The Q2 2021 Met Life and US Chamber of Commerce SBI, released this week, finds that as more Americans received the COVID-19 vaccine, states lift restrictions and businesses continue to reopen, a majority (65%) of small business owners are more optimistic that the worst of the pandemic is over.
According to the poll taken April 21 – May 6th, the dominant emotion small business owners are feeling about their current strategy is hopeful. 31% say they are feeling comfortable and 24% say they are concerned.
“Small businesses are seeing real reasons for optimism this quarter and we’re seeing that reflected in the data,” said Tom Sullivan, vice President of small business policy at the US Chamber of Commerce. “The easing of capacity restrictions due to increased vaccinations means more small businesses are welcoming more customers. Increased foot traffic equates to economic growth and that is moving our country’s recovery forward.
Small businesses are very clear on what will help their businesses thrive: both easing COVID restrictions and more vaccinations. Small businesses say that easing COVID-19 restrictions (29%) and ramping up vaccinations in their area (28%) are the two biggest keys to their success in the remainder of 2021.
When it comes to views of the economy, positive outlooks are growing and negative ones are declining. Currently, 27% of small businesses rate the overall US economy as good, up from 21% who said the same in Q1. Driving this uptick is the decreasing number of small businesses seeing the economy as bad. While 46% continue to say the national economy is poor, this is the first time this measure has fallen below 50% during the pandemic. Just last quarter, 60% of small businesses said the economy was poor.
Additional Findings
Additional survey findings include:
COVID habits may be here to stay. 76% of small businesses intend to keep all COVID-19 safety precautions in place until the Coronavirus pandemic ends.
In a tight labor market, employers are holding onto the workers they have. Most small businesses anticipate retaining the same staffing level. 32% plan to increase staffing, and around 11% plan to decrease staffing over the next year.
Small businesses see revenue improving in the future. About 57% of small businesses anticipate their revenue increasing this year, up 10% compared to last quarter, the most positive outlook of this metric during the pandemic.
President Biden entered office with an ambitious agenda. From expanded healthcare subsidies and increased social security benefits, to student loan forgiveness. This would be costly. As a candidate, Biden proposed a series of tax rate increases on high-income families to pay for some of his new programs. Under his plan, corporate income tax rates and top personal income rates would rise. Top earners would face new Social Security taxes, and millionaires would face much higher tax rates on capital gains and dividends. What would these tax rate hikes look like, and what would they do to the economy?
Part 1: What are the Corporate Income Tax Increases?
Until 2018, the US had the highest statutory corporate tax rate in the developed world. Even before accounting for new state taxes, the top rate was 35%. This was well above rates in Ireland (12.5%), Canada (15%), and the UK (19%). The Tax Cuts and Jobs Act of 2017 (TCJA) permanently lowered the top rate to 21%. The current administration wants to increase the rate to 28%, which is higher than most developed countries, but still 20% lower than the 2017 rate. There are some reasons for why there isn’t support for the old rate:
At higher rates, corporations have more incentive to avoid the tax. They hire expensive tax lawyers to find clever ways to reduce their tax bills. They move their headquarters/profits to low-tax jurisdictions. A higher tax rate shifts a corporation’s focus from producing better products at lower costs to finding ways to reduce its tax liability. It affects what they produce, where they build it, and how they finance it. The end result is that consumers pay more but get less and the government takes in less tax revenue.
The person who pays a tax is often not the same person who bears the cost of the tax. In the case of corporate taxes, economist John Cochrane explains that “as an accounting matter, every cent corporations pay comes from higher prices, lower wages, or lower payments to the shareholders. The question is which one.” Economist Michael Boskin argues that corporate tax is born increasingly by workers: “Corporate taxes, like others, are ultimately paid by people. In a static economy with no international trade, shareholders are likely to bear the costs. The US economy is neither static nor closed to trade, and so taxes tend to be borne by the least mobile factor of production. Capital is much more mobile globally than labor, and the part of the corporate tax that is well above that of our lowest tax competitors will eventually be borne by workers. In a growing economy, the diminished investment slows productivity growth and future wages.
Slower economic growth and lower wages are a high price to pay for a tax that yields surprisingly little revenue. It’s no wonder then that there isn’t much support for pushing the rate back up to its former level.
Part 2: What About Personal Income Taxes?
About half of all federal tax revenue comes from personal income taxes. These taxes are progressive, meaning that as your taxable income rises, the share of your taxed income rises too. Every dollar of taxable income is taxed at a particular rate, called a marginal tax rate. Currently, marginal tax rates on earned income range from 10% to 37%. President Biden wants to raise the top rate to 39.6%, the rate that existed prior to the TCJA.
The personal income tax code doesn’t just tax wage income. People also pay income tax on realized capital gains and dividend payments. Capital gains are the profits made form selling an asset for more than it was bought. The tax rates for investment depend on the gross income of the tax filer and how long the filer held the investment. If you sell an asset within a year after buying it, your tax rate is generally the same tax rate you pay on your taxes. If you held it for more than a year, you pay a lower tax rate. Biden’s plan calls for eliminating this lower tax rate for filers with incomes above $1 million. How big of a tax increase would this be? Currently, the top rate on long-term capital gains and qualified dividends is 23.8% Biden’s plan calls for this to rise to 43.4%.
These higher marginal tax rates would have significant effects on the economy. Watch this video for an explanation:
The marginal tax rate affects a person’s decision on whether to work more hours, hire more workers, or invest in new innovations or businesses. As the video explains, the “investments not made, schooling not pursued, or businesses not started all cumulatively add up to a lower quality of life for everyone.”
While high marginal tax rates discourage the behaviors that produce economic growth, many policy makers are willing to accept that outcome in order to make the tax system more progressive. They argue that high-income taxpayers can afford to pay more. But just because they can, doesn’t mean they will. As we saw with corporate income taxes, the higher the rate, the more incentives people have to avoid the tax. This will be done either through clever accounting or through changing their economic decisions.
