23 October 2018 IRS holds public hearing on Section 199A proposed regulations On October 16, 2018, the Internal Revenue Service (IRS) held a public hearing on proposed regulations (REG-107892-18) issued to provide guidance for the qualified business income (QBI) deduction under Section 199A. The 24 speakers testifying at the hearing called for clarifications and interpretations regarding various aspects of the rules when they are made final (see attached hearing transcript). The Treasury and IRS released the proposed regulations under Section 199A on August 8, 2018. Among other topics, the proposed regulations address definitions that apply for purposes of Section 199A, computational guidance for the Section 199A deduction, and anti-abuse rules. A notice of proposed rulemaking and notice of public hearing was published in the Federal Register on August 16, 2018. The proposed regulations rely on the definition of "trade or business" provided under Section 162. The term trade or business is not specifically or consistently defined in the Code, regulations, administrative guidance or case law, and one speaker commented that the large body of case law and administrative rulings on the definition of trade or business did not provide a clear and applicable standard, leading to taxpayer confusion and inconsistent application of Section 199A. Speakers requested that the Government clarify the meaning of trade or business for purposes of Section 199A. One speaker requested consistency with Treas. Reg. Section 1.446-1(d), and a set of established criteria to identify separate and distinct trades or businesses within an entity (such as complete and separable books and records that are kept and maintained for each trade or business and allocating any shared income and expenses at arm's length). To promote clarity and certainty for rental real estate activities, the speakers recommended that the Government deem, create a presumption, or provide a safe harbor to treat rental real estate as a trade or business for purposes of Section 199A. Guidance could then specify the circumstances in which rental real estate activities would not be treated as a trade or business for Section 199A purposes. The preamble to the proposed regulations indicates that the basis of qualified property transferred at death will be stepped up/stepped down under Section 1014. No such provision exists within the actual proposed regulation text, nor does the language within the proposed regulations provide for a new depreciation period in the case of a transfer at death. For reporting consistency, a speaker requested that these statements contained in the preamble should be included in the final regulations. One speaker questioned why there is inconsistent treatment of REIT dividends for REIT interests held directly and REIT interests held through mutual funds. This inconsistency could incentivize mutual fund owners to sell their mutual fund investment and buy their same REIT shares directly to obtain the 20% deduction. In defining reasonable compensation, one speaker pointed out that there likely will be a disconnect between determinations made at the entity level and those made at the individual shareholder level. These inconsistencies create the potential for penalties at the individual level and highlight the need for guidance on how to disclose such a discrepancy. The speaker recommended that the Government adopt a 70/30 safe harbor and limit the availability of such safe harbor to smaller companies that utilize the cash method of accounting. In addition, one speaker argued that reasonable compensation and guaranteed payments should not be included as expenses in determining the QBI of a trade or business, because they are excluded from qualified business income under the statute. A speaker requested that the final regulations specifically identify certain self-employment-related deductions that would not reduce a taxpayer's QBI. Additionally, a speaker requested that the final regulations not exclude Section 1231 gains and losses from the definition of QBI, as the exclusion creates an additional complexity in determining characterization (ordinary versus capital) and when a taxpayer has taken a Section 1231 loss in the previous five tax years. Several speakers requested that Treasury permit a relevant pass-through entity (RPE, i.e., a partnership, S corporation, and certain trusts or estates) to aggregate trades or businesses for purposes of applying the W-2 wage and qualified property basis limitations. Allowing RPEs to aggregate businesses would simplify QBI reporting and reduce compliance costs. Additionally, a speaker recommended that the final regulations adopt existing attribution rules under Sections 267 and 707, rather than creating new family attribution rules. One speaker recommended that the final regulations eliminate some or all of the requirements that must be met for a taxpayer to aggregate trades or businesses, specifically allowing a taxpayer that owns a minority interest to aggregate. The speaker argued that, particularly in tiered entity structures, a taxpayer may not have access to information sufficient to determine whether the proposed regulation aggregation requirements are satisfied. Prop. Reg. Section 1.199A-5 — Specified service trade or business (SSTB) and the trade or business of performing services as an employee Two speakers argued