Mandatory E-Filing for Large Corporations and Exempt Organizations

By Benson S. Goldstein, J.D., AICPA Technical Manager–Taxation, Washington, DC

In 2004, the IRS established “the Modernized e-File” system for e-filing (1) Form 1120 for corporations, (2) Form 1120-S, U.S. Income Tax Return for an S Corporation, for S corporations, and (3) the Form 990 series used by exempt organizations. While the Service generally encourages all corporations and exempt organizations to file tax returns electronically, the agency is now requiring certain large entities to file tax returns that way, too.

Temp. and Prop. Regs.

In early 2005, the IRS issued temporary and proposed regulations¹ requiring large corporations and exempt organizations to e-file tax returns. For tax years ending after Dec. 30, 2005, these rules generally require (1) corporations with total assets of $50 million or more to e-file Forms 1120 and 1120-S and (2) exempt organizations with total assets of $100 million or more to e-file Form 990.

This item principally focuses on the mandatory e-file program’s effect on large corporations, but many of the same concepts apply to large exempt organizations as well. Tax professionals should carefully review the applicable Service guidance, to understand the particular rules for the type of entity for which they are preparing a return or providing tax advice.

Many tax advisers might be lulled into believing the regulations will only affect large corporations and exempt organizations; however, in general, they will profoundly affect the mid-size versions of these entities. For tax years ending after Dec. 30, 2006, the e-filing requirement will be expanded to cover (1) returns of corporations and exempt organizations with $10 million or more in total assets and (2) filers of Form 990-PF, Return of Private Foundation or Section 4947(a)(1) Nonexempt Charitable Trust Treated as a Private Foundation (i.e., all private foundations and charitable trusts, regardless of asset size).

The e-filing mandate for the 2006 and 2007 filing seasons only applies to entities that file 250 or more returns during a calendar year, including income tax, excise tax, employment tax and information returns (e.g., Forms 1099 and W-2). Nevertheless, after taking this threshold into account, a simple C corporation with modest real estate holdings could quickly exceed the $10 million total asset threshold for its 2006 return and be required to e-file.

IRS Hearing

The AICPA submitted comments on the regulations on Feb. 28, 2005; its Tax Executive Committee Chair, Thomas J. Purcell III, testified before the Service on March 16, 2005. In its comments, the AICPA stated it supports the IRSs long-range goals for electronic tax administration in general, and electronic filing in particular and applaud[s] the Service for its improvementsin the Form 1040 e-File program and for implementing the Electronic Services section on the IRS website.²

Commissioner Mark W. Everson has clearly articulated the primary benefits to the Service of implementing the mandatory e-file program for corporations and exempt organizations. These benefits include enhancing the IRS’s service and enforcement missions, such as faster tax processing, reduced cycle time for examinations, prompter identification of developing auditing trends and potential for quicker resolution of taxpayer problems.

While appreciative of the tax administration benefits to the Service, Dr. Purcell informed agency officials attending the hearing that the AICPA is very concerned about the IRS’s sudden implementation of the mandatory e-file program. The AICPA believes the program does not provide adequate lead time for practitioners, the business community, exempt organizations and software developers to prepare for such a dramatic change. As a result, the AICPA recommended during the hearing that the IRS delay implementation of the mandatory e-file regulations by at least one year, so that the many issues can be resolved. At this time, the AICPA does not anticipate any administrative delay by the Service in implementing the new e-file program.

IRS Response

Realizing the level of concern within the practitioner and business communities about the mandatory e-file program, the Service established a series of outreach meetings throughout 2005 with the AICPA and other professional societies. A typical meeting consisted of AICPA representatives, tax software developers and IRS officials. Each side shared their views on the best ways to ensure a smooth implementation of the mandatory e-file program for the 2006 filing season.

Partly in response to these discussions, the Service has created an excellent online clearinghouse for information on corporate and exempt organization e-filing: (1) www.irs.gov/businesses/corporations/article/0,,id=146959,00.html (for large and mid-size corporations) and (2) www.irs.gov/efile/article/0,,id=108211,00.html (for exempt organizations).

These URLs provide significant details about the Service’s approved guidelines for the preparation of returns for tax years ending after Dec. 30, 2005. For example, the large and mid-size corporate webpage provides links to:

1. A letter from IRS Large and Mid-Size Business Division Commissioner Deborah Nolan to tax managers of large corporations;

2. An opportunity for tax professionals and the business community to subscribe to e-alerts from the Service, called “e-file News for Large and Mid-Size Corporations”;

3. A very thorough technical publication geared to large corporations filing their own tax returns, titled “IRS e-file for Large Taxpayers filing Their Own Income Tax Return”;

4. A more general electronic link entitled, “Tax Year 2005 Directions for Corporations Required to e-file” (Tax Year 2005 Directions); and

5. A series of frequently asked questions for large and mid-size corporations.

The Service has gone to significant efforts to provide technical information, so to minimize the circumstances for which entities would need to request waivers from the mandatory e-filing requirements.³ By providing such detailed information at its website, the “IRS anticipates the waiver requests it actually grants will be few in number.”

Tax professionals should understand that the reason for the mandatory e-file program is to minimize the number of “paper” tax forms taxpayers file. Taxpayers will need to use commercially available tax software to file returns to comply with the new mandatory e-file program; when appropriate, the Service will allow the use of tax forms in .pdf format under certain limited circumstances. Tax Year 2005 Directions states:

Corporations may not send paper versions of forms if the directions allow PDF. If the directions indicate that the forms may be sent in paper format, they can not [sic] be sent in PDF. Any deviation from these…directions will require a formal waiver approved by the IRS.

In general, commercial e-filing software will provide specific directions for creating and attaching .pdf files. Tax Year 2005 Directions provides taxpayers with a specific list of forms (or portions thereof) allowed to be filed in .pdf format. This document also describes the limited circumstances under which transactional data for certain forms may be submitted on a summary form in .xml format; examples include Form 4562, Depreciation and Amortization, and Forms 1120 and 1120-S, Schedule D, Capital Gains and Losses. By providing transactional data in summary form, the taxpayer is agreeing to make the data available to the Service on request.

Electronic Postmark

The procedures involving IRS acceptance or rejection of electronically transmitted returns are beyond this item’s scope; thus, taxpayers should closely review available IRS guidance. In general, an e-filed return is deemed filed on the date of the electronic postmark. The Service will send an acknowledgment message to inform taxpayers that the return has been accepted. Should the return contain errors, the acknowledgment will identify the reasons for the return’s rejection, providing taxpayers and tax professionals with an opportunity to correct. If the taxpayer fails to correct the listed errors within a specified period, the entity will be deemed to have failed to file.

Conclusion

The IRS is working closely with the business and tax professional communities to ensure a smooth transition for the mandatory e-file program for the 2006 filing season. The AIPCA will continue to provide feedback to the Service on the new program’s progress during that filing season, and anticipates making further recommendations to ensure success as the program moves to cover smaller entities during the 2007 filing season.