Sickness and Taxes – Never a Convenient Time
4/13/2020 UPDATE: The IRS issued Notice 2020-23 on April 9, 2020, and announced that the deadline for making estimated tax payments for the second quarter 2020, due June 15, 2020, has been extended to July 15, 2020.
4/3/2020 UPDATE: On April 2, 2020, the Small Business Administration issued an interim final rule for the Paycheck Protection Program. In contrast to prior guidance concerning interest rates for this loan program, the interim final rule sets the interest rate on these loans at 1%. The interim final rule also provides certainty that a business cannot include payments it makes to an independent contractor as part of its payroll costs. Additionally, although the CARES Act provides a laundry list of items the Paycheck Protection loans can be used for, the interim final rule specifies that 75% of the loan must be used for allowable payroll costs and that 75% of the forgivable loan amount must have been used for payroll costs. Criminal penalties may be imposed if there are false representations made by the borrower, or if loan proceeds are used for unauthorized purposed.
Also on April 2, 2020, the SBA released standard operating procedures allowing loan applications to begin being processed on Friday, April 3. Unfortunately, many important questions remain on how payroll costs are to be defined and how affiliation rules are to be applied in grouping affiliates in a controlled group. Grouping determines how the 500 employee eligibility test is applies, whether to apply for one or more loans and how the funds should be allocated among affiliates. We understand that additional guidance is to be provided in the future, but have been given no projected date.
The Families First Coronavirus Response Act (FFCRA) and Coronavirus Aid, Relief and Economic Security Act (CARES Act) bring sweeping changes to business and tax at one of the least convenient times in U.S. history: a serious pandemic striking in the middle of tax season, with about half of the IRS furloughed for their own safety. A substantial number of the benefits are delivered through changes to the tax code, some retroactive to January 1, 2018, and administered by IRS. Others are administered through the SBA. This comprehensive plan will affect virtually every U.S. business and its employees. These acts are vital parts of the largest economic assistance package in the history of our nation, requiring cooperation between federal and state agencies.
Some of the acts’ economic benefits theoretically can be accessed immediately by applying for loans, tax credits and other quick payments. Many others will require filing amended tax returns, or will be deferred until 2020 tax returns are filed next year. Several require a choice among alternatives, like payroll tax credits, tax payment extensions and the forgivable SBA Paycheck Protection loans. Some benefits come with a catch that should be understood before applying. For example, not all forgivable loans will be forgiven. The U.S. government and states still have to work out many details in rules and regulations.
The purpose of this article is to highlight some of the major business and tax changes, provide initial observations and advocate proceeding with caution. Additional articles with deeper dives on specific topics are available on our web site. Stay safe and please reach out if you have any questions.
Income Tax Filing and Payment Extensions
All of the federal income tax, self-employment tax and estimated payment filing deadlines due April 15, 2020, have been extended to July 15, 2020. It is our understanding that these will not disrupt statutes of limitations on assessment that apply under existing law so long as the returns are filed by the normal due date. After that, the later filing date by the extended due date would define the statute of limitations on assessment. The same for Foreign Bank and Financial Accounts Report (FBAR) filings with the Financial Crimes Enforcement Network (FinCEN).
Federal tax payment extensions have been extended for federal income tax, self-employment tax and estimated payments to July 15, if due April 15, 2020. Here it gets a little trickier. Estimated payments due June 15, 2020, have yet to be extended, but we expect they will.
Extensions also apply to Section 965 repatriation taxes and payments.
Employer deposits of the employer’s share of FICA for the year can be spread out over two years, half due at the end of 2021, the other half at the end of 2022. Self-employment tax is similarly extended deferring only 25% to end of 2021 and 25% to the end of 2022. Neither of these extensions apply if the employer/self-employed business obtains a Payroll Protection Plan forgivable SBA loan.
Federal extensions apply to all persons, that includes natural persons, corporations, partnerships, LLCs, trusts and estates.
Other federal tax filings and payments have not been extended yet.
States have a variety of approaches in place. Ohio passed H.B. 197 that followed the federal extension of income, self-employment and estimated payment extensions to July 15. It also extended June 15 estimated payments to July 15. The Ohio Tax Commissioner issued a notice on March 20, 2020, extending school district tax, pass-through entity tax and all estimated tax payments due from individuals, trusts, estates and certain businesses to July 15, 2020. The commissioner also has authority to extend the May 11 CAT filing and payment.
Michigan issued Executive Order 2020-26 extending all state and city income tax filing and payment deadlines to July 15, 2020.
Many states adjourned their legislatures without acting. For situations not covered expressly by official action, we recommend filing a protective federal or state extension and paying a good faith estimate of the tax liability to the extent feasible. Some states will treat a federal filing extension as extending the state as well. For states that have not taken action, filing a federal extension, even though not required for federal purposes, may be needed in order to extend the state filing deadline.
