On March 27, 2020, President Trump signed the Coronavirus Aid, Relief, and Economic Security Act (the “CARES Act” or the “Act”), a massive $2 trillion piece of legislation intended to address the extraordinary impact of the coronavirus (COVID-19) pandemic. The legislation, in part, provides, subject to specified conditions, for:
- Loans and assistance to companies and state and local governments
- Low-interest and small business loans that can be partially forgiven
- Payments to individual taxpayers
- Additional unemployment benefits
- Suspension of certain federal student loan payments
- Financial hardship forbearance on federally backed mortgage loans
- Assistance to hospitals and veterans care
- Funding for national stockpile of pharmaceutical and medical supplies
- Tax relief provisions.
Below is an overview of tax provisions contained in the Act.
Rebates and Other Individual Provisions
Individual Rebate Checks
The Act provides recovery credits for eligible individuals of up to $1,200 for single filers and up to $2,400 for joint filers, plus a $500 credit per qualifying child. Rebates are subject to phase-out thresholds beginning at $75,000 of adjusted gross income (“AGI”) for single filers and $150,000 for joint filers. Rebates are not available for single filers with AGI over $99,000 and for joint filers with AGI over $198,000. AGI is generally based on 2019 tax return information. If a 2019 tax return has not yet been filed, then AGI will be based on 2018 tax return information.
Eligible individuals must have a valid social security number and must not be a nonresident alien, a trust or estate, or an individual claimed as a dependent by anyone else. A qualifying child also must have a social security number, or adoption taxpayer identification number.
The rebate is available even to those who have no income, as well as those whose income comes entirely from non-taxable means-tested benefit programs, such as Supplemental Security Income (“SSI”) benefits.
No action is required to get this rebate. If electronic banking information was provided on a prior tax return, the funds will be deposited directly into the account provided. If not, then a paper check will be mailed. The rebate should not be treated as taxable income and will be reconciled on the 2020 tax return. However, in general terms, in no event should an overpayment of the credit have to be repaid.
Retirement Plan Waivers
The Act waives the 10 percent early withdrawal penalty tax (under IRC Sec. 72(t)) on early withdrawals up to $100,000 from a retirement plan or IRA for an individual who is diagnosed with COVID-19; whose spouse or dependent is diagnosed with COVID-19; who experiences adverse financial consequences as a result of being quarantined, furloughed, laid off, having work hours reduced, being unable to work due to lack of child care due to COVID-19, closing or reducing hours of a business owned or operated by the individual due to COVID-19; or other factors as determined by the Treasury Secretary. The Act also permits those individuals to either pay tax on the income from the distribution ratably over a three-year period or allows individuals to repay that amount tax-free back into the plan over the next three years. Those repayments would not be subject to the retirement plan contribution limits.
The Act doubles the current retirement plan loan limits to the lesser of $100,000 or 100 percent of the participant’s vested account balance in the plan. Individuals with an outstanding loan from their plan with a repayment due from the date of enactment of the Act through December 31, 2020, can delay their loan repayment(s) for up to one year.
In addition, the Act contains a temporary waiver of required minimum distribution rules (“RMD”) for certain retirement plans and accounts. This provision waives, for the 2020 calendar year, the RMD rules for certain defined contribution plans (not defined benefit plans) and IRAs. The Act also includes special rules regarding the waiver period to, in essence, hold harmless those individuals (and plans) who took advantage of the RMD waiver for 2020.
Increased Deductions Available for Certain for Charitable Contributions
The Act encourages individuals to make charitable contributions during 2020 by providing an above-the-line deduction for cash contributions up to $300 regardless of whether the individual elects to itemize deductions.
The Act loosens the limitations on deductions for certain cash contributions during 2020. For individuals, the 60 percent of AGI limitation is suspended, allowing individuals who itemize to take a charitable contribution deduction for up to 100 percent of their AGI. For corporations, the 10 percent limitation is increased to 25 percent. The Act also increases the limitation on deductions for contributions of food inventory from 15 percent to 25 percent.
Contributions made to a supporting organization or a donor-advised fund do not qualify for either the above-theline deduction or the increased limits.
These provisions apply to taxable years beginning after December 31, 2019.
