Enacted on March 27, the Coronavirus Aid, Relief, and Economic Security Act—or CARES Act—contains several important tax provisions for businesses and individuals. Notable business tax provisions include the creation of a new Employee Retention Credit, the delayed payment of certain employer payroll taxes, an increase in the Section 163(j) interest expense limitation, major modifications to the net operating loss rules, and a change to the 2017 Tax Cuts and Jobs Act (TCJA) to allow businesses to immediately expense certain improved property. For individuals, the Act creates an advance rebate for 2020, expands the charitable deduction, and relaxes certain rules relating to retirement accounts. These provisions, and more, are discussed in this article.
Business Tax Provisions
Employee Retention Credit
The Act creates a temporary, refundable Employee Retention Credit. “Eligible employers” can receive a payroll tax credit for 50% of “qualified wages” paid to employees from March 13 through December 31, 2020, up to a maximum credit of $5,000 per employee.
The credit is calculated on a quarterly basis. If the amount of the credit exceeds the eligible employer’s Social Security taxes for any calendar quarter, the excess is treated as an overpayment of employment taxes and can be claimed by the employer as a refund.
An employer becomes an “eligible employer” for a given quarter if either of two criteria are met:
- The operation of its trade or business is fully or partially suspended due to a COVID-19-related shutdown order.
- Its gross receipts decline by more than 50% as compared to the same quarter the previous year. In this case, the employer continues to be an eligible employer until the next calendar quarter in which its gross receipts exceed 80% of its gross receipts for the same quarter the previous year.
For eligible employers with more than 100 full-time employees (based on average headcount during 2019), “qualified wages” are wages paid or incurred to employees when they are not providing services due to COVID-19. The amount treated as qualified wages with respect to an employee cannot exceed the amount the employee would have been paid for working an equivalent duration during the preceding 30-day period. For eligible employers with 100 or fewer full time employees, all employee wages paid or incurred during the relevant period are qualified wages, whether or not the employees are providing services during that period.
For all eligible employers, qualified wages also include health plan expenses to the extent they are properly allocable to qualified wages. Wages paid to certain related individuals are excluded from qualified wages.
The credit is limited to 50% of the first $10,000 in total qualified wages, including health benefits, paid to each eligible employee for all calendar quarters.
Similar to the R&D credit and certain other tax credits, no deduction is allowed for qualified wages claimed as an Employee Retention Credit. An eligible employer can also elect not to have the credit apply.
Employers receiving covered small business loans (under Section 1102 of the Act) are not eligible for the Employee Retention Credit. Certain other rules prevent the double counting of credits.
Delayed Payment of Certain Payroll Taxes and Self-Employment Taxes
The Act allows virtually all employers to delay payments of employer side Social Security taxes for the period from March 27, 2020, through December 31, 2020 (the “payroll tax deferral period”). Half of the deferred taxes are due by December 31, 2021; the other half by December 31, 2022.
This provision does not apply to employers who have a covered small business loan forgiven under Section 1106 of the Act.
The Act also allows self-employed individuals to delay payments of 50% of the Social Security component of self employment taxes for the payroll tax deferral period. Half of the deferred taxes are due by December 31, 2021; the other half by December 31, 2022.
Temporary Increase in Section 163(j) Limitation
The Section 163(j) limitation on business interest deductions is increased from 30% to 50% of adjusted taxable income for tax years beginning in 2019 and 2020. Importantly, for 2020, taxpayers (including partnerships) can also elect to use their 2019 adjusted taxable income as the base for computing their 2020 limitation, instead of their 2020 adjusted taxable income which might be considerably lower (or even zero). Special provisions are added to allow partners in partnerships to benefit from the provision without the need for partnership amended returns (which have become complicated under the new partnership audit rules).
Modifications for Net Operating Losses
The Act makes two temporary changes to the net operating loss (NOL) rules to offer more immediate relief to taxpayers with losses. It provides for a five-year NOL carryback period, and it repeals the 80%-of-taxable-income limitation on utilizing NOL carryforwards. Both rules apply to NOLs arising in tax years that begin in 2018, 2019, or 2020.
Under this provision, if a taxpayer carries back NOLs to a Section 965 (repatriation tax) inclusion year, the taxpayer will be treated as having made an election under Section 965(n) not to apply the NOL deduction against its Section 965 income. The Act also offers a special election to exclude a taxpayer’s Section 965 inclusion years from the five-year carryback period.
The Act also amends the effective date of the TCJA NOL rule changes. The pre-TCJA NOL rules now apply to NOLs arising in tax years that began before January 1, 2018. Those NOLs can be carried back two years, and then forward 20 years without the 80%-of-taxable-income limitation. NOLs arising in tax years that begin after December 31, 2017, will have an unlimited carryforward period. Once the temporary rules expire, NOLs arising in tax years that begin after December 31, 2020, cannot be carried back, and when carried forward will be subject to the 80% limitation.
Finally, the Act makes certain technical changes to the NOL utilization rules. These changes are permanent, and will apply to tax years beginning after December 31, 2020.
