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Cryptocurrency Tax Reporting

Posted on August 18th, 2021
Posted by Muhammad Akram, CPA

The Senate recently passed the Infrastructure Investment and Jobs Act contains significant provisions that expand the scope of cryptocurrency tax reporting.

Broker Definition Amended / Expanded

IRC Section 6045 would be amended to define a broker as including “any person who is responsible for regularly providing any service effectuating transfers of digital assets on behalf of another person.”

Industry participants and a number of Senators had voiced their concern that this provision was overbroad and could bring into scope certain non-custodial actors within the crypto ecosystem such as blockchain validators, sellers of hardware and software wallets and software protocol developers.

Covered Securities

Digital assets are “covered securities” if acquired on or after January 1, 2023. Covered securities under Section 6045 are subject to cost basis reporting by the broker. This will leave relatively little time for institutions to implement cost basis functionality into their core systems.

Transfer Reporting for Crypto Assets

Section 6045A which currently governs the production of transfer statements when accounts are transferred between brokers would also cover transfers of digital assets.

Section 6045A (d) would require a broker to report transfers of digital assets to an account or address not maintained by a broker e.g. private wallets.

Digital Assets Defined

Any digital representation of value that is recorded on a cryptographically secured distributed ledger or any similar technology as specified by the Secretary are digital assets.

This definition includes common cryptocurrencies but could have broader application to other (and newly developed) digital assets such as nonfungible tokens or NFTs.

Receipt of Digital Assets

Digital assets would also be treated as “cash” for purposes of the statutory requirement to report receipts of cash in excess of $10,000.

The provision applies to any person engaged in a trade or business and who, in the course of such trade or business, receives more than $10,000 in cash in one transaction or two or more related transactions.

Tax Reporting by Crypto Exchanges

The Senate Infrastructure bill next goes to the House, which is due to reconvene in September. Akram expect that there will be continuing lobbying by industry participants to limit the scope of the “broker” definition.

Crypto tax reporting for exchanges and institutions that fall within the definition of “broker” would utilize a Form 1099-B or a new form with a similar format, rather than a Form 1099-K (currently applicable).

Institutions that would likely fall within the broker definition (e.g., centralized exchanges), it may be an opportune time to begin assessing existing systems and procedures for cost basis and broader broker tax reporting readiness.


Infrastructure Bill Passed by the Senate

Posted on August 10th, 2021
Posted by Muhammad Akram, CPA

The Senate on August 10 voted to pass a $1 trillion bipartisan infrastructure bill (H.R. 3684, the INVEST in America Act) that includes $550 billion in new spending on highways, bridges, waterways, transit, airports, the electric grid, and broadband.

The Senate bill includes other tax and non-tax offsets, including a new cryptocurrency information reporting requirement that is the subject of ongoing debate and a measure reinstating Superfund excise taxes on chemicals.  

President Biden and moderate Democrats in the House and Senate may push for final passage of infrastructure legislation before all work is completed on a reconciliation bill.Approval of a budget resolution with identical reconciliation instructions by both chambers would provide the procedural protections needed to enact a reconciliation spending and tax bill with only Democratic votes. Support of all 50 Democratic Senators and virtually all House Democrats would be needed to pass such legislation over the objections of Congressional Republicans. 

Corporations and individuals should assess the potential effects of increased federal support for infrastructure on the US economy.

Senate passes bipartisan infrastructure bill

The Senate-passed infrastructure bill extends current transportation authorization legislation and related fuel excise taxes while increasing current funding levels by $550 billion over the next eight years. Under the legislation, current federal highway-related excise taxes are extended through September 30, 2028.

With the addition of $550 billion in new funding, the overall package provides $1 trillion over eight years for infrastructure improvements that include highways, bridges, waterways, transit, airports, the electric grid, and broadband. The legislation is intended to reduce permitting time for larger infrastructure projects while maintaining environmental standards. The bill’s sponsors also have stated that the legislation makes investments on infrastructure needed for a low-carbon economy and helps to reduce emissions and improve the environment.

Tax offsets include:

  • A new cryptocurrency information reporting requirement 
  • Reinstatement and modification of Superfund excise taxes on chemicals
  • Extension of interest rate smoothing options for defined benefit plans
  • Modifications to private activity bond provisions (for additional financing of projects)
  • Sunsetting the COVID-19 employee retention tax credit after September 30, 2021.

The cryptocurrency provision is one of many which the House may address when it considers the Senate infrastructure bill. Both chambers must agree on a final identical version of the legislation before it can be signed by President Biden.  The Congressional Budget Office (CBO) has projected that the bill would increase the federal deficit by $256 billion over 10 years.

Budget resolution debate

The Senate is set to begin consideration of a fiscal year 2022 budget resolution that provides reconciliation instructions intended to advance parts of President Biden’s economic agenda that are not included in the Senate-passed bipartisan infrastructure bill.

The Senate Finance Committee is expected to consider revenue-raising proposals offered by President Biden that include a corporate rate increase, international tax changes, an increase in the top ordinary individual income tax rate, and changes to the taxation of investment income. The Finance Committee also may consider additional revenue-raising proposals offered by members of Congress.

For example, Finance Chairman Wyden recently released draft bills that

  • limit and modify the Section 199A 20% deduction for certain pass-through business income;
  •  modify the treatment of derivatives and expand the scope of the mark-to-market rule; and
  • modify the treatment of carried interest income by investment fund managers and end the deferral of certain tax payments. 

Fiscal deadlines ahead

The House and Senate will be facing a number of fiscal deadlines when they reconvene in September. Congress next month is expected to consider a ‘continuing resolution’ to maintain funding for federal departments and agencies beyond September 30 when current government funding legislation expires.

A debt limit measure potentially could be included in the budget reconciliation bill or could be addressed in September along with a short-term government funding continuing resolution.


A Qualified Client Threshold

Posted on July 15th, 2021
Posted by Muhammad Akram, CPA

On August 16, 2021, ” a qualified client threshold” under Rule 205‑3 of the Investment Advisers Act of 1940 (“Advisers Act”) will increase (i) from $1 million to $1.1 million (assets under management test), and (ii) from $2.1 million to $2.2 million (net worth test).

