Merger and acquisition activity in many industries slowed during 2020 due to COVID-19. But analysts expect it to improve in 2021 as the country comes out of the pandemic. If you are considering buying or selling another business, it’s important to understand the tax implications.
Two ways to arrange a deal
Under current tax law, a transaction can basically be structured in two ways:
1. Stock (or ownership interest). A buyer can directly purchase a seller’s ownership interest if the target business is operated as a C or S corporation, a partnership, or a limited liability company (LLC) that’s treated as a partnership for tax purposes.
The current 21% corporate federal income tax rate makes buying the stock of a C corporation somewhat more attractive. Reasons: The corporation will pay less tax and generate more after-tax income. Plus, any built-in gains from appreciated corporate assets will be taxed at a lower rate when they’re eventually sold.
The current law’s reduced individual federal tax rates have also made ownership interests in S corporations, partnerships and LLCs more attractive. Reason: The passed-through income from these entities also is taxed at lower rates on a buyer’s personal tax return. However, current individual rate cuts are scheduled to expire at the end of 2025, and, depending on actions taken in Washington, they could be eliminated earlier.
Keep in mind that President Biden has proposed increasing the tax rate on corporations to 28%. He has also proposed increasing the top individual income tax rate from 37% to 39.6%. With Democrats in control of the White House and Congress, business and individual tax changes are likely in the next year or two.
2. Assets. A buyer can also purchase the assets of a business. This may happen if a buyer only wants specific assets or product lines. And it’s the only option if the target business is a sole proprietorship or a single-member LLC that’s treated as a sole proprietorship for tax purposes.
Preferences of buyers
For several reasons, buyers usually prefer to buy assets rather than ownership interests. In general, a buyer’s primary goal is to generate enough cash flow from an acquired business to pay any acquisition debt and provide an acceptable return on the investment. Therefore, buyers are concerned about limiting exposure to undisclosed and unknown liabilities and minimizing taxes after a transaction closes.
A buyer can step up (increase) the tax basis of purchased assets to reflect the purchase price. Stepped-up basis lowers taxable gains when certain assets, such as receivables and inventory, are sold or converted into cash. It also increases depreciation and amortization deductions for qualifying assets.
Preferences of sellers
In general, sellers prefer stock sales for tax and nontax reasons. One of their objectives is to minimize the tax bill from a sale. That can usually be achieved by selling their ownership interests in a business (corporate stock or partnership or LLC interests) as opposed to selling assets
With a sale of stock or other ownership interest, liabilities generally transfer to the buyer and any gain on sale is generally treated as lower-taxed long-term capital gain (assuming the ownership interest has been held for more than one year).
Obtain professional advice
Be aware that other issues, such as employee benefits, can also cause tax issues in M&A transactions. Buying or selling a business may be the largest transaction you’ll ever make, so it’s important to seek professional assistance. After a transaction is complete, it may be too late to get the best tax results. Contact us about how to proceed.
Last spring, the CARES Act created the ERC for businesses that were affected by the COVID-19 pandemic. However, the CARES Act disallowed the credit for businesses that received a Paycheck Protection Program (PPP) loan. Fast forward to December 2020, when Congress declared that businesses that had obtained PPP loans could also qualify for the ERC. In addition, Congress extended the availability of the ERC into the first two quarters of 2021, with a few new favorable provisions. The credit is refundable, which means that qualified businesses are able to get cash to the extent that the credit exceeds the payroll tax liabilities. The chart below outlines the terms of the ERC for both the original and extended filing periods:
How does PPP loan forgiveness impact the ERC?
In a statement from the Internal Revenue Service (IRS)
, “[t]he eligible employer can claim the ERC on any qualified wages that are not counted as payroll costs in obtaining PPP loan forgiveness. Any wages that could count toward eligibility for the ERC or PPP loan forgiveness can be applied to either of these two programs, but not both.” The release of the new loan forgiveness applications
on January 19, 2021, includes a provision to incorporate this change in guidance on a forward-looking basis. The revised loan forgiveness applications (Form 3508S
, Form 3508EZ
and Form 3508
) note that a borrower should “not include qualified wages taken into account in determining the Employee Retention Credit.”
My PPP loan was already forgiven, what now?
As I previously noted, a business cannot “double dip,” or utilize the same wages to obtain PPP loan forgiveness while still benefiting from the ERC. However, the ERC was not available to PPP recipients prior to December 27, 2020. Accordingly, those businesses that applied for loan forgiveness would have included all eligible payroll costs paid or incurred during the covered period pursuant to the instructions in the loan forgiveness applications. Certainly, those businesses shouldn’t be penalized for already receiving forgiveness prior to this change in the law; however, this wouldn’t be the first time we’ve seen something like that with the evolution of the PPP.
