Due to the weather, our physical offices will be closed Wednesday, 2/15; however, our we will be serving clients remotely. Please contact us via phone or email. Our physical offices will reopen for regular business hours on Thursday, 2/16. Please stay safe and warm.
Due to the weather, our physical offices will be closed Wednesday, 2/15; however, our we will be serving clients remotely. Please contact us via phone or email. Our physical offices will reopen for regular business hours on Thursday, 2/16. Please stay safe and warm.
As 2020 draws to a close, we would like to remind you that this year-end may not be the same as 2019 when it comes to payroll taxes and compensation and benefits matters. This alert highlights various areas of change and what employers should be focusing on.
New Form for Reporting Non-Employee Compensation
A new form (Form 1099-NEC) is to be used to report 2020 non-employee compensation, replacing Form 1099-MISC. Entities of all sizes and types that would typically provide a Form 1099-MISC to independent contractors and the IRS need to be aware of new IRS Form 1099-NEC. Persons who paid income to non-employees during 2020 must provide the income recipient with a Form 1099-NEC and the form must be submitted to the IRS no later than January 31, 2021. Form 1099-MISC will continue to be used to report payments of certain royalties, rents, prizes and other payments of income (other than non-employee income). The form has been redesigned, so entities that use Form 1099-MISC should expect that reporting may differ somewhat from past years.
W-2 Reporting of FFCRA Qualified Sick and Family Leave Wages
Employers with 500 or fewer employees may wish to review IRS Notice 2020-54 (issued in July 2020) regarding how to report on employees’ 2020 Form W-2 the amount of mandatory, federal paid sick and family leave that the employer paid to employees under the Families First Coronavirus Response Act (FFCRA). Employers must report such wages on Form W-2 or on a separate statement, even though the employer’s out-of-pocket cost is zero after the employer receives federal payroll tax credits. The reporting requirement can be satisfied via Form W-2, Box 14 or on a separate statement.
Discriminatory Flexible Spending Accounts
Entities with health care or dependent care flexible spending accounts (FSA) that usually operate in a nondiscriminatory manner might be surprised by 2020 nondiscrimination testing if the highly compensation employees (HCE) had disproportionate usage of those benefits due to COVID-19 changes in work arrangements. For example, perhaps HCEs continued to pay third parties to care for their children while rank and file employees working from home did not, causing the average benefit provided to non-highly compensated employees to fall below the 55% level that is required to avoid taxation to the highly compensated employees. The results of discriminatory FSA can result in taxable compensation reportable on the HCE’s 2020 Form W-2.
Personal Credits for Unused Nonrefundable Airline Tickets
During 2020, many employees obtained nontransferable credits from airlines for nonrefundable airline tickets that were originally purchased for a business trip that was canceled due to the coronavirus pandemic. Since the employee now has a personal credit with the airline that can only be used by the employee, employers may wish to consider whether they should tax this as property transferred to the employee in connection with the performance of services under Internal Revenue Code (IRC) Section 83, since the employee has unrestricted use of the airline credit (i.e., use of the credit is not limited to a business purpose). The answer depends on the facts and circumstances of the situation, so please contact your local advisor for more information.
COVID-19 Qualified Disaster Payments to Employees
Generally, anything of value that an employer provides to an employee is deemed to be taxable wages to the employee, unless an exception applies. Since COVID-19 was declared a national emergency on March 13, 2020, employers can use IRC Section 139 to make tax-free, tax-deductible “qualified disaster payments” to employees. Such payments can be made on tax-free basis until the national emergency is lifted.
With respect to COVID-19, employers can pay for, reimburse or provide in-kind benefits reasonably believed by the employer to result from the COVID-19 national emergency that are not covered by insurance. For example, employers could pay for, reimburse or provide employees with tax-free payments for over-the-counter medications, hand sanitizers, home disinfectant supplies, child care or tutoring due to school closings, work-from-home expenses (e.g. setting up a home office, increased utilities expenses, higher internet costs, printer, cell phone, etc.), increased costs from unreimbursed health-related expenses and increased transportation costs due to work relocation (such as taking a taxi or ride-sharing service from home instead of using public mass transit).
There is no Form W-2 or Form 1099 reporting for IRC Section 139 payments.