Funded Unemployment and SUB Plans
The FFCRA provided $1 billion in funding for state unemployment benefits, with immediate qualification, and no charge back to employers. In addition, the CARES Act funds an additional $600 per week for up to four months. The states and the federal government currently are working out the administrative details.
Supplemental Unemployment Benefit Plans (SUB Plans) have been authorized by federal and state law for many years. Just like unemployment benefits paid by the state, the payment is not treated as FICA/FUTA/Medicare wages, but is subject to income tax. The employer is required to withhold only income tax, and makes no employer contribution. Usually a collectively bargained employee benefit, SUB Plans can be as simple as an employer’s agreement to supplement unemployment benefits as a condition of being unemployed, without regard to services rendered. Specific rules are provided by Revenue Rulings 90-72, 56-249 and CCA 201020018. These plans also must be consistent with state law; and the plan document, which can be as simple as a few paragraphs, may need to be approved by a state agency. Otherwise the state is likely to set off employer payments against state payments and request a refund of benefits already paid.
The author, with team of Eastman & Smith attorneys, has developed a prototype plan and is working to obtain approval on an emergency basis from the State of Ohio, to be used by any employer desiring to help its employees through this crisis. For other states, the process may not require prior state approval. Michigan appears to be one of these (see Michigan Compiled Laws Annotated 421.44).
Payroll Tax Credits & Payroll Protection Plan Loan Program
To assist employers willing to keep employees on the payroll, the combined acts provide Payroll Tax Credits; and in the alternative, a forgivable Payroll Protection Plan loan. To avoid double benefits, wages of an employee can only be used for one purpose.
Under the FFCRA, an Emergency Paid Sick Leave (EPSL) credit for up to 80 hours of paid sick time is available to employers with fewer than 500 employees for full time employees (prorated for part time employees). Self-employed persons also qualify. Amounts are as follows:
- $511 per day, and $5,110 in aggregate, for paid sick time used by employee who experiences symptoms of COVID-19 or is required or advised to self-quarantine; or
- $200 per day, and $2,000 in aggregate, for paid sick time used by an employee to care for the employee's child or other impacted person.
Under the CARES Act, an Employee Retention Credit (ERC) is available to employers who are in business at the beginning of 2020, with respect to wages of employees not used for an EPSL credit. The business must be fully or partially closed or restricted during a quarter by governmental authority, or in the alternative if gross receipts are less than half the receipts of the same quarter of the prior year. Tax exempt organizations under Internal Revenue Code (IRC) 510(c) also qualify under modified rules. The credit is 50% of qualified wages per quarter, subject to a $10,000 wage cap. Maximum credit is $5,000 per employee, per quarter. There is also a quarterly cap of 100% of the employer’s quarterly payroll, reduced by any EPSL payroll tax credits.
Guidance released jointly by the IRS and Department of Labor in IR 2020-57 directs employers to set off the credit against all payroll taxed during the quarter on Form 941. Any balance of EPSL credits are available for a quick payment from IRS upon request. Although released prior to passage of the CARES Act, given the similarity in statutory language, we expect that ERC credits also will be set off against quarterly 941 payments. (For further information, see the related article on our web site.)
Also under the CARES Act, employers can access a share of $349 billion of SBA 7(a) guaranteed, low interest, no-fee loans. They will have to choose between using wages in connection with the aforementioned payroll tax credits, however for the right employers, the benefits can be more and more flexible. Participation in this program restricts employer participation in the Business Interruption Loan program, another benefit under the acts.
Any business or nonprofit that employs less than 500 employees and can certify that it has been impacted by the economic conditions associated with the pandemic is eligible. The maximum amount of the loan offered under this program is the lesser of:
- $10 million; or,
- The average monthly payments for payroll costs that include salaries and wages, tips, vacation/family/medical/sick leave, severance, heath care and retirement benefits and state or local taxes on such wages, for the one-year period before requesting the loan, multiplied by 2.5.
These loans are forgivable; meaning that if the rules are followed, some or all of the principal is forgiven, without the forgiveness being taxable income. Interest and principal are deferred until the end of the year. Any amount not paid or forgiven by the end of 2020 will be amortized over a period up to 10 years with interest no greater than 4%. The funds can be used for any of the following, and to be forgiven, must be spent over the eight-week period following the origination of the loan.
- payroll costs as defined above, including sick, medical, family leave and continuation of employee-related health care costs;
- employee salaries;
- mortgage payments;
- rent payments;
- utilities; and,
- interest on other debt obligations incurred before the covered period.
In general, the amount of debt eligible for cancellation is equal to the total payroll costs for employees plus all payments made on any pre-existing debts during the period from February 15, 2020, through June 30, 2020. However, payroll cost for any employee compensation above $100,000 is not eligible for reduction.