On January 15, the American Institute of Certified Public Accountants (AICPA) sought clarification on this matter. In a letter to the IRS, the AICPA “recommends that the IRS and Treasury provide guidance stating that the filing of a PPP loan forgiveness application does not constitute an election to forgo the ERC with respect to the amount of wages reported on the application exceeding the amount of wages necessary for loan forgiveness.” It is clear — additional guidance is imminent.
As we await clarification from the IRS, businesses who have already received forgiveness on their PPP loans should first evaluate their eligibility for the ERC. After concluding their eligibility, businesses should begin gathering payroll reports, government shutdown orders and financial statements to calculate and claim their credits.
Borrowers of PPP loans who have yet to apply for loan forgiveness have an alternative path; those businesses looking to leverage the ERC now have an additional element to consider in their evolving journey to loan forgiveness. This change in guidance further emphasizes the importance of an intentional strategy to maximize the benefits of both programs, but also leaves questions unanswered for borrowers who have already received forgiveness on their PPP loans.
The Internal Revenue Service recently issued the 2021 optional standard mileage rates. These rates, which adjust every year to account for inflation of fuel costs, vehicle cost and maintenance, and insurance rate increases, will once again affect the way a company reimburses their mobile workers. Specifically, the IRS mileage rate is a guideline that businesses use to calculate the deductible costs of operating an automobile for business, charitable, medical, or moving purposes. Beyond announcing the rate change, we have a few reminders and tips surrounding this reimbursement allowance.
As of January 1, 2021, the standard mileage rates for the use of a car (also vans, pickups or panel trucks) are:
- 56 cents per mile for business miles driven, down 1.5 cents from 2020
- 16 cents per mile driven for medical or moving purposes, down 1 cent from 2020
- 14 cents per mile driven in service of charitable organizations; the mileage rate for service to a charitable organization is not alterable by the IRS. Instead, it must be changed by a Congress -passed statute.
Have you considered…
- Under the Tax Cuts and Jobs Act, employees are not permitted to write off unreimbursed business mileage. If your company does not make up for this reimbursement, it could face legal consequences.
- A taxpayer may not use the business standard mileage rate for a vehicle after using any depreciation method under the Modified Accelerated Cost Recovery System (MACRS) or after claiming a Section 179 deduction for that vehicle.
- Taxpayers also have the option of calculating the actual costs of using their vehicle rather than using the standard mileage rates. The actual expense method often produces a significantly different result. You will want to talk with your CPA to determine which method yields the larger deduction.
The IRS rate was intended to function as a reimbursement cap. Today, the rate holds businesses accountable, but it doesn’t account for fluctuations in vehicle prices across city, county, and state lines. For companies whose employees use their vehicles for work, there is an alternative to the standard mileage rate. The Fixed and Variable Rate (FAVR) allowance preserves reimbursement equity and helps businesses avoid over- or underpayment to employees. To find out more about this IRS recommended reimbursement methodology or if you have any questions about the IRS Standard Mileage Rate, please contact one of our professionals today.
The employee retention tax credit (ERTC) is intended to provide liquidity to employers during the pandemic and was greatly expanded in the Consolidated Appropriations Act of 2021 thanks to Sections 206 and 207 of the Taxpayer Certainty and Disaster Relief Act portion, opening the doors to more businesses to be able to qualify for and receive this credit who are facing significant hardship as a result of the coronavirus pandemic. Many changes from the original credit were enacted including an expansion in the amount of credit and business eligibility, and how it plays with the Paycheck Protection Program (PPP).
Here’s what you need to know about this credit, how it works, and how to apply. Note that when a provision is designated as effective Jan. 1, 2021, it does not apply to any retroactive credit claims.
Who is eligible for the ERTC?
The following businesses and organizations engaged in a trade or business are eligible to qualify for the ERTC:
- For-profit businesses
- Tax-exempt organizations
- Certain government entities that are state or local-run (Effective Jan. 1, 2021, previously no government entity at any level was eligible):
- Colleges or universities
- Organizations providing medical or hospital care
- Certain organizations charted by Congress (such as Fannie Mae, FDIC, Federal Home Loan Banks and Federal Credit Unions)
How does my business qualify for the ERTC?
An eligible organization can qualify for the ERTC if:
- Their operations are fully or partially suspended due to a lockdown order, OR
- Their gross receipts are less than 80% for a quarter in 2021 or the immediately compared to the same quarter in 2019 (or 2020 if the business was not open in 2019) or, there is a 20% drop quarter-over-quarter when comparing Q1 of 2021 to Q4 of 2020 compared to Q4 of 2019.
