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New Law Offers Relief to Terrorist Attack Victims The Victims of Terrorism Tax Relief Act of 2001 offers income and estate tax relief to those who were injured or killed in U.S.-based terrorist or anthrax attacks. This article explains the new provisions and their implications and offers some examples.
Elda
A. DiRe, CPA Roby
B. Sawyers, Ph.D., CPA Neil
A.J. Sullivan, CPA Peter
J. Westort, Ph.D., CPA
Editor's note: Ms. DiRe and Dr. Westort are members of the AICPA Tax Division's Individual Taxation Technical Resource Panel (TRP). Dr. Sawyers is a member of the AICPA Tax Division's Trust, Estate & Gift Tax TRP. Mr. Sullivan is a member of the AICPA Tax Division's International Taxation TRP and the Trust, Estate & Gift Tax TRP's Estate Tax Expatriation Tax Task Force. Authors' note: Ms. DiRe and Dr. Westort thank Patricia Thompson, Chair of the Individual Taxation TRP, and Dr. Sawyers and Mr. Sullivan thank Evelyn M. Capassakis, Chair of the Trust, Estate & Gift Tax TRP, for reviewing this article. For more information about this article, contact Ms. DiRe at elda.dire@ey.com, Dr. Sawyers at roby_sawyers@ncsu.edu, Mr. Sullivan at neilsullivan@att.net or Dr. Westort at peter.westort@umb.edu.
Executive Summary
On Jan. 23, 2002, President Bush signed the Victims of Terrorism Tax Relief Act of 2001 (VTTRA), providing income and estate tax relief to "specified terrorist victims" (STVs). Special tax treatment is not unusual; in the past, it was extended to American hostages held captive in Iran and victims of the bombing of Pan American Airways flight 103 over Lockerbie, Scotland.1 This article describes the VTTRA provisions and their ramifications.
What Is an STV? VTTRA Section 101, adding Sec. 692(d), defines an STV in Sec. 692(d)(4) as any deceased victim of the terrorist attacks against the U.S. occurring on April 19, 1995 or Sept. 11, 2001, or of the anthrax cases occurring after Sept. 10, 2001 and before 2002, regardless of whether the victim was killed in the attack or in rescue or recovery operations. The VTTRA extends Sec. 692, which previously applied only to U.S. Armed Forces members, to STVs, exempting an individual from paying income taxes during the tax year of death and for the preceding tax year. The individual had to have died from injury or wounds incurred in a terrorist attack or from an illness stemming from an anthrax attack. Relief does not apply to anyone (or his representative) identified by the U.S. Attorney General as having participated or conspired in any terrorist attack. For decedents dying before 2002, there will likely be few issues as to who qualifies as a victim. As time goes by, however, this may become more problematic. For example, would an individual who inhaled asbestos-contaminated dust at Ground Zero on Sept. 11, 2001 be eligible for Sec. 692(d) relief if he dies in 2004?
Income Tax Provisions Elimination of Tax Liability Sec. 692(d)(1) exempts STVs from paying Federal individual income taxes for the tax year of death and the preceding tax year. Executors of STVs' estates may amend 2000 income tax returns to obtain a refund of any Federal taxes paid. As discussed below, the IRS has implemented procedures to expedite filing refund claims for STVs. Under Sec. 692(d)(3), the exemption does not apply to any amount paid by an employer attributable to deferred compensation that would have been payable after death had the individual died other than as an STV, or amounts payable in a tax year that would not have been payable in such tax year but for an action taken after Sept. 11, 2001. For example, death benefits and amounts payable to an STV's estate from a qualified plan or IRA are not exempt. Similarly, if an employer accelerates vesting of restricted property or paying nonqualified deferred compensation, the exemption will not apply. However, amounts paid by an employer to an STV's estate out of generosity are exempt from taxes. The exemption also applies to payments of an STV's accrued vacation and sick leave.