Income Exclusion for Certain Employer Payments of Student Loans
The Act provides an income exclusion of up to $5,250 for employees receiving educational repayment assistance from an employer. The Act expands the definition of “educational assistance” to include payments made by an employer to either an employee or to a lender, of principal or interest, on a qualified education loan. Educational assistance includes (but is not limited to) payment for expenses incurred for tuition, books, supplies and equipment. The Act does not allow an employee to deduct interest paid on a student loan.
The exclusion applies to payments made after the date of enactment and through December 31, 2020.
Paycheck Protection Program Loans
In order to help small businesses and their employees, the Act provides for loans to small businesses. These loans apply to any business that employs less than 500 employees or, if applicable, the amount set by the Small Business Administration for the business industry. For these loans, the definition of small business includes sole proprietorships, independent contractors, gig economy workers, and self-employed individuals.
The maximum loan amount is 2.5 times the average monthly payroll costs incurred in the previous year ending on the date of the loan or $10 million. Alternate computations are provided for seasonal employers and those not in business for twelve months prior to the loan date. For example: ABC Company’s average monthly payroll costs for the previous twelve months is $30,000. The maximum loan amount is equal to $75,000. This amount is intended to cover eight weeks of payroll expenses and any additional amounts for making payments towards debt obligations.
Payroll costs include:
- Vacation and sick pay;
- Severance pay;
- Health benefits;
- Retirement benefits; and
- Payments of state and local taxes assessed upon employee compensation.
Generally, the following expenses are excluded in the calculation of payroll costs:
- Compensation of an individual employee in excess of an annual salary of $100,000;
- Payroll taxes;
- Compensation to employees residing outside the United States; and
- Qualified sick or medical leave for which a credit is claimed under coronavirus legislation.
Proceeds from loans may be used for the following:
- Payment of payroll costs;
- Group health care benefits and premiums;
- Employee salaries and commissions;
- Mortgage interest payments;
- Utilities; and
- Interest on debt obligations incurred before February 15, 2020.
Loan proceeds used to pay payroll costs, mortgage interest (but not principal payments), rent or utilities in the eight-week period after receiving the loan proceeds will be forgiven. Importantly from a tax perspective, the amount of loan forgiveness will not be includible in the gross income of the borrower. In addition, if the full principal amount of the loan is forgiven, the borrower is not responsible for interest accrued during the eight-week covered period. Any loan amount not forgiven will operate according to the loan terms agreed to with the lender.
The maximum loan forgiveness will be reduced if there is a reduction in the number of employees or a wage reduction of greater than 25 percent. This reduction can be eliminated if the reduction in employees and/or wages is restored by June 30, 2020.
To be eligible for this program, the borrower must certify that due to current economic conditions, the loan proceeds are being used to support ongoing operations and the proceeds will be used for eligible costs. These loans do not require personal guarantees. Applicants are eligible to apply for the loan until June 30, 2020.
Applicants may apply for the Paycheck Protection Program at any lending institution that is approved to participate in the program through the existing Small Business Administration lending program and additional lenders approved by the Department of the Treasury.
Additional provisions of the loans include:
- Generally, standard SBA fees are waived
- The loans provide for no collateral or personal guarantees
- Maximum maturity of the non-forgiven component of any loan is ten years
- The maximum interest rate on the non-forgiven component of any loan is four percent and payments may be deferred anywhere from six months to up to one year
Employee Retention Credit
The Act provides a refundable payroll tax credit for 50 percent of “qualified wages” paid or incurred by eligible employers to employees after March 12, 2020 and before January 1, 2021. The credit may be claimed on a quarterly basis. The credit is available to employers carrying on a trade or business during calendar year 2020 and whose (1) operations are fully or partially suspended due to a COVID-19 related shutdown order or (2) gross receipts decline more than 50 percent as compared to the same calendar quarter in the prior year. Tax-exempt organizations are eligible where their operations are fully or partially suspended due to COVID-19.
Qualified wages is a function of the average number of full-time employees during 2019. For employers with greater than 100 full-time employees, qualified wages are wages paid to employees when they are not providing services due to the COVID-19 circumstances noted above. For employers with 100 or less full-time employees, all employee wages qualify for the credit, whether the business is subject to a shutdown order or is open during the covered time period.
