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How the Loss of the Miscellaneous Itemized Deduction Affects Taxpayers at All Levels

In 2017, Congress passed the Tax Cuts and Job Act, which has been beneficial on the corporate side of tax reform. On the individual side, Congress allowed politics to get in the way of real reform, and that is inexcusable. The most egregious example of this was the elimination the miscellaneous itemized deduction.

The miscellaneous itemized deduction was truly the only legitimate deduction in the Internal Revenue Code (IRC). Its inclusion was absolutely necessary to maintain the integrity of the tax code. This deduction allowed taxpayers the ability to write off expenses that were incurred as part of the process to earn the income they are taxed on! For instance, under prior tax law, a person who earned $100K on an investment but had to pay $30K in legal fees, investment management fees, accounting fees, or other expenses to get it, would pay taxes on only the $70K net that was actually made during the process. With the new change now removing the miscellaneous itemized deduction, this person will have to pay taxes on the full $100K!
Let’s take a look at how this changes affects the little guy, the middle guy, and the wealthy guy in a fictitious New York setting:

The Little Guy: Here’s a fellow who is renting an apartment for his family and he has to deal with landlord security interest. For people who rent and have tenant security, their landlords pay them interest on it and the landlords are allowed to keep 1% per year, essentially as a fee for keeping track of the tenants. When interest rates are low (as they have been for the past few years), it’s not uncommon to have a rate of 1.25%, of which the landlord keeps 1%; this leaves the .25% to the tenant. For example, if the tenant had a $5K security deposit, his interest is $62.50. The landlord would keep $50, leaving $12.50 for the tenant. But the tenant will have to now pay tax on the full $62.50. Even at a modest tax rate of 25%, the tax would be $15.75; therefore the tenant earns $12.50, pays $15.75 in taxes, with a net loss of $3.25.

The Middle Guy:  This person has filed a lawsuit to recover lost wages. In most lawsuits (except physical injury), the legal settlement is taxable. It is not uncommon that, between the lawyer and his fees, they keep 35% and the person keeps 65%. That means, if he wins $100K in his lawsuit, the lawyer gets $35K and he gets $65K. But now, under this change in the provision, his $100K win is taxed on the full amount even though he only actually received 65%. Not only is this unequitable, but it is likely to push him into a new tax bracket. That means he now pays $40K to the IRS (~ 40% tax bracket including federal and state taxes), plus the $35K to the lawyer, netting him only $25K out of the original $100K.

The Wealthy Guy: We have a hedge fund investor. When you have hedge fund investments, rather than reporting and paying taxes on profit, the IRS requires you to break it up into component parts. (Those component parts include interest, qualified and non-qualified dividends, short term gains, and long term gains.) These are all things that contribute to the positive side of calculation. On the negative side, you have operating expenses. The investor then profits from the net of the income, less the expenses. Prior to the change in the tax law, all of the other expenses that reduce profit – which, with hedge funds,  include virtually all operating expenses to earn income, including fees to the managers – were required to be recorded as miscellaneous itemized deductions. Now, with the removal of the deduction, the hedge fund guy has to pay taxes on all of it. For instance say he earned a net profit of $2 million. It was reported to him as income of $3.5 million and operating expenses of $1.5 million, thus netting him the $2 million. Now, even though he earned $2 million, he now pays taxes on the full $3.5 million. The average tax rate for such a taxpayer may be approximately 40% (32% for federal + 8% NY taxes). This means he pays about $1.4 million in taxes. Therefore, hedge fund guy makes $2 million net, pays an actual effective tax rate of 70% (because he is taxed on the full $3.5 million) and gets to keep only $600,000. It should also be noted that if the hedge fund lost money, he would get little-to-no tax benefit as a result of that loss.

The loss of the miscellaneous itemized deductions affects all levels of taxpayers. Simply put, if you can’t deduct miscellaneous itemized expenses, you wind up paying taxes on income that you actually didn’t earn. That is simply outrageous — and unfortunately, it is now the case as a result of last year’s tax reform. Allowing such deductions is truly the construct for fair tax law; everything else is merely subsidies, politics, picking winners and losers. Congress must act to restore this equitable provision and restore confidence to the taxpayers.

Why We Need To Bring Back the Miscellaneous Itemized Deduction

In 2017, Congress passed the Tax Cuts and Job Act, which has been beneficial on the corporate side of tax reform. On the individual side, Congress allowed politics to get in the way of real reform, and that is inexcusable. The most egregious example of this was the elimination the miscellaneous itemized deduction.

The miscellaneous itemized deduction was truly the only legitimate deduction in the Internal Revenue Code (IRC). Its inclusion was absolutely necessary to maintain the integrity of the tax code. This deduction allowed taxpayers the ability to write off expenses that were incurred as part of the process to earn the income they are taxed on! For instance, under prior tax law, a person who earned $100K in a business but had to pay $30K in legal fees to get it,  would pay taxes on only the $70K net that was actually made during the process. With the new change now removing the miscellaneous itemized deduction, this person will have to pay taxes on the full $100K!

Simply put, if you can’t deduct miscellaneous itemized expenses, you wind up paying taxes on income that you actually didn’t earn. That is simply outrageous — and unfortunately, it is now the case as a result of last year’s tax reform. Allowing such deductions is truly the construct for fair tax law; everything else is merely subsidies, politics, picking winners and losers. Congress must act to restore this equitable provision and restore confidence to the taxpayers.

IRS Still Scrutinizing Certain Groups

The long-forgotten IRS scandal has continued to limp along largely unnoticed. Unfortunately, the IRS has not entirely curbed its behavior of discrimination, despite assurances. Some tea party groups still have not had their applications approved; the longest seems to be nearly seven years (Dec. 2009). And that’s not all.