Further, the US already has one of the most progressive income tax systems in the developed world. The progressive rates don’t necessarily yield substantially higher tax revenue. The tax code is filled with countless deductions that reduce a filer’s taxable income and tax credits that directly reduce a filer’s tax liability. Filers may cut their taxable income by deducting charitable contributions, the interest they pay on their mortgage, and taxes they pay to state and local governments. Families with children may reduce their tax bill by claiming the child tax credit. Businesses can claim credits for research and development or building low-income housing. The US tax code has long been filled with these types of tax breaks. Milton Friedman explains how these tax breaks interact with high tax rates:
Part 3: What About Payroll Taxes?
Social Security and parts of Medicare are financed through payroll taxes on wage and salary income. The 2.9% Medicare tax, split evenly between employee and employer, is assessed on all wage and salary income. The Social Security tax is more complicated. It assesses a 12.4% tax, split like Medicare, on earnings up to the so-called taxable maximum. This maximum is set at $142,800 in 2021. Earnings above the taxable maximum face no Social Security taxes. President Biden wants to assess the full Social Security tax on all earnings above $400K.
It might seem odd that top earners pay a lower share of their income in Social Security taxes than those with earnings below the taxable maximum. There is an interesting historical reason for this unique tax. Workers’ taxable Social Security earnings are used to determine how much they receive in benefits when they retire. In discussing Senator Warren’s Social Security plan, John Cogan explains how applying these taxes to earnings above the taxable maximum would alter the nature of the program:
“The cornerstone of FDR’s Social Security program is its “earned right” principle, under which benefits are earned through payroll-tax contributions. Although Congress has eroded this principle over the years, it remains part of the program’s core. Warren’s plan calls for additional taxes on wage earnings, capital gains, and dividends paid to those with high annual incomes. These incomes are $250K or more for individuals, and $400K or more for families. But in a major break from one of FDR’s main Social Security principles, the plan provides no additional benefits in return for the new taxes. Warren’s new tax plan would account for about a quarter of future revenues flowing into the Social Security system. Such a large revenue stream to fund unearned benefits, called “gratuities” in FDR’s era, would put Social Security on a road to becoming a welfare program.
Even beyond its effect on the Social Security program, adding the Social Security tax on earnings above $400K would represent a dramatic marginal tax rate increase. Currently, workers with incomes in the top personal income tax bracket face a marginal tax rate of roughly 40.8%. 37% of that is for personal income taxes and 3.8% for Medicare. Adding the 12.4% tax would raise the top marginal tax rate above 50%, and that is before accounting for state income taxes. Like other marginal tax rates, these high rates will affect decisions to work, ultimately hurting future economic growth.
Conclusion
High marginal tax rates damage the economy and will result in fewer economic opportunities for everyone. yet we need revenue to pay for essential government services, and much more to fund the reforms envisioned by the new administration. Is there a better way?
Fortunately, yes. A consumption tax such as a sales tax or value-added tax offers a far more efficient way to raise revenue. In Blueprint for America, Michael Boskin explains:
“There is considerable research showing that moving toward a broad-based, integrated progressive consumption tax would significantly increase real GDP and future wages. Replacing both the corporate and personal income taxes with a broad, revenue-neutral consumption or consumed income tax would produce even larger gains.”
A consumption tax would give workers, entrepreneurs, and innovators better incentives to work, invest, and create. The result would be an economy that delivers more economic opportunity while providing adequate revenue for the government.
The Tax Cuts and Jobs Acts (TCJA) limited the individual tax deduction of state and local taxes (SALT) to $10,000 for married filing joint and $5,000 for married fling separate, or single. We feel this limitation was done to offset tax reductions done to spur the US economy. This limitation hurt and increased income taxes for taxpayers that are residents in states with high taxes. Taxpayers and states have been looking for a method of getting around this tax deduction limitation. Various ideas have failed, but the IRS recently issued IRS Notice 2020-75 which provides some hope. In the notice the IRS is explaining that if a state makes a flow through entity (an S Corporation or Partnership) liable for the income tax, rather than the shareholders or partners, and the entity pays it, then that state tax is not limited. Many states have been looking for a way to help their residence, and the IRS has explained a way, but why hasn’t more states implemented this change if they really want to help their residence? Currently only seven (7) states have made this change.
Scope
The purpose of this memo is to discuss Notice 2020-75 issued by Internal Revenue Service (IRS) on November 9, 2020, which allows state and local income taxes imposed on and paid by partnerships or S Corporations in computing its non-separately stated taxable income or loss for the taxable year of payment and are not subject to SALT limitation.
Background
Tax Cuts and Job Acts (TCJA) limits the individual deduction of SALT to $10,000 (or $5,000 for married filing separately) for tax years 2018-2025. Due to this limitation, the notice cited that certain jurisdictions have enacted or contemplating to enact tax laws that impose either a mandatory or elective entity-level income tax on partnerships and S Corporations that do business in the jurisdiction or have income derived from or connected with sources within the jurisdiction. The notice pointed out that “certain jurisdictions provide a corresponding offsetting, owner-level tax benefit, such as full or partial credit, deduction, or exclusion” for taxes deducted at the Pass-Through Entity (PTE) level and that Treasury and IRS are “aware of the uncertainty as to whether entity level-payments made under these laws to jurisdictions described in §164(b)(2) other than U.S. territories must be taken into account in applying the SALT deduction limitation at the owner level”.
The notice also announced the IRS’s intention to issue a proposed regulation to provide clarity to individual owners of partnerships and S Corporations in calculating their SALT deduction limitations and clarify the Specified Income Tax Payments which are deductible by partnerships and S Corporations in computing their non-separately stated income or loss.
Discussion/Analysis
Reporting of Deduction in the Partnership or S Corporation Tax Return
Based on the notice, SALT does not need to be separately stated. Thus, it would be expected that the deduction will be reported under “Taxes and Licenses” on Form 1065 or 1120S and will flow-through to partners/shareholders as part of Box 1 “ordinary income or loss” on Schedule K-1.
Deductibility of the SALT
As mentioned in the notice, there are “certain jurisdictions” that shifted the individual tax to entity-level tax to “workaround” from the SALT limitation under TCJA and below are the states that imposes entity-level income tax which is referred to as a “Specified Income Tax Payment”:
Connecticut – effective January 1, 2018
Louisiana – election to be made
Maryland – imposed to the distributive shares or pro rata shares of resident members of the PTE
New Jersey – effective January 1, 2020, election to be made
Oklahoma – effective January 1, 2019, needs annual election
Rhode Island – effective January 1, 2019, election to be made
Wisconsin – effective January 1, 2019 for person or persons holding more than 50% of capital and profits of a partnership
According to the notice, if a partnership or an S Corporation makes a Specified Income Tax Payment during the taxable year, the partnership or S Corporation is allowed a deduction for the Specified Income Tax Payment in computing its taxable income for the taxable year in which the payment is made.
