Following are a few important issues our accounting professionals wanted to briefly share with you. As always, should you desire more in-depth information please feel free to contact us.
IRS RULES BITCOIN IS PROPERTY, NOT CURRENCY
It has been a rough several months for Bitcoin.
First, in January, a former bitcoin-exchange CEO and leading proponent of the virtual currency was arrested and charged with conspiracy to commit money laundering in an alleged drug trafficking scheme. Next, the largest Bitcoin exchange, Mt. Gox, went bankrupt after losing $650MM in a spectacular e-heist.Both developments shook investor confidence in Bitcoin, the most popular of the virtual currencies. But just when things couldn’t seem to get any worse, along comes the IRS, ruling in late March that the beleaguered virtual currency is not currency at all.Per IRS notice 2014-21, for federal tax purposes virtual currency will be treated as property. The IRS ruling has several implications:
1) Tax treatment: Following current property tax rules, if Bitcoin is held as a capital asset or long-term investment (greater than one year), gain on sale will be taxed at long term capital gains rates: up to 20%. If held less than one year (typical of currency), these short-term capital gains will face ordinary income tax rates — as high as 39.6%, plus Medicare surtax if applicable.
2) Reporting requirements: a taxpayer’s Bitcoin basis, and gain on sale, is determined by the fair market value (FMV) on the date of the transaction. Taxpayers may rely upon the listed bitcoin dollar-exchange rate (available at online bitcoin exchange houses) for determining FMV, but can expect a lot of paperwork as they research historical exchange rates for every bitcoin purchase or sale they made.
3) Receiving a Bitcoin paycheck: The IRS ruling makes clear that the value of Bitcoins received as remuneration for services performed are considered wages, subject to federal withholding and to be reported on the employee’s W-2. For independent contractors, these wages constitute self-employment income and are subject to the self-employment tax.
4) Bitcoin payments: Any payment for services greater than $600 must be reported to the IRS, and a Form 1099-MISC issued to the payee.
Though Bitcoin is not regulated by any federal government, it has attracted a fair amount of attention from regulators who see the largely anonymous transactions as a hotbed for money laundering and other criminal activity. “Those who favor virtual currencies solely for their ability to help mask drug trafficking or other illicit conduct should think twice” warned Attorney General Eric Holder, in testimony before the House Judiciary Committee early this month.
Although the IRS ruling deals a blow to proponents of the non-currency, who valued both Bitcoin’s privacy, and as a hedge against inflation (by design, only 21MM bitcoins may ever be created), the IRS guidance provides some much needed clarity to taxpayers.
“It’s the Wild West for virtual currency, at the moment,” remarked Weinberg’s Tax Director Jeffrey B. Engler. “The ease and privacy of Bitcoin transactions have opened a lot of business opportunities, not all of which are legitimate. The challenge for the IRS and Justice Department will be to target criminal activity without freezing the virtual currency exchange altogether.”
PCAOB HOLDS FORUM ON PROPOSED REVISIONS TO AUDIT STANDARDS
During a two-day public forum recently in Washington D.C., accounting industry leaders provided comments and sought greater clarity from the Public Company Accounting Oversight Board (PCAOB) regarding proposed changes to the standard audit report. In a move intended to improve transparency, last August the PCAOB released an exposure draft recommending an overhaul of the Auditor’s Reporting Model for preparing the standard audit report. At the heart of the proposal is a new requirement that auditors disclose any Critical Audit Matters (CAMs) encountered during the engagement. That requirement comes with an increased responsibility to fact-check reported numbers against “other information” (including management statements, disclosures, and assertions).
The proposed changes, which mirror similar actions taken by the International Accounting and Assurance Standards Board (IAASB), mark an expanded reporting responsibility for auditors beyond the current “pass-fail” attest statement. According to the PCAOB, CAMs represent those engagement matters that:
(1) Involve the most difficult, subjective, or complex auditor judgments;
(2) Pose the most difficulty to the auditor in obtaining sufficient appropriate audit evidence; or
(3) Pose the most difficulty to the auditor in forming an opinion on the financial statements.While the increased disclosure is intended to enhance transparency, many in the accounting community warn against unintended consequences.
“An auditor’s first duty has always been to the public,” said Weinberg’s Firm Managing Partner, Corey Fischer. “While providing better information to investors is a desirable goal, without a clear standard for what constitutes a reportable Critical Audit Matter, the proposed rule may actually cause more confusion for report readers.”
The concern is that with an unclear framework for what constitutes CAMs, but clear responsibility for their inclusion, the result may be that audit firms will over-disclose CAMs thus rendering a distorted audit report. Additionally, as responsibility for due-diligence shifts from the individual investor to the audit firm, it becomes an attractive target for the plaintiff bar.