Incredibly instead of finishing the process, more questions and information has been requested in some instances. Yet even more incredulously, the “IRS has taken the unprecedented step of publicly filing actual return information,” putting taxpayer return information in the public realm; it released on of the sets of questions it sent to a tea party group in Texas. Here’s more:

“The IRS has taken the unprecedented step of publicly filing actual return information,” said Edward Greim, who is handling the case on behalf of more than 400 groups targeted by the IRS.
Still, the move to release the information has inflamed an already tense class action legal battle between the IRS and tea party groups who feel the agency is still targeting them more than three years after it promised to cease.

Mr. Greim said releasing the letter is proof that the IRS can’t be trusted to fairly handle the cases.
“The IRS‘ conscious decision to attach this Section 6103-protected request to a public filing makes it even harder to believe that the IRS can treat TPTP and similar groups fairly and neutrally. This is, and will continue to be, a core focus of our litigation in the coming weeks,” he said.

Both the IRS and officials at the Justice Department, which is acting as the tax agency’s lawyer, declined to comment, citing the ongoing legal battle.

But the tax agency said in court papers that Mr. Greim has been misleading the court, and said the documents were designed to prove that the IRS has been dealing fairly with the TPTP. The IRS said the information it requested focuses on the tea party group’s activities and whether they would be illegal for a tax-exempt group to engage in.

“It is more of the same: spurious attacks on the IRS and mischaracterizations of the facts,” the Justice Department said in its briefs.

The IRS admitted in 2013 that it singled tea party groups out for intrusive scrutiny, including crossing lines by asking questions about the groups’ associations, meetings and even members’ reading habits. Some groups received multiple letters, each time further delaying their applications.
After being dinged by its inspector general, the agency promised it would stop asking inappropriate questions, and insisted it canceled the use of secret targeting lists to single out groups.
But a federal appeals court this summer ruled that as long as some groups are still stuck in the backlog, the IRS is still conducting illegal targeting.

The tax agency, which had been blocking processing, claiming it couldn’t do anything while the court cases were proceeding, quickly kicked into gear and announced they would process the three remaining cases.

In a letter last week to the TPTP, the IRS fired off a new set of questions — the fourth inquiry the group has received since it applied for nonprofit status in 2012. In the new questions, IRS agent Jerry Fierro said he looked over the group’s website and spotted potential trouble spots, including “rallies, parades, educational workshops, speaking events, voter registration drives, fund raisers and straw polls.”

The IRS says those activities could squelch a group’s application.

Mr. Greim, the lawyer for the TPTP, said in making its letter public, the IRS was showing how aggressive its tactics are toward tea party groups. He said the agency, which has held up the TPTP’s application for 41 months, only gave the organization 30 days to respond, and said if the questions aren’t all answered, it could derail the application again.

“The IRS‘ conscious decision to attach this Section 6103-protected request to a public filing makes it even harder to believe that the IRS can treat TPTP and similar groups fairly and neutrally,” Mr. Greim said.
Section 6013 of the tax code prohibits sharing of information from taxpayers’ returns.

Tax experts said the IRS letter is likely considered protected information, but they said the IRS is probably on safe legal ground because the law allows for information to be filed if the taxpayer is a party in a lawsuit and the filing directly relates to an issue in the case.

In addition to the TPTP, two other tea party groups that were targeted by the IRS are still awaiting approval. Unite in Action, a Michigan-based group, applied in 2010, and the Albuquerque Tea Party applied nearly seven years ago, in December 2009.

Jay Sekulow, chief counsel at the American Center for Law and Justice, which represents the other two groups, said they have not received a new set of questions similar to the list sent to the TPTP. But he said he’s been prodding the
IRS for a final decision.

“We again demanded that they review their applications and process them in a fair and expeditious manner,” he said in a statement.

Obamacare Numbers Still Way Off Projected Mark


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With the insurance enrollment period ending in mid-December, Healthcare.gov announced that 8.2 million Americans selected plans for 2016 in 38 states. The Administration is touting the 8.2 figure as a “success” by comparing it to the 6 million plan selections by the same time last year. There was no mention, however, of how the 8.2 million number falls exceedingly short of the 21 million projected to be Obamacare users.

One amusing point is how the Administration parsed its words. “Plan selection” is an important phrase in Obamacare-speak. It means that many people chose these plans, filled out the forms, and submitted them — but did not necessarily pay for them. This is why they didn’t use the term “enroll” when describing the Obamacare figures. In order to be considered to be actually enrolled, one must pay the first month’s premium. Not everyone will actually go ahead and pay their premium, and the federal Obamacare numbers will inevitably be even smaller because of it.

The current figure excludes the state insurance exchanges. When these are added to the federal numbers, the Obama Administration is hoping that will get them over the 10 million mark for this year — half of what was touted when Obamacare was passed. If they do hit that number, it still means that only about a million people were added to Obamacare this year, as last year’s enrollment ended up being about 9.1 million users.

In the debates leading up to Obamacare, it was argued that Obamacare should be voted for because it would get eventually get 28 million of the uninsured 45 million Americans (15% of the 315 million population). At that projected target, the 28 million would only be covering 70% of the then-uninsured, which is decent but not excellent. It is clear now that NOBODY would have voted for Obamacare if they only expected to cover 10 million (or barely more than 20%) of the then-uninsured, which is where we currently are. That is the key, salient point that is now being lost in the discussions.

The ACA continues to be a disaster for all taxpayers.