Minimum Benefit Sec. 692(d)(2) provides each STV with a $10,000 minimum individual income tax benefit. If an STV's Federal income tax liability during the tax year of death and the preceding tax year is less than $10,000 overall, the government will refund the difference to the STV's estate.
Expedited Refund Procedures IR-2002-072 enumerated procedures for expediting refund claims for those killed in terrorist action (KITA). Executors should print "KITA—Oklahoma City," "KITA—9/11" or "KITA—Anthrax" at the top of an amended return and send it to:
If using a private carrier, the amended return should be sent to:
Pub. 3920, Tax Relief for Victims of Terrorist Attacks, available at www.irs.gov, offers detailed guidance. Under IR-2002-07, STVs' surviving spouses or executors may file amended 2000 returns until April 13, 2004 and claim 2001 tax relief when filing the decedent's return. Amended 1994 and 1995 returns for Oklahoma City victims can be filed until Jan. 23, 2003. "Married" filing status: For married taxpayers, the exemption applies only to the deceased spouse's income. Taxpayers who filed jointly may file a refund claim for 2000 taxes paid on their deceased spouse's income and could exclude their deceased spouse's income in filing their 2001 tax return.
Disaster Relief Payments VTTRA Section 111 created Sec. 139, Disaster Relief Payments. Under that provision, "qualified disaster relief payments" are exempt from Federal taxation. Sec. 139(c) defines a "qualified disaster" as (1) a disaster that results from a terroristic or military action, (2) a Presidentially declared disaster, (3) a disaster that results from an accident involving a common carrier, or from any other event determined by the Secretary to be of a catastrophic nature or (4) a disaster determined by an applicable Federal, state or local government (or agency or instrumentality thereof). A qualified disaster relief payment is defined by Sec. 139(b) as any payment made for the benefit of an individual: 1. To reimburse or pay reasonable and necessary personal, family, living or funeral expenses incurred in a qualified disaster. 2. To reimburse or pay reasonable and necessary expenses incurred for the repair or rehabilitation of a personal residence, or repair or replacement of its contents, to the extent that the need for such repair, rehabilitation or replacement is attributable to a qualified disaster. 3. By a person engaged in the furnishing or sale of transportation as a common carrier by reason of the death or personal physical injuries incurred in a qualified disaster. 4. By a Federal, state or local government (or agency or instrumentality thereof) in connection with a qualified disaster to promote the general welfare. Under Sec. 139(e), qualified disaster relief payments are not subject to self-employment tax. Sec. 139 does not apply to any individual (or his representative) identified by the U.S. Attorney General as a participant or conspirator in any terrorist attack. Implications: The Sec. 139 exclusion is broad; expenses that may qualify include an employer's payments to an employee for housing, clothing, food or other necessities. These amounts should be excluded from taxable wages.
Death Benefit Exclusion VTTRA Section 102 enacted Sec. 101(i) to provide an exclusion from gross income for amounts paid by an employer because of the death of an employee who is an STV. The amounts can be paid in a single sum or otherwise. The exclusion does not apply to amounts that would have been payable after death had the individual died other than as an STV. For this purpose, an "employee" includes a self-employed person, under Sec. 101(i)(3). This provision would cover, for example, payments from a partnership to a partner's surviving spouse. If a life insurance contract excludes terrorist acts, but nevertheless pays benefits, Sec. 101(a) excludes such benefits from income. COD Income Exclusion VTTRA Section 105 excludes from gross income any amount includible as cancellation of debt (COD) income if the debtor is an STV. This applies to all debt discharges made after Sept. 10, 2001 and before 2002. The Sec. 6050P return requirements do not apply. Sec. 105 does not apply to Oklahoma City STVs.
Due Date Extensions VTTRA Section 112 expands and clarifies the scope of Sec. 7508A. The new provision allows the IRS to extend the due date for certain filing and payment deadlines for up to one year, without having to issue regulations. Under Sec. 7508A(a), the postponement applies to "any tax liability"; thus, it applies to paying income and employment taxes and filing related returns, and to making IRA contributions.
