The Coronavirus Aid, Relief and Economic Security (CARES) Act was passed through Congress on March 27 and approved by President Trump. While we have been focusing much of our attention on the Paycheck Protection Program, which expands the ability to get Small Business Administration loans, and the related loan forgiveness we also want to highlight some significant business tax provisions that could eventually assist in additional cash for businesses. It is fair to say that the CARES bill provided another mini tax reform, just as the accounting industry and software providers were starting to wrap their hands around the Tax Cuts and Jobs Act (TCJA) that was passed in December of 2017 and mainly effective for the 2018 taxable year. In order to help stimulate the economy further during the pandemic, lawmakers took the opportunity through the CARES Act to roll back many of the business tax provisions implemented in the TCJA.
Modification of Net Operating Losses
Under the TCJA, net operating losses that were created in taxable years after December 31, 2017 were only allowed to be carried forward and could no longer be carried back to previous taxable years. In addition, when a net operating loss that was created after December 31, 2017 was carried forward it was only allowed to offset 80% of a taxpayer’s taxable income. Essentially, ensuring that the government would receive some type of tax payment related to the 20% of taxable income remaining.
The CARES Act significantly changes the TCJA law by allowing net operating losses created in taxable years before January 1, 2021 to be carried back for five years and to no longer be limited by 80% of taxable income.
Based on the CARES law, if a net operating loss is created in 2018, 2019, 2020 it can now be carried back five years. For example, a net operating loss created in the 2018 calendar taxable year can be carried back as early as the 2013 calendar taxable year. The ability to carry back a net operating loss is not only beneficial because it may allow you to offset tax payments that existed in more profitable years (as opposed to only carrying the loss forward to 2020 and beyond) but it also allows taxpayers to offset income that was most likely taxed at a higher income tax rate. For example, most corporations in 2013 were subject to a 35% corporate tax rate which can now be recouped through a net operating loss carryback. If a corporate taxpayer were only allowed to carry forward the net operating loss, they would only be offsetting a corporate tax rate of 21% which came effective the 2018 taxable year.
Adjustment to Alternative Minimum Tax (AMT) Credit Carryforward
Even though the TCJA eliminated corporate AMT for taxable years after December 31, 2017 they did provide the ability to take any AMT previously paid as a credit against regular tax liability. The AMT refundable credit under the TCJA was generally limited to 50% of the excess of the minimum tax credit for the taxable year over the amount of credit allowable for the year against regular tax liability. The amount was increased to 100% for taxable years beginning in 2021.
The CARES Act amends the fact that the percentage being applied will determine the credit from 50% to 100% in a taxable year beginning in 2019. In other words, the AMT refundable credit amount is equal to 100 percent of the excess of the minimum tax credit for the taxable year over the amount of the credit allowable for the year against the regular tax liability imposed for that taxable year.
A taxpayer will need to file an application for a tentative refund, if applicable, by December 31, 2020 in the manner and form as the Secretary of Treasury prescribes. The Secretary of Treasury will review the application, determine the amount of the overpayment, and apply for credit, or refund such overpayment within a period of 90 days from the date on which an application is filed.
Modification to Excess Business Loss Limitation Rules
Under the TCJA, starting in taxable years after December 31, 2017, a taxpayer (including individuals, trusts, or estates) was limited on the amount of loss they were allowed to deduct related to trades or businesses. If the total amount of trade or business Activity was a net loss, the trade or business loss that was allowed as a deduction was limited to $500,000 for joint returns or $250,000 for all other filers. Any loss not allowed as a deduction was treated as a net operating loss in the following taxable year.
Under the CARES Act, the excess business loss rules have been lifted for any taxable year beginning prior to December 31, 2020. Therefore, taxpayers who were limited in 2018 and 2019 due to the TCJA excess business loss limitation rules should evaluate the need to amend their returns to claim a possible refund. There will be complexities to consider related to the ability to deduct 100 percent of the net operating loss for regular tax purposes but only 90 percent of the net operating loss for AMT purposes.
In addition, technical amendments were added to the excess business loss limitation rules clarifying that the excess business loss limitation should be determined without regard to deductions, gross income, or gains received when performing services as an employee. In addition, the bill also provides clarification regarding the treatment of capital gains and losses when determining the excess business loss limitation. The technical amendments are effective as if they were included in the original TCJA bill.