The impending proposed regulations defined “Specified Income Tax Payments” as any amount paid by a partnership or an S Corporation to a State, a political subdivision of a State or the District of Columbia (Domestic Jurisdiction) to satisfy its liability for income taxes imposed by the Domestic Jurisdiction on the partnership or S Corporation, meaning, it will solely include the state and local taxes paid under Sec. 164(b)(2) but excluding taxes paid or accrued to foreign countries and U.S. territories under Sec. 703(a)(2)(B) and Sec. 1363(b)(2).
Effectivity Date of the Deduction
Based on the notice, the forthcoming Proposed Regulations will apply to payments on or after November 9, 2020, but taxpayers are also permitted to apply the rules to payments made in a partnership or S Corporation tax year ending after December 31, 2017 and before November 9, 2020.
Notes/Comments
This is a taxpayer friendly decision made by IRS. It is expected that other states, particularly those that impose high personal income tax rates on residents that are disproportionately affected by the $10,000 SALT deduction cap may enact similar laws in response to IRS guidance.
Currently, California and many other high tax states have not made this beneficial change. If you live in a state with high income taxes, I suggest you contact them.
Individual states and every individual have unique tax calculations and applications of tax laws, so please contact us if you have questions.
The novel coronavirus (COVID-19) crisis has touched so many lives, with both illnesses and hardships. In response to this crisis, our office is working remotely on all accounting and tax projects. The best method to contact us is to email us at [email protected]. We are focused on staying up to date on the tax, accounting and finance updates to assist everyone with these challenges. The final Coronavirus bill that was signed by President Trump on March 27, 2020 is H.R. 748 called the CARES Act. This passed bill was different than the Senate bill I wrote about on March 25, 2020. Some provisions are the same or similar.
Based on new information reviewed and the discussions with our clients, I’m providing an update.
Section 1102 Paycheck Protection Program Loans (PPL):
This is a section 7(a) SBA loan
VA Comment: Supposed to be a streamline process. When I speak with bankers, they advise that they are still waiting for guidance from SBA. See attached the U.S. Chamber of Commerce Coronavirus Emergency Loan Checklist.
Apparently, small business can apply starting April 3, 2020. However, banks need to be prepared. Most banks have sent out emails to their customer to begin compiling information regarding payroll, and health care costs.
Starting April 10, 2020, independent contractors and self-employed individuals can apply.
We are assuming the banks will want to look at and / or have the net self-employed income from your 2019 tax return or financial statements, and they may ask for 1099’s.
VA Update: Based on additional information received from tax discussions, it seems as if a taxpayer can apply for BOTH a PPL and an EIDL, however, if they apply for both, the EIDL can’t be used for payroll, and the PPL is supposed to be used for payroll.
Some businesses may need more money than just the PPL, so the EIDL will be required. Loans under $250,000 seems to require less information and no personal guarantee.
Government guarantees 100% of the loan through December 31, 2020
Guarantee drops to 75% for loans exceeding $150,000 and
85% for loans equal to or less than $150,000.
VA Comments: The Federal loan guarantee reduces at 12/31/2020, as I would expect that large portions of loans will be forgiven for payroll before 12/31/2020.
Eligible businesses are small business (500 or less of employees), nonprofit, veteran’s organization or tribal businesses.
Includes sole-proprietors, independent contractors, and self-employed individuals.
VA Comment: Seems like most every business has been negatively affected from COVID-19 and if a business has payroll, they will apply for the PPL.
How to Calculate the Loan Amount / Maximum Loan Amount:
In summary, average monthly payroll from 2019 multiplied by 2.5.
Sum of average total monthly payment by the applicant for payroll costs incurred during the 1-year period before the date on which the loan is made.
VA Comment: The current PPL application, just asks for “payroll costs” and the form doesn’t provide a definition of “payroll costs”, so we are suggesting looking at the summary of the bill that defines “payroll costs”. However, we have seen the banks asking for supporting information about “payroll costs”. These items are:
2019 Payroll, including the last 12 months
2019 Employees – 1099’s for 2019 employees and independent contractors that would otherwise be an employee of your business (Note: Do NOT include 1099s for services)
Health care costs. All insurance premiums paid by the business owner under a group health plan.
Retirement – your company retirement plan funding paid by the company.
Some banks, like Bank of America, have stated that they are currently only going to provide PPL’s for customers that have deposit and lending relationships.
Payroll Costs as defined in the bill.
Payroll Costs Included:
Salary, wage, commission, or similar compensation (not to exceed $100,000. So, if an employee earns $150,000 a year, the company can only use $100,000 a year for the calculation.)
Payment of cash tip or equivalent
Payment for vacation, parental family, medical or sick leave
Allowance for dismissal or separation
Payment required for the provision of group health care benefits including insurance premiums.
Payment of any retirement benefits; or
Payment of State or local tax assessed on the compensation of employees and
Payroll can’t exceed more than $100,000 a year.
Self-employed , Sole Proprietor.
The sum of payments of any compensation to or income of a sole proprietor or independent contractor that is wage, commission, income, net earnings from self-employment that isn’t more then $100,000.
VA Comments: If you’re self-employed and you pay yourself with draws, then the banks will probably want to see 2019 1099-MISC and various expenses from your business. If you have employees, then you would calculate as discussed above.
Excluded Payroll Costs:
An annual salary over $100,000 / year.
Payroll taxes
If a seasonal employer, there is an alternative calculation for an average 12-week period from February 15, 2019 and ending June 30, 2019.
Multiplied by 2.5. NOT to Exceed $10MM
VA Example: If average monthly payroll was $100,000, then multiple by 2.5 = $250,000.
If the business was not in business from February 15, 2019 to June 30, 2019, there is another calculation.
VA Comment: This loan calculation isn’t as rich as the senate proposed bill which was multiplied by 4. Also, the loan doesn’t seem to include payroll taxes for the employee or employer, so the loan seems to be just the net payroll. Not sure this will be a large enough loan for some small business.