that firms providing staffing services to industries enumerated under the definition of SSTB should not be categorized as SSTBs themselves. Staffing firms merely function as intermediaries to augment the work forces of their clients for use in the clients' trade or business, and should not be imputed the activities of their clients. To the extent that staffing companies engage in ancillary non-staffing activities for which the staffing company is not separately paid (e.g., advising clients on staffing needs), one speaker requested that the final regulations clearly distinguish between the provision of staffing services and consulting (and also requested that Prop. Reg. Section 199A-5(b)(3), Example 3, be revised to differentiate between (1) consulting services (an enumerated SSTB); and (2) providing temporary employees, which would not be an SSTB). One speaker requested that the final regulations allow operating businesses and their related management entities to be treated as part of the same trade or business. The speaker described a situation in which operating businesses were required, under contract or state law, to be operated by separate legal entities. Related management entities charge the operating businesses for services provided and generally do not provide similar services to third parties. In addition to requesting that the final regulations allow the operating business and management entity to be treated as the same trade or business, the speaker also requested that the management companies not be considered SSTBs, thereby allowing aggregation. Several speakers requested that the final regulations eliminate the de minimis SSTB gross receipts rule (which disregards de minimis SSTB activity of a trade or business for purposes of determining whether a trade or business is an SSTB). Speakers noted that the proposed regulations are unclear as to what happens when the SSTB gross receipts exceed the de minimis threshold. Speakers requested allowing taxpayers to prorate income between non-SSTB activities and SSTB activities. In addition, speakers requested that the final regulations eliminate the anti-abuse provisions related to commonly owned non-SSTBs (which re-characterize otherwise qualified business income as SSTB income if that trade or business provides its property or services to a commonly owned SSTB). One speaker argued that the non-SSTB anti-abuse provisions unfairly mischaracterize qualified income and requested that the final regulations allow proration of revenue between SSTB and non-SSTB activities of a trade or business. Prop. Reg. Sections 1.199A-6 — RPEs, publicly traded partnerships (PTPs), trusts, and estates, and 1.643(f)-1 — Anti-avoidance rules for multiple trusts One speaker asked to except RPEs from reporting requirements under Prop. Reg. Section 1.199A-6(b)(3) when: (1) the RPE does not have gross receipts that constitute QBI; (2) all of the RPE owners are corporations; and (3) none of the RPE owners have taxable income above the income limitation thresholds. Under this recommendation, the RPE then would file a written statement containing a declaration that each RPE owner does not have taxable income above the threshold amount. Alternatively, the speaker suggested a reduced reporting option in which an RPE would only need to report the amount of W-2 wages for a qualified trade or business (and not the qualified property basis) when it is clear that 50% of wages for a qualified trade or business would result in a larger amount than 25% of wages, plus 2.5% of qualified property basis. A speaker also requested that the final regulations allow RPEs to compute the QBI deduction at the entity level and report to each owner its share of allocable QBI on Schedule K-1, allowing taxpayers to choose whether to take the amount of QBI deduction reported by the RPE or to calculate the deduction at the owner level. The proposed regulations under Section 643 establish a rebuttable presumption that the creation of multiple trusts is done with the principal purpose of tax avoidance if it results in tax savings. One speaker argued that taxpayers regularly establish multiple trusts for various non-tax reasons without considering possible tax savings (e.g., when transferring interests in a family-owned business). As such, the speaker requested a 'but-for' test, whereby multiple trusts will be disregarded only if they would not have been established but for the tax savings that they are intended to achieve at the time of funding or at the formation of the trust. Under the proposed regulations, trusts that make distributions during the tax year do not reduce taxable income (for purposes of applying the income threshold test) by the amount of the distribution by the trust. One speaker requested that taxable income of trusts not include distributions made to beneficiaries (for which the trust takes a deduction), as it will lead to double counting. Pending the issuance of the final regulations, the proposed regulations explicitly state that taxpayers may rely on the proposed Section 199A regulations until final regulations are published in the Federal Register. In addition, the proposed regulations indicate that certain anti-abuse rules contained in the proposed regulations will apply retroactively, to tax years ending after the date of the enactment of Section 199A, which is December 22, 2017. Document ID: 2018-2109 |