Adjustments Made to the IRC 163(j) Interest Expense Limitation Rules
The TCJA also created a broad sweeping interest expense limitation rules that affected many taxpayers in the 2018 and 2019 filing season. In general, the interest expense deduction was limited to business interest income, 30% of adjusted taxable income, plus floor plan financing interest. For taxable years beginning before January 1, 2022, adjusted taxable income was defined as taxable income without including amounts not properly allocable to a trade or business, business interest income or interest expense, net operating loss deductions, the deduction allowed under 199A, and deduction allowable for depreciation, amortization or depletion.
The CARES Act has increased the amount of interest expense deduction allowed by increasing the limitation of adjusted taxable income from 30% to 50% for taxable years beginning in 2019 or 2020. In addition, anticipating that adjusted taxable income in 2020 may be less than 2019 for certain taxpayers, they have provided the taxpayer with an election to use their 2019 adjusted taxable income when calculating their 2020 interest expense limitation. Taxpayers can make an irrevocable election not to have the 50 percent threshold apply to the 2019 or 2020 taxable years
The CARES Act states that the ability to increase the limitation from 30% to 50% of adjusted taxable income does not apply to a partnership during the 2019 taxable year. This is most likely because lawmakers assumed many partnerships already filed their 2019 tax returns by March 15, 2020, and the additional BBA audit regime rules make it more complicated to amend partnership returns. However, they did provide partners in a partnership with a great benefit related to 2019 excess business interest. For any excess business interest which was allocated to a partner from a partnership in relation to a taxable year beginning in 2019, they allow the partner to treat 50% of the 2019 excess business interest as immediately deductible in 2020. The remaining 2019 excess business interests would follow the original TCJA rules for purposes of the deduction. Partners can elect not to apply the special rule for excess business interest expense from taxable years beginning in 2019.
The changes made to the interest expense limitation rules could significantly impact the amount of net operating losses that could be created and utilized by a taxpayer. If a taxpayer, such as a C Corporation or individual, can now take an increased interest expense deduction related to their 2019 taxable year it, in can increase the net operating loss deduction that can ultimately be carried back five years.
Technical Correction Related to Qualified Improvement Property (QIP) Finally Pushed Through
It was a question that no matter where a tax accountant was, they would be asked. Have they fixed the issue with not being able to tax bonus depreciation on qualified improvement property? Now, we can answer yes!
As you probably already know, the TCJA had a significant error that placed QIP property as a 39-year property which made it ineligible for bonus depreciation, which was increased to 100% in 2018.
Under the CARES Act, qualified improvement property is included under the 15-year property listing under Section 168(e)(3)(E) and assigned a 20-year life under the alternative depreciation class life system. In addition, it adjusted the definition of qualified improvement property to mean any improvement made by the taxpayer to an interior portion of a building which is nonresidential real property if such improvement is placed in service after the date such building was first placed in service. The technical amendments are effective as if they were included in the original TCJA bill.
Modification of Limitation on Charitable Contributions During 2020
The CARES Act allows Corporations to deduction qualified contributions made after January 1, 2020 but before December 31, 2020, to the extent that the total amount of such contributions do not exceed 25% of the taxpayer’s taxable income (previously limited to 10%). The taxpayer will need to elect to have the increased percentage apply with respect to such contribution. In general, a qualified contribution means any charitable contribution as defined by IRC 170(c), paid in cash during the 2020 calendar year. A qualified contribution does not include contributions made to a private foundation or for the establishing of a new, or maintenance of an existing, donor-advised fund.
Exclusion for Certain Employer Payment of Student Loans
The CARES Act expanded the ability for an employer to pay an employee or lender, the principal or interest on any qualified education loan incurred by the employee for education and not have to include the payment as gross income to the employee. The payment must be made before January 1, 2021. The maximum exclusion of $5,250 under Section 127 still applies. Therefore, employers who do want to make payments of principal or interest for employees must include this new benefit plus any other education assistance provided to the employee allowed under the Section 127, when assessing if the $5,250 is exceeded.
As you can see there were a variety of significant business law changes made. We encourage you to reach out to professionals on your Bonadio service team to discuss the best approach for you and your business. Please continue to watch out for additional alerts coming out over the next few days regarding potential payroll tax credits and the ability to deferral payroll credits, as well as a separate alert that will provide insight regarding changes made to individual income tax law.
To help you navigate this constantly changing environment, The Bonadio Group will be conducting a webinar on Tuesday, March 31 to go over significant tax law changes made in the CARES Act. Please click below to register.
The information and advice we are providing for this matter relates to COVID-19 legislative relief measures. Because legislative efforts are still ongoing, we expect that there may be additional guidance and clarification from regulators that could modify some of the advice and information provided to you, after the conclusion of our engagement. We therefore make no warranties, expressed or implied, on the services provided hereunder.