Subscription documents for certain private funds and investment management agreements for certain separately managed accounts will need to be updated by August 16, 2021, to reflect new “qualified client” assets-under-management and net worth thresholds.

These changes directly affect private funds relying on the 3(c)(1) exemption, but many 3(c)(7) documents contain qualified client representations and may need to be updated.

A Qualified Client Threshold

A qualified client is an investor or client that is not affiliated with the adviser and that satisfies an assets-under-management test or a net worth test which, as of August 16, 2021, will be increased (as a result of a re-indexing performed every five years) as follows:

i) The threshold for assets under management by the adviser will increase from $1 million to $1.1 million.

ii) The investor or client net worth threshold (which includes spousal assets) will increase from $2.1 million to $2.2 million excluding the client’s or investor’s primary residence and related debt.

In general, only new investors and clients are affected by this change. Most existing fund investments and SMA arrangements are grandfathered (for example, investors who previously invested in a 3(c)(1) fund and met the prior threshold can continue to make investments in that 3(c)(1) fund without meeting the new threshold). Transfers of fund interests may be grandfathered, but should be analyzed.

Registered investment advisers should consider the following steps:

i) Amend the form subscription documents being used for 3(c)(1) funds.

ii) Amend any forms for SMA agreements that provide for incentive compensation.

iii) Review form subscription documents for non-3(c)(1) funds and amend any qualified client representations.

iv) Establish controls to prevent future distributions of un-amended subscription documents and SMA agreements.

v) Establish procedures with the adviser’s operations and investor relations teams, and with each fund administrator, to flag unamended subscription documents and SMA agreements and to obtain updated qualified client representations. Consider including a confirmation of these steps into the annual compliance review.


High Income Taxpayers Should Prepare for Possible Tax Changes?

Posted on June 8th, 2021
Posted by Muhammad Akram, CPA

It is an uncertain time to prepare for any possible changes to the tax code. Tax planning for any proposed changes is challenging due to the uncertainty around which tax provisions will pass. However, the more knowledgeable taxpayers are about the possibilities, the more high-income taxpayers can achieve their tax planning goals and adjust their tax strategy accordingly. Below is a summary of important tax proposals, which are focused on high-income taxpayers:

          i)              An increase in the top individual income tax rate back up to 39.6 percent from 37%, High income tax payers earn income more than $1 million, the tax rate on long-term capital gains and dividends may increase to 39.6 percent from 20 percent (eliminating the tax break for carried interest).

          ii)             A proposal to end the tax deferral for section 1031 like-kind exchanges for gains in excess of $500,000, which allows real estate investors to defer income tax when they meet the requirements for the exchange of similar property.

          iii)             Eliminating stepped-up tax basis for estates with a $1 million exemption, keeping the existing exemption for the sale of personal residences. This would end the practice of “stepping-up” the basis for gains in excess of $1 million ($2.5 million per couple when combined with existing real estate exemptions) and capital gains are taxed if the property is not donated to charity.

          iv)            A permanent extension to the current limitation in place that restricts the immediate use of large, excess business losses, which primarily benefits those making over $1 million. Currently, trade or business losses that are limited to $250,000/$500,000 can be utilized against other income such as wages and portfolio income. This provision is scheduled to expire after 2025.

There is certainty related to the Biden administration tax proposals being passed by Congress. There is          uncertainty as to when the proposed tax law changes can be implemented (either retroactively or prospectively).We will be closely monitoring any progress in anticipation that something will occur in a timeframe that should make them a top priority for taxpayers to address.

Tax planning is challenging until more is known, but high-income taxpayers may want to consider how the anticipated tax proposals might impact any transactions. Please contact Akram and discuss with us to adjust your tax strategy accordingly.


Biden’s Tax Proposals would tax Corporations and High-Income Earners

Posted on May 28th, 2021
Posted by Muhammad Akram, CPA

The US Treasury released a 114-page “Green Book” general explanation of tax proposals included in President Joe Biden’s fiscal year (FY) 2022 budget submission to Congress on May 28, 2021.

The President’s budget proposes to increase IRS funding by $1.3 billion to $13.2 billion as part of efforts to collect $778 billion over 10 years from increased tax compliance measures.  President Biden proposes key corporate and individual tax increases:

Corporate Tax Increase Proposals:

  • Increasing the corporate tax rate from 21% to 28%;
  • Increasing the GILTI tax rate to reducing the Section 250 deduction from 50% to 25% (to achieve a 21% GILTI rate assuming a 28% corporate income tax rate), applying GILTI on a per-country basis, and eliminating the 10% deduction for qualified business asset investment (QBAI);
  • Repealing the deduction for foreign derived intangible income (FDII) and using the resulting revenue to expand R&D investment incentives;
  • Imposing a 15% minimum tax on corporations with book income above $2 billion;
  • Eliminating tax preferences for fossil fuels (including the enhanced oil recovery credit, expensing for intangible drilling costs, and percentage depletion for oil and natural gas wells) and reinstating Superfund taxes;

Individual Tax Increase Proposals:

  • Increasing the current top individual income tax rate from 37% to 39.6%;
  • Taxing capital gain and qualified dividend income at ordinary rates for individuals with adjusted gross income above $1 million;
  • Limiting the current step-up in basis rule by treating transfers of certain appreciated property by gift or on death as realization events, with exclusions provided for certain transfers, a general $1 million exclusion (per spouse) indexed for inflation, and special rules provided for certain family-owned and -operated businesses;
  • Broadening application of the 3.8% net investment tax;
  • Ending “carried interest” capital gains treatment of certain partnership investment income;
  • Extending permanently the current limitation on certain excess business losses, and
  • Eliminating like-kind exchange tax treatment for real estate gains greater than $500,000 ($1 million for joint returns).
  • Key moderate Democrats in Congress have stated that they will not support increasing the US corporate tax rate above 25%. While reinstating the top individual income tax rate to the 39.6% level appears to have broad support among Congressional Democrats, a number of moderate Democrats in the House and Senate have expressed objections or concerns about President Biden’s proposals to sharply increase taxes on investment income and make changes to step-up in basis tax rules.

