October 21, 2016
With the presidential election just around the corner, the nation is abuzz on the candidates’ tax policy proposals, among various other issues. That said, as we head into the “home stretch” of the 2016 year, it is doubtful that Congress will pass any major changes to the existing tax code, providing some certainty for short-term tax planning strategies this year, which is unusual lately. Unlike the past few years, there are no major expiring tax provisions waiting in limbo for Congress to act on extender legislation in 2016.
PATH Act Impact
Last December, Congress passed the PATH Act, which provided the following tax provisions, all still in place and pertinent for 2016 year-end tax planning:
Important extenders granted permanent extension
Important temporary extensions
Year-End Planning Opportunities
There are several tax planning opportunities to minimize a bank’s 2016 taxable income. Here are a few planning points to consider during your year-end bank tax planning process:
Other Items to Consider for the 2016 Tax Year
Mortgage Servicing Rights
For banks that sell mortgages and retain mortgage servicing rights, an asset reflecting the value of those mortgage servicing rights may or may not be reflected on the bank’s balance sheet, dependent upon the materiality of the asset. Regardless of whether the asset is booked or not, the bank needs to consider the tax implications of retaining these mortgage servicing rights.
According to current tax rules (IRC Section 1286 and Revenue Ruling 91-46), banks are to “peel away” some tax basis from the mortgage loans being sold (and realized a current year taxable gain), and assign that tax basis to the mortgage servicing rights, based on the relative fair market values of the loans and retained servicing rights. That tax basis “peeled away” from the loans being sold and assigned to the mortgage servicing rights is then amortized and deducted from taxable income over the life of those rights. This can be quite burdensome from a record-keeping standpoint, not to mention that it accelerates taxable income since the loans being sold will be at a gain for income tax purposes.
There is a method to avoid this result—Revenue Procedure 91-50 provides a safe harbor election that a bank can make to avoid the burdensome record-keeping and accelerated taxation. In order to effectively make this election, a bank’s mortgage servicing rights compensation on 1-4 unit residential mortgages sold must meet the safe harbor fee levels in Revenue Procedure 91-50, as set forth below:
If the mortgage servicing fee does not exceed the above amounts, then the Revenue Procedure 91-50 safe harbor election can be made and the accelerated taxable income can be avoided. Also, if a bank does book a mortgage servicing asset for GAAP purposes, it realized a large amount of book earning related to booking that asset. If the safe harbor election can be made, those GAAP earnings will be currently nontaxable (nor will subsequent GAAP amortization be tax deductible).
S Corporation Due Diligence
For S corporation banks and holding companies, year-end tax planning is a good time to perform some due diligence functions to ensure that all S corporation eligibility requirements are still being met by the corporation and its shareholders. If shares were transferred during the year or new shareholders were added, it is important to make sure compliance with S corporation requirements is still in place, particularly if shares were transferred into trusts during the year. Care must be taken to ensure that IRS requirements, as well as Federal Reserve Bank rules, are being complied with.
The above items are only a few things to consider during your bank’s year-end tax planning process. Taking into account the current political environment and the uncertainty of future tax reform, it is important for banks to not only factor in tax planning for the current year, but to also analyze the possibilities and plan long-term, i.e., comparing C corporation versus S corporation structures, considering whether someday banks could be converted to LLCs and tax partnerships, etc.