Tax Law Insights

The COVID-19 or Coronavirus has disrupted demand in many industries and is wreaking havoc on budgets and cash flow projections.  On March 27, 2020 the Coronavirus Aid, Relief, and Economic Security Act (the CARES Act or Act), H.R. 748, became law.  The CARES Act seeks to incentivize employers to retain their employees and to provide enhanced unemployment benefits for employees who are not retained.  The CARES Act contains a number of tax related provisions to assist employers.

Paycheck Protection Program

The Act establishes a forgivable loan program (the Paycheck Protection Program or Program) for businesses with less than 500 employees.[1]  Ordinarily the forgiveness of a loan would result in cancellation of indebtedness income (i.e. gross income equal to the amount of the loan forgiven).  The Act contains a provision which specifically exempts amounts forgiven under the Program from federal gross income.  The forgiven amount is therefore tax free to the borrower at the federal level.  States may also exempt this amount from income.  A borrower will need to review the law applicable in their state to determine the state tax consequences, if any.

The Act also establishes a fund to make payments of principal, interest, and fees for certain existing SBA loans.  The Act does not contain a tax provision related to these payments.  Under general tax principles, these payments would constitute income to the borrower.  This is likely not the intended result given the favorable treatment of loans made under the Program.

Recovery Rebates for Individuals

The Act provides a tax credit for the 2020 tax year equal to $1,200 ($2,400 in the case of eligible individuals filing a join return), plus $500 per qualifying child.  As a tax credit, the receipt of these funds is not included in gross income and therefore not subject to federal income tax.  States do not impose tax on federal tax credits and there should be no state income tax on the credit either.

The amount of the credit is reduced by 5% of the amount a taxpayer’s adjusted gross income exceeds (i) $150,000 in the case of a joint return, (ii) 112,500 in the case of a head of household, and (iii) $75,000 in the case of other taxpayers.

The credit will be sent to taxpayers as an advance refund and calculated based on a taxpayer’s 2019 return if it has been filed, or 2018 return if the 2019 return has not been filed.  The credit that can ultimately be claimed on a taxpayer’s 2020 return will be reduced, but not below zero, by the advance refund amount.  Since the advance refund can reduce the 2020 credit, but not below, zero, taxpayers will not have to repay any advance refund even if their 2020 income exceeds the credit limits.  Taxpayers who do not receive an advance refund, but qualify for the credit based on their 2020 income, will be able to benefit from the credit when their 2020 return is filed.

Retirement Account Withdrawals and Loans

The Act waives the 10% early withdrawal penalty for retirement account distributions up to $100,000 for Coronavirus related reasons.  In addition, income tax on the distributions would be subject to tax over three years and taxpayers would have the option to recontribute withdrawals within three years.  Coronavirus related reasons include distributions (i) made to an individual who is diagnosed with Coronavirus, (ii) whose spouse or dependent is diagnosed with Coronavirus, or (iii) who experiences adverse financial consequences as a result of being quarantined, furloughed, laid off, having work hours reduced, being unable to work due to lack of child care, closing or reducing hours of a business owned by an individual, or other factors determined by the Treasury Secretary.

The Act increases the amount a participant is permitted to borrow from a retirement plan from $50,000 to $100,000 and extends the repayment date for existing loans maturing in 2020 by 1 year,

Temporary Waiver of Required Minimum Distributions

The required minimum distribution rules are waived for the 2020 calendar year.

Partial Above the Line Deduction for Charitable Contributions

The Act allows taxpayers to deduct up to $300 of charitable donations made in cash in 2020 as an above the line deduction.  This means taxpayers can deduct the charitable donation even if they do not itemize their deductions.

Modification of Limitations on Charitable Contributions

The Act eliminates the 50% of adjusted gross income charitable deduction limitation for 2020.  In the case corporations, the 10% limitation is increased to 25%.  The limitation on contributions of food inventory is also increased from 15% to 25%.

Exclusion for Certain Employer Payments of Student Loans

The Act provides and income tax exclusion for individuals who are receiving up to $5,250 in student loan repayment assistance from their employer.

Employee Retention Credit for Closure due to Coronavirus

The Act provides a refundable payroll tax credit for 50% of wages paid by employers to employees during the Coronavirus crisis. The credit is available to employers whose (1) operations were fully or partially suspended, due to a Coronavirus-related shut-down order, or (2) gross receipts declined by more than 50 percent when compared to the same quarter in the prior year.

The credit is generally provided for the first $10,000 of compensation, including health benefits, paid to an eligible employee. The credit is provided for wages paid or incurred from March 13, 2020 through Dec. 31, 2020.

The credit is not available to employers that receive a Paycheck Protection Program loan.

Delay of Payment of Employer Payroll Taxes

The Act allows employers and self-employed individuals to defer payment of the employer share of the Social Security tax from the date of enactment through December 31, 2020. Deferred payments must be paid over the following two years, with half due by Dec. 31, 2021 and the other half by Dec. 31, 2022.

The deferral is not available to employers that receive a Paycheck Protection Program Loan.

Modifications of NOLs

The Act allows a net operating loss (NOL) from 2018, 2019 or 2020 can be carried back five years, and temporarily removes the taxable income limitation to allow a NOL to fully offset income.

Modification of Credit for Prior Year Corporate AMT

The Act accelerates the ability for companies to claim eligible alternative minimum tax (AMT) credits now instead of as originally expected through 2021.

Modifications of Limitation on Business Interest

The Act temporarily increases the limitation on the ability to deduct interest expenses from 30% to 50% of taxable income for 2019 and 2020.

Technical Amendments Regarding Qualified Improvement Property

Enables businesses to immediately write off costs associated with improving facilities instead of depreciating them over the life of the building.  Would allow amending a prior year return to take advantage of this provision and correct a drafting error in the 2017 tax reform law.

Temporary Exception from Excise Tax for Alcohol used to Produce Hand Sanitizer

The Act provides an exclusion from excise taxes for alcohol used to produce hand sanitizer after December 31, 2019 through December 31, 2020.

[1] The Administration can establish a higher threshold for certain industries, nonprofit organizations, veteran’s organizations, or Tribal businesses.