President’s Biden tax proposal uncertainty and proposed effective dates

While the overall outlook for action on President Biden’s tax proposals is uncertain, Congress in recent history has approved tax rate increase proposals only on a prospective basis. It is unusual for an administration to propose a retroactive effective date for a tax increase based on the release of a document like the American Families Plan, particularly when the document lacks important details, such as effective dates.

President Biden’s tax increase proposals will need the support of all 50 Democratic Senators and nearly all House Democrats to be enacted over the expected objections of Congressional Republicans. Moderate Democrats in the House and Senate may seek to scale back some of President Biden’s proposals and may seek to block others.

The President’s budget generally assumes that most of the tax increase proposals would be effective for tax years beginning after December 31, 2021, while some would be effective for tax years beginning after the date of enactment. However, the President’s proposal to increase capital gains tax rates is proposed to be retroactively effective “for gains required to be recognized after the date of announcement.” Biden administration officials have indicated that “date of announcement” is meant to be April 28, 2021 — the date President Biden announced his American Families Plan. 

The Administration proposal to increase the corporate tax rate from 21% to 28% is proposed to be effective for taxable years beginning after December 31, 2021. For taxable years beginning after January 1, 2021 and before January 1, 2022, the tax rate would be equal to 21 percent plus 7 percent times the portion of the taxable year that occurs in 2022.

The President’s proposal to treat transfers of appreciated property by gift or on death as realization events is proposed to be effective for gains on property transferred by gift, and on property owned at death by decedents dying, after December 31, 2021, and on certain property owned by trusts, partnerships, and other non-corporate entities on January 1, 2022.

Conclusion

Corporations and high-income earners should review the Treasury Green Book released on May 28, 2021 to evaluate and model the potential effect of President Biden’s tax proposals for the FY 2022 budget.


May 17 is deadline for more than just individual tax returns

Posted on May 10th, 2021
Posted by Muhammad Akram, CPA

Monday, May 17 is the deadline for more than just individual returns. Here is a list of some other May 17 tax deadlines:

  • Individual return extension requests– Extend beyond May 17 by filing Form 4868 or by making an electronic tax payment.
  • Contributions to IRAs and health savings accounts– 2020 contributions to individual retirement arrangements (IRAs), Roth IRAs, Health savings accounts, Archer medical savings accounts, and Coverdell education savings accounts.

Withdrawals of any 2020 contributions to an IRA, including excess 2020 contributions (if you didn’t request a filing extension). (Note that this rule doesn’t apply to the following retirement plans: 401(k), 403(b), SARSEP and SIMPLE IRA plans. That deadline was April 15, 2021.Self-employed persons retirement plan contributions– Contributions to a Solo 401(k) plan or Simplified Employee Pension (SEP) IRA for 2020 (if you didn’t request a filing extension).

  • Retirement plan distributions– Reporting and paying the 10% additional tax on amounts included in gross income from 2020 distributions from IRAs or workplace-based retirement plans.
  • Payroll taxes for household employees–  Form 1040, Schedule H (Household Employment Taxes), even if you aren’t required to file Form 1040 itself.
  • 2017 unclaimed refunds– The law provides a three-year window to claim a refund. To get the unclaimed refund, a taxpayer must properly address and mail the tax return, postmarked by May 17, 2021. If a taxpayer doesn’t file a return within three years, the money becomes property of the U.S. Treasury.
  • Foreign trusts and estates– Foreign trusts and estates with federal income tax filing or payment obligations, who file Form 1040-NR.
  • Returns for calendar year tax-exempt organizations– Forms in the 990 series, including  Form 990-T, Exempt Organization Business Income Tax Return.


How to Qualify for Trader Tax Status?

Posted on April 28th, 2021
Posted by Muhammad Akram, CPA

Trader Tax Status (TTS) is not easy to qualify. There is no statutory law with objective tests for trader tax eligibility. Subjective court case law requires a two-part test:

  • Taxpayers’ trading activity must be substantial, regular, frequent, and continuous.
  • A taxpayer must seek to catch swings in daily market movements and profit from these short-term changes rather than profiting from long-term holding of investments. Trader Tax Status

Who is eligible for Trader Tax Status?

Following factors should be considered in case the IRS look into your trading history or style:

  • Volume: Akram recommends an average of four trades per day, four days per week, 16 trades per week, 60 a month, and 720 per year on an annualized basis. Count each open and closing trade separately.
  • Frequency: Execute trades on close to four days per week, around a 75% frequency rate.
  • Holding period: Average holding period must be 31 days or less. That’s a bright-line test.
  • Avoid sporadic lapses: A trader has few to no intermittent stoppages in the trading business during the year.
  • Intention: Has the intention to run a business and make a living. It doesn’t have to be your primary living.
  • Trades full-time or part-time: Part-time and money-losing traders face more IRS scrutiny, and individuals face more scrutiny than entity traders.
  • Hours: Spends more than four hours per day, almost every market day, working on his trading business.
  • Operations: Has significant business equipment, education, business services, and a home office.
  • Account size: Securities traders need to have $50,000 in their brokerage account. For the minimum account size, we like to see not less than $25,000.

Who Doesn’t Qualify for Tax Trader Status?

Trading activity in non-taxable retirement accounts doesn’t count for purposes of TTS qualification

A computerized trading service (ATS) with little to no trader involvement doesn’t qualify for TTS.

Trade copying is similar to using a canned ATS or outside adviser, where the copycat trader might not qualify for TTS on those trades.

Hiring an investment adviser or commodity trading adviser (CTA) to trade one’s account doesn’t count toward TTS qualification.

Contact Us Today!

Akram can help you determine your eligibility if you qualify for trader tax status.


100% Business Tax Deduction for Food and Beverages

Posted on April 12th, 2021
Posted by Gias Khan, CPA

The IRS has provided guidance on tax relief for a tax deduction for food or beverages from restaurants. The Taxpayer Certainty and Disaster Tax Relief Act of 2020 added a temporary exception to the 50% limit on the amount that businesses may deduct for food or beverages.