Waives affiliation rules for businesses in hospitality and restaurant industries franchise.
VA Comment: This means that restaurant chains that have over 500 employees can treat each location has an individual borrow and they don’t need to consolidate.
Defines covered loan period as beginning on February 15, 2020 and ending on June 30, 2020.
Established the maximum 7(a) loan amount to $10MM through December 31, 2020 and provides a formula by which the loan amount is tied to payroll costs incurred by the business to determine the size of the loan.
Allowable use of the loan includes payroll support, such as employee salaries, paid sick or medical leave, insurance premiums, and mortgage, rent, and utility payments.
Provides delegated authority which is the ability for lenders to make determination on borrowers eligibility and creditworthiness without going through all SBA’s channels to all current 7(a) lenders who make these loans to small business and provides the same authority to lenders who join the program and make these loans.
Requires eligible borrowers to make a good faith certification that the loan is necessary due to the uncertainty of current economic conditions caused by COVID -19; they will use the funds to retain workers and maintain payroll. Lease and utility payments; and are not receiving duplicate funds for the same uses from another SBA program.
Waives both borrower and lender fees for participation in the Paycheck Protection Program (PPP).
Waives the credit elsewhere test for funds provided under this program.
Waives collateral and personal guarantee requirements under this program.
Any portion of the loan Not used for forgiveness purposes, the remaining loan balance will have a maturity of not more than 10 years, and the guarantee for that portion of the loan will remain intact.
Maximum interest rate will be 4%.
No prepayment fees.
Allows complete deferment of 7(a) loan payments for at least six months and no more than a year.
Increases SBA Express loan from $350,000 to $1MM through December 31, 2020.
If head count reduces 25% or more, it will hurt the loan forgiveness, or make the loan not forgiven at all.
Section 1106 Loan Forgiveness:
Borrower shall be eligible for loan forgiveness equal to the amount spent by borrower during an 8 week period after the origination date of the loan on payroll costs, interest payment on any mortgage incurred prior to February 15, 2020, payment of rent on any lease in force prior to February 15, 2020, and payment on any utility for which service began before February 15, 2020.
The loan forgiveness seems to be only for PPL / PPP loans.
Amount forgiven may not exceed the principal amount of the loan.
Eligible payroll costs do not include compensation above $100,000 in wages.
The amount forgiven will be reduced proportionally by any reduction in employees retained compared to the prior year and reduced by the reduction in pay of any employee beyond 25% of their prior year compensation.
Loan forgiveness / cancellation will not be included in borrower’s taxable income.
VA Update: We are reading that Treasury is now stating that 75% or more of the loan forgiveness needs to be for payroll. Thus, no more than 25% of the loan forgiveness can be for non-payroll.
Provides an advance of $10,000 to small business and non-profits that apply for SBA EIDL loans within three days of applying for the loan.
Expands eligibility for access to EIDL’s to include tribal business, cooperatives and ESOP’s with fewer than 500 employees or any individual operating as a sole proprietor or independent contractor during the covered period (January 31, 2020 to December 31, 2020. Private non-profits are also eligible for both grants and EIDL’s.
EIDL’s are loans up to $2MM that carry interest rates up to 3.75% for companies and up to 2.75% for nonprofits as well as principal and interest deferment up to 4 years.
The loans may be used for expenses that could have been met had the disaster not occurred, including payroll and other operating expenses.
The EIDL grant does not need to be repaid, even if the grantee is subsequently denied an EIDL.
It may be used to provide paid sick leave to employees, maintain payroll, meet increased production costs due to supply chain disruption or pay business obligations, including debts, rent and mortgage payments.
VA Update: If a business needs more money than they can get from the PPL, then they can apply for an EIDL for items other than payroll which the PPL would be used for.
Eligible grant recipients must have been in operation on January 31, 2020.
The business that received an EIDL between January 31, 2020 and June 30, 2020 as a result of COVID-19 disaster declaration, is eligible to apply for a PPP loan, or the business may refinance their EIDL into a PPP loan.
Typically, the $10,000 grant would be subtracted from the amount forgiven in the payroll protection plan.
Waived personal guarantee on advances and loans not exceeding $200,000.
The approval should be based on solely on the credit score of the applicant and no requirement for tax returns or tax return transcripts.
VA Update: For loans over $250,000, there seems to be more underwriting requirements. May require financial statements, and tax returns. However, we haven’t heard or seen if these rules are being applied.
Most of the financial assistance offered through the first bill called, HR 6201, FAMILIES FIRST CORONRAVIRUS RESPONSE ACT (discussed on our previous memo), and the CARES Act S. 3548 which concluded as HR 748 was included in my discussion below.
The tax and financial laws are changing daily, therefore I marked this memo with “V4” (version 4) on my memo above. There are various other social service updates, but our memos will focus mainly on finance, business and tax updates.
Highlights of the PROPOSED SENATE BILL S 3548, CORONAVIRUS AID, RELIEF AND ECONOMIC SECURITY ACT OR THE CARES ACT. March 19, 2020. This bill has NOT been passed in the Senate at this time, so it can change, and then the bill would need to go to the House and to the President. You can view the at https://www.congress.gov, search for HR 748.
Businesses & Other Employers:
Retention payroll tax credit for eligible employers that continue to pay employee wages while their operations are fully or partially suspended as a result of certain COVID-19 related government orders. A 50% refundable payroll tax credit on wages paid up to $10,000 during the crisis. The credit is available for employees retained by not currently working due to the crises for firms with more than 100 employees and for all employee wages for firms with 100 or fewer employees.
Delayed Employer-side Social Security payroll tax payments may be delayed until January 1, 2021 with 50% owned on December 31, 2021 and the other half due on December 31, 2022. Deferral of employer portion of payments for certain payroll taxes.
Net Operating Losses: Modification of net operating loss (NOL) and limitation rules. Will allow most NOL’s incurred in 2018, 2019, and 2020 to carry them back for refunds to 5 years. This carry back law was exempt for tax years beginning 2018 under the TCJA, but the CARE Act reverses it. Due to this financial crisis they are allowing NOL carry backs for these periods to be carried back. The Act also removed the 80% utilization of NOL’s for a carry forward, meaning an NOL could only reduce taxable income by 80%.