Due to COVID-19, many employees canceled vacations, doctors’ appointments, planned medical procedures, etc., leaving them with unused but accrued paid time off (PTO). Some employers allow employees to donate unused PTO to other employees who may need it. If not handled correctly, both the donating employee and the recipient employee may have taxable income. However, if IRS rules are followed, employers would not include the donated PTO in the donor’s Form W-2 but would include it in the recipient employee’s 2020 Form W-2. Also, Notice 2020-46 provides that cash payments that employers make to charities that provide relief to COVID victims in exchange for employees forgoing PTO are not taxable wages for the donor-employees and would not be included in the donor’s 2020 Form W-2.
Higher Imputed Income for Personal Use of Company Cars
Personal use of a company car is imputed wage income for an employee. Employers can choose not to withhold federal income tax if the employee is properly notified by January 31 of the election year or 30 days after a vehicle is provided and the value is properly reported on a timely filed Form W-2. However, employers must withhold FICA taxes on such benefits.
Due to COVID-19 restrictions during 2020, some employees who use company cars may have experienced an unexpected shift in the percentage of business versus personal use of company-provided vehicles. As a result, some employees may have significantly higher imputed income because the company car was not used as much for business during 2020. For example, if the company car was parked at the employee’s home (even if unused), the employee had personal use of the car for the period of time that the car was not used for business. This may come as a surprise to many employers and employees. The IRS has not yet published any relief that would change the normal imputed income inclusion rules for these circumstances.
Employer-Paid Student Loan Debt
During 2020, the CARES Act allows employers to pay up to $5,250 of their employees’ student loan debt and not treat such payments as taxable wages. The payments can only be made under a non-discriminatory, written tuition assistance plan that complies with IRC Section 127.
Year-End Employee Benefit Plan Elections
Due to COVID-19 uncertainties, employees should carefully consider irrevocable elections that may have to be made by year-end with respect to certain 2021 employee benefits, such as health and welfare benefits provided under a flexible benefits plan (also known as a “cafeteria” plan under IRC Section 125). These elections could include dependent care flexible spending accounts or health care flexible spending accounts (both of which have “use it or lose it”) rules. Employees should also consider whether any adjustments are needed to their qualified transportation fringe benefit elections for tax-free payments of parking, mass transit or other commuting benefits available under IRC Section 132(f). Although those elections can generally be changed monthly, year-end is a good time to carefully review any elections that employees may have in place.
Payroll Tax Deferrals
The CARES Act allows employers to defer the deposit of the employer’s share of FICA on wages earned from March 27 to December 31, 2020, with 50% of the deferred amount required to be repaid by December 31, 2021 and the other 50% repaid by December 31, 2022. A presidential executive order allows employers to defer deposit of the employee’s share of FICA on wages earned from September 1 to December 31, 2020, with repayment due ratably from January 1 to April 30, 2021. Both deferral opportunities expire on December 31, 2021, so employers should ensure that regular FICA tax withholding and deposit rules apply to wages earned on January 1, 2021.
THE 2020 TAX PLANNING PARADOX – ACCELERATE INCOME TO LOWER YOUR TOTAL TAX LIABILITY
As 2020 winds down, it’s time to consider year-end planning. It’s an unusual year, with taxpayers experiencing losses due to the economic downturn and the possibility of higher income tax rates next year. Consequently, we need to rethink the traditional year-end advice of deferring income and accelerating deductions to minimize one’s total tax liability over the years. Accelerating income in 2020 has several advantages. First, the Tax Cuts and Jobs Act reduced the maximum individual tax rate from 39.6% to 37%. Second, many taxpayers will be in a lower tax bracket this year from losses incurred in this economic downturn. Third, accelerating income increases a taxpayer’s adjusted gross income (AGI) limitation for charitable contributions. The CARES Act suspends the traditional 60% AGI limitation and permits individual taxpayers to take a charitable contribution deduction for qualifying cash contributions made in 2020 to the extent such contributions do not exceed the taxpayer’s AGI.
Here’s a rundown of some ways to accelerate income in 2020.
Assets held in traditional IRAs have several disadvantages compared to assets held in Roth IRAs: Distributions in excess of basis are taxable as ordinary income, required minimum distributions must begin once a taxpayer reaches age 70½ (72 for taxpayers who attain age 70½ after December 31, 2019), and early withdrawals before age 59½ are subject to a 10% penalty unless one of several exceptions apply.
