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March 30, 2020

Tax Provisions of the CARES Act

Stimulus Checks

The most celebrated aspect of the CARES (Coronavirus Aid, Relief and Economic Security) Act may be the 2020 recovery rebate for individuals. 

There will be an immediate payment of $1,200 to US individuals reporting income of up to $75,000 on their 2019 tax returns. Joint filers with income of up to $150,000 would receive $2,400. The payments will be increased by $500 for each child under the age of 17. If a taxpayer has not yet filed their 2019 tax return, the payment will be based on the 2018 tax return. If the taxpayer has not filed a return for 2018 or 2019, it will be based on the taxpayer’s Social Security statement. 

The amount of the payment will be phased out above the income levels set forth above and will not be available to individuals reporting over $99,000 of income or joint filers reporting more than $198,000 of income. 

Payments will be made between now and December 31, 2020, and will be treated as an advance of the credit an individual will compute on the individual’s 2020 tax return.

Depreciation

Under the 2017 TCJA, depreciation on certain property (qualified improvement property) was intended to be accelerated. Generally, the depreciable life of improvements made to the interior portion of a nonresidential building any time after the building was placed in service was to be reduced from 39 to 15 years. In addition, 100-percent bonus depreciation was to be available for all assets with a life of 20 years or less.

The actual wording of the TCJA neglected to provide that qualified improvement property would have a 15-year depreciable life. Therefore, the life remained 39 years and the property was not eligible for 100-percent bonus depreciation.

The CARES Act makes the necessary technical correction to the TCJA by providing that the depreciable life of qualified improvement property is 15 years. Importantly, the correction is retroactive to January 1, 2018, meaning taxpayers should be entitled to file amended returns to claim accelerated depreciation for 2018 and 2019.

Retirement Funds

The CARES Act adds a new exception to the 10-percent penalty on distributions from qualified retirement plans before age 59 1/2. The penalty-free distribution covers both retirement plans and IRAs. Specifically, a taxpayer is allowed to take a “coronavirus-related distribution” of up to $100,000 in 2020 without being subject to the penalty.

A coronavirus-related distribution is a distribution to an individual (1) who is diagnosed with SRS-COV-2 or COVID-19 by a test approved by the CDC, (2) whose spouse or dependent is diagnosed with one of the two diseases, or (3) who experiences adverse financial consequences as a result of being quarantined, being furloughed or laid off, having work hours reduced, or being unable to work due to lack of child care.

While the distribution is subject to income tax, the CARES Act allows a taxpayer to report the distribution over a three-year period beginning with 2020. The taxpayer also has the option to avoid any income recognition by repaying the distribution to the retirement plan within three years of receiving it.

In addition, the amount an individual may borrow from his or her retirement plan is increased from $50,000 to $100,000 for the 180-day period beginning after the enactment of the CARES Act, and “required minimum distributions” are waived for 2020.

Charitable Contributions

Since the TCJA greatly increased the standard deduction, most taxpayers no longer itemized deductions. As a result, in most cases, charitable contributions (which are itemized deductions) do not result in a tax benefit. The CARES Act now allows an individual who does not itemize deductions to make a cash contribution of up to $300 to certain qualifying charities and deduct the contribution as an “above-the-line” item in computing adjusted gross income. This means a taxpayer receives the new deduction in addition to the standard deduction.

The CARES Act also temporarily removes certain restrictions on charitable deductions for 2020. Individuals who do itemize their deductions are allowed to deduct cash contributions to public charities up to 100 percent of AGI for 2020 with any excess contributions available to be carried over to the next five years. For corporate donors, the limit is increased from 10 percent of adjusted taxable income to 25 percent.

Employee Student Loans

Under the CARES Act, an employer is allowed in 2020 to pay up to $5,250 of an employee’s student loan without the employee having to recognize income for the payment. Because current law allows an employer to pay up to $5,250 of an employee’s qualified educational expenses tax free to the employee, the CARES Act creates a new combined limit. Accordingly, an employer may, for example, pay $3,000 toward an employee’s qualified educational expenses and another $2,250 of that employee’s student loan payments in 2020. Any amount paid in excess of $5,250 in the aggregate will be taxable income to the employee.

As a conforming amendment under the new law, an employee may not deduct interest on student debt to the extent the debt was paid by the employer on a tax-free basis.

Employee Retention Credit

The CARES Act contains a one-year refundable credit against an employer’s share of Social Security payroll taxes for any business forced to suspend or close its operations due to COVID-19 but that continues to pay its employees.