Business Interest Deduction: Modification of the deduction limitation on business interest rules of IRC section 163(j). The law temporarily changes the business interest deduction limit from 30% to 50% for tax years 2019 and 2020.
Qualified improvement property technical correction, allowing qualifying interior improvements of buildings to be immediately expensed (bonus depreciation or Section 179) rather than depreciated over 15 years for 2018 and future.
Payroll tax credit for eligible employers up to 50% refundable payroll tax credit on wages paid up to $10,000 during the crisis. The credit would be available to employers whose business were disrupted and retained employees, but they were not able to work. Employers with more than 100 employees and under 100 employees have slightly different calculations.
Business Loss Limitation Revision: For years after 12/31/2017, the business loss limitation is suspended. Previously, business losses couldn’t be used to offset non-business income (like wages, investment income) over $250,000 for individuals or $500,000 for married filing jointly.
VA Comments: For individuals that have business losses, and perhaps real estate losses from being a real estate professional, this law change may make it desirable to amend the 2018 tax return.
Individuals:
Recovery rebates of up to $1,200 for single and $2,400 for married couples filing jointly, plus $500 per qualifying child. Phaseouts of the rebates are based on adjusted gross income (AGI) starting at $75k for single, and $150k for married couples.
The rebates phase out at $99,999 for single and $199,000.
Expansion of unemployment benefits, including self-employed, and gig-economy workers. Unemployment insurance to include an additional $600 / week for an additional 13 weeks.
Waiver of the 10% penalty for COVID-19 related early distributions from IRAs, 401K and other retirement plans. However, taxability of the distribution will need to be considered.
Exclusion of certain employer payments of student loans up to $5,250 will not be treated as taxable income to the employee.
Temporary Relief Federal Student Loan: Deferral of student loan payments on principal and interest for 6 months through September 30, 2020.
Other Items:
Forbearance of Residential Mortgage Loan Payments (section 4023): Provides up to 90 days of forbearance for multifamily borrowers with a federally backed multifamily mortgage loan who have experienced a financial hardship. Borrowers receiving forbearance may not evict or charge late fees to tenants for the duration of the forbearance period.
Applicable mortgages include loans to real property designed for 5 or more families that are purchased, insured, or assisted by Fannie Mae, Freddie Mac, or HUD.
Additional Information regarding HR 748 CARES ACT ,
Relief for Individuals, Families, and Businesses. Rebates and Other individual Provisions.
Eligible individuals shall be allowed as credit against the tax for the first taxable year beginning in 2020 an amount equal to the lesser of:
Net income tax liability, or
$1,200 ($2,400 in the case of joint returns)
The credit should not be less than $600
$500 per qualifying children
Eligible individuals are based on adjusted gross income (AGI) of
$75,000 and $150,000 in the case of a joint return. Once a taxpayer AGI is either $75k or $150k the credit begins to be reduced and phased out. The phase out is $99k and $198k.
Delay in filing deadlines. In the case for returns for tax year 2019, due dates for April 15, 2020, are delayed to July 15, 2020. This isn’t in the HR 748 bill, but it is noted in IRS Notice 2020-18. An extension is not required. There is an automatic extension till July 15, 2020. However, if the tax return can’t be filed by July 15, 2020, an extension will need to be filed.
This means that IRA, HAS and MSA contributions are extended to July 15, 2020 also.
Individual ES Payments: Different from the Senate bill, 1st quarter estimated tax payments are delayed and due on July 15, 2020. 2nd quarter estimated tax payments are still due on June 15, 2020. This is stated on IRS Notice 2020-18 and Notice 2020-20.
Retirement Accounts: Early withdrawal penalties under IRC section 72(t) which is typically 10% for Federal and then some states add a lower penalty are waived if the early distributions are $100,000 or under.
Amounts distributed may be paid back. There is also a provision that allows taxpayers that took early distributions to make one or more contributions over a three-year period to contribute up to the amount of distributions they took.
Income inclusion of premature distribution. A taxpayer can spread the taxability of the premature distribution over 3 years.
Loans from retirement plans: The bill allows for an increase in loans and not to be treated as distributions. The loan amount is increased from $50,000 to $100,000.
Loan repayments will be delayed by 1 year.
Charitable Contributions: The allowance to deduct more charitable donations have been increased for both individuals and Corporations.
VA Comments: Seems as if the individual 30% / 50% AGI limitation is temporary suspended. The 10% limitation for C Corporations seem to be increased to 25%.
Student Loan Temporary Relief: The bill states the Secretary shall suspend all payments due for loans under part D of title IV for Higher Education Act of 1965 for 3 months.
Business Provisions:
C Corporation estimated tax payments. Delay of estimated tax payments for Corporations. Like individuals, the required estimated tax payments for C Corporation is delayed till July 15, 2020.
Delay in Payment of Employer Payroll Taxes. The bill states that employers can delay payment of the employer portion of payroll taxes till December 31, 2021 for 50% of the deferral and the balance due on December 31, 2022. This also applies to the estimated payroll deposits.
VA Comment: If a small business is going to request and receive a loan for payroll and overhead, this deferral might not be necessary. If a defer is desired, a liability should be posted on the companies’ financial statements.
Net Operating Loss (NOL) Carrybacks: The NOL carry back was removed for tax years after 12/31/2017. This bill will allow NOL’s generated from year 2018, 2019, and 2020 to carry back and request a refund for up to a 5 year carry back period. The 80% limitation is removed also.
VA Comment: If you incurred a loss in 2018 or 2019, or expect a loss in 2020, please get us the information and quickly as possible so we can begin preparation of a NOL carryback. If your tax return had qualified improvement property and the return couldn’t take the deduction, this new bill corrects that prior error and that deduction might generate a taxable loss for a NOL carryback.
A taxpayer may elect out of the 5-year NOL carry back. If elected, it can’t be changed. It is irrevocable.
VA Comment: For tax returns with NOL’s for 2018 or 2019 that have been filed, the return needs to be amended within 120 days from the enactment of this bill regarding the NOL carryback provision.