Tax Deduction for Foods & Beverages

The temporary exception allows a 100% deduction from January 1, 2021 through December 31, 2022 for food or beverages from restaurants as long as the business owner (or an employee of the business) is present when food or beverages are provided and the expense is not lavish or extravagant under the circumstances.

Under the temporary provision, restaurants include businesses that prepare and sell food or beverages to retail customers for immediate on-premises and/or off-premises consumption.

Restaurants Will Benefit

However, restaurants do not include businesses that primarily sell pre-packaged goods not for immediate consumption, such as grocery stores and convenience stores.

Akram team can help you to get full business meals deduction


2020 Individual Tax Return Has Been Extended to May 17

Posted on March 18th, 2021
Posted by Muhammad Akram, CPA

The Internal Revenue Service (IRS) announced yesterday that the deadline for filing 2020 individual income tax return has been extended to May 17, 2021 (from April 15, 2021). Taxpayers have more time to apply the tax relief and changes contained in recent stimulus legislation (American Rescue Plan).

Individual Income Tax Return Extended to May 17 Key Points

We have mentioned below key points for your consideration:

  • No penalties or interest will accrue on 2020 tax obligations prior to the May 17, 2021 deadline.
  • Penalties, interest and additions will begin to accrue on any remaining 2020 tax obligations not paid by May 17, 2021.
  • This change of federal tax deadline does not extend your state income tax deadline.
  • Taxpayers who put their returns on extension will have until October 15, 2021 to file, regardless of this change to the original deadline. However, payment of 2020 taxes are still due on May 17, 2021.
  • This extension applies only to individual taxpayers, including those who pay self-employment tax. This is an automatic extension and does not require notifying the IRS or filing any forms.
  • Estimated 2021 Q1 tax payments are still due on April 15, 2021.

We encourage taxpayers to file their 2020 tax returns by original due date (April 15, 2021) to avoid confusion between Federal (May 17) and State (April 15) filing deadlines especially those who are due a refund.

Akram will keep you informed of any updates as the IRS issues more guidance or changes to this information. If you have any questions please reach out to us.


Hedge Funds : New Tax Reporting Requirements

Posted on March 15th, 2021
Posted by Muhammad Akram, CPA

Fund managers should be aware of a number of changes in reporting requirements for the tax year 2020. Funds are required to report each partner’s capital account using a tax basis capital method in accordance with 2020 Partner’s instructions for Schedule K-1(Form 1065) and  Notice 2020-43.

Tax-Basis Capital Reporting

Funds had no choice to convert from the GAAP basis to the tax basis method of reporting in accordance with IRS instructions for Form 1065 for 2020.

Partner’s beginning capital balance per 2020 schedule k-1 will not match the ending capital balance per 2019 schedule k-1.

In order to determine each partner’s beginning capital account balance as of January 1, 2020, the Fund should use the modified previously taxed capital method as outlined in the 2020 instructions for form 1065. In determining each partner net liquidity value, the partnership may use the GAAP basis of the assets to calculate each partner’s entitlement if the partnership were to liquidate.

Tax Preparation and Reporting Best Practices

Following best practices are mentioned below for tax preparation and reporting:

  • Assess whether Hedge Funds have current W-9s and W-8s for the investors.
  • 1099s need to be reconciled with the fund’s records. Brokers may record transactions differently from the way the fund has recorded them. It’s a good idea to have your tax professional review and resolve these differences early in the tax preparation process.
  • Keep in mind January 2021 transactions can impact 2020 wash sales. The Wash Sale rule is triggered if “substantially identical” securities are purchased within 30 days prior to or 30 days after the sale of another security at a loss.
  • You may be familiar with the “constructive sale,” which adds unrealized gains into your taxable income. It occurs when a taxpayer is holding at year-end (December 31, 2020) appreciated property (e.g., stock), while also holding a short position with respect to the same or “substantially identical” property. During January and February of 2021, the following circumstances can help you avoid the constructive sale rule.
    • Offsetting position is closed within 30 days after the end of the year,
    • Appreciated financial position is held throughout the 60-day period beginning on the date such transaction is closed, and
    • During that 60-day period the taxpayer does not enter into certain transactions that would diminish the risk of loss during that time on such position.

Calculate Qualified Business Income (QBI) on Partner’s Schedule K-1

A new worksheet for the individual taxpayer, Form 8995, must now be used to calculate QBI reporting on Schedule K-1. Form 8995’s instructions includes a flowchart for calculating restrictions and limitations on each business that creates QBI. Each business must stand separately and will require its own Form 8995.

U.S. Withholdings on partnership interest transfers with ECI

When a non-U.S. person engages in a trade or business in the U.S., income from sources within the U.S. connected with the conduct of that trade or business is generally considered to be Effectively Connected Income (ECI). Proposed regulations under IRC Section 1446(f) provide guidance about reporting ECI and the 10% withholding. IRS filing requirements related to this new withholding include Form 8288. The proposed regulations contain some stringent rules that can adversely impact foreign investors.

Please don’t hesitate to contact Akram to learn more about these exceptions and how they may impact your tax liability.


The American Rescue Plan of 2021

Posted on March 12th, 2021
Posted by Muhammad Akram, CPA

President Biden signed the American Rescue Plan Act (“ARPA”) of 2021 on March 11, 2021, a massive $1.9 trillion stimulus package intended to address the extraordinary impact of the coronavirus pandemic.  Important highlights are mentioned below:

HIGHLIGHTS:

  • Stimulus payments and additional supplemental unemployment benefits to individual taxpayers
  • Aid to states and municipalities, hospitals, and schools
  • Additional funding for the Emergency Injury Disaster Loan (EIDL) Program and the Paycheck Protection Program (PPP)
  • Vaccination, testing funding and health insurance subsidies
  • Aid to airlines / airports, restaurants and venue operators
  • Nutritional assistance and housing or rental aid

BUSINESS PROVISIONS : There are limited number of business tax provisions introduced in ARPA:

i) Employee Retention Credit (ERC)– The ARPA extends the ERC through December 31, 2021 and allows businesses to claim an ERC payroll tax credit of up to $7,000 per employee per quarter or $28,000 per employee for the entire year. Doubling the benefit of the already favorable 2021 ERC rules.