The gross receipts test is Effective Jan. 1, 2021, this is an increase from the previous law and expands the threshold for eligible businesses.
Effective Jan. 1, 2021, businesses with 500 employees or less are eligible to claim the credit even if an employee is working during the first two quarters of 2021 (an increase in the threshold from 100 employees in the original law). For affiliated companies sharing more than 50% common ownership, the 500 count is aggregated.
What is the time period for the credit, and when can I start collecting?
The passage of the bill at the end of December extended the availability of the ERTC through the first two quarters of 2021, allowing for more relief as the pandemic continues on. Qualified wages paid after March 12, 2020, and before July 1, 2021, are eligible for the credit.
Additionally, the new law will allow for an advanced credit for companies with 500 or fewer employees, allowing these companies to monetize the credit before wages are paid. The amount is based on 70% of the average quarterly payroll for the same quarter in 2019, and if there is excess advance payment, companies will need to repay the credit to the government.
How much credit can I receive?
Effective Jan. 2021, 70% of qualified wages are eligible for the ERTC including the cost to continue providing health benefits (such as if an employee is on furlough). This is an increase from the 50% provided in the previous stimulus bill. The qualified wage limit was increased to $10,000 per quarter per employee for the first 2 quarters of 2020. Previously was $10,000 per employee for the entirety of 2020.
Also, effective Jan. 1, 2021, the credit maxes out at an aggregate $14,000 per employee, or $7,000 for the first two quarters of 2021, and is available even if the employer received the maximum credit for wages paid to the same employee in 2020. This is an increase from the $5,000 max in the previous bill.
Additionally, the credit is now available for certain pay raises including hazardous duty pay increases (previously not allowed and is retroactive).
How does my PPP loan factor in?
First and foremost, companies with PPP loans can now also claim the ERTC, and the change is retroactive to the effective date of the original law (March 12, 2020). Key to note is that the ERTC cannot be applied toward wages covered by the PPP.
If, for example, your business received a PPP loan in 2020 and paid qualified wages in excess of the PPP loan amount, you could qualify and apply for the ERTC through an amended employment tax return (Forms 941X). This also applies to affiliate companies related to a PPP borrower. Furthermore, if your PPP payroll costs are not forgiven, those same payroll costs can be applied toward ERTC qualified wages. Your accountant can help you calculate and designate these costs.
Claiming the ERTC, with or without a PPP loan, requires careful calculation and documentation. Contact us for assistance with this credit.
The U.S. House of Representatives and U.S. Senate have passed the Coronavirus Response & Relief Supplemental Appropriations Act, and President Trump is expected to sign the bill immediately. The agreement comes after weeks of negotiations and two funding extensions to keep Congress open until a bill was passed with a $1.4 trillion government-wide funding plan. The $900 billion coronavirus relief portion includes another round of Paycheck Protection Program (PPP) funding, extended unemployment benefits, and direct payments to taxpayers. Here’s an overview of the key provisions in the bill.
Updates to the PPP and changes for second round
The Act designates $267.5 billion for this round of PPP funding, and the program specifically sets aside $25 billion for businesses with 10 employees or less as of Feb. 15, 2020. Regulations for this round of PPP funding are required to be released within 10 days of enactment.
Borrowers who received PPP funding in the first round following the CARES Act will receive some additional updates to their existing PPP loans. Borrowers who would like to adjust their requested loan amount based on these updated regulations may do so, provided they have not yet received forgiveness. Here are the key updates:
- More expenses are eligible – Covered operations expenditures (including business software and cloud computing services), property damage costs (costs incurred during public disturbances in 2020 not covered by insurance), supplier costs (that are essential to operations), and worker protection expenditures (to comply with HHS, CDC, or OSHA requirements) would be eligible for forgiveness. These amendments would not apply to loans that have already been forgiven.
- Tax deductions on related expenses are allowed – The bill reverses an earlier ruling and makes expenses deductible. It also confirms forgiveness is non-taxable.
- Loans up to $150,000 get a simplified forgiveness application process – Borrowers with loans up to $150,000 will get one-page online or paper form with borrower certifications of the number employees covered by the loan, the estimated amount spent on payroll, and the total amount of the loan. Borrowers must still maintain appropriate documentation.
- Borrowers do not have to deduct EIDL advance – Previously, EIDL advances were to be deducted from the PPP forgiveness amount, but that was repealed.
- PPP borrowers can also get an Employee Retention Credit – Wages used for ERC will not be eligible for PPP forgiveness.