The PCAOB is being urged to provide clear standards that can be understood and consistently put into practice by auditors. Without that clarity, investors can expect a longer report, but not necessarily a better one.
HIGH COURT RULES SEVERANCE PAY SUBJECT TO FICA
Last October, Simply Stated
reported that the U.S. Supreme Court agreed to take up the question involving the taxability of Supplemental Unemployment Benefits (SUB) payments, commonly referred to as severance pay.
The IRS maintained that almost all severance payments are wages and subject to FICA tax. In the 2008 case of CSX Corp. v. United States, 518 F.3d 1338 (Fed Cir 2008), a U.S. Circuit Court of Appeals supported that IRS position.Late last year, however, in United States v. Quality Stores, Inc. 693 F.3d605 (6th Cir.2012), the 6th Circuit Court of Appeals ruled that SUB payments are not subject to FICA and that the creditors of now defunct Quality Stores and its former employees could file for refunds.
With two Federal Circuit Courts split on the issue, the high court granted certiorari, a decision to hear an appeal from a lower court.
Late last month the justices returned a decision, ruling unanimously that severance pay is subject to FICA tax. Justice Kennedy, penning the decision for the court, wrote “Under FICA’s broad definition, these severance payments constitute taxable wages.”The ruling resolves the matter for the eleven lawsuits and 2,400 administrative cases currently being fought in lower courts over this issue, and spared the IRS from having to write up to $1 billion in refund checks.
HIGH DIVIDEND TAX RATES SUPPRESS GROWTH
The U.S. tax on Corporate Dividends is the ninth highest among the 34 countries of the Organization for Economic Co-operation and Development (OECD) according to recent analysis by the Tax Foundation, a Washington D.C. think tank.
With a federal tax rate of 23.8% (20% on qualified dividend income, plus an additional 3.8% tax on unearned income to fund the Affordable Care Act), the U.S. Federal rate alone is higher than the average 23.2% tax on corporate dividends across the OECD. After adding state corporate dividend taxes the average corporate dividend tax burden rises to 28.6%.
State corporate dividend taxes range from a low of zero percent for Alaska to a whopping, top of list 13.3% for California. Leaders in California seem to believe that the value of their sunshine makes up for having the highest taxation rates in the nation. Somehow, the sunshine is much more affordable in many other states (such as Nevada and Florida) that have no tax on personal income or on dividends.
High taxes on corporate dividends represent a “double taxation” of corporate earnings. The tax which investors pay on their dividend income is levied on distributed earnings for which the corporation has already paid corporate income tax.
Between federal and state corporate income tax (paid by the corporation), and federal and state dividend income tax (paid by the investor); the current regime makes it possible for government to be the recipient of over half of a company’s taxable earnings.
According to the Tax Foundation, this heavy tax burden on corporate investment alters the decision-making process for both companies and individuals, ultimately hindering business growth, savings and job creation.
The differential between the capital gains tax rate and the tax treatment of dividends has long guided corporate decisions on how best to earn returns for investors. To complicate matters, those tax rates change every few years, when Congress periodically decides to re-write the tax code.
High dividend tax rates incentivize corporations to minimize dividend distributions, keeping funds in retained earnings, plowing money back into the company and increasing shareholder value. The investor payday comes upon sale of the stock and is then subject to capital gains tax. When companies seek capital, they may look to debt instead of equity financing as interest expense is tax deductible.
The Tax Foundation notes that high taxation of corporate profits creates a bias against saving and investment: “Owing to high dividend taxation, people will prefer present consumption over saving, resulting in lower levels of investment and less capital in the future. For investors, this means less available capital for factories and machinery and fewer investment opportunities. For workers, this represents lower levels of productivity and lower wages. In all, there will be slower economic growth and lower living standards for everyone.”
In spite of it all, dividend paying stocks are currently in high demand by many investors for another reason, according to Weinberg’s Director of Tax, Jeffrey B. Engler. “Federal monetary policy has been keeping interest rates artificially low – yielding poor returns on everything from bank CDs to Treasury bills and bonds. Earning little to nothing in the way of interest income, much of that money has left the safety shelter and moved into dividend paying stocks. Many dividend-paying stocks offer a better return, and can be especially advantageous for investors residing in low- or no-dividend taxing states.”
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Weinberg & Company is a leading, international, full service, multi-office CPA firm serving clients throughout the United States and the Pacific Rim. Founded over two decades ago, the practice groups include: Assurance and Audit, Tax and Accounting, and Advisory Services. Weinberg has a depth of knowledge and experience to meet the needs of both public and privately held companies, high net worth individuals, entrepreneurs, family offices, and can provide customized business management services. www.weinbergla.com
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