The amount of wages, including group health plan expenses, considered in determining the credit is limited to $10,000 per employee (i.e., a maximum credit per employee of $5,000).
To the extent the credit exceeds the employer portion of social security taxes reduced by paid sick leave and paid extended FMLA established by earlier coronavirus legislation, the excess will be treated as an overpayment available for refund.
Employers with a Paycheck Protection Program loan are not eligible for the Employee Retention Credit. For employers that qualify, the benefits of such a loan may outweigh the combined loss of this credit and the deferral of employer payroll taxes noted below. Each situation should be carefully evaluated on its specific facts and circumstances.
The Act provides that Treasury will issue forms, instructions, regulations and guidance as necessary to implement the Employee Retention Credit provisions.
Delay of Payment of Employer Payroll Taxes
Employers and self-employed individuals can defer payment of Social Security (Old Age, Survivors, and Disability Insurance) taxes for the period from the date of enactment of the Act through December 31, 2020. All the employer portion of the Social Security tax and 50 percent of such taxes incurred by self-employed persons qualify for the deferral. Half of the deferred tax is to be paid by December 31, 2021, and the other half is to be paid by December 31, 2022.
This provision could reduce the amount of quarterly estimates for 2020 and 2021.
Employers that have had indebtedness forgiven with respect to a Paycheck Protection Program loan are not entitled to this deferral. Again, for employers that qualify, the benefits of such a loan may outweigh the combined loss of this deferral of employer payroll taxes and the Employee Retention Credit.
Note that if the deferred payroll taxes are not ultimately paid in accordance with this provision, the employer (and not, for example, a professional employer organization (“PEO”) or payroll service company acting on behalf of the employer), is solely liable for the payment of such taxes and subject to any applicable penalties.
Net Operating Losses
Under the Act, a net operating loss (“NOL”) arising in a tax year beginning in 2018, 2019 or 2020 can be carried back for five years. It also allows for NOLs arising before January 1, 2021 to fully offset income.
Accordingly, the Act temporarily removes limitations put in place by the 2017 Tax Cuts and Jobs Act (“TCJA”) where, for taxable years beginning after December 31, 2017, NOLs were limited to 80 percent of taxable income and could not be carried back to reduce income in a prior tax year. Under the Act, losses must be carried back to the earliest year available for offset. As losses will be carried back to pre-2018 tax years, corporate taxpayers may benefit from a tax refund at favorable rates of up to 35 percent.
For tax years beginning after December 31, 2020, the limitations imposed by TCJA will remain, but deductions for qualified business income under IRC Sec. 199A and for foreign-derived intangible income (“FDII”) and global intangible low-taxed income (“GILTI”) under IRC Sec. 250 will not be taken into account.
The changes to the utilization of NOLs generally apply to pass-through entities and sole proprietorships. Therefore, suspending the implementation of IRC Sec. 461(l), described below, becomes exceedingly important.
Taxpayers carrying back an NOL to a year with Section 965 (transition) income from foreign subsidiaries will automatically be treated as having made an IRC Sec. 965(n) election, which excludes Section 965 income from determining the NOL for that year. As a result, taxpayers will only be able to carry back NOLs to offset non-Section 965 income, which may impact foreign tax credit calculations and subsequent transition tax installments. In the alternative, a taxpayer may affirmatively elect to exclude Section 965 years from the carryback period.
Limitation on Losses for Taxpayers Other than Corporations
TCJA contained a provision (IRC Sec. 461(l)) for tax years beginning after December 31, 2017 that limited the deductibility of current year business losses for pass-through businesses and sole proprietorships. The limitation was $500,000 on a joint tax return and $250,000 for all other filers. A business loss in excess of these amounts was disallowed in the year in which it was incurred and was converted into an NOL that could be utilized in a future tax year.
The Act suspends the implementation of IRC Sec. 461(l) until tax years beginning after December 31, 2020, thus allowing non-corporate taxpayers to deduct excess business losses arising in 2018, 2019 and 2020. It also makes several technical corrections to that code section retroactively as if included in TCJA. One such amendment now excludes from the calculation of excess business losses “any deductions, gross income, or gains attributable to any trade or business of performing services as an employee.”
