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Severance and FICA, Residuary Trusts, Bitcoin is Property

Saul Brenner 05.29.2014 | eVisor

Federal Tax

US Supreme Court Rules Severance Payments Subject to FICA

In an 8-0 decision, the US Supreme Court recently ruled that severance payments to terminated employees are taxable wages for FICA tax payment purposes1  — overturning an earlier decision by the Sixth Circuit.2

Upon terminating thousands of employees after entering into bankruptcy in 2001, Quality Stores treated the severance payments as wages.  Income tax and the employee portion of FICA were withheld and Quality paid its FICA tax liability.  Later, Quality sought refunds for the FICA tax the company had paid, but the IRS took no action.  Quality then filed and won a claim in Bankruptcy Court.  On appeal, the Sixth Circuit noted that under Internal Revenue Code Sec. 3402(o) the definition of wages for income tax withholding purposes does not extend to severance payments. By carrying that a step further, the Court concluded that severance payments were also not subject to FICA withholding.

In overturning the lower courts, the Supreme Court noted that wages are defined broadly to include all remunerations paid for employment and that employment is any service an employee undertakes for an employer. The Supreme Court also noted that services are not limited to work actually performed. Under these parameters, severance pay constituted wages subject to FICA withholding.

1 United States v. Quality Stores et. al,  Cite as 113 AFTR 2d 2014-1326 (134 S. Ct. 1395), Code Sec(s) 3111; 3121; 3402, (S Ct), 03/25/14

2 Quality Stores, Inc., 693 F.3d 605 (6th Cir. 2012), aff’g  424 B.R. 237 (W.D. Mich. 2010), aff’g  383 B.R. 67 (Bankr. W.D. Mich. 2008)).

Real Estate Alert

Residuary Trust Eligible to Deduct Real Estate Losses

Implications for the 3.8% Medicare Tax

On March 27,2014, the U.S. Tax Court held that a residuary trust that held rental and other real estate properties, and developed properties, could qualify as a real estate professional under Section 469(c)(7). Specifically, the Tax Court concluded that the trustees of that trust could be classified as “real estate professionals” due to the services they performed; as a result, the trust could deduct passive losses generated from its real estate activities 1

This boon to taxpayers enables the trust to fully deduct its expenses, including trustee fees, because the services performed by individual trustees constituted personal services by the trust and the trust materially participated in the real property business.  Going further, the decision may be significant in the application of the 3.8% Medicare tax on net investment income. This tax is generally applied to income from passive activities with the definition of Section 469(c)(7) incorporated for this purpose. Conceivably, if a trust can qualify for the passive activities exception, it would avoid the Medicare tax on income earned in real estate rental activities.  However, the Tax Court has still left many unanswered questions, including whether the activities of non-trustee employees could be considered as meeting the material participation requirements.

In his opinion, Judge Richard T. Morrison rejected the IRS’s argument that Section 469(c)(7) limited the exception to individuals. “If the trustees are individuals, and they work on a trade or business as part of their trustee duties, their work can be considered work performed by an individual in connection with a trade or business,” Morrison said.  A trust is capable of performing personal services — satisfying the Section 469(c)(7) exception.  The judge also noted that had Congress intended to limit the exception to natural persons, it would not have used the word “taxpayer”.  

1 Frank Aragona Trust, Paul Aragona, Executive Trustee v. Commissioner of Internal Revenue, T.C., No. 15392-11, 142 T.C. No. 9, 3/27/14.

IRS Says Bitcoin Is Property, Not Currency

The IRS recently ruled that transactions involving bitcoin and other virtual currencies may create a tax liability since digital currencies, like stocks, are treated as property for all U.S. tax purposes1. Generally, this means that capital gains rates, as opposed to higher regular tax rates, would apply as well as capital loss limitations. This has implications for transactions such as employee wages, payments to independent contractors, and reporting gain or loss on a sale or exchange.

Generally, the ruling imposes extensive recordkeeping rules to those handling and transacting virtual currencies.  Employees and independent contractors who receive bitcoin for services would be subject to tax on receipt based on the fair market value of the virtual currency. In addition, where payment transactions would normally be subject to reporting to the IRS and payee, bitcoin payments exceeding $600 for rent, salaries, and wages could also require reporting.

Bitcoin, the best known of a growing number of digital currencies, is not backed by any country. It is created using a computer process and can be exchanged for dollars online.

1Notice 2014-21 and IRS news release: IR-2014-36.

IRS Reports New Phishing Scam

The IRS is alerting taxpayers to a new email phishing scam — fake emails, complete with a bogus case number which appears to come from the IRS’s Taxpayer Advocate Service (TAS) 1.  

The emails may include the following message:  “Your reported 2013 income is flagged for review due to a document processing error. Your case has been forwarded to the Taxpayer Advocate Service for resolution assistance. To avoid delays processing your 2013 filing contact the Taxpayer Advocate Service for resolution assistance.”

If you receive these messages, do not respond, click on any links, or provide any personal information. The IRS, including the TAS, does not initiate contact with taxpayers by email, texting, or any social media. The IRS suggests that you forward such scam emails to it at

1 IRS Notice 2014-39

Questions? Contact Saul Brenner at 212.331.7630 or



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