IRS Notice 2023-56 provides guidance on the treatment of state tax refunds and other state tax payments. Included in the guidance is “spillover” relief from the IRS’s exclusion of state tax payments made in 2022. This means that state tax payments made in early 2023 are excludable from 2023 federal taxable income if the payments were made under state programs that qualified for the IRS’s one-time relief granted for certain 2022 state tax payments (e.g., the California Middle Class Tax Refund).
Last year, numerous states issued a variety of state tax payments in the form of rebates, refunds, etc. to assist taxpayers, many under the auspices of COVID-19 and/or inflation relief. In February 2023, the IRS announced that due to the complexity of the issues involved and the fact that many of these payments were one-time payments, the IRS would not subject these payments to tax during the 2022 tax year. (IR-2023-23)
IRS Notice 2023-56 provides additional guidance regarding how the IRS will evaluate similar state tax payments going forward under the tax benefit rule, the general welfare exclusion, and the IRC §139 disaster relief exclusion. The notice also outlines the state and local government reporting requirements. The notice asks for comments on how these rules should be applied in the future and indicates that the IRS will be issuing further guidance in this area in the future.
The notice is available at: www.irs.gov/pub/irs-drop/n-23-56.pdf
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