I smell a refund! Maybe it’s yours.
While most of the country was celebrating year-end holidays in December, a tax and spending package was signed into law offering a gift to those individuals who were deprived of certain deductions on their 2018 tax returns filed earlier in 2019. The Consolidated Budget Appropriations Act of 2020 included renewal of over two dozen temporary tax provisions often referred to as “extenders,” bringing many of them back into effect for 2018 and extending them through the end of 2020.
Thanks to retroactive action by Congress, you may be due a refund for 2018.
Revived provisions affecting the greatest number of individual taxpayers include the treatment of private mortgage insurance (PMI) as deductible residence interest; a deduction from income for certain tuition and fees; and an exclusion of income on debt relieved/forgiven on a qualified residence. Nonbusiness energy credits that had expired at the end of 2017 were also resurrected as were provisions allowing expensing of certain capital assets used in a trade or business. Yet another retroactive change was to the kiddie tax.
If you are one of the many taxpayers affected by these retroactive changes, you may be wondering how you can get the benefit of the deductions you were not permitted when you filed your original 2018 tax return. To correct the return you’ve already filed, you’ll need to file Form 1040X, an amended return, asking for a refund of your (now) overpaid taxes.
An amended return might also be in order if you received a corrected Form 1099-Div changing the dividends you reported on your prior year return. It is not unusual for brokerage firms to find out after the 1099 filing deadline that certain dividends originally characterized as ordinary have now been characterized as qualified, or IRC 199A or even non-taxable return of capital.
Another reason to consider amending your 2018 return is if you (or your tax advisor) were uncertain about the new-starting-in-2018 Qualified Business Income (QBI) deduction as it relates to your small business or rental properties. For many filers, the QBI deduction is 20% of the qualifying income from the business. If you failed to take the deduction on your 2018 return, and now believe you qualified for it…an amended return may be in order.
The QBI deduction was brought to you by the Tax Cuts & Jobs Act (TCJA) signed into law on December 22, 2017 and effective January 1, 2018. Interpretation of the TCJA and issuance of IRS guidance evolved slowly throughout 2018 and the filing season that followed, causing great frustration to professional tax advisors and those eager to obtain benefits from the new law. There was a lot of uncertainty when determining qualification for the deduction while preparing 2018 returns
To assist interpretation and treatment of the new QBI deduction, on April 11 2019, just 5 days before the normal tax filing deadline[i], IRS issued 21 additional FAQs to the 12 that existed at that time. There are currently 59 FAQs related to QBI. Guidance developed throughout last year’s filing season, so a return prepared early in the season may have resulted in a different liability if prepared later in the year. More definitive guidance in the form of 248 pages of regulations was published in the Federal Register the first week of February, 2019, evolved and became final toward year-end. (You can read about the final regulations on the 20% QBI deduction here.)
Take away: With additional information available today that wasn’t available last year at this time, the determination as to whether your rental activities or small business qualify for the 20% deduction may be different than the position taken on you 2018 return. And if the QBI deduction would have benefited you…you’ll need to file an amended return to claim the benefits of the deduction.
Interestingly, the law does not demand that you file an amended return when you discover the return you submitted does not reflect the correct amount of tax. It presumes you were to “get it right the first time”. Do-overs are permitted, but are not mandatory.
However, if you do file a corrected return, it must represent a completely corrected version of the original return. You can’t cherry-pick the items that will result in a refund, while failing to consider items or positions that would increase your tax liability.
And while you may be entitled to a refund, the question really comes down to should you re-file your 2018 return?
Some worry that filing an amended return could cause an IRS audit. After all, if your return was filed electronically, it has been untouched and unseen by human hands or eyes. Amended returns are processed by real live people; Form 1040X cannot be transmitted electronically. Is there a chance the reviewer will question other aspects of the return? It has not been my experience that amended returns generate audits if they are well documented when they are submitted. Be sure you include a clear statement of what is being changed, why it is being changed, and verification or rationale for the position taken.
Does it make financial sense to correct the filing? Will your preparer charge more than the IRS will refund?
Should you amend if there is no current refund? Sometimes, yes. When you discover additional capital or passive losses that would affect your carryovers, you need to notify IRS of the additional loss carried forward. If your current interpretation of your real estate rental activities would have qualified as QBI but you had losses from last year that need to be taken into consideration in the future, it may be worthwhile to notify IRS that you intend to classify the real estate enterprise as a qualified business.
But don’t expect to see the refund quickly. While the IRS suggests an 8-12 week turnaround, in our experience if you see the refund within six months, you should be pleasantly surprised. You can check on the progress using the IRS app, Where’s My Amended Return?
[i] IRS maintains a set of frequently asked questions on their website related to the §199A qualified business income deduction (Tax Cuts and Jobs Act, Provision 11011 Section 199A – Qualified Business Income Deduction FAQs). The April 11 update expanded the FAQ from 12 questions to 33. Find them here. (Note: FAQs are not included in the Internal Revenue Bulletin, and therefore may not be relied upon as legal authority. This means that the information cannot be used to support a legal argument in a court case.)