Business must experience either partially or fully suspended operations due to restrictions imposed by the government or a significant decline in gross receipts to qualify for the ERC. A “significant decline” in gross receipt occurs if an employer’s gross receipts for a given 2020 quarter are less than 50% of its gross receipts for the same calendar quarter in 2019. An eligible 2021 quarter requires a decline in gross receipts of more than 20% as compared to the same applicable quarter in 2019.

ii) Recovery Start-up business– The ARPA introduced a new tax provision for “recovery start-up businesses” (“RSBs”) that began carrying on a trade or business after February 15, 2020. An RSB meets the ERC eligibility test even if it does not meet the ERC requirement of either suspended operations or a significant decline in gross receipts. The ERC is limited to $50,000 per quarter for RSBs.

iii)   Relief for Restaurants and Similar Places of Business– The ARPA introduces substantial financial relief for restaurants and similar places of business in the form of “restaurant revitalization grants.” Gross income does not include amounts received as restaurant revitalization grants.

iv) Paid Sick and Family Leave Credit– The paid sick and paid family leave credits for employers under the Families First Coronavirus Response Act are extended to the period April 1-September 30, 2021. It also increases the amount of wages for which an employer may claim the family leave credit from $10,000 to $12,000 per employee per year.

Any amount so excluded from income under this provision is treated as tax-exempt income in the case of a partnership or S corporation. That allows the amounts excluded to increase the basis of partners or S corporation shareholders in their partnership/S corporation interests. No deduction is denied or no tax attribute is reduced and no basis increase is denied by reason of this exclusion from gross income.

v)         Treatment of Targeted EIDL – Gross income does not include amounts received as a targeted emergency economic injury disaster loan advance. As in the case of restaurant revitalization grants, any amount excluded from income under this provision is treated as tax-exempt income in the case of a partnership or S corporation. That allows the amounts excluded to increase the basis of partners or S corporation shareholders in their partnership or S corporation interests.

No deduction is denied, no tax attribute is reduced and no basis increase is denied by reason of this exclusion from gross income.

INDIVIDUAL PROVISIONS

i) Individual Recovery Rebates– The ARPA provides refundable credits for eligible individuals of up to $1,400 for single filers (and up to $2,800 for joint filers), plus $1,400 for child and non-child dependents.

Rebates are subject to phase-out thresholds beginning at $75,000 of adjusted gross income (“AGI”) for single filers / $112,500 for heads of household / $150,000 for joint filers. Rebates are not available for single filers with AGI over $80,000, heads of household with AGI over $120,000 and joint filers with AGI over $160,000.

An eligible individual must have a valid social security number and must not be a nonresident alien, an estate or trust, or an individual who is claimed as a dependent of another eligible individual. The rebate is not subject to reduction or offset by any other federal tax liability.

ii) Unemployment Benefits– Weekly supplemental unemployment benefits of $300 are generally extended through September 6, 2021. For any taxable year beginning in 2020, the first $10,200 of unemployment compensation (in the case of a joint return, up to $10,200 received by each spouse) is tax-free for taxpayers with AGI of less than $150,000.  Returns filed with unemployment benefits prior to the $10,200 exclusion should not be amended per IRS guideline. The IRS has indicated it will refigure taxes on these returns and adjust the taxpayer’s account accordingly. The IRS will then send any refund amount directly to the taxpayer.

iii)        Dependent Care Tax Credit– This credit is made refundable and is potentially worth up to $4,000 for one qualifying individual and $8,000 for two or more, subject to reduction based on a taxpayer’s AGI for 2021. The maximum credit is available to households with AGI of up to $125,000 (instead of $15,000 under pre-ARPA law).

The ARPA also increases the exclusion from income for employer-provided dependent care assistance from $5,000 to $10,500 (from $2,500 to $5,250 in the case of a separate return filed by a married individual) for 2021.

iv)        Child Tax Credit– This credit is fully refundable if the credit exceeds taxes owed for 2021. It is increased to $3600 for children under six years old and to $3,000 for children six to seventeen, subject to phase-out. The full credit is available to married couples filing jointly (or a surviving spouse) with modified AGI of up to $150,000 ($112,500 in the case of heads of household and $75,000 in any other case).

The ARPA provides for an advance payment of approximately 50% of the credit, to be paid to the taxpayer in equal installments during 2021, with the remainder claimed on the 2021 tax return.

v)         Earned Income Tax Credit (“EITC”)– The ARPA expands the eligibility and amount of the EITC for taxpayers with no qualifying children (“childless EITC”) for 2021. The maximum age to claim the childless EITC is reduced from 25 to 19 (except for certain full-time students and homeless/former foster youth), and the upper age limit for the childless EITC is eliminated.

The ARPA also allows a married but separated individual to be treated as not married for purposes of the EITC if a joint return is not filed. In these instances, as a general rule, the EITC may be claimed by an individual on a separate return so long as the qualifying child lives with the taxpayer for more than six months of the year and the taxpayer

  • does not have the same principal place of abode as the taxpayer’s spouse for the last six months of the year or
  • has a separation instrument and is not a member of the same household with the spouse by the end of the year.

The ARPA also increases the limitation on disqualified investments for purposes of claiming the EITC from $3,650 to greater than $10,000. Taxpayers may compute the EITC by substituting their 2019 earned income for their 2021 earned income if the 2021 earned income is less than the 2019 amount.

vi)        Student Loan Forgiveness– Gross income does not include any amount which would be includible in gross income by reason of the discharge of indebtedness of eligible student loans in 2021-2025. The exclusion from income does not apply if the discharge of a loan made by certain lenders is on account of services performed for the lender.

vii)       Extension of Limitation on Excess Business Losses for Non-Corporate Taxpayers– The Tax Cuts and Jobs Act of 2017 (“TCJA”) contained a provision that limited the deductibility of current-year business losses for pass-through businesses and sole proprietorships. The limitation was $500,000 on a joint tax return and $250,000 for all other filers. A business loss in excess of these amounts was disallowed in the year in which it was incurred and was converted into net operating losses that could be utilized in a future tax year. The CARES Act suspended the implementation of this section until tax years beginning after December 31, 2020.