The amount forgiven also is reduced based on the average number of employees over the 8 week period following loan origination compared to the average number of employees during either: (i) 2/15/19 – 6/30/19; or (ii) 1/1/20 through 2/29/20, or for a reduction of employee salaries of more than 25% (excluding those making over $100,000).
The following provisions were changed retroactively, some to the effective date of the Tax Cuts and Jobs Act of 2017 (TCJA). They either provide for tax refunds to distressed businesses, or as in the first example, corrects a drafting error that also should result in refunds. Returns due for 2019 that have yet to be filed should take these changes into effect, as we anticipate a logjam of amended returns will lengthen the time between filing and refund.
- Qualified Improvement Property under IRC 168(k) is now grouped with other property qualifying for 15-year depreciation and a complete write off in the year purchased as bonus depreciation. This includes interior improvements to certain nonresidential buildings, certain leasehold improvements, qualified restaurant property and qualified retail improvement property.
- Corporate Net Operating Loss Carrybacks The CARES Act allows a five-year carryback of losses incurred during 2018 through 2020. The five years includes short stub years as full years for this purpose. An 80% cap on the amount of net operating loss usable against income of a year was eliminated from 2018 through 2021.
- Noncorporate Excess Business Loss cap of $250,000 (single), $500,000 (married filing jointly) of losses that can be deducted in a year was removed for 2018 – 2020 but picks back up in 2021. IRC 461(1)
- Business Interest Deduction limitation under IRC 163(j) to 30% of adjusted taxable income has been increased to 50% of taxable income for 2019 and 2020. For 2020, a taxpayer may use 2019 adjusted taxable income if desired.
- Credit for Alternative Minimum Tax The TCJA abolished the corporate alternative minimum tax (AMT) starting in 2018 but permitted corporations to use AMT credits from earlier years to offset their regular tax liability and treat a portion of the credits as refundable in 2018 to 2021. Under the CARES Act, corporate AMT credits are fully refundable starting in 2019, and corporations can elect to claim the entire refundable credit amount in 2018. The Act instructs the IRS to process any refund claims within 90 days of filing.
Other Liquidity and Incentives
The acts, CARES Act in particular, contain many other loans, liquidity injections and incentives for businesses and philanthropists to maintain families and businesses until the emergency is better in hand. Following are a select few. More are summarized in additional articles posted to the Eastman & Smith Ltd website.
- Personal Cash Payments will be sent in 2020, $1,200 to individuals, $2,400 to joint taxpayers, plus $500 per qualifying child. There are income-based phase outs that eliminates payments to individuals with $99,000 of income, $198,000 joint taxpayers.
- Charitable contributions during 2020 will allow a $300 above the line deduction for individuals. Itemizers will see the 60% adjusted gross income cap on deductions increased to 100%. Corporate limitations increase to 25% of taxable income
- Student loan payments are suspended through September 30, 2020. Interest is reduced to 0% for this period. The balance still is outstanding, and interest will accrue thereafter. This applies to federal student loans only, such as direct loans that are owned by the federal government. It does not apply to private student loans.
- 401(k)/IRA hardship withdrawals are permitted for coronavirus-related distributions of up to $100,000. The 10% early distribution penalty for those under 59 ½ is waived. Taxpayers can choose to pay the income tax over 3 years or treat the distribution as a rollover and pay it back over the same 3-year period.
- Required minimum distribution requirements of qualified plan participants 70 ½ and older are waived for 2020. Participants do not have to sell securities at a loss in order to make these distributions.
Many of the combined acts benefits have been written into the tax code, to be administered by the IRS. While the family and business needs for economic relief is immediate, approximately 50% of the IRS staff is furloughed. Those who can operate remotely are. At least two Service Centers have closed. Under the People First Initiative dated March 25, 2020, certain IRS Collection and Audit Practices have been suspended until July 15, 2020. These include:
- Installment Agreement, Direct Deposit, and Offers in Compromise payments. Interest continues to run;
- Liens and levies by field revenue officers;
- Passport cancellation certifications to U.S. State Department;
- Private debt collection, new accounts; and
- Field Office and Correspondence Audits, except for unique circumstances.
IRS Appeals continues to operate remotely.
The combined acts provide a myriad of programs to distressed businesses and employees. This complex legislation provides benefits greater than any relief program in the nation’s history, and will require regulations, rules and other guidance in the coming weeks. The legislative intent to provide relief is clear and unmistakable, and should lead the IRS and SBA to construe ambiguities accordingly. Nevertheless, delivery of the intended benefits will ultimately rely upon the ability of the reduced government staff to deliver. Should you have any questions regarding these programs, please contact one of our tax attorneys.
At the date of publication the above information was correct. It is quite possible the information above has changed as COVID-19 is a rapidly evolving situation.
The article in this publication has been prepared by Eastman & Smith Ltd. for informational purposes only and should not be considered legal advice. This information is not intended to create, and receipt of it does not constitute, an attorney/client relationship.