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Opportunity Until April 18 to Fund Your IRA

Individuals with earned income may fund an IRA up to the 2022 limits on or before April 18, 2023. The 2022 funding amount may be the lesser of earned income or $6,000 ($7,000 if the individual is over age 50). The regular IRA contribution amount increased to $6,500 in 2023.

A traditional IRA may be funded this year, but if you are covered by a company plan there are phase-out limits. A single person who is an active participant in a company retirement plan may contribute to the IRA if his or her income is less than $68,000. The ability to contribute is phased out between $68,000 and $78,000 for single individuals or heads of household. A married individual has a phaseout limit from $109,000 to $129,000. However, if the married individual is not an active participant but has a spouse who is an active participant in a qualified plan, the phaseout is from $204,000 to $214,000.

Roth IRAs may also be funded for the 2022 tax year with after-tax cash until April 18. An individual also needs earned income to transfer $6,000 (or $7,000 if you are over 50) into a Roth IRA. The Roth IRA has additional benefits during 2023. Roth contributions may be withdrawn at any time without penalty. If you have taxable income, you may add to your Roth after reaching age 73. Unlike the traditional IRA, a Roth IRA does not have required minimum distributions (RMDs) after age 73. This "no RMD" rule will also be expanded to include Roth 401(k) accounts in 2024.

The Roth contribution is also limited for high-income individuals, regardless of participation in a company retirement plan. The Roth IRA phaseout for a single person is from $129,000 of AGI to $144,000 of adjusted gross income (AGI). The married limit is from $204,000 to $214,000, provided you are filing jointly.

An IRA must be managed by an approved trustee or custodian. Many banks, savings and loans or credit unions are qualified to be IRA custodians. Most financial services firms, including insurance companies, also serve as IRA custodians.

If you contributed nondeductible amounts to a traditional IRA, you will need to track your basis. Your basis is generally your total nondeductible IRA contributions and any additional basis from plans you have rolled over into your IRA. If you make a nondeductible IRA contribution, you must file IRS Form 8606. This will help you track your IRA basis. IRS Publication 590-B is a worksheet that will help you calculate the amount of taxable and nontaxable distribution from this IRA.

IRS Surface Mining Claim Rejected - Charitable Deduction Valid

In Cattail Holdings LLC et al. v. Commissioner; No. 27209-21; T.C. Memo. 2023-17 (Cattail), the IRS filed a motion for partial summary judgment against a partnership that claimed a deduction of $40,675,000 for a conservation easement gift. The IRS claimed the deduction should be denied because the deed permitted surface mining. The IRS also maintained that it had complied with Section 6751(b)(1) to obtain supervisory approval of a 40% penalty before it was issued.

Cattail is an LLC with its principal place of business in Georgia. It acquired 207 acres of property in Chesterfield, Virginia. On December 21, 2017, Cattail transferred a conservation easement to Foothills Land Conservancy (FLC).

The deed, which is governed by Virginia law, prohibits commercial, industrial or residential development. It permits Cattail to engage in forestry and recreational activities. To facilitate these activities, Cattail retained the right to build fences, bridges, barns, sheds and renewable electric power facilities. The deed states that there cannot be activity "inconsistent with the Purpose of the Easement, the Conservation Purposes, or the Conservation Values herein protected."

FLC is required to give prior consent to any exercise of reserved rights and must state that there would be no impairment of the conservation interests.

Paragraph 3(h) of the deed restricts mining activities and prohibits, "The exploration for, or development, and extraction of, minerals and hydrocarbons by any surface or subsurface mining method, by drilling, or by any other method, or transportation of the same via new pipelines or similar facilities, that would impair or interfere with the Conservation Purposes and Conservation Values of the Property in any material respect in the discretion of the Grantee."

Cattail claimed a charitable deduction of $40,675,000 for tax year 2017. IRS Revenue Agent Kendrick Veney examined the return and obtained an appraisal review report from IRS senior appraiser, Kenneth Baker. He concluded the fair market value of the conservation easement was $3,563,000.