Loss limitation for taxpayers other than Corporations: IRC section 461(l)(2) was added by the Tax Cuts and Jobs Act of 2017 and was effective for tax years 2018 to 2025 which disallowed any excess business loss for a non-corporate taxpayer. Generally, the law prohibited business losses to only be deducted against no more than $250,000 / $500,000 of non-business income. Any non-deductible business loss was carried forward. The bill removes those limits from being implemented till December 31, 2020 (previously applied on December 31, 2017).
VA Comment: We know this loss limitation occurred with some of our clients, and we will have to review affected taxpayers to ask them if they want us to amend their tax returns. The IRS will need to provide guidance on the amendment process.
Interest Deduction Limitation: The Tax Cuts and Jobs Act of 2017 enacted an interest deduction limitation. For taxpayers where it was applicable, taxpayers with gross sales over $25MM, the interest deduction was limited to 30% of the adjusted taxable income. The bill now increases the limitation amount for 30% to 50% for tax years 2019 and 2020.
VA Comment: This means a taxpayer that this limitation would apply to will be allowed more of an interest deduction.
Technical correction for qualified Improvement Property: This bill corrected a prior law error.
The Tax Cuts & Job Act (TCJA) removed investment barriers by allowing businesses to immediately deduct the cost of certain investments under a provision called 100% bonus depreciation.
Due to legislative oversight, the law accidentally excluded improvements property to be eligible from 100% bonus depreciation.
This bill corrects this error and thus the improvements would be eligible for bonus depreciation and should make this asset a 15-year recovery period.
Foreign controlled corporation/shareholder:
The bill is changing the US owned foreign corporation from 10% to 50%.
Limitation of Paid Leave: Section 110(b)(2)(B) of the Family and Medical Leave Act of 1993 is providing limitation. An employer shall not be required to pay more than $200 per day and a $10,000 in aggregate for each employee for paid leave under this section.
Other Considerations:
Lost Income/ Business Interruption insurance coverage: Our firm and clients have reviewed our insurance policies, and considered filing a claim for lost income or additional expense base on “Civil Authority”, in which the argument is that since the state government demanded the residents to stay at home, there has been some business interruption. In conversations with insurance brokers that the coverage is excluded for a “virus”. However, the argument is that the company didn’t close their business for a virus, as they probably didn’t close during influenza season, they closed because of the state government made a demand. As one can guess, lawsuits are already starting, so we are receiving information that if a business has lost of income or business interruption coverage, review your policy and consider filing a claim.
Please read our earlier memos dated March 17, 2020, March 25, 2020, and March 30, 2020, which were Versions 1 through 3. If you can’t find it, please contact us at [email protected] to request a copy or you can read it on our website at www.verticaladvisors.com under blogs.
Keep sending us your tax information, as we still need to prepare all the returns before the 9/15/2020 and 10/15/2020 due dates.
April 15, 2020 due dates have been delayed to July 15, 2020. If you need more time after that, and extension will need to be filed.
2019 taxes are due July 15, 2020, and 1st quarter estimated tax payments are due July 15, 2020. 2nd quarter ES payments are still due June 15, 2020.
Consider amending 2018 and/or 2019 tax returns for the following:
NOL’s: Now NOL’s from 2018 – 2020 can be carried back up to 5 years.
VA Comment: The election to file a NOL for a 2018 and / or a tax return already filed much be by the extended due date of the 2019 tax return. So, if a 2018 tax return needs to be filed to benefit from the 2018 NOL, that return needs to be prepared and filed before the 2019 tax return if filed.
Interest deduction limitations
Business loss limitations
Lastly, and as always, please contact us if you need assistance or have any questions. Contact us at [email protected]
The novel coronavirus (COVID-19) crisis has touched so many lives, with both illnesses and hardships. In response to this crisis, our office is working remotely on all accounting and tax projects. The best method to contact us is to email us at [email protected]. We are focused on staying up to date on the tax, accounting and finance updates to assist everyone with these challenges. Things are changing hourly, and discussions on the news don’t completely explain the law as written. So, we are explaining in as much detail as we can for the moment. Our focus on this memo are certain provisions we feel are important to our clients.
I read on the Wall Street Journal app this morning at 8:00 a.m. PST today, March 26, 2020, that the Senate passed Senate bill S.3548, the CARES Act. However, when I looked for the formal acknowledgement on www.congress.gov at 3:30 p.m. PST on March 26, 2020, the status doesn’t say it was passed. So, my discussions are based on the actual bill text that is assumed to be passed by the Senate.
Most of the financial assistance offered through the first bill called, HR 6201, FAMILIES FIRST CORONRAVIRUS RESPONSE ACT (discussed on our previous memo), and the CARES Act S. 3548 which is expected to pass the senate, the house and be signed by the president have financial and accounting information requirements necessary for the financial assistance. Accordingly, we are available to assist any client in the SBA application process for financial assistance.
The tax and financial laws are changing daily, therefore I marked this memo with “V2” (version 2) on my memo above. There are various other social service updates, but our memos will focus mainly on finance, business and tax updates.
Highlights of the PROPOSED SENATE BILL S 3548, CORONAVIRUS AID, RELIEF AND ECONOMIC SECURITY ACT OR THE CARES ACT. March 19, 2020. This bill has NOT been passed in the Senate at this time, so it can change, and then the bill would need to go to the House and to the President. You can view the introduced bill at https://www.congress.gov/bill/116th-congress/senate-bill/3548
Businesses & Other Employers:
Retention tax credit for eligible employers that continue to pay employee wages while their operations are fully or partially suspended as a result of certain COVID-19 related government orders.
Deferral of employer portion of payments for certain payroll taxes.
Modification of net operating loss (NOL) and limitation rules. Will allow some NOL’s incurred in 2018, 2019, and 20120 to carry them back for refunds to 5 years. This carry back law was exempt for tax years beginning 2018 under the new tax laws that Trump and Congress enacted. Due to this financial crisis they are not allowing NOL carry backs for these periods to be carried back.
Modification of the deduction limitation on business interest rules of IRC section 163(j).
Qualified improvement property technical correction, allowing qualifying interior improvements of buildings to be immediately expenses rather than depreciated over 15 years.
Payroll tax credit for eligible employers up to 50% refundable payroll tax credit on wages paid up to $10,000 during the crisis. The credit would be available to employers whose business were disrupted and retained employees, but they were not able to work. Employers with more than 100 employees and under 100 employees have slightly different calculations.