Disability Payment Exclusion VTTRA Section 113 amended Sec. 104(a)(5), so that employees can exclude disability payments from gross income for injuries incurred as a direct result of a terrorist attack against the U.S. (or its allies), regardless of where a terrorist attack occurred. Formerly, the attack had to have occurred outside the U.S. and was limited to employees of the U.S. This redefinition also extends to Sec. 692(c) (income tax relief to U.S. military and civilian personnel who die as a result of terrorist activity, no matter where it occurs).
Structured Settlements VTTRA Section 115 added new Sec. 5891, on structured-settlement factoring transactions. An individual who acquires property rights in a structured-settlement factoring arrangement may be subject to a 40% excise tax under Sec. 5891(a), unless the transfer of the payment rights was approved in advance in a qualified order (under Sec. 5891(b)(1)). The excise tax is computed on the excess of the undiscounted amount of the payments being acquired over the total amount actually paid to acquire them. While this provision applies to actions entered into after Feb. 21, 2002, VTTRA Section 115(c)(1) states that the tax will not apply to transactions entered into from Feb. 22, 2002–July 1, 2002, if certain requirements are met.
Estate Tax Provisions Reduced Rate VTTRA Section 103(a) amends Sec. 2201 and treats any STV as a "qualified decedent" for purposes of Sec. 2201 estate tax relief. The provision applies regardless of whether an STV was killed in the attack or in rescue or recovery operations. Under Sec. 2201(b)(1) (which applies to U.S. armed forces members), a qualified decedent had to have been a U.S. citizen. Sec. 2201(b)(2), applying to STVs, omits this requirement. Thus, an otherwise-eligible nonresident alien may be a qualified decedent under Sec. 2201(b)(2). Under post-VTTRA Sec. 2201, the estate tax is calculated under the normal Sec. 2001 rules, but with an alternative reduced rate schedule equal to 125% of the maximum state death tax credit (see Exhibit 1). The reduced rate schedule automatically applies, unless an executor elects otherwise. If it is more advantageous for an estate to be treated under the general Sec. 2001 rules, the executor must elect not to have the new rate schedule apply. Sec. 2001(d) provides that the new rate structure does not apply in determining the unified credit; thus, the applicable exclusion remains at $675,000 for estates of decedents dying in 2001 and at $1 million for those dying in 2002. The reduced rate schedule is used to compute both the Sec. 2001(b)(1) tentative tax and the Sec. 2001(b)(2) tax on previous gifts; thus, it applies to all transfers (both lifetime and at death) a qualified decedent made. For an individual dying in 2001, the new rate schedule effectively eliminates Federal estate tax on an estate of $8,762,500, but does not eliminate the state estate tax. Under current law, the estate of an individual residing in New York City and killed in the World Trade Center (WTC) attack would still owe $882,200 in state death taxes (see Example 1 below).
As demonstrated in Example 2 below, the taxable estate protected from both Federal and state death taxes is only $2,936,820.
For a victim dying in 2002, the results in Examples 1 and 2 will differ. In addition to the increased applicable exclusion amount, reduced tax rates and change in the operation of the state death tax credit enacted by the Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA),3 New York will calculate state death taxes based on pre-EGTRRA rules. Thus, while the EGTRRA reduces the Federal credit for state death taxes by 25% for 2002, New York still collects 100% of the Federal credit as the state tax due.
Refund Claims The VTTRA provides a special rule that extends the period to file a refund claim resulting from enactment until one year after the enactment date. This allows the families of victims of the Oklahoma City bombing until Jan. 23, 2003 to file a refund claim. According to Pub. 3920, STV survivors or executors should write "KITA—Oklahoma City," "KITA—9/11" or "KITA—Anthrax" at the top of estate tax return refund claims and send them to:
Conclusion No amount of tax relief will ease the horror of the attacks, but perhaps it will offer the victims' families some small comfort and a bit less to worry about. 4 |
