Tax Notes logo

Refunds, Offsets & Coronavirus Tax Relief

Posted on Apr. 6, 2020

We welcome back guest blogger Barbara Heggie. Barb is the Coordinator and Staff Attorney for the Low-Income Taxpayer Project of the New Hampshire Pro Bono Referral System.  A shout out goes to Silya Shaw for alerting readers of the Pro Bono and Tax Clinics listserv to the Department of Education action discussed below.  Les is also adding a new section on offset to Chapter 14A of the treatise “IRS Practice and Procedure” where you can soon find additional resources regarding offset issues.  This is the first of three posts discussing offset issues in this special time. Keith

For most low-income, working families, tax season is a time of hope – hope for paying off bills, getting caught up on rent, fixing the car, and maybe even signing up for that certificate program promising a better wage. This is because the Internal Revenue Code provides thousands of dollars in refundable credits for such families if they have “qualifying children,” including the earned income credit and additional child tax credit. For a family with three children under age seventeen and a household income around $20,000, the federal tax refund can amount to over $9,000.         

But what if there’s a federal tax liability from a prior year clouding the family’s financial picture? Perhaps someone was an independent contractor and didn’t pay sufficient self-employment taxes. Maybe someone completed a Form W-4 incorrectly and wound up grossly under-withholding. What will happen to the family’s current-year tax refund?            

And what about the new stimulus money – the “economic impact payments” – meant to help people get through the coronavirus crisis? Will this family see any of that money? What if jobs are lost and savings depleted because of this emergency? Does that make a difference?

The short answers are: (1) the “normal” refund will probably be offset to pay down the prior-year tax debt, unless the family succeeds in securing a discretionary “pass” from the IRS, known as an offset bypass refund; and (2) the economic impact payment will probably still come, so long as there’s no child support arrearage on the books for the family’s taxpayers.

Section 6402(a) provides that the Secretary of the Treasury Department “may credit the amount of [a person’s] overpayment, including any interest allowed thereon, against any liability in respect of an internal revenue tax on the part of the person who made the overpayment.” (This is accomplished through the Treasury Offset Program.) Thus, the IRS may offset a person’s refund to pay down an old federal tax debt. The choice of the word “may,” rather than “shall,” means that Congress left an “out” for taxpayers; the Secretary doesn’t have to offset the refund.

The Internal Revenue Manual spells out how the Secretary should exercise this discretion, whether directly through the Internal Revenue Service (IRS) or by way of the Taxpayer Advocate Service (TAS). The mechanism for exercising the discretion is an offset bypass refund (OBR) which, in turn, depends on a showing of financial hardship. According to Internal Revenue Manual (IRM), “Hardship for this purpose is economic hardship within the meaning of IRC § 6343 and the regulations thereunder (i.e., unable to pay basic living expenses).” IRM stresses, “Handle each OBR on a case by-case basis. There is no exclusive list of expenses which would qualify a taxpayer for an OBR.”

Professor Keith Fogg blogged about OBRs for Procedurally Taxing in December 2015 and spelled out the mechanics of this tool. Traditionally, the amount of the refund offset that is bypassed via the OBR is limited to the precise amount that the taxpayer can document is needed in order to avert a specific financial catastrophe. Take the example of someone with a $3,000 federal tax liability for 2018 and an expected 2019 refund of $2,500. If the taxpayer requests an OBR and presents an eviction notice based on past-due rent of $1,000, the IRS might approve an OBR in that amount, assuming the taxpayer has also shown a lack of available assets to cover the back rent. Thus, the taxpayer would receive $1,000, and the IRS would use the remaining overpayment of $1,500 to credit the 2018 account. If the taxpayer also provided documentation of past-due medical bills, a utility shutoff notice, and an estimate for necessary vehicle repair – and if those totaled more than $1,500 – the IRS could issue a manual refund of the whole $2,500 overpayment.

But what if you can’t provide such documentation because a pandemic comes and your state issues a stay-at-home order and closes non-essential businesses, and you’re laid off and you lose Internet service? Are the traditional forms of proof necessary to secure an OBR? No, according to new guidance from TAS. A recent TaxNotes article published this guidance, TAS-13-0320-0008; it urges case advocates to consider the likelihood that a taxpayer’s ability to provide documentation of financial hardship may be impaired because of the unique circumstances and challenges of the coronavirus emergency. The guidance also reminds advocates of an important tool at TAS disposal whenever documentation can’t be secured, pandemic or no:

IRM 13.1.24. 6.2, Advocating for Taxpayers Seeking Offset Bypass Refund, clarifies when TAS can advocate for an OBR and, after an offset has occurred, when TAS can advocate for the reversal of the offset.

