I got a monthly stipend (via W2) in 2017 and 2018. In 2018 it had to be paid back. How do I recoup the taxes paid in both 2017 and 2018? Is this a deduction or credit?

[ee2241]

We are NY residents but the W2 was for work in PA.

[Opus 17]

Why and how much?

[ee2241]

Signed a contract in 2017 to start work in 2019. The stipend was a monthly payment of the 'sign on' bonus, paid in advance. By mid 2018 it was clear that the contract needed to be terminated, so the stipend/sign on bonus was also terminated, and amounts paid were paid back (gross plus interest). The total paid in 2017 was 30K and the total in 2018 was 22500.  

[Opus 17]

Any monies paid in 2018 and then repaid in 2018 should have been zeroed out on your W-2.  You should not be issued a W-2 if you were not paid net wages.  There is no tax procedure to deduct wages that were paid and repaid in the same year on your tax return.

For wages paid in 2017 and repaid in 2018, there are two procedures you might use, but one of them requires that you had a reasonable belief at the time that you had an "unrestricted right" to the payment.  It sounds like that might not be the case, which means the second procedure is not allowed to you.  Can you explain more about "it became clear the contract needed to be terminated."  

[ee2241]

Thank you for this info!

First, re 2018, even though all the wages were paid back in gross (22500 for 2018), taxes were withheld from the original payments, so we only received the net payments, totaling approximately 19,044. So we actually had to pay back more than we received. What happens to the withheld taxes for 2018?

In my original question I used "I" but this is actually my spouse's contract. He is in training, finishing in June 2019. He was recruited by the company in late 2016, and signed the contract with the plan to work for the company once done with training. This was our plan throughout 2017 and into late 2018. Because of personal changes in our family, and some changes at the company, it became clear that the job was no longer going to be the right fit come mid-2019. We came to this conclusion in August 2018 and terminated the contract in September (after taking a few weeks to find a way to pay back the stipend). We then paid back the stipend to fulfill the contract obligations, and started the search for a new job that he could start in mid-2019. I think this would qualify as believing we had an unrestricted right to the payment, because up until about the last month before terminating, he planned to fulfill the contract and so expected to keep the bonus stipend. Is that correct?

[Opus 17]

Do you have a W-2 for 2018 that shows zero wages but box 2 Federal and box 17 state taxes withheld?

[ee2241]

I haven't received the W2 for 2018 yet.

[Opus 17]

If your spouse signed a contract that said something like he would have to repay all or part of the signing bonus if he did not work for the company for a certain length of time, some people will argue that that alone is enough for him to know he did not have an unrestricted right to the money (it was restricted by the requirement to work a certain length of time).  Your argument is also possibly reasonable.  I have not researched Tax Court cases to see how such cases generally are handled, when the taxpayer makes the claim and the IRS disagrees, and I'm not a tax attorney.

[Opus 17]

Oh, and I see the NY/PA issue.  If PA state tax was withheld, you will need to add a PA non-resident return to your file to claim a refund of that amount.

[ee2241]

thanks again. I will check into the Tax Court cases. There was definitely a section in the contract stating that the stipend/bonus would have to be repaid if he did not work there (not sure about length of time but I will check), however, we did have every intention of fulfilling the contract and therefore we were not viewing the money as a loan but I guess as more of an advance on his salary?

So if it turns out it does not qualify for the credit due to him not having an unrestricted right, this means it's basically lost I think? Because there's no way we are going to itemize past $24k...

[Opus 17]

Didn't you say the 2017 payment was $30K?  That is part of the itemized deduction.  So if you had (let's say) $12K in other itemized deductions and would have used the standard, you would now have $42K in itemized deductions.  So you get some benefit, just not all of it.

I can't really advise you on the meaning of "unrestricted".  It would not be unheard of for you to take the most favorable tax position you can, and worry about your audit later, since only around 1% of taxpayers are audited.  If the IRS reassessed the tax as an itemized deduction, and you decided not to fight in court, you would owe the additional tax plus about 1% per month in interest and late fees.

It would be up to you to decide if that is a risk you are comfortable taking.

[ee2241]

Oh yes, right sorry! I had the tax number, not the income number, in my head as the amount of the deduction. Good point re risks. Something to think about! I really appreciate all your thoughts on my question! It has helped a great deal.

[Opus 17]

What should probably happen is that you receive a W-2 for 2018 showing no wages in box 1, with federal tax withholding in box 2, and state tax withholding in box 17 if your state has taxes.  Enter this in Turbotax just as a regular W-2, and the withheld taxes will be credited to your other taxes and will come back to you as part of your refund, assuming your total payments and withholding are more than you owe.

(You may still have Box 3 and 5 social security and medicare wages, and box 4 and 6 social security and medicare tax withheld.  Because of how these taxes are collected and paid by the employer, it is a real paperwork nightmare to get them back.  If your employer zeroes them out, you are lucky.  If not, you can't get them back on your tax return, but they will go to your credit in the social security system which helps you earn credits towards disability and retirement income.)

I don't think you can e-file if you have a W-2 where box 2 is more than box 1, so you may have to print your return and mail it in.

If your W-2 shows the wages paid to you and is not adjusted for the repayment, contact the employer to get it corrected.  If they refuse, you can adjust this in Turbotax but the IRS will probably send you a letter asking for an explanation, so make sure you keep good records for at least 6 years.  A CPA might also be able to help in this case if you are using the Live Online version.

The interest you paid back is not deductible, you just eat that. (But you had the use of the money for a year, so it could have earned interest for you or done other useful things for you.)

Then for the 2017 wages repaid in 2018, there are two procedures.  (Note that neither one of them will bring back your social security and medicare tax either, but it goes toward your credit at social security.)

Since the amount is over $3000, there are two ways to deal with it.  The easy way is to take a special itemized deduction, it's on the Deductions and Credits page under Uncommon Deductions. But, if you don't already itemize, you won't get the full deduction, because of the way itemized deductions work.

The more complicated way is to claim an IRC 1341 Claim of Right credit.  This is a direct tax credit in the amount that your 2017 taxes would have been reduced if this money hadn't been in your income. Because the tax rates were higher last year, the claim of right will save you more money than the itemized deduction even if you already itemize.  But, to use the claim of right, you must have had a reasonable belief at the time that you had an unrestricted right to the money.

There are instructions in IRS publication 525 on how to calculate the amount of the credit.

https://www.irs.gov/pub/irs-pdf/p525.pdf 

To enter the credit, you must make a manual adjustment directly on the tax form, as described in the instructions on Schedule 5, line 74.  Enter the amount of the credit and write "IRC 1341" in the space next to the amount.  To do this, you need to be using Turbotax Desktop installed on your own computer from a CD or download, and then click the Forms icon to make a direct entry on the form.  (Note that this voids the accuracy guarantee.)  Or in Turbotax Online, you need to upgrade to the Live version and have your CPA enter it for you.

The itemized deduction method will probably also lower your state taxes since most states accept Federal itemized deductions.  If you use the claim of right procedure, you will have to investigate on your own, how to claim this in your state.  If it requires a manual entry, you can make it in Forms mode, or talk to your live assistant in Turbotax Live Online.

I can't advise you on whether your facts and circumstances qualify for the claim of right.  If you take it, you should keep notes or records (right down your story, with dates and other proofs) in case of audit.

[ee2241]

This is incredibly helpful. Thank you so much!!