You probably have heard that running cocktail hour joke about the two sure things in life — death and taxes.
Well that chuckle starter came up again during the BHPH Report’s conversation with McGladrey’s Scott Ruby when he discussed how important it is for buy here, pay-here operators who have a related finance company to file Form 1099-C as dictated by Internal Revenue Service guidelines revamped nine years ago.
“To my knowledge, there are only two things that have an indefinite statute of limitations. One is murder, and the second is the failure to file a tax form,” Ruby said. “If you have not filed Form 1099- C, your statute is open forever so the IRS right now can audit all the way back to 2005 and assess you penalties.”
Assuming that the missed filing is not intentional, there is a $100 penalty for failing to provide a borrower with a Form 1099-C by the end of January and a separate $100 penalty against the dealership for failing to file with the IRS by the end of February. Ruby emphasized that penalties can add up quickly, but there is potential relief if operators missed those initial deadlines.
“If you’ve missed the deadline for 2013 related filings, your time considerations are still important because penalties increase. The penalties are lower if the late filings are made before Aug. 1. After Aug. 1, it’s at least a $200 penalty per missed Form 1099-C,” he said.
He went on to explain that “penalties increase substantially if the failure to file is intentional. Intentional disregard is based upon all the facts. There is always the concern that continued non-filing is an indication the omission is intentional. Intentional disregard is the larger of $500 per omission or 10 percent of the amount that would have been reported on the 1099s. The amounts really add up quickly.”
To ease the burden of preparing the Forms 1099-C, operators could use the same service provider that handles their payroll and other 1099 matters.
There’s a clear point emphasized by Ruby as well as Ken Shilson, founder of the National Alliance of Buy-Here, Pay-Here Dealers.
“If you haven’t filed in prior years, and you’re filing this year, you need to consult with your lawyer and tax adviser,” Shilson said.
Tennessee Bankruptcy Case Clouds Issue
Last May, Tennessee’s Eastern District Bankruptcy Court issued a ruling that might have muddied the situation.
Tennessee-based attorney Ernest Williams explained the state’s Eastern District Bankruptcy Court latched onto the “defined policy” exception and determined that the issuance of a Form 1099-C reflects that a financial institution has discharged an indebtedness, which must then be reported by the debtor as taxable income.
“But legally, unless the debt is truly ‘discharged’, it is still owed,” said Williams, who runs EWIV Law in Nashville, Tenn.
Williams added that this bankruptcy case is likely to be cited by borrowers seeking to avoid repayment. He encouraged his clients “to ensure their ‘defined policies’ are not to ‘cancel debt’ unless discharged.”
Avoiding Forbearance Agreement
Shilson mentioned a few states that are prime BHPH markets, including Texas and the Carolinas, have state statutes that prohibit recovery measures beyond repossessing the vehicle. In these states and a few others, garnishing wages and remedial recoveries such as property liens simply aren’t possible. And as a result, Shilson has seen many operators use what’s known in the industry as a voluntary forbearance agreement.
“Basically it’s an agreement signed with the customer and the finance company in which the customer agrees to gives the car back voluntarily and in return the operator agrees not to pursue him any further, not to report negative credit and not to do certain other things which sometimes includes an agreement not to file a Form 1099-C with the Internal Revenue Service,” Shilson said.
“The problem is that the IRS doesn’t recognize the forbearance agreement as a federal exemption,” he continued. “You’re making a hollow promise. It doesn’t relieve the operator from the responsibility of reporting that the debt was cancelled. It’s not a smart move because the operator can incur significant penalties.”
Ruby took a similar position, citing federal guidelines associated with Form 1099- C as a general recommendation to any BHPH operator.
“Operators should not agree to omit the filing of Form 1099-C because it’s required by federal law. Do not include language in the settlement agreement suggesting that they will exclude the settlement from the Form 1099-C reporting,” Ruby said.
“Don’t get sucked into breaking the law,” he added.
Importance for Sale of Dealership
Beyond the annual tax filing, Ruby mentioned another reason why BHPH operators need to monitor the filing of Form 1099-C closely.
“At some point in time, operators want to retire, and that may mean they want to sell their business. If they’re not filing Form 1099- C (and we’ve already determined that statute of limitations hasn’t started), any knowledgeable buyer will adjust the sales price for the exposure they’re going to inherit on the purchase of the business,” Ruby said.
“Likewise, anyone who is buying a business will be looking for any liabilities that aren’t disclosed on the financial statements. Missed Form 1099-C or penalties for not filing are the types of liabilities a knowledgeable buyer will check,” he added.
Inconsistent Enforcement Application
Both Ruby and Shilson indicated to BHPH Report that each have has worked with clients who have encountered varying degrees of enforcement of Form 1099-C compliance.
“IRS auditors of en approach the issue differently and can arrive at very different conclusions. Scott and I have been comparing notes on our respective experiences and we have found some very different approaches and results,” Shilson said.
“As I’ve talked with other CPAs, they’re also experiencing some differences. The IRS does not seem to be taking a clear approach to this matter,” Shilson continued.
“It’s a case where it is complicated and it doesn’t seem that there is a clear position that the IRS is asserting. It doesn’t appear that there is any guidance makes it easier for operators to understand how to comply or for IRS auditors to understand how to that helps us either comply or them to enforce the rules,” he went on to say.
If the IRS does contact a BHPH operator, Ruby recommended the dealership contact its tax adviser and legal counsel immediately.
“Because of the difficulty applying or interpreting the rules, the application may be inconsistent from one IRS audit to another,” Ruby said. “The point is the buck stops with the operator to know the rules and to be able to crisply explain how they have complied with the reporting requirements. I know that Ken and I share the same objective — helping operators understand these rules. Hopefully these articles are helping.”