One way to mitigate these disadvantages while accelerating income in 2020 is to convert the traditional IRA to a Roth IRA. In doing so, the taxpayer will accelerate the ordinary income tax liability that would otherwise be due upon distribution had the assets remained in the traditional IRA. Conversion in 2020, while the asset values are likely to be temporarily lower than normal, reduces the tax liability while allowing the future recovery in value plus all appreciation to avoid taxation. The earning power of the account is maximized because there will be no required minimum distributions during the taxpayer’s lifetime (heirs will be subject to the required minimum distribution rules). While the income taxes have been paid on the converted amount, distributions from the converted amounts only remain subject to the 10% early withdrawal penalty for five years unless the taxpayer has attained age 59½.
The earnings and appreciation on the account can be distributed tax and penalty-free, provided the account is at least five years old and the IRA owner is at least 59½. Other distributions qualifying for tax-free treatment include those (i) made to a beneficiary (or estate) after the death of the Roth IRA owner, (ii) made due to the Roth IRA owner’s disability, or (iii) made under first-time homebuyer exception.
The installment sale rules require taxpayers who sell property where at least one of the payments will be received in a subsequent taxable year to recognize a portion of the gain as each payment is received. By electing out of the installment method, a taxpayer may recognize the entire gain in the year of sale. The election must be made on a timely filed return (including extensions) and is irrevocable once made.
The Tax Cuts and Jobs Act permitted taxpayers to defer tax on capital gains invested in a qualified opportunity fund (QOF) until the earlier of an inclusion event or December 31, 2026. Presidential candidate Joe Biden has proposed subjecting capital gains to a 39.6% ordinary income tax rate for those taxpayers with over $1 million in income. Thus, there exists the possibility that a deferral until December 31, 2026, will result in a capital gains tax on the deferred gain at a rate of 39.6% instead of the current 23.8%. Inclusion events include a gift, disposition or sale of the QOF. In addition, for those QOFs held in a grantor trust, the termination of the grantor trust status for reasons other than the death of the grantor is also an inclusion event.
Harvesting capital gains is an ideal strategy to hedge against a future increase in the capital gains tax rate. Here, a taxpayer can increase their cost basis by selling an appreciating investment and then use the sales proceeds to repurchase the same or a similar investment. While the sale will realize a taxable gain, the repurchase of the investment will provide a stepped-up cost basis and later yield a lower gain when the investment is sold in the future – when the capital gains tax rate is higher. The wash sale rules, which dissuade harvesting tax losses, do not apply to harvesting capital gains.
The Tax Cuts and Jobs Act limited the nonrecognition of gain from like-kind exchanges to exchanges of real property not primarily held for sale. When a transaction qualifies as a like-kind exchange, nonrecognition treatment is mandatory. To avoid the imposition of the like-kind rules, a taxpayer merely needs to actually or constructively receive cash or other boot in the transaction. For deferred gains on prior like-kind exchanges, taxpayers can trigger the gain recognition by selling the replacement property.
Nonqualified stock options (NQSO) are a useful tool for taxpayers who are looking to accelerate income because they generate taxable compensation equal to the fair market value of the shares less the exercise price when exercised. Employees may be offered the ability to defer their income tax liability on the exercise by making a Section 83(i) election. The Section 83(i) election is a useful cash conservation strategy that allows an employee to exercise more options before additional appreciation drives up the amount taxed as ordinary compensation without an immediate cash outlay for income taxes. However, the election to defer will not be useful to those looking to accelerate income to the current year for tax planning purposes.
Incentive stock options (ISO) are taxed upon disposition of the ISO shares rather than upon exercise of the option. The sale proceeds minus the exercise price of ISO stock are taxed at capital gain rates, provided the sale occurs not sooner than 1 year after exercise and 2 years after grant of the option. Earlier dispositions of the ISO shares generate taxable compensation equal to taxation as a NQSO, with any excess gain taxed as capital gains.
Restricted stock awards are generally taxed to the employee when the shares vest unless the employee elects to be taxed upon receipt of the unvested shares by making a Section 83(b) election.
C corporations are well-known for their “double taxation” concept. That is, a C corporation is taxed on its earnings, and any dividend paid from the C corporation’s earnings are also taxable to the shareholder while not being deductible to the corporation. To avoid the second layer of tax, shareholders often cause the C corporation to retain earnings rather than distribute dividends. However, shareholders may find the low tax rates and losses in 2020 an ideal time to pull cash out of their C corporations by taking dividends.
