGI.
Zola filed her 2020 tax return in early 2021 and did not realize she could exclude her UI from income. She had a Schedule C business and claimed §179 depreciation on assets that were purchased. Now that her AGI/MAGI will be lowered by the UI exclusion, she could rethink her decision and file an amended return to revoke the §179 election.
Many reasons could exist as to why a taxpayer should file an amended return. Some of these may be related to a reduced AGI/MAGI resulting from the UI or PTC provision. Some may result from innocent mistakes.
With that said, if a decision is made to amend the 2020 return, it is a good idea to amend prior to the IRS doing its recalculations. This will avoid any confusion that may result with an amended return and recalculation with the same taxpayer.
Also, with the impact of COVID, many taxpayers are hurting for cash and filing an amended return will hopefully generate a refund sooner for the taxpayer.
There is nothing that prohibits a taxpayer from filing an amended return after receiving the recomputation. For those returns the practitioner prepared and filed prior to knowing about the UI exclusion and/or excess APTC, the practitioner could make the changes in their software and then review the IRS recomputation to see how it compares. If there is no difference in the calculation, an amended return may not be needed.
It is also highly recommended tax practitioners look at state rules, as some states tax UI benefits. An amended state return will most likely never be required for the excess APTC as the PTC provision affects federal tax liability, not federal taxable income.
Lastly, we want to touch on an issue many of our members have been commenting about.
A number of taxpayers have been receiving an IRS CP09 Notice similar to the one below:
The IRS is sending the notices to taxpayers who did not claim the EIC on their return, but who the IRS believes may be eligible. The notice instructs the taxpayer to complete Form 15111, and if the taxpayer qualifies based on the answers to the eligibility questions, they are to mail Form 15111 along with the notice’s bottom stub to the IRS address indicated on the stub. The IRS will use the information in Form 15111, along with the tax return, to determine if the taxpayer qualifies for EIC, for how much, and will then mail a check to the taxpayer within six to eight weeks.
While tax season may be coming to an end, another season of opportunities may be presenting itself. We hope you were able to gain something from the above that may help you in your practice and in dealing with clients. As practitioners, there are many things we encounter that we have no control over, but hopefully the information above gives you a good starting point to end the 2021 tax season on a high note and start planning for 2022.