The second round of funding provided by this Act has a few key differences from the first round in the CARES Act. Key to note is that borrowers can apply for a second PPP loan through this program if they have fully used their first PPP loan and meet the employer size and gross revenue criteria listed below. PPP loans in this round are capped at $2 million. Here are the key differences:
- Changes to employer size and gross revenue qualifications – Only businesses with up to 300 employees (down from 500 employees) and a gross revenue decline by at least 25% for any quarter of 2020 compared to the same quarter in 2019 will qualify for this round.
- Changes to loan limits – The loan amount is limited to 2.5 times of the average payroll for the last 12 months through date of application or 2019 and is limited to $2 million. Businesses that are part of the NAICS code beginning with 72 – Accommodation and Food Services – are limited to 3.5 times payroll for the 1-year period or 2019 and limited to $2 million.
- Changes to eligible nonprofits – 501(c)(6)s now qualify – These organizations must have 150 employees or fewer, gross receipts from lobbying activities must total less than 15% or $1 million, and lobbying activities cannot comprise more than 15% of total activities.
- More groups can apply for first-time assistance – Other groups that can apply for first-time assistance through this round of PPP funding include businesses eligible for other SBA 7(a) loans with fewer than 500 employees, sole proprietors, independent contractors, self-employed individuals, and nonprofits (including churches).
As with the first round of PPP loans, 60% of the funds must be spent on payroll over the covered period (8 or 24 weeks).
Other provisions affecting businesses
- $13.5 billion for Economic Injury Disaster Loans (EIDLs)
- $15 billion in grants for theaters and live venues – Theaters and live venues must have been operational prior to Feb. 29, 2020, have at least a 25% reduction in gross revenue, and they plan to resume operations following closures. Grants can be up to $10 million per eligible business, with preference given to venues with higher revenue losses. Certain characteristics apply for live venue spaces, movie theaters, and museums, so work with your CPA to determine eligibility.
- Employer tax credits for those offering paid sick leave have been extended to Mar. 31, 2021, for employers who voluntarily choose to expand paid emergency leave. Otherwise, the requirements set forth by the Families First Coronavirus Response Act (FFCRA) expire Dec. 31, 2020.
- Extension of time for employers to pay back deferred payroll taxes till the end of 2021 instead of Apr. 30, 2021.
- $10 billion for childcare assistance – This includes supplemental assistance for childcare providers to assist with fixed costs and operating expenses.
Provisions affecting individuals
- Direct stimulus payment of $600 per adult and child with the same phase out thresholds as the CARES Act ($150,000 if married filing a joint return, $112,500 if filing as head of household, or $75,000 for individuals). Payments are expected to start arriving as early as the week of Dec. 28, 2020.
- Changes and extensions to unemployment including:
- $300 in enhanced unemployment benefits for unemployment beginning after Dec. 26, 2020, through Mar. 14, 2021, fully financed by the federal government, instead of split between the states and federal government.
- Extension of the Pandemic Unemployment Assistance program for gig workers, independent contractors, and the self-employed.
- Extension of the Pandemic Emergency Unemployment Compensation program which protects workers who exhaust state benefits with an additional 13 weeks.
- $25 billion for rental assistance.
- An extension of the eviction moratorium through Jan. 31, 2021.
- $13 billion for enhanced Supplemental Nutrition Assistance Program (SNAP) benefits including funding a 15% increase in benefits for 6 months to recipients.
- $81.8 billion allocated to colleges and schools to assist with pandemic-related changes in operations.
- $45 billion for transportation including $2 billion for airports and $15 billion for passenger airline workers.
- $7 billion for increased broadband access to assist with remote business operations and learning.
- $28 billion in funding for vaccine purchase and distribution.
- $22 billion for state, local, tribal, and territorial governments for health-related expenses like testing.
Further guidance and regulations are expected in various components of the bill and are due in periods of 10 to 45 days depending on the issue and reporting agency. Not included in the bill was aid for state and local governments, an agreement on liability protections for businesses, nor a continued freeze on payments and interest for federal student loans set to expire for many in February. Lawmakers have indicated they expect to pass another stimulus bill addressing some of these issues in early 2021.
More guidance and updates are expected on the Coronavirus Response & Relief Supplemental Appropriations Act. Stay tuned for more details in the days and weeks to come.
Please note that information and guidance on the PPP loan program is changing on a daily basis. The information provided in this article is current as of December 22, 2020. It is intended for general informational purposes only. Consult with your financial advisor about your specific situation.
The pandemic created by the novel coronavirus has drastically changed the way we live and work. As more businesses are forced to send their employees home, work-from-home life has become a mainstay especially in knowledge-based jobs (jobs that do not require physical labor), and many of these industries are not going back to the workplace anytime soon. This can create wrinkles for both employers and employees when it comes to their tax situations.
Here’s what employers and employees need to know about remote work and the impact it can have on taxes.