Many taxpayers seeking an Offset Bypass Refund will not have access or the ability to secure hardship documentation such as eviction notices, late bills, etc. Determine whether the taxpayer can validate the hardship circumstances through oral testimony or a third-party contact. If so, discuss the case with your LTA to determine if a written statement signed by the LTA confirming that the hardship was validated is appropriate. See IRM, Issuing Hardship Refunds, and IRM, Certifying Automated Clearing House (ACH)/Direct Deposit Hardship Refunds.

(Emphasis added.) The cited IRM provisions provide that a letter from the LTA verifying the existence of a hardship can take the place of third-party documentation.

But what if the federal tax debt isn’t the taxpayer’s only debt governed by section 6402 and the Treasury Offset Program? While Congress made the offset for federal tax debt discretionary, the Code section requires offsets for child support arrearages, non-tax federal debts, unpaid state income tax, and unemployment compensation debts. IRM thus concludes: “This means that the IRS has no discretion to bypass one of those debts.” Moreover, “the IRS has adopted a policy of not issuing an OBR when the taxpayer has both a federal tax debt and any other type of debt for which offset is authorized by IRC § 6402.”            

Interestingly, section 6402(e)(2) provides that an offset for a state income tax debt is permitted against a person “only if the address shown on the Federal return for such taxable year of the overpayment is an address within the State seeking the offset.” Thus, a current New Hampshire resident who incurred both a federal and a Vermont state income tax liability for 2018 might qualify for an OBR in 2020 on a 2019 overpayment.

Despite the statutory mandate for the IRS to offset the nontax debts listed above, other federal agencies have the discretion to halt any refund offset originating from debts they hold. For example, the Department of Education announced on March 25, 2020, that it “has stopped all requests to the U.S. Treasury to withhold money from defaulted borrowers’ federal income tax refunds, Social Security payments, and other federal payments.” Given the economic magnitude of the pandemic, the Education Secretary went even further and “directed the Department to refund approximately $1.8 billion in offsets to more than 830,000 borrowers.” Perhaps the IRS and TAS will issue new guidance clarifying that an OBR may be granted if the taxpayer has both federal tax and student loan debt.

And now, finally, what about the economic impact payments – the stimulus money – promised by the CARES Act? Are they subject to offset to pay down federal or nonfederal debt? With the exception of child support arrearages, the answer is no.

Section 2201(a) of the CARES Act inserts a new section 6428 into the IRC, mandating the payment of these “recovery rebates,” subject to income limits and phaseouts:

  • $1,200 ($2,400 in the case of eligible individuals filing a joint return), plus
  • an amount equal to the product of $500 multiplied by the number of qualifying children (within the meaning of section 24(c)) of the taxpayer.

(See here, here, here, here, and here for extensive discussions in Procedurally Taxing of these provisions, their possible implementation, and the concerns they generate.)

Section 2201(d) of the CARES Act, entitled “Exception from Reduction or Offset,” spells out a broad prohibition against offsetting the economic impact payments to pay down federal and nonfederal debt:

Any credit or refund allowed or made to any individual by reason of section 6428 of the Internal Revenue Code of 1986 (as added by this section) or by reason of subsection (c) of this section shall not be –

            (1) subject to reduction or offset pursuant to section 3716 or 3720A of title 31, United States Code,

            (2) subject to reduction or offset pursuant to subsection (d), (e), or (f) of section 6402 of the Internal Revenue Code of 1986, or

            (3) reduced or offset by other assessed Federal taxes that would otherwise be subject to levy or collection.

The one exception is provided by omission; section 2201(d)(2) of the CARES Act lists IRC section 6402(d), (e), and (f), but not 6402(c). The first three subsections concern offsets of nontax federal debt, state income tax debt, and unemployment compensation debt, respectively; subsection (c) governs offsets of overpayments for child support arrearages.

Thus, economic impact payments/recovery rebates/stimulus checks cannot be offset to pay any debt except child support. “Normal” federal tax refunds remain fair game in the absence of an OBR, but OBRs may be slightly easier to come by in these coronavirus times.

Subject Areas / Tax Topics
Copy RID