The opportunity zone program was created through the passage of tax reform in 2017, also known as the Tax Cuts and Jobs Act (P.L. 115-97). Over $10 billion dollars have been deployed into qualified opportunity zone investments. While the investment has slowed, COVID-19 and additional guidance has created renewed interest in utilizing this program to assist with underserved communities and to provide tax relief for investors. Discussions and drafts of proposed bills would extend the program and provide other favorable provisions to investors. As a result, planning opportunities exist for new investments into the program, as well as for current investments.
Treasury and the IRS released final regulations and proposed regulations at the end of 2019. Additional guidance has been released in the form of correcting amendments, Notice 2020-23, and Notice 2020-39.
In Notice 2020-39 the IRS provided relief to qualified opportunity funds (QOFs) and their investors in response to the COVID-19 pandemic. Additionally, the IRS has updated its Qualified Opportunity Zones frequently asked questions. The guidance provided the following relief:
2020, through December 31, 2020, will be considered to be due to reasonable cause and that the failure will not prevent qualification of an entity as a QOF or an investment in a QOF from being a qualifying investment. The QOF will not be liable for the statutory penalty for any failures to meet the asset testing during this period. The QOF, however, must complete all lines on the annual filing of the Form 8996 – Qualified Opportunity Fund. This relief is automatic. If this exception applies, the taxpayer should place a zero in Part IV, line 8, “Penalty” on this form.
The Treasury Department and the Internal Revenue Service recently issued correcting amendments to the opportunity zone final regulations under Section1400Z, that were previously released on December 19, 2019. The correcting amendments are effective on April 1, 2020, and, are applicable as of January 13, 2020. While there were numerous changes, the following provides a summary of the key provisions.
The correcting amendments further provide language that appears to state that during a working capital safe harbor period, an entity meets the 70% tangible property standard. Under this interpretation, the 70% tangible property standard would be suspended during the safe harbor period. As such, non-QOZB property (i.e., bad assets) would not impact the asset requirement. This provision is very beneficial for start-up entities.
Further, the correcting amendments clarify that working capital itself is never treated as QOZB property for any purpose. It is not included in determining the 70% tangible property standard.
A QOF that receives an investment before June 30, 2020, will be required to invest those funds within six months, or December 31, 2020. If a QOF delayed the receipt of those funds until sometime in July 2020, then the QOF will have until June 30, 2021, to invest those funds into qualified opportunity zone property. The testing is done every six months and the investment is given six months to be deployed, so there would be no issue with the December 31, 2020, testing. The next testing period will be June 30, 2021. Planning the receipt of funds is important and provides some flexibility.
Many investors sold stock in reaction to COVID-19 to reap the capital gains. As a result, investors may have capital gains available to invest. Previously, some investors did not like the 10-year required holding period required to escape taxation on the gain during the time of the investment in the QOF. During this time of market uncertainty, the 10-year investment holding period may be more appetizing. The 10-year period may leap frog this uncertainty period. As a result, investors are looking at real estate projects and other businesses that may not have been previously considered. QOFs should be prepared to receive these funds that will likely expire in late summer or early fall.
The final regulations provided that the “original use” provision does not apply to property that has been vacant for three years, if it was bought by the QOF after 2018. The “original use” test would have required the investor to substantially improve the property. This is not required for these vacant properties, which would eliminate the significant funds required for substantial improvements. A building or land meets the rule of being vacant if 80% of its usable space is empty. As such, a large property that is still 20% leased would likewise be exempt from the “substantial improvement” rule. Additionally, buildings acquired directly from the government through bankruptcies or tax sales would not have to be substantially improved. There will likely be numerous abandoned, foreclosed, and government tax sales properties in opportunity zones as a result of COVID-19. These properties may now be more attractive due to the elimination of the “substantial improvement” requirement.
The CARES Act permits NOLs from 2020 to be carried back five years to offset taxable income. This can be particularly valuable if it is carried back to a year with a pre-tax reform tax rate (e.g., 35% for corporations). As such, investors want to increase the NOL in 2020. Taxpayers may wish to defer the gross (not net) capital gains by investing in a QOF, even in a loss year.
Under the final regulations, investors do not need to net Section 1231 gains with Section 1231 losses. As such, investors do not need to wait until year end to invest in opportunity zones. Rather, an investor can invest the capital gain on the sale of business property into a QOF, while maintaining the loss amount separately. Accordingly, the Section 1231 loss, to the extent that it can create a NOL, can be carried back for five years, generating cash refunds (especially if it is at a pre-tax reform rate).