Modification of Limitation on Losses for Taxpayers Other Than Corporations
The TCJA loss limitation rules of Section 461(l) for pass-through businesses and sole proprietors will only apply to tax years beginning after December 31, 2020. These loss limitation rules provide that non-corporate taxpayers can use a maximum of $250,000 in business losses per year to offset other income.
Modification of AMT Refundable Credits
Although corporate alternative minimum tax (AMT) was repealed by TCJA, corporate AMT credits from pre-TCJA years were potentially made available as refundable credits over several years, ending in 2021. The Act accelerates the recovery of the credits and ensures that all corporate taxpayers will recover the credits in full. Corporate taxpayers can elect to claim the entire remaining refundable credit amount in a tax year beginning in 2018. Absent an election, the credits are refunded in the corporation’s tax years beginning in 2018 and 2019. The Act provides a procedure to file for a tentative refund to obtain these refundable credits within 90 days.
Immediate Deduction for Qualified Improvement Property
The Act amends the depreciation rules (as modified by TCJA) to allow businesses to elect to immediately write off costs associated with “qualified improvement property” acquired after September 28, 2017, and before January 1, 2023. Absent the election, qualified improvement property will be depreciable over 15 years, rather than 39 years. “Qualified improvement property” is generally any improvement made to the interior portion of a commercial building that is placed in service after the date the building was placed in service.
Temporary Exception from Excise Tax for Alcohol Used to Produce Hand Sanitizer
The provision waives, for 2020, the federal excise tax on distilled spirits used for or contained in hand sanitizer that meet FDA standards. This provision provides relief to distilleries that have shifted their production capacity from distilled spirits to hand sanitizer in response to the COVID-19 crisis.
Business Tax Provisions Not Enacted
The original Senate bill included a handful of other provisions that did not make it into the final legislation. These omitted provisions include two closely watched TCJA technical corrections: the reinstatement of Section 958(b)(4) to prevent “downward attribution” of stock ownership from foreign persons, and the amendment of the refund rules to require the IRS to refund overpayments for a Section 965 inclusion year rather than crediting future-year installment payments.
Individual Tax Provisions
The Act creates an advance “recovery rebate” for individuals for 2020, which the IRS will distribute “as rapidly as possible.”
The amount of the credit is $1,200 for single persons ($2,400 for married couples) who are not dependents of another taxpayer and who have a work-eligible social security number. An additional $500 credit is allowed for each qualifying child. The credit begins to phase out for single filers with incomes over $75,000 ($150,000 for joint filers) and is completely phased out for single filers at $99,000 ($146,500 for head of household filers with one child, and $198,000 for joint filers with no children).
Individuals who filed a 2018 or 2019 federal income tax return will receive their rebate automatically. For those who have not filed a return, the IRS may identify recipients based on information in their 2019 Social Security Benefit Statements. The Act authorizes the IRS to disburse advance refunds electronically to any account the payee has authorized for direct deposit of a tax refund or other federal payment since January 1, 2018.
Special Rules for Use of Retirement Funds
The Act waives the 10% early withdrawal penalty for coronavirus-related distributions up to $100,000 made from qualified retirement accounts in 2020. The income attributable to the distribution is subject to tax ratably over three years, unless the taxpayer elects to include the entire amount in income in 2020. The taxpayer may recontribute the funds to any eligible retirement plan as a “rollover” within three years, without regard to that year’s cap on contributions. The provision also provides flexibility for loans from certain retirement plans for coronavirus-related relief.
A “coronavirus-related distribution” is any distribution made in 2020 to an individual: (1) who is diagnosed with COVID-19, (2) whose spouse or dependent is diagnosed with COVID-19, or (3) who experiences adverse financial consequences as a result of being quarantined, furloughed, laid off, having work hours reduced, being unable to work due to lack of child care due to COVID-19, closing or reducing hours of a business owned or operated by the individual due to COVID-19, or other factors to be described in regulations.
Temporary Waiver of Retirement Plan Minimum Distribution Rules
For calendar year 2020, the Act waives the required minimum distribution rules for certain defined contribution plans and IRAs.
Individuals who claim the standard deduction in 2020 will be allowed an above-the-line deduction of up to $300 for cash charitable contributions, except for contributions to donor advised funds and Section 509(a)(3) supporting organizations.
For individuals who itemize, the Act suspends the 50% limitation for “qualified contributions” made in 2020. Thus, individuals who itemize can generally deduct qualified contributions up to the amount of their income, less other deductible contributions. A “qualified contribution” is any cash contribution paid to a charitable organization, other than donor-advised funds and Section 509(a)(3) supporting organizations, if the taxpayer elects to treat the contribution as a qualified contribution.
For corporations, the deduction limitation for qualified contributions is increased from 10% to 25% of taxable income, less other deductible contributions.
The percentage limitation for donations of food inventory is increased from 15% to 25%.
Exclusion for Certain Employer Payments of Student Loans
The Act allows an exclusion of up to $5,250 from an employee’s income for amounts paid by an employer toward the principal or interest on the employee’s qualified student loans. The $5,250 cap applies to the combined amount of the student loan repayment and other educational assistance provided by the employer. The payment must be made between March 27 and December 31, 2020. To prevent a double benefit, the deduction for student loan interest is not allowed for any amount for which the exclusion is allowable.