Expansion of the ways the SBA can help small business.
Loans for small employers with 500 employers or less, including non-profits would be eligible to apply for loans. The size of the loan would be tied to the applicant’s average monthly payroll, mortgage, rent, utilities payment and other debt obligations over the previous year.
The portion of the loan used to cover payroll and payments on pre-existing debt would be forgiven.
Loans are supposed to be streamlined with SBA, and SBA approved banks.
If a business doesn’t have payroll, or not a large amount of payroll, SBA will expand loans for:
Payroll, supply chain disruption, mortgage payments, and other debt obligations.
SBA express loans would be increased from $350k to $1MM.
Individuals:
Recovery rebates of up to $1,200 for single and $2,400 for married couples filing jointly, plus $500 per qualifying child. Phaseouts of the rebates are based on adjusted gross income (AGI) starting at $75k for single, and $150k for married couples.
Expansion of unemployment benefits, including self-employed, and gig-economy workers.
Waiver of the 10% penalty for COVID-19 related early distributions from IRAs, 401K and other retirement plans. However, taxability of the distribution will need to be considered.
Exclusion of certain employer payments of student loans.
Additional Information regarding the PROPOSED SENATE BILL S 3548, CORONAVIRUS AID, RELIEF AND ECONOMIC SECURITY ACT OR THE CARES ACT. March 19, 2020. This bill has NOT been passed in the Senate at this time, so it can change, and then the bill would need to go to the House and to the President. You can view the introduced bill at https://www.congress.gov/bill/116th-congress/senate-bill/3548 . These additional steps can cause other changes. However, based on the proposed S 3548 bill, I’m providing some additional details listed below:
Division A – Small Business Interruption Loans
SBA 7(a) Loan Program
This is the most popular loan program with the SBA for small business.
Covered period beginning on March 1, 2020 and ending on December 31, 2020.
Listening to Secretary of the Treasury Steve Mnuchin on March 25, 2020, he stated he expects the loans to be processed by all FDIC banks in a simple format and expect loans to be processed in a day. That would be wonderful.
He did state that they expect to have the money and process ready to provide the funds by 3 weeks which would be around April 15, 2020, but it depends on Congress, and a lot of moving parts.
Secretary of the Treasury also stated the following:
The loans are supposed to be for 8 weeks of payroll, and overhead.
VA Comment:We need to get details on what is included in payroll and overhead, but the Secretary’s discussion seems prudent. However, the proposed S.3548 bill states to take the average monthly payroll for the prior year, plus included overhead and multiple by 4. Can’t exceed $10MM. So, I don’t read the 8 weeks of payroll. Perhaps that was his quick explanation.
This part of the law is for companies with no more than 500 employees.
The maximum loan amount would be the lesser of:
The average total monthly payments for payroll, mortgage payments, rents payments and payments on any other debt obligations incurred during the 1 year period before the date on which the loan is made, except if the employer is seasonal, then they would use the average monthly payments between March 1, 2019 and ending June 20, 2019
Then multiple by 4.
or;$10,000,000.
VA Comment:If you are considering requesting financial relief, then I recommend you get your numbers and support ready for the application process. Plus, you will need to make sure you have enough cash to get you to the date of receiving the financial assistance which is expected to be around April 15, 2020. I would expect that we should have payroll reports that support the numbers on a worksheet that calculates the average, plus your average other included overhead expenses. Being prepared should allow you to get the financial assistance quicker.
Allowable Uses of Program Loans:
Payroll support, including paid sick, medical, family leave and costs related to the continuation of group health care benefits during the periods of leave.
Employee salaries (calculating based on the average number of employees for each pay period)
Mortgage payments
Rent (including rent under a lease agreement)
Utilities and
Other debt obligations that were incurred before the covered period.
Loan Considerations: The proposed bill is requiring that the lending institution only consider the following:
Was the borrower in operations on March 1, 2020; and
Had employee for whom the borrower paid salaries and payroll taxes.
Fees will be waived for these loans.
The Federal government will guarantee 100% of the loan.
Eligible Borrower means:
Small business concern; or
An organization made eligible by section (b) which discuses private or public nonprofit organizations with 500 or less employees.
VA Comment: Prior to this bill, the SBA typically didn’t allow loans to non-profits.
Deferment of 7(a) Loan. The proposed bill requires the lender to provide complete deferment relief for impacted borrowers with 7(a) loans.
VA Comments: This provision seems to state that payments for the covered loans would be deferred for a period of not more than 1year.
Express Loans will be increased from $350,000 to $1,000,000.
Substantially affected by COVID-19 means:
Supply chain disruptions
Staffing challenges.
A decrease in sales or customers; or
Shuttered business.
VA Comment: If you have a business that doesn’t have any payroll, or not much payroll, then perhaps an SBA 7(a) loan for lost revenue would be the best option. An impacted industry might be owners of rental properties. They might not have much payroll, so a loan might be necessary to offset the loss or deferral of rents. I believe the spirt of this financial package is to get money into the hands of businesses and individuals so they can pay rent.
No Prepayment Penalty for loans made on or before December 31, 2020.
Loan Forgiveness:
A 7(a) loan for the covered period which is beginning on March 1, 2020 to June 30, 2020.
An eligible recipient shall be eligible for forgiveness of indebtedness on a covered 7(a) loan in an amount equal to the cost of maintaining payroll continuing during the covered period.
Payroll costs have limits.
Compensation to an individual employee can’t exceed $33,333 during the covered period.
Qualified sick leave wages for which a credit is allowed under section 7001 of the Families First Coronavirus Response Act; or
Qualified family leave wages for which a credit is allowed under section 7003 of the Families First Coronavirus Response Act.
VA Comments: It seems that the loan forgiveness is not meant to forgive loans used for compensation, sick or family leave in which the employer would receive a credit also. Seems like they don’t want a double dip. If a company utilizes the credit method, there will need to be an adjustment.
VA Comments: The borrower will probably have to provide financial statements, and federal, state employee records, and unemployment insurance filings, and a certification. If there is NO documentation, then there will be no forgiveness. This should be done prior to apply for the forgiveness.