Property acquired and placed in service between September 27, 2017, and December 31, 2022, is eligible for 100% bonus depreciation. The CARES Act corrected the depreciable life of QIP from 39 years to 15 years. QIP is now bonus-eligible property. Pursuant to the opportunity zone final regulations, there is no bonus recapture. If the property is held for the 10-year period, an investor may create a permanent tax benefit. As a result, cost segregation studies for non-commercial property are extremely valuable. You would get the deductions for bonus depreciation with no recapture and the step up in basis at the end of the 10-year holding period. If the QOZB elects to be a real property trade or business to prevent the Section 163(j) limitation, then bonus depreciation is not permitted. However, QIP would be reduced from a 39-year life to a 20-year life, which still provides tax benefits to the investors. Bonus depreciation may likewise result in NOL carrybacks that could be extremely valuable.
The final regulations also allow a QOZB to extend the 31-month period for project delays resulting from government approvals. Many government entities are limiting services. As such, any delay in permits or other approvals should be documented.
With COVID-19 and the resulting financial crisis, the Qualified Opportunity Zone program is a valuable tool for purposes of revitalizing distressed communities. Some state plans have already utilized the infrastructure of the program for their own investment incentive programs. Opportunity zones can assist in producing public-private partnerships that are critical for the recovery of distressed communities and will be needed for an increase in affordable housing and mixed-use projects, as well as job creation. Congress could provide additional incentives during this time of uncertainty to bring in additional capital investments. How Congress enhances the opportunity zone program will likely impact its durability. Funding for underserved communities is more important than ever and the opportunity zone program may be a key tool to revitalize these communities and the economy.
Stockman Kast Ryan + Co, LLP (SKR+CO), the largest locally-owned certified public accounting firm in Southern Colorado, announces the hiring of Phillip Young as chief financial officer (CFO). In this newly created position, Phillip will work closely with the Partner group on Firm-wide strategy in support of sustainable growth and strategic planning.
Phillip brings more than a decade of experience providing both the strategic vision and the daily oversight of professional firms’ operations, finance and accounting departments, with an emphasis in personal injury law firms operations and finance.
“Phillip brings a wealth of experience in professional services firms,” shared SKR+CO Managing Partner Trinity Bradley-Anderson. “His background in finance and operations will serve as a strategic addition to the SKR+CO team.”
Prior to joining SKR+CO, Phillip was the chief operating officer/chief financial officer at Carter Mario Law Firm in Milford, Connecticut. Phillip formerly lived in Colorado Springs, Colo when he worked as CFO/VP Administration for McDivitt Law Firm.
Phillip has a Bachelor of Science in accounting from University of North Carolina Wilmington.
The full impact of COVID-19 is unknown. While we wait for questions to be answered many are asking what can we do right now? What’s next for our families? What’s next for family businesses and the people who work for them? Planning for our future generations is the greatest gift we can give, particularly during times of uncertainty.
Many closely-held businesses have been impacted by the COVID-19 pandemic, leading to depressed company valuations. The current federal estate, gift, and generation-skipping transfer (GST) tax exemption is $11.58 million per person. That, coupled with the low AFR and Section 7520 rates, provides an opportune time to transfer wealth out of estates without using up exemptions.
There are estate tax planning techniques that can be implemented which transfer the greatest amount of value from an estate while using the least amount of exemption. Transferring assets while they have a low value is a technique that is used to lock-in or freeze those low values in anticipation the asset will one day significantly increase in value. This transfers the appreciation in excess of the frozen value out of the estate with the added benefit of preserving the exemption for additional transfers.
Estate Planning Strategies
A grantor retained annuity trust (GRAT) is a powerful technique that allows a transfer of assets to a trust, in exchange for an annuity over a fixed term of years. After the annuity is paid off the assets transferred are owned by the trust for the benefit of the trust beneficiaries, normally the children.
A transaction can be structured to create a “zeroed-out” GRAT, where the annuity is structured in a manner so that the transaction does not produce a taxable gift. The calculation of the GRAT annuity payment is based on the Section 7520 rate in effect at the time of the transfer (for June 2020, the Section 7520 rate is 0.6%), thereby allowing more value to be transferred to the trust without using the exemption.