Under the TCJA, this provision did not apply to tax years beginning after December 31, 2025. The ARPA extends the application of this section one year, to include tax years beginning before January 1, 2027.


Selecting the Right Hedge Fund Structure

Posted on February 28th, 2021
Posted by Muhammad Akram, CPA

Selecting the right hedge fund structure requires careful planning and a diligent approach as there are many moving pieces that need to be addressed before accepting outside capital.

New operational and regulatory requirements have added complexities and cost to organizing and running a fund vehicle in the U.S. and abroad. Aligning yourself with strong service provider partners will be essential as you navigate through the operational, tax and legal nuances of operating a fund in various jurisdictions.

Investment manager should identify which structure is most effective for the investment strategy and the investor base. Keep reading to learn about the most common hedge fund structures for U.S. investment managers.

Common Hedge Fund Structures

The most common hedge fund structures for U.S. based investment managers include a stand-alone domestic fund, a master-feeder fund structure, a side-by-side vehicle and a min-master fund. . Each investment vehicle and the jurisdiction where it is domiciled have unique nuances.

Stand Alone Hedge Fund Structure

A stand-alone hedge fund is setup as a Delaware Limited Partnership with a Limited Liability Company (LLC) acting as the General Partner (GP) in the state in which the GP is located. Fund managers who form U.S. Limited Partnerships anticipate a U.S. investor base with few or no tax-exempt and foreign investors.

The Partnership must also file Schedule K-1s for each LP and GP to document business income and losses based on each individual LP’s investment.  

A consideration that U.S. investment managers will need to make from the onset is whether the fund will engage as a Securities Trader (engaged in trade or business) or as an Investor during a tax period. A Securities Trader buys and sells securities with reasonable frequency in order to profit on a short-term basis. To qualify as a Securities Trader, a fund’s trading activity must be frequent, substantial, regular and continuous enough to constitute as a business.

Determination as a Securities Trader or Investor has a significant impact on a fund’s partners to deduct expenses incurred by the fund for U.S. federal and state income tax purposes. Reference our article on Trader vs. Investor Status here.

Master-Feeder Fund Structure

A master-feeder fund is the most common structure and efficient structure for both U.S. and non-U.S. investors. Both investor types invest directly in the same master offshore fund vehicle through separate feeder funds – a Limited Partnership for U.S. investors and a Company for U.S. tax exempt or foreign investors. With this fund structure, the same tax considerations apply for U.S. investors. Tax implications for U.S. tax-exempt and foreign investors vary depending on the offshore jurisdiction chosen. The master fund must make a “check the box” election to be taxed as a partnership for U.S. tax purposes.

The Cayman Islands, Bermuda and The British Virgin Islands are common offshore fund jurisdictions for U.S. based investment managers. These offshore jurisdictions are a popular choice for offshore funds due to their stable governments, robust investment funds regulatory environment, stringent anti-money laundering policies and business-friendly setup. It is also a tax-exempt jurisdiction, allowing offshore and U.S. tax-exempt investors avoid paying taxes on hedge fund gains. Additionally, foreign investors look for anonymity, not wanting to disclose their identity to the U.S. Internal Revenue Service (IRS).

Offshore funds are also attractive to U.S. tax exempt investors as a way to avoid Unrelated Business Taxable Income (UBTI) which is generally triggered by Limited Partnerships. The first indication of UBTI involves generating unrelated trade of business income regularly. This can result in tax liability if investments are made in a partnership, conducted as a trader or business.

One effective strategy to avoid potential UBTI issues is to create a blocker corporation between the investment and the fund. The corporate entity serving as the blocker will pay taxes on the income and the fund will realize any gains from the investment after liquidating the blocker. This limits the potential for triggering UBTI. Using blockers does not fully eliminate tax exposure and the blocker must pay income tax if it is a U.S. corporation. However, a blocker strategy can alleviate the U.S. filing obligation.

Side-By-Side Fund Structure

Side-by-side fund structures are used by investment managers who desire to run two separate funds in an identical manner one domestic and the other offshore.

This structure is used for specific types of investment strategies such as fund of funds, but is generally inefficient for more active trading strategies because of the administrative burden of splitting trade tickets between two funds.

From a jurisdiction and tax perspective, the implications are similar to a master-feeder fund structure. From an operational perspective, a master-feeder structure could be more favorable for the following reasons:

  • A single trading entity which does not require allocating individual trades on a net asset value basis;
  • One portfolio to manage;
  • One performance result as expenses can vary for onshore and offshore funds; and
  • Ability to obtain more leverage.

Mini Master Fund Structure

A mini master fund structure could be a strong choice for an investment manager who expects mostly onshore investors with a handful of foreign investors from cost perspective . In this structure, there are two entities: an offshore feeder and an onshore master fund. The offshore feeder fund is taxed as a corporation to benefit U.S. tax-exempt investors and to block UBTI. The master fund would be setup as a U.S. Limited Partnership.

Choosing the Right Hedge Fund Structure and Jurisdiction

Investment managers have a lot of work to do before they can accept outside capital and begin gaining investment alpha. Choosing the right fund structure and jurisdiction are critically important from an operational, tax and regulatory reporting perspective. Reputable service providers can be extremely helpful in navigating the complexities of launching a hedge fund. Take the necessary time to ensure you are organizing the right fund structure for your future investors.


How are Hedge Funds Taxed?

Posted on February 20th, 2021
Posted by Gias Khan, CPA

Hedge funds in addition to venture capital, private equity, and cryptocurrency funds are typically structured as limited partnerships (LPs) or limited liability companies (LLCs). Both LPs and LLCs are taxed as partnerships by default, which means that they are pass-through vehicles for tax purposes.

Hedge Funds are Taxed as Partnerships

Pass-through means there is typically no tax at the entity, or fund, level and investors will be distributed their proportionate share of the fund’s gains and losses for tax purposes. Investors will report these gains and losses on their individual tax returns and will pay tax on items of income and gain according to the character of the income or gain reported on a K-1 tax form provided by the Partnership (hedge fund).