Specifically, if an employer’s business operations were fully or partially suspended during any calendar quarter during 2020 due to orders from an appropriate government authority resulting from COVID-19, or the business operations remained open but, during any quarter in 2020, gross receipts for that quarter were less than 50 percent of what they were for the same quarter in 2019, the employer is entitled to the credit. 

The credit is for each quarter until the business has a quarter where it has recovered sufficiently that its receipts exceed 80 percent of what they were for the same quarter in the previous year. The amount of the credit for each eligible quarter against the payroll taxes is equal to 50 percent of the “qualified wages” paid to each employee for that quarter, ending on December 31, 2020.

“Qualified wages” depend on the size of the employer. For employers with more than 100 employees during 2019, qualified wages are limited to those paid by the employer to employees who are not providing services. For employers with 100 employees or fewer for 2019, qualified wages include not only those paid to employees during a shutdown but also wages paid for each quarter the business has receipts for that quarter that were less than 50 percent of what they were for the same quarter in 2019. The amount of qualified wages for each employee for all quarters may not exceed $10,000.

Any wages taken into account in determining the new payroll tax credit for family medical leave or sick leave as part of the Coronavirus Relief Act may not be taken into account in determining qualified wages for the employee-retention credit.

Finally, if an employer takes out a payroll protection loan under Section 7(a) of the Small Business Act, no employee retention credit will be available.

Delay of Employer Payroll Tax and Self-Employment Tax

The CARES Act also allows an employer to delay paying its share of Social Security tax that would otherwise be due through December 31, 2020. Under the provisions of the CARES Act , 50 percent of the delayed tax would be due on December 31, 2021, and 50 percent would be due December 31, 2022.

Similarly, a self-employed taxpayer can defer paying 50 percent of his or her self-employment tax that would be due through the end of 2020. Half of the deferred tax (or 25 percent of the total) would be due at the end of 2021, and half would be due at the end of 2022.

As with the employee-retention credit, the payroll-tax deferral is not available to any employer that takes out a payroll-protection loan that is forgiven.

Net Operating Losses

Under the provisions of TCJA, NOL carrybacks are not allowed for losses realized after 2017, and carryforwards are allowed for losses indefinitely with a limit on the use of post-2017 losses to 80 percent of taxable income.

With the CARES Act, Congress temporarily reversed the TCJA changes. Specifically, losses from 2018, 2019, and 2020 may be carried back for up to five years. In addition, losses carried to 2019 and 2020 may offset 100 percent of taxable income.

Limitation on Business Losses

As part of the TCJA, another limitation was implemented on an individual’s ability to use business losses. Specifically, the amount of business losses an individual was allowed to use in a year to offset other sources of income could be no greater than $250,000 (if single) and $500,000 (if married and filing jointly). Any excess loss was converted into an NOL (subject to further restriction prior to the CARES Act).

The CARES Act extinguishes the fixed-dollar limitation on business losses. The change is retroactive to January 1, 2018. As a result, a taxpayer who was limited in claiming a business loss in 2018 or 2019 may file an amended return for those years to claim a refund.

Changes to the Interest Deduction Limitation Rules

As part of the TCJA, new Section 163(j) of the Internal Revenue Code limited the deduction a business could claim for interest expense to 30 percent of “adjusted taxable income,” with any excess interest expense carried forward. 

The CARES Act increases that limit to 50 percent of adjusted taxable income for 2019 and 2020. The CARES Act allows a business to elect to use its 2019 adjusted taxable income figure in computing the limitation for 2020.

A partnership does not get to use the 50 percent limit of adjusted taxable income for 2019. Instead, any interest disallowed at the partnership level is passed out to the partners. This interest is then suspended at the partner level under the normal rules and allowed as a deduction in subsequent years. Under the CARES Act, 50 percent of the suspended interest is fully deductible in 2020, and the remaining 50 percent will remain suspended until the partnership allocates excess taxable income or excess interest income to the partner (or the partnership is no longer subject to Section 163(j)).

If you have any questions regarding the content of this alert, please contact Gerry Stack, Tax Practice Area chair, at gstack@barclaydamon.com; Nick Scarfone, partner, at nscarfone@barclaydamon.com; or another member of the firm’s Tax Practice Area.

We have a specific team of Barclay Damon attorneys who are actively working on assessing regulatory, legislative, and other governmental updates related to COVID-19 and who are prepared to assist clients. Please contact Yvonne Hennessey, COVID-19 Response Team leader, at yhennessey@barclaydamon.com or any member of the COVID-19 Response Team at COVID-19ResponseTeam@barclaydamon.com
 

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