When transferring assets to the next generation, families are concerned about transferring too much to the younger generation, creating cashflow constraints and transfers that do not use their exemption in an effective manner. The zeroed-out GRAT can achieve financial stability, optimal estate tax results and flexible estate planning options. This simple, effective and time-tested strategy can achieve:
An intentionally defective grantor trust (IDGT) is an effective and efficient technique to transfer assets to a trust for future generations. Once the assets are gifted to the trust, they are considered taxable gifts and property of the trust. Those assets can remain in trust for multiple generations, allowing the gift to benefit both children and grandchildren, if desired.
The transaction can be structured as a sale of assets to an IDGT in exchange for a promissory note. This structure is typically an alternative to the aforementioned GRAT. However, this sale is not considered a taxable gift and does not create any gain for income tax purposes. The IDGT promissory note payment is based off the AFR in effect at the time of the transfer (for June 2020, the long-term AFR is 1.01% for promissory note terms longer than nine years), allowing more value to be transferred without using your exemption.
A sale to an IDGT is typically more successful than funding a GRAT as the AFR rate used as the interest rate in the promissory note is generally lower that the Section 7520 rate used to value GRATs. The promissory note can also be structured as an interest-only note with a balloon payment upon maturity, whereas a GRAT must be structured as an annual annuity. Moreover, sales to an IDGT allow for the immediate allocation of GST exemption. With a GRAT, the grantor cannot allocate GST exemption until the end of the GRAT term.
The sale to an IDGT can achieve financial stability, optimal estate tax results, and multigenerational estate planning options. This efficient, effective and time-tested strategy can achieve:
Giving money to a family member in excess of the annual exclusion ($15,000 in 2020) will be a taxable gift. A simple way to provide cash to a family member is to make a loan to them. Historically, if the loan has an interest rate of at least the AFR, the IRS will respect the loan and not claim the transaction to be a gift. With the historically low AFR, cash can be loaned to a family member without creating a burden from charging the family member a high interest rate. June 2020 AFR rates are at historic lows (June 2020 short-term AFR is .18% which applies for terms less than three years, mid-term AFR is 0.43% for terms three years through nine years, and long-term AFR is 1.01% for terms longer than nine years).
The intra-family loan achieves financial stability, optimal estate tax results, and cashflow. This simple, effective and time-tested strategy can achieve:
Planning for the future is not a task to be taken lightly, even in the best of times. During times of uncertainty it becomes even more important. The three estate planning strategies summarized above provide options.
Conclusion: The zeroed-out GRAT is an effective strategy to take advantage of the increased exemption, low Section 7520 rate, and current economic environment. These three factors significantly increase the amount of wealth a family can transfer to the next generation while using a minimal amount of their exemption. Alternatively, a sale to an IDGT can be an effective strategy to transfer wealth to multi-generations and take advantage of the extremely low AFR. Finally, low interest intra-family loans allow families to provide liquidity to various family members without overburdening the family with onerous interest payments.
The Paycheck Protection Program Flexibility Act of 2020 (H.R. 7010) (PPP Flexibility Act), enacted on June 5, 2020, makes welcome changes to the forgiveness rules for Paycheck Protection Program (PPP) loans made to small businesses in response to the novel coronavirus global pandemic (COVID-19). The PPP Flexibility Act greatly increases the likelihood that a large percentage of a borrower’s PPP loan will be forgiven. PPP loans (and related forgiveness) were created by the Coronavirus Aid, Relief, and Economic Security Act (CARES Act) (Public Law 116-136), which was enacted on March 27, 2020. The PPP Flexibility Act also eliminates a provision that made recipients of PPP loan forgiveness ineligible to defer certain payroll tax deposits.
The PPP Flexibility Act does not address whether employers can deduct the expenses underlying their PPP loan forgiveness. In Notice 2020-32, the IRS announced that employers could not deduct such expenses, but congressional leaders vowed to reverse the IRS’s position in future legislation. On June 3, Chairman of the House Ways and Means Committee, Richard Neal (D-MA), said that in the next COVID-19 stimulus bill he intends to clarify that the loan forgiveness expenses are tax deductible. But negotiations on that bill are still in the early stages.
PPP Loan Forgiveness Expanded
The PPP Flexibility Act makes the following changes:
1. Extends the “covered period” for PPP loan forgiveness from eight weeks after loan origination to the earlier of (i) 24 weeks after loan origination or (ii) December 31, 2020. Borrowers who received their loans before this change can elect to use their original or alternative payroll eight-week covered period.
In connection with passing the PPP Flexibility Act, a Statement for the Record was issued by several Democrats and Republicans in the House and Senate, clarifying that the Small Business Administration (SBA) will not