Upon application for the loan forgiveness, the lender will require documentation to support the loan forgiveness within 15 days, so be prepared when you start the process. The lender will provide a forgiveness decision within 15 days.
Treatment of Amounts Forgiven: Amounts which have been forgiven under the law shall be considered canceled indebtedness by lenders, BUT Not Taxable.
VA Comment: The bill states the forgiveness of debt will be treated as cancelation of indebtedness. However, a section in the proposed bill under “Taxability” states, Cancelation of indebtedness under this section shall be excluded from gross income for purpose of the Internal Revenue Code of 1986.
If there is a reduction of employees, then there can be a reduction of the loan forgiveness.
VA Comment: I read or heard that the forgiveness of any part of the debt wouldn’t negatively affect the credit score of the borrower, but I didn’t read that provision in this bill. This might be an issue that needs to be corrected.
Relief for Individuals, Families, and Businesses. Rebates and Other individual Provisions.
Eligible individuals shall be allowed as credit against the tax for the first taxable year beginning in 2020 an amount equal to the lesser of:
Net income tax liability, or
$1,200 ($2,400 in the case of joint returns)
The credit should not be less than $600
$500 per qualifying children
Eligible individuals are based on adjusted gross income (AGI) of
$75,000 and $150,000 in the case of a joint return. Once a taxpayer AGI is either $75k or $150k the credit begins to be reduced and phased out. The phase out is $99k and $198k.
Delay in filing deadlines. In the case for returns for tax year 2019, due dates for April 15, 2020, are delayed to July 15, 2020.
Individual ES Payments: Different from the prior communication from Treasury, this bill states that individual estimated tax payments are not due before October 15, 2020.
Retirement Accounts: Early withdrawal penalties under IRC section 72(t) which is typically 10% for Federal and then some states add a lower penalty are waived if the early distributions are $100,000 or under.
Amounts distributed may be paid back. There is also a provision that allows taxpayers that took early distributions to make one or more contributions over a three-year period to contribute up to the amount of distributions they took.
Income inclusion of premature distribution. A taxpayer can spread the taxability of the premature distribution over 3 years.
Loans from retirement plans: The bill allows for an increase in loans and not to be treated as distributions. The loan amount is increased from $50,000 to $100,000.
Loan repayments will be delayed by 1 year.
Charitable Contributions: The allowance to deduct more charitable donations have been increased for both individuals and Corporations.
VA Comments: Seems as if the individual 30% / 50% AGI limitation is temporary suspended. The 10% limitation for C Corporations seem to be increased to 25%.
Student Loan Temporary Relief: The bill states the Secretary shall suspend all payments due for loans under part D of title IV for Higher Education Act of 1965 for 3 months.
Business Provisions:
C Corporation estimated tax payments. Delay of estimated tax payments for Corporations. Like individuals, the required estimated tax payments for C Corporation is delayed till October 15, 2020.
Delay in Payment of Employer Payroll Taxes. The bill states that employers can delay payment of the employer portion of payroll taxes till December 31, 2021 for 50% of the deferral and the balance due on December 31, 2022. This also applies to the estimated payroll deposits.
VA Comment: If a small business is going to request and receive a loan for payroll and overhead, this deferral might not be necessary. If a defer is desired, a liability should be posted on the companies’ financial statements.
Net Operating Loss (NOL) Carrybacks: The NOL carry back was removed for tax years after 12/31/2017. This bill will allow NOL’s generated from year 2018, 2019, and 2020 to carry back and request a refund for up to a 5 year carry back period. The 80% limitation is removed also.
VA Comment: If you incurred a loss in 2018 or 2019, or expect a loss in 2020, please get us the information and quickly as possible so we can begin preparation of a NOL carryback. If your tax return had qualified improvement property and the return couldn’t take the deduction, this new bill corrects that prior error and that deduction might generate a taxable loss for a NOL carryback.
A taxpayer may elect out of the 5-year NOL carry back. If elected, it can’t be changed. It is irrevocable.
VA Comment: For tax returns with NOL’s for 2018 or 2019 that have been filed, the return needs to be amended within 120 days from the enactment of this bill regarding the NOL carryback provision.
Loss limitation for taxpayers other than Corporations: IRC section 461(l)(2) was added by the Tax Cuts and Jobs Act of 2017 and was effective for tax years 2018 to 2025 which disallowed any excess business loss for a non-corporate taxpayer. Generally, the law prohibited business losses to only be deducted against no more than $250,000 / $500,000 of non-business income. Any non-deductible business loss was carried forward. The bill removes those limits from being implemented till December 31, 2020 (previously applied on December 31, 2017).
VA Comment: We know this loss limitation occurred with some of our clients, and we will have to review affected taxpayers to ask them if they want us to amend their tax returns. The IRS will need to provide guidance on the amendment process.
Interest Deduction Limitation: The Tax Cuts and Jobs Act of 2017 enacted an interest deduction limitation. For taxpayers where it was applicable, taxpayers with gross sales over $25MM, the interest deduction was limited to 30% of the adjusted taxable income. The bill now increases the limitation amount for 30% to 50% for tax years 2019 and 2020.
VA Comment: This means a taxpayer that this limitation would apply to will be allowed more of an interest deduction.
Technical correction for qualified Improvement Property: This bill corrected a prior law error.
The Tax Cuts & Job Act (TCJA) removed investment barriers by allowing businesses to immediately deduct the cost of certain investments under a provision called 100% bonus depreciation.
Due to legislative oversight, the law accidentally excluded improvements property to be eligible from 100% bonus depreciation.
This bill corrects this error and thus the improvements would be eligible for bonus depreciation and should make this asset a 15-year recovery period.
Foreign controlled corporation/shareholder:
The bill is changing the US owned foreign corporation from 10% to 50%.
Limitation of Paid Leave: Section 110(b)(2)(B) of the Family and Medical Leave Act of 1993 is providing limitation. An employer shall not be required to pay more than $200 per day and a $10,000 in aggregate for each employee for paid leave under this section.
Please read our memo dated March 17, 2020 which was Version 1. If you can’t find it, please contact us at [email protected] to request a copy or you can read it on our website at www.verticaladvisors.com under blogs.
Lastly, and as always, please contact us if you need assistance or have any questions.
