The Internal Revenue Service has issued advice from its Office of Chief Counsel providing guidance to employers who request refunds of Federal Insurance Contributions Act payroll withholding taxes for medical residents.

Legal cases involving the question of the taxation of medical residents have gone all the way to the Supreme Court (see Supreme Court Rules for IRS, Against Medical Residents). The Supreme Court ruled unanimously in 2011 in favor of the IRS, saying that medical residents are full-time employees who are subject to payroll taxes and don’t qualify for the student exemption.

The IRS made public the Chief Counsel Advice in an email Thursday, although it had been issued on February 15. In CCA_2012062114582047, the IRS offered guidance on refund claims for FICA for medical residents.

“You asked for guidance on an issue that has arisen in the context of refunds of overpaid FICA taxes in medical resident cases,” wrote an IRS official whose name has been blacked out on the publicly accessible document. “In these cases, a hospital/employer may have filed a claim for refund of overpaid FICA tax for both its (employer) share and on behalf of consenting medical resident employees, for their share. Under the FICA refund scheme, the employer acts as fiduciary in bringing the refund claim on behalf of consenting employees, but the refund is actually paid to the employer, who is then supposed to give the entitled employees their share.”

The IRS acknowledged that because the overpayment is issued in the name of the employer, under the normal systemic processing of overpayments, an overpayment applied to an employer’s account would ordinarily be offset against any tax liabilities for other periods in accordance with Section 6402(a). That section of the Tax Code permits, but does not mandate, the IRS to credit the amount of any overpayment against any tax liability on the part of the person who made the overpayment and refund the balance to that same person.

Section 6402(a) therefore only allows the employer share of the overpayment to be credited against that employer’s tax liability for other periods, the IRS pointed out, so the IRS does not have the legal authority to offset the employees’ share of an overpayment against an employer’s separate tax liability.

“Should such an offset occur, since the IRS would not have the legal authority to make the offset, the IRS would need to reverse the overpayment credit with respect to the employees’ share,” said the IRS. “We have not found any direct authority addressing offsets of FICA tax for these types of overpayments.”

The IRS added that advice has already been released discussing the Taxpayer Advocate’s lack of authority to order reversal of a properly made overpayment credit so the IRS could issue a refund to the taxpayer on the grounds of hardship. But the Taxpayer Advocate does not have this authority either because once the credit is made, there is no longer an existing “overpayment” that can be refunded.

“In the case of an offset of employee overpayment against employer liability, however, the credit would not be proper with respect to the employees’ share,” the IRS noted. The Chief Counsel Advices discuss the exception to the general prohibition on reversing offsets to correct a mathematical or clerical error and also discuss the provisions in the Internal Revenue Manual that can be used to reverse or override the offsets.

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