IRS Guidance on Determining Amount of Taxable State Tax Refund

The IRC section 164(b)(6), adopted as part of the Tax Cuts and Jobs Act, limits an individual’s deduction for the total amount of state and local taxes paid during the calendar year to $10,000 for joint filers.  Many taxpayers have experienced the ill impact this limitation had on their 2018 personal income tax returns.  The IRS issued Rev. Rul. 2019-11 (the “Guidance”) providing guidance on how this limitation impacts when determining the amount of state and local tax refunds that are taxable on their 2019 personal income tax returns.

The Guidance provides that if a taxpayer received a tax benefit from deducting state or local taxes in a prior taxable year and the taxpayer recovers all or a portion of those taxes in the current taxable year, the taxpayer must include in current year gross income the lesser of (1) the difference between the taxpayer’s total itemized deductions taken in the prior year and the amount of itemized deductions the taxpayer would have taken in the prior year had the taxpayer paid the proper amount of state and local tax or (2) the difference between the taxpayer’s itemized deductions taken in the prior year and the standard deduction amount for the prior year, if the taxpayer was not precluded from taking the standard deduction in the prior year.  This holding applies to the recovery of any state or local tax, including state or local income tax and state or local real or personal property tax.

This holding is consistent with the tax benefit rule provided under IRC section 111 which excludes from gross income amounts attributable to the recovery during the tax year of any amount deducted in any prior year to the extent the amount did not reduce the amount of tax imposed.

Please refer to https://www.irs.gov/pub/irs-drop/rr-19-11.pdf for additional detail.

FASB’s Proposal to Simplify Accounting for Income Taxes

On May 14, 2019, the FASB proposed Accounting Standards Update (ASU) to simplify accounting for income taxes.  The proposed ASU would remove certain exceptions to the general principles in ASC Topic 740, Income Taxes, as summarized below:

• The removal of the exception to the incremental approach for intraperiod tax allocation when there is a loss from continuing operations and income or a gain from other items.

• The removal of the exception to accounting for basis differences when there are ownership changes in foreign investments.

• The removal of the exception to asserting indefinite reinvestment on a foreign subsidiary that was converted from an equity method investment.

• The exception in recognizing tax benefit in an interim period when year-to-date losses exceed anticipated losses.

• Requiring franchise tax or other taxes attributable to income base to be recognized as income taxes under ASC 740.

• Removal of requirement to allocate consolidated current and deferred tax expense to a non-tax paying entities’ separate financial statement.

• Requiring entities to reflect tax effect of change in tax law or tax rate in the interim period that includes the enactment date as a discrete item, rather than to reflect it in the annual effective rate.

For additional information, please click on the link below:

https://www.fasb.org/jsp/FASB/Document_C/DocumentPage?cid=1176172652976&acceptedDisclaimer=true