Minimum Tax Credits
As part of TCJA, the corporate alternative minimum tax (“AMT”) was eliminated, effective for tax years beginning after December 31, 2017. Taxpayers that had AMT credit carryforwards were able to use them against their regular tax liability and able to claim a refundable credit equal to 50 percent of the remaining AMT carryforward in years beginning in 2018 through 2020 and 100 percent for years beginning in 2021.
Under the Act, a fully refundable credit can be claimed in 2019, and a corporation can elect to claim the fully refundable credit amount in 2018.
Business Interest Expense Limitation
Under TCJA, for taxable years beginning after December 31, 2017, the deduction for business interest was limited to the sum of business income, floor plan financing interest, and 30 percent of the “adjusted taxable income” of the taxpayer for the taxable year, with the amount of disallowed interest generally carried forward indefinitely. The Act increases that limit to 50 percent of adjusted taxable income for taxable years beginning in 2019 and 2020, thus allowing taxpayers to deduct more of their business interest. In addition, a business can elect to use its 2019 adjusted taxable income in computing its 2020 limitation if that would produce a greater interest deduction. In the case of a partnership, that election is made by the partnership.
Special rules apply to partnerships. The 50 percent limitation does not apply to partnerships for tax years beginning in 2019. Rather, if a partnership allocates excess business interest in 2019 to a partner (determined under the 30 percent adjusted taxable income limitation), then, generally (1) 50 percent of such excess is treated as business interest paid or accrued by the partner in the partner’s first taxable year beginning in 2020 and is not subject to the limitation in that year for such business interest and (2) the other 50 percent of the excess business interest is subject to the general excess business interest limitation rules (i.e., only allowed in a future year to the extent of excess taxable income from the same partnership).
A taxpayer can elect to not have the 50 percent rule apply to the 2019 and/or 2020 taxable years. If such election is made, the original 30 percent rule would apply. The election is only revocable with the consent of the IRS. Partnerships can only make the election for taxable years beginning in 2020.
Qualified Improvement Property
The Act corrects a drafting error in TCJA, which unintentionally resulted in “qualified improvement property” being depreciated as 39-year property and therefore not qualifying for bonus depreciation (currently 100 percent).
Qualified improvement property generally includes expenses for:
- Any improvement to an interior portion of a building, which is
- Nonresidential real property, and
- Placed in service after the date the building was first placed in service,
- Expenditures attributable to the enlargement of the building
- Any elevator or escalator
- Improvements to the internal structural framework of the building
As corrected by the Act, qualified improvement property is treated as 15-year property, and, therefore, bonus depreciation eligible. The change is made as if included in TCJA, and thus is effective for property placed in service after December 31, 2017. This may necessitate the filing of an automatic change of accounting method or amending a previously filed tax return. As a result of this correction, taxpayers who made certain elections may not be able to claim bonus depreciation on qualified improvement property.
Defined Benefit Plan Funding Rules
The Act provides single-employer defined benefit plan funding relief by giving companies more time to meet their funding obligations by delaying the due date for any contribution otherwise due during 2020 until January 1, 2021. At that time, contributions due earlier would be due with interest.
Excise Tax Relief
The provision waives the federal excise tax on distilled spirits used for or contained in hand sanitizer that is produced and distributed in a manner consistent with any guidance issued by the Food and Drug Administration that is “related to the outbreak of virus SARS-CoV-2 or coronavirus disease 2019 (COVID-19),” effective for calendar year 2020. Certain labeling and bulk sales requirements do not apply during this exception period.
- Many of the provisions of the Act have retroactive application and may require the filing of applicable forms to amend previously filed tax returns. Special rules may apply to partnerships that are subject to the partnership audit rules that became effective for tax years beginning after December 31, 2017.
- In applying the provisions of the Act to specific factual situations, state and local tax considerations must be taken into account. It should be noted that the various state and local tax rules may or may not conform to the Internal Revenue Code or may opt in or out of certain provisions.
As governmental response to the COVID-19 pandemic evolves quickly, we will keep you informed of new tax developments as they arise. Please contact the professionals at Gilliam Bell Moser if you have any questions.