For example, if a hedge fund generates long-term capital gains, by holding an investment for more than one year, investors will pay taxes on such gains at the long-term capital gains rate.

Hedge Fund Management and Performance fee Taxes

The fund’s manager will generally pay tax on its management fee at ordinary income rates and structure the performance fee as a profit allocation, rather than as compensation for services, in order to receive more favorable tax treatment with respect to assets that are eligible for long-term capital gains.

However, preferential long term capital gain treatment is available for performance fee only if the Fund holds the investment for more than three (3) years.

We Can Help

Our extensive industry knowledge will help you to design a tax efficient hedge fund structure suitable for onshore and offshore investors. Please reach out to our Alternative Investment Fund Tax Team

How are hedge funds taxed?

Private Investment Fund Audit

Posted on January 22nd, 2021
Posted by Muhammad Akram, CPA

Private investment funds are generally subject to annual financial statement audits as a matter of accountability to investors. This audit requirement may be self-imposed by fund management or may exist under federal or state investment advisor regulations.

Surprise Examination vs. Private Investment Fund Audit

A private investment fund, by definition, will always have “custody” of investor funds and thus subject to the terms of the SEC Custody Rule. Investor reporting requirements are frequently addressed in the offering documents (LPA, PPM etc.) of the fund, and it is important to consider the fund’s specific circumstances, benefits, and costs of both options before proceeding.

Both surprise examination and audits are required to be completed within an SEC-prescribed timeframe for registered advisers, but there are important differences to consider, such as with structure and objective, financial cost, and the requirements of and benefits to investors.

Private Investment Fund Audit Custody Rule

The vast majority of private funds (hedge, venture capital, and private equity) use the audited financial statements alternative for compliance with the Custody Rule.  Fund managers have custody of the fund assets. Fund investors typically demand audited financial statements from their fund managers. The audited financial statements alternative under the Custody Rule has three main requirements:

  • Has the audit done by an independent public accounting firm that is registered with the Public Company Accounting Oversight Board,
  • Distribute the audited financial statements to all investors in the fund, and
  • Deliver the audited financial statements within 120 days of the end of the fund’s fiscal year

Contact Us Today

We can help, If you need more information or assistance with annual financial statement audits of private investment funds. Please contact a member of our Alternative Investment Funds team


COVID Tax Relief for Individuals and Businesses

Posted on December 23rd, 2020
Posted by Muhammad Akram, CPA

Congress used the 2021 governmental funding legislation as the vehicle to pass much needed COVID-19 relief, and more.  Spanning 5593 pages, the mammoth $2.3 trillion legislation contains some $900 billion COVID relief including most popular PPP loans for small businesses. The COVID-related Tax Relief Act of 2020 (COVIDTRA) and the Taxpayer Certainty and Disaster Tax Relief Act of 2020 (TCDTR), both part of the Consolidated Appropriations Act, 2021 (Act), contains provisions related to businesses, individuals, and energy related extenders.

Businesses Income Tax Provisions

i) PPP Loan Deductions Are Allowed

COVIDTRA clarifies taxpayers whose PPP loans are forgiven are allowed deductions for otherwise deductible expenses paid with the proceeds of a PPP loan, and that the tax basis and other attributes of the borrower’s assets will not be reduced as a result of the loan forgiveness. This is effective as of the date of enactment of the Coronavirus Aid, Relief, and Economic Security (CARES) Act. Taxpayers are allowed to deduct qualified expenses on their 2020 income tax returns which IRS disallowed earlier in the year.

ii)            $10,000 EIDL Advance is Not Gross Income

The CARES Act expanded access to Economic Injury Disaster Loans (EIDL) and established an emergency grant to allow an EIDL applicant to request a $10,000 advance on that loan. The CARES Act also provided loan repayment assistance for certain recipients of CARES Act loans.

COVIDTRA clarifies that gross income does not include forgiveness of EIDL loans, emergency EIDL grants, and certain loan repayment assistance. The provision also clarifies that deductions are allowed for otherwise deductible expenses paid with the amounts not included in income, and that tax basis and other attributes will not be reduced as a result of those amounts being excluded from gross income.

iii) Extension of Certain Deferred Payroll Taxes

Under a Presidential Memorandum issued on August 8, 2020, the Treasury was directed to defer the withholding, deposit and payment of certain payroll taxes paid from September 1, 2020 through December 31, 2020 through Notice. The IRS issued implementing guidance.  Specifically, the deferral applied to the employee portion of the old age, survivors, and disability insurance (OASDI) tax (6.2%) for any employee whose pre-tax wages or compensation payable during any bi-weekly pay period generally was less than $4,000 (or the equivalent with respect to other pay periods).  This was a deferral and not a tax holiday.  Thus, for those employees whose payroll taxes were in fact deferred, the obligation to pay was postponed until the period beginning January 1, 2001 and ending April 30, 2021, during which time the deferred taxes were to be withheld and collected ratably from wages paid (in addition to the normal payroll taxes on those wages).  Interest, penalties and additions to tax would begin to accrue on May 1, 2001.  The Act extends the due date for that deferral to be repaid to December 31, 2021, with interest, etc. to begin accruing as of January 1, 2022.

iv)           Temporary Allowance of Full Deduction for Business Meals

Taxpayers may generally deduct the ordinary and necessary food and beverage expenses associated with operating a trade or business, including meals consumed by employees on work travel. The deduction is generally limited to 50% of the otherwise allowable amount. The Act provides certain exceptions to this 50% limit. However, under pre-Act law, there was no exception for meals provided by a restaurant.

Under the Act, the 50% limit won’t apply to expenses for food or beverages provided by a restaurant that are paid or incurred after Dec. 31, 2020, and before Jan. 1, 2023.

v)           Waive Form 1099-C Reporting Requirements

A lender that discharges at least $600 of a borrower’s indebtedness is required to file a Form 1099-C, Cancellation of Debt, with IRS, and to furnish a payee statement to the borrower.

The COVIDTRA provision allows the Treasury Department to waive information reporting requirements for any amount excluded from income by the exclusion of covered loan amount forgiveness from taxable income, the exclusion of emergency financial aid grants from taxable income or the exclusion of certain loan forgiveness and other business financial assistance under the CARES act from income.