Tax and labor considerations for employers with remote employees
Nexus – Employers who have transitioned their workforce to be remote must be conscious of potential nexus implications due to any employees now working from another state. Working out of state from the employer can create physical nexus which means the employer will be responsible for the taxes imposed from the employee’s location. This could include taxes on income, gross receipts, and sales and use from both the city and county level.
Some states have waived these nexus rules or have adjusted in light of COVID-19 including Minnesota, Indiana, Ohio, New Jersey, Mississippi, Pennsylvania, North Dakota, and the District of Columbia. Check with your CPA to ensure you’re following your state’s remote worker nexus law.
Labor and employment law – Changes in an employee’s location across state lines can result in new wage and hour rules, termination of employment considerations, noncompetition agreements, trade secrets protections, and paid sick and family leave rules. Employers will want to be mindful of worker’s compensation insurance as states usually require employers to register and obtain premiums to cover the employee in that state. Additionally, unemployment insurance is also required by states for employees even if the employer operates in a different state.
Remote worker supplies – Employers who purchased items and provided them to workers in order to move operations remotely may deduct those expenses on their tax return. As these supplies are usually purchased for non-compensatory business reasons, employees do not need to pay taxes on them. Employers who reimbursed employees for purchased supplies deemed “ordinary and necessary” should have accountability plans and policies in place to protect the employee from taxation.
Consistent and accurate communication with employees during this time is key in order to avoid employer and employee tax violations as tax updates continue to be released regarding nexus and tax responsibilities. Be mindful that employee tax obligations are not the employer’s responsibility, so remind your employees to stay vigilant about their personal tax situation.
Tax implications for employees working from home
Double-taxation – Double-taxation can be a large burden for employees living in one state and working in another. Double-taxation occurs when the resident state doesn’t provide and employee with a credit on their return for taxes paid to their employer’s state. States where this can occur include New York, Arkansas, Connecticut, Delaware, Nebraska, and Pennsylvania.
Home office deductions – The Tax Cuts and Jobs Act (TCJA) of 2017 removed the itemized home office deduction for unreimbursed expenses exceeding 2% of AGI. This means that even though new remote employees have had to procure supplies during the pandemic and they were not either directly purchased by the employer or the employee was not reimbursed, those expenses are not tax-deductible.
Self-employed individuals are still eligible for the home office deduction if they are purchasing their own supplies. If a contracting client purchases supplies for them, those would be tax-deductible for the client, but not the self-employed individual.
Relocation – If you’ve permanently relocated across state lines during the pandemic, you will need to file tax returns for both states in 2021. Even temporary relocations of six months or longer may require tax returns to be filed in two states. It is likely states will be monitoring these moves closely in order to recover lost revenue.
Employers who have never operated with remote workers prior to the pandemic could face significant headaches come tax time. Likewise, employees who are working in one state and living in another could face large tax bills in 2021. For assistance with your obligations as an employer or individual taxpayer, reach out to us.
On November 18, 2020, the Internal Revenue Service issued Revenue Ruling 2020-27 which provides needed clarity on a taxpayers’ ability to deduct eligible expenses for Paycheck Protection Program (PPP) loan forgiveness.
The Ruling notes that a taxpayer that received a covered loan guaranteed under the PPP and paid or incurred certain otherwise deductible expenses listed in section 1106(b) of the CARES Act may not deduct those expenses in the taxable year in which the expenses were paid or incurred if, at the end of such taxable year, the taxpayer reasonably expects to receive forgiveness of the covered loan on the basis of the expenses it paid or accrued during the covered period, even if the taxpayer has not submitted an application for forgiveness of the covered loan by the end of such taxable year.
What if forgiveness is denied, in whole or part, or not requested?
In conjunction with the Ruling, the IRS issued Revenue Procedure 2020-51 to outline the steps for when:
1.) The eligible expenses are paid or incurred during the taxpayer’s 2020 taxable year,
2.) The taxpayer receives a covered loan guaranteed under the PPP, which at the end of the taxpayer’s 2020 taxable year the taxpayer expects to be forgiven in a subsequent taxable year, and
3.) In a subsequent taxable year, the taxpayer’s request for forgiveness of the covered loan is denied, in whole or in part, or the taxpayer decides never to request forgiveness of the covered loan.
The Rev Procedure provides for two safe harbors for taxpayers in the event forgiveness is denied, in whole or in part, or otherwise not requested that would allow for the deduction of expenses in either the 2020 or a subsequent tax year.
Questions we still have
While the Ruling provides information on the deductibility of expenses and the tactical approach for borrowers whose forgiveness is denied or not requested, additional clarification is still needed. This guidance does not address the order in which the eligible expenses (payroll, rent, utilities and mortgage interest) lose the ability to be deducted.