Veney recommended a 40% penalty for gross valuation misstatement under Section 6662(h). His team manager and immediate supervisor Lee Volkmann signed the penalty sheet on April 26, 2021. On May 21, 2021, Veney submitted the proposed adjustment and penalty. The Final Partnership Administrative Adjustment (FPAA) was issued on July 23, 2021.

A qualified conservation easement must be protected in perpetuity under Section 170(h)(1)(C). A donor may not retain a right for surface mining. The IRS claimed that Cattail had retained a "contingent right to engage in surface mining" and the deduction was therefore not valid.

The Tax Court determined the IRS argument failed for several reasons. First, there was no provision, which explicitly retained a right to surface mining. Second, the reserved rights were enumerated and included farming operations and construction of agricultural buildings or facilities for generation of alternative energy. There was no right to engage in mining activity. In addition, FLC did not have the right to allow mining, but rather could review the "transportation" of minerals. Therefore, the deed does not grant any rights under normal interpretation that would constitute surface mining. The IRS claim that the conservation easement is invalid was rejected.

With respect to the 40% penalty, IRS supervisor Volkmann approved the penalty on April 26, 2021. He was the immediate supervisor for Veney. The taxpayer claimed that Notice 2017-10 was an action by higher-level IRS officials to assess the penalties. The court rejected that position because the Notice did not refer to a specific taxpayer. The taxpayer also claimed that IRS appraiser Baker had determined the penalty assessment. However, Mr. Baker only prepared the "appraisal review report" and Veney issued the assessment after the approval by Supervisor Volkmann. Therefore, the appropriate approval had been obtained and the penalty is deemed valid.

Editor's Note: The IRS prefers to disallow conservation easement charitable deductions on technical grounds. Having failed in that effort, the IRS now will engage in a valuation dispute. Most of the 80 conservation easement cases currently in the Tax Court are trending toward valuation disputes.

State Relief Payments Not Taxable

On February 10, 2023, the Internal Revenue Service (IRS) clarified that many 2022 relief payments made by various states would not be taxable.

Generally, payments made by California, Colorado, Connecticut, Delaware, Florida, Hawaii, Idaho, Illinois, Indiana, Maine, New Jersey, New Mexico, New York, Oregon, Pennsylvania, and Rhode Island will not be taxable. A portion of the payments from Alaska that constitutes the Energy Relief Payment will not be taxable but payments from Alaska's Permanent Fund Dividends remain taxable.

The issue arose after many states responded to the pandemic and other disasters with various payments in 2022. In most cases, payments made by states are includable in income, but there are exceptions.

The 2022 exception may also apply to taxpayers in Georgia, Massachusetts, South Carolina and Virginia. These states provided a refund of a portion of state taxes paid by individuals. Those recipients who claimed the standard deduction or itemized deductions and did not receive a tax benefit (perhaps because of the $10,000 state and local tax deduction limit) will not be required to include the payments for Federal tax purposes. Most payments to individuals in these four states are excluded under the "no tax benefit" rule.

Disaster relief payments are also generally excludable from income. The IRS has reviewed disaster relief payments in Alaska, California, Colorado, Connecticut, Delaware, Florida, Hawaii, Idaho, Illinois, Indiana, Maine, New Jersey, New Mexico, New York, Oregon, Pennsylvania, and Rhode Island and determined that those payments will generally not be taxable. The exceptions are compensation from Alaska's Permanent Fund Dividend and some tax refund payments issued by Illinois and New York. These tax refund payments are nontaxable if there is no tax benefit.

Applicable Federal Rate of 4.4% for March -- Rev. Rul. 2023-5; 2023-10 IRB 1 (15 February 2023)

The IRS has announced the Applicable Federal Rate (AFR) for March of 2023. The AFR under Section 7520 for the month of March is 4.4%. The rates for February of 4.6% or January of 4.6% also may be used. The highest AFR is beneficial for charitable deductions of remainder interests. The lowest AFR is best for lead trusts and life estate reserved agreements. With a gift annuity, if the annuitant desires greater tax-free payments the lowest AFR is preferable. During 2023, pooled income funds in existence less than three tax years must use a 2.2% deemed rate of return.

Published February 17, 2023

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