Vi)        Work Opportunity Credit Extended Through 2025

The Code provides an elective general business credit to employers hiring individuals who are members of one or more of ten targeted groups under the Work Opportunity Tax Credit program. Under pre-Act law, the credit, which is based on qualified first-year wages paid to the hire, applied to hires before Jan. 1, 2021.

The Act extends the credit through 2025 and applies to individuals who begin work for the employer after Dec. 31, 2020.

vii)        Expensing Rules for Certain Productions

Under pre-Act law, taxpayers could claim a deduction for qualified film, television, and theatrical productions beginning before Jan. 1, 2021, of up to $15 million of the aggregate cost ($20 million for certain areas) of a qualifying film, television, or theatrical production in the year the expenditure was incurred. 

The Act extends this deduction through 2025 for productions commencing after Dec. 31, 2020.

viii)       Employer Credit for Paid Family and Medical Leave

Under pre-Act law, for tax years beginning before Jan. 1, 2021, the Code provides an employer credit for paid family and medical leave, which permits eligible employers to claim an elective general business credit based on eligible wages paid to qualifying employees with respect to family and medical leave. The credit is equal to 12.5% of eligible wages if the rate of payment is 50% of such wages and is increased by 0.25 percentage points (but not above 25%) for each percentage point that the rate of payment exceeds 50%. The maximum amount of family and medical leave that may be taken into account with respect to any qualifying employee is 12 weeks per tax year.

The Act extends this credit through 2025, applying to wages paid in tax years beginning after Dec. 31, 2020.

Individual Income Tax Provisions

i) Additional $600 Recovery Rebates

The CARES Act provided for direct payments/rebates to certain individual taxpayers are referred to as Economic Impact Payments (EIP). The COVIDTRA contains a new program, which it refers to as “additional 2020 recovery rebates.”

The provision provides a refundable tax credit to eligible individuals in the amount of $600 per eligible family member. The credit is $600 per taxpayer ($1,200 for married filing jointly), in addition to $600 per qualifying child. The credit phases out starting at $75,000 of modified adjusted gross income ($112,500 for heads of household and $150,000 for married filing jointly) at a rate of $5 per $100 of additional income. The term “eligible individual” does not include any nonresident alien, anyone who qualifies as another person’s dependent, and estates or trusts.

Taxpayers without an eligible Social Security number are not eligible for the payment. However, married taxpayers filing jointly where one spouse has a Social Security Number and one spouse does not are eligible for a payment of $600, in addition to $600 per child with a Social Security Number.

Additional $600 recovery rebate is in dispute by President Trump before signing the Act and he wants Congress to increase EIP to $2,000.

ii) Charitable Contributions deduction by Non-Itemizers

For 2020, individuals who normally do not itemize deductions may take up to a $300 above-the-line deduction for cash contributions to qualified charitable organizations (deduction limits of $300 also applied to married filers). A 20% penalty applies to tax underpayments attributable to any overstated cash contribution by non-itemizers.

The TCDTR extends the above rule through 2021, allowing individual cash contributions of up to $300, ($600 for married filers) to be deducted above-the-line for cash contributions to qualified charitable organizations.

An increased penalty of 50% applies to tax underpayments attributable to any overstated cash contribution by non-itemizers.

iii) $250 Educator Expense Deduction Applies to PPE

Eligible educators are allowed a $250 above-the-line deduction for certain otherwise allowable trade or business expenses paid by them. COVIDTRA provides that, not later than February 28, 2021, the IRS must, by regulation or other guidance, clarify that personal protective equipment (PPE), disinfectant, and other supplies used for the prevention of the spread of COVID-19.

iv)           Emergency Financial Aid Grants

An individual taxpayer may claim the American opportunity tax credit and/or the Lifetime Learning credit for higher education expenses at accredited post-secondary educational institutions paid for themselves, their spouses, and their dependents. However, under higher education expenses paid for by tax exempt income can’t be used to claim either of these credits.

COVIDTRA excludes certain CARES Act emergency financial aid grants from the gross income of college and university students. This provision also holds students harmless for purposes of determining their eligibility for the American Opportunity and Lifetime Learning tax credits.

Energy-Related Tax Provisions

TCDTR contains numerous tax extenders related to energy credits. A summary of the energy-related extenders and excise tax provisions is below.

i)             Electricity Produced from Certain Renewable Resources

An income tax credit is allowed for the production of electricity from qualified energy resources at qualified facilities (the “renewable electricity production credit”). Qualified energy resources mean wind, closed-loop biomass, open-loop biomass, geothermal energy, solar energy, small irrigation power, municipal solid waste, qualified hydropower production, and marine and hydrokinetic renewable energy. Qualified facilities are, generally, facilities that generate electricity using qualified energy resources.

The Act extends the date by which construction of a qualifying facility must begin, to before Jan. 1, 2022, for the following facilities: wind facilities, qualifying closed-loop biomass, open-loop biomass, geothermal energy, land fill gas and trash, qualified hydropower, and marine and hydrokinetic renewable energy facilities

ii) Wheeled Plug-in Electric Vehicle Credit

The Code provides a 10% credit for highway-capable, two-wheeled plug-in electric vehicles (capped at $2,500). Battery capacity within the vehicles must be greater than or equal to 2.5 kilowatt-hours. The Act extends this credit so that it applies to vehicles acquired before Jan. 1, 2022.

iii) Energy-Efficient Homes Credit

The Code provides a credit for manufacturers of energy-efficient residential homes. An eligible contractor may claim a tax credit of $1,000 or $2,000 for the construction or manufacture of a new energy efficient home that meets qualifying criteria.

The Act extends the credit for energy-efficient new homes by one year, to homes acquired before Jan. 1, 2022.

iv) Other Energy Credits are Extended through 2021

Second generation Biofuel Producer credit ($1.01 for each gallon), Non-business Energy Efficient Property Credit ($50 to $300), and Qualified Fuel Cell refueling property credit ($4,000 to $40,000) are extended through 2021.


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