Further, the guidance does not address other matters that could have significant tax implications including, but not limited to, the impact on the following:
- Qualified business income deduction (Section 199A)
- Research and development credits
- Interest deduction limitation (Section 163(j))
Need Assistance in Choosing the Right PPP Loan Forgiveness Application?
We have put together a flowchart that can help: How to Select the Right Loan Forgiveness Application
This year has been unique and beyond comparison in many ways, and tax planning is just one of the implications of current events. Both individual and business taxes have the potential to be significantly impacted by the various legislation that has passed like the FFCRA and the CARES Act, the loan programs made available like the PPP and the EIDL, and the unemployment/stimulus programs that touched many Americans.
It’s imperative that we take into account all these potential factors when implementing your tax plan for 2020. In this article, we’ll take a look at the main areas to consider, both common and pandemic-related, when planning for 2020 year-end taxes.
Common and pandemic-related tax planning items for businesses to consider in 2020
- Accelerate AMT refunds – The CARES Act has accelerated the alternative minimum tax following changes made by the Tax Cuts & Jobs Act. Corporations can claim all remaining credits in 2018 or 2019 thus allowing for filing of quick refunds.
- Use current losses for quick refunds – The CARES Act allows businesses to claim immediate refunds by using current losses against past income, for example.
- Submit a retroactive refund for bonus depreciation – Businesses can now deduct qualified improvements dating back to Jan. 1, 2018, thanks to a fix made by the CARES Act. This could offer a quick refund.
- Claim quick disaster loss refunds – Nearly every U.S. business is eligible for disaster-related refunds from losses in 2020 on an amended 2019 return for a quicker refund.
- Time out your payroll tax deduction – While the CARES Act allows employers to defer paying their share of Social Security taxes, you should review the best strategy with your accountant. In some cases, it’s better to pay on time to take a loss. In others, it provides a liquidity benefit.
- Maximize generous Section 179 deduction rules – For qualifying property placed in service in tax years beginning in 2020, the maximum Section 179 deduction is $1.04 million. The Section 179 deduction phase-out threshold amount is $2.59 million.
- Understand your PPP obligations – PPP loan forgiveness may be excluded from gross income, but how to treat expenses related to PPP loans is still in question. Does the taxability of these expenses come into play in 2020, or not until 2021 when a loan is forgiven? This can impact estimated tax payments and how to treat nondeductible expenses once a decision is made.
- Deduct EIDL grant expenses – EIDL grant funds are believed at this point to be considered taxable income but expenses related to this grant would be deductible.
- Claim any employment retention tax credits – These can be claimed now, but you cannot have a PPP loan and receive employment retention credits.
Common and pandemic-related tax planning items for individuals to consider in 2020
- Be mindful of long-term capital gain taxes from sales of assets as these could also impact the 3.8% tax on net investment income. If you didn’t make much income in 2020, consider harvesting some long-term gains, especially if you qualify for the 0% capital gains tax bracket (under $80,000 MFJ, $40,000 single filer).
- Postpone income and accelerate deductions – Check on the status of your current and projected income for 2020 and 2021 to see if you’ll be pushed into a higher tax bracket. Defer bonuses from employers if necessary, and if self-employed, postpone income by postponing billing. It may also be possible that accelerating income is the appropriate path for you to lock in lower tax rates.
- Convert traditional IRAs to Roth IRAs – Be mindful of the new distribution rules for IRA beneficiaries as well as the ability to continue to make IRA contributions after age 70½ if there is enough earned income at play.
- Bunch deductions if necessary/appropriate – Consider bunching charitable contributions (by using a donor advised fund or charitable lead trust) and medical deductions as there are certain thresholds only available for 2020. Thirty regularly expiring provisions are also coming with 2020 including tuition/fees deduction and mortgage insurance premium deduction among others.
- Make your year-end gifts as interest rates are low (expected to continue in 2021).
- Account for your stimulus payment – Stimulus payments are considered an advance on your 2020 tax credit, so you may see a smaller return next year.
- Pay taxes now on your unemployment income – Unemployment benefits are taxable on the federal level so ensure you’re taking these taxes out of your payments or saving to make a payment. Note that states have varying tax treatment of unemployment income.
- Consider taking gains and paying more in tax now if you’re in a good financial position – This is contrary to the usual advice, however given our current historically low rates and a large and accelerating national debt, higher tax rates seem inevitable. For example, paying a 20% LTCG tax now could be very advantageous for a high–income filer who might be stuck paying at their ordinary rates on capital gains in the future.
- Exercise non-qualified stock options – Biden has proposed not only a rate increase, but also a FICA increase on high income taxpayers. So, corporate executives might consider exercising the NQSOs now to avoid getting hit with higher rate and FICA in the future.
As mentioned in our previous article – Tax planning considerations: Election results, sunset provisions – changes to the tax code in the next two to four years may still be imminent depending on the finalizations of certain Senate elections. If those changes become a likely scenario, some adjustments may still be possible in this year’s tax plan to account for those potential tax code changes. Work with your CPA to have a plan for all scenarios.
According to news outlets, as of this writing, Joe Biden will be the president-elect of the U.S. following the Electoral College vote on Dec. 14. Vote counting is still ongoing and election results have not yet been certified, but this news may have some taxpayers wondering what changes, if any, they should make in their tax planning to close out an eventful tax year.
The likelihood of a major tax overhaul in the next two years is up in the air as the Senate is not yet decided and may not be until two Georgia run-off elections in January 2021. If Republicans retain the majority, it’s likely there won’t be many changes, but that doesn’t completely lock out any potential adjustments that could come in the next two to four years. Items of agreement on tax policy exist between both parties such as increasing the child tax credit. However, with provisions of the Tax Cuts and Jobs Act (TCJA) set to sunset in 2026, updates to the tax code will be on the horizon by the next election.
Additionally, if the Republican Party indeed holds onto a 51-vote majority in the Senate, it is not unreasonable to imagine a legislative vote in which 2 republican senators vote against the majority of the Republican party to push a tax legislation bill through to the President. Accordingly, between the possibility of a loss of Republican control in 2 to 4 years, the possibility of 2 Republicans voting for a tax reform bill, and the 2026 TCJA sunset, it is highly unlikely tax laws will become more favorable to taxpayers in the in future; thus, we believe there is an urgency to plan carefully and diligently in the last weeks of 2020.
In this article, we’ll examine the key points of the President-elect‘s tax plan, the sunsetting TCJA provisions, and what to keep in mind as you execute your tax plan to close out the year.
High-level overview of the President-elect Biden’s tax plan
President-elect Biden has laid out several of his tax plans the past year on the campaign trail. Here’s what we know based on what he’s shared.
- Increase the top tax rate on ordinary income for individuals with taxable income over $400,000 to 39.6%
- Tax long-term capital gains at ordinary income rates for those with taxable income over $1 million
- Cap the value of itemized deductions at 28% for those with incomes over $400,000
- Increase the child tax credit to $3,000 for children 6-17 years of age, and increase to $3,600 for children under age 6, make credit fully refundable
- Increase tax preferences for contributions to 401(k) plans and IRAs for middle-income taxpayers
- Replace deduction with a refundable tax credit for worker contributions to traditional IRAs and defined-contribution pensions
- Increase tax benefits for the purchase of long-term care insurance using retirement savings for older Americans
- Raise eligibility limits on health care premium tax credits and increase the amount of the credit
- Repeal the per-manufacturer cap on electric vehicle tax credits, make credit permanent, phase out credit for those with income above $250,000
- Reinstate solar investment credit and tax credits for energy efficiency in residences
- Phase out the qualified business income (QBI) deduction for those with income greater than $400,000
- Expand Social Security tax by increasing the maximum threshold from $137,000 to $400,000 over time
- Increase the corporate tax rate to 28%
- Add a 15% minimum tax on “book” income
- Offer tax credits to offset costs of workplace retirement plans for small businesses
- Establish a refundable tax credit for companies and nonprofits who provide full health benefits to all workers during a period of work hour reductions
- Eliminate certain tax subsidies for oil, gas, and coal production, enhance tax incentives for carbon capture use and storage, establish tax credits and subsidies for low-carbon manufacturing
- Expand tax deductions for commercial buildings with certain environmentally friendly investments
TCJA provisions to sunset in 2026
In addition to the President-elect’s plans, the TCJA is still in the spotlight. The TCJA was the most significant tax overhaul in decades when it was passed in 2017. However, as is the nature when dealing with budgetary constraints, many of the provisions of the TJCA are scheduled to sunset by 2026. Below we’ve highlighted a few of the anticipated changes.
For businesses, approximately $4 trillion is expected in new taxes over the next 10 years as provisions begin to sunset including changes to:
- Alternative Minimum Tax (AMT)
- Elimination or scale back of Section 199
- Capital gains
- Payroll taxes
- Bonus depreciation
For individuals, changes are coming for:
- Marginal tax rates for upper-income taxpayers
- Caps on itemized deductions
- Wealth taxes
- Childcare/family caregiving
- Renter’s credits/first-time homeowner credit
Considerations for 2020 year-end tax planning
It’s important to note that the above considerations are not an exhaustive list of tax items to review as we close 2020. Work with us to have a proactive plan in place that takes into account various potential scenarios that could manifest in the coming weeks and months. In our follow-up article – 2020 tax planning considerations for businesses, individuals – we’ve laid out some of the key provisions to take into account as you work with us on your end–of–year tax planning.
With all of the curveballs 2020 has thrown at the nation, the economy, and businesses, there’s never been a better time to get an early jump on year-end planning for your business. While all the usual year-end tasks are still on the docket, you’ll want to consider implications related to the Paycheck Protection Program (PPP), any disaster loan assistance you received, and changes made by the Coronavirus Aid, Relief, and Economic Security (CARES) Act.
We’ve put together a checklist of what you need to do now to prepare for a great year-end that includes annual tasks as well as 2020-specific tasks. Keep reading for assistance getting your financials organized, reviewing your tax strategy, and preparing for next year.
1. Bring order to your books – Now is the time to collect, organize, and file all of your receipts for the year if you haven’t been staying on top of it. Get with your CPA to ensure everything is clean and in order before the end of the year to help avoid surprises come tax time.
2. Examine your finances – This includes having your balance sheet, income statement, and cash-flow statements prepared and up to date. Reviewing this information allows you to see where your money went for the year so you can properly prepare for next year.
3. Work with your CPA on your PPP loan forgiveness application – We are currently awaiting further guidance on the PPP’s impact to taxes, but it’s important to work with your CPA on your PPP loan forgiveness application. Knowing where your PPP loan lies can help determine how to spread out your cash flow for the remainder of the year.
4. Organize all disaster loan assistance documentation – This includes your Economic Injury Disaster Loan (EIDL) documentation if you received an advance grant. EIDL advances must be added to your taxable income (unless different guidance is released), but you’ll be able to deduct any expenses paid with this grant.
Review your tax strategy
5. Review your taxes with your CPA – Do not put off your tax planning meeting with your CPA. Especially after the year you’ve had and any potential federal state aid your business received, your tax plan needs a review. Getting a jump on this early, well before the new year, can help you plan for what’s to come on Tax Day. It’s even more imperative to plan early for any tax obligations you may have at tax time as it’s likely the COVID-19 pandemic will continue to create a volatile environment for many industries’ revenue projections.
6. Execute on year-end tax strategy adjustments such as:
- Accelerating AMT refunds – The CARES Act has accelerated the alternative minimum tax following changes made by the Tax Cuts & Jobs Act. Corporations can claim all remaining credits in 2018 or 2019 thus allowing for filing of quick refunds.
- Using current losses for quick refunds – The CARES Act allows businesses to claim immediate refunds by using current losses against past income, for example.
- Submitting a retroactive refund for bonus depreciation – Businesses can now deduct qualified improvements dating back to Jan. 1, 2018, thanks to a fix made by the CARES Act. This could offer a quick refund.
- Claiming quick disaster loss refunds – Nearly every U.S. business is eligible for disaster-related refunds from losses in 2020 on an amended 2019 return for a quicker refund.
- Timing out your payroll tax deduction – While the CARES Act allows employers to defer paying their share of Social Security taxes, you should review the best strategy with your accountant. In some cases, it’s better to pay on time to take a loss. In others, it provides a liquidity benefit.
- Cash in on generous Section 179 deduction rules – For qualifying property placed in service in tax years beginning in 2020, the maximum Section 179 deduction is $1.04 million. The Section 179 deduction phase-out threshold amount is $2.59 million.
7. Prepare your tax documents – Once you’ve met with your CPA, it’s time to line up all the info you need to prepare your final tax documents or have your CPA take care of it. Be sure not to put this off to the last minute as it will be a complicated year for everyone.
8. Automate your tax function – Instead of spending valuable time and energy on manual tasks and repetitive processes this year, consider investing in data analytics and automation tools to optimize and streamline your in-house accounting and tax functions. There’s never been a better time to invest in technology that will help you become more efficient and accurate.
Plan for the future
9. Evaluate your goals – There’s no doubt that 2020 likely threw a wrench in many of your goals for the year. However, you should still review the goals you set last year and see if you’ve met or made progress on any of them. This will help with 2021 business planning.
10. Set goals for the new year – No one knows how 2021 will play out, and it’s unlikely the market or business will return to normal in the first part of the year. Take into consideration the challenges you’ve faced so far in the pandemic as you plan for 2021. Work with your trusted advisor to determine several back-up plans for what if scenarios in case of any state or national lockdowns.
In a year like no other, it’s crucial to prepare like no other so you’re not met with any surprises or devastating fees. Contact us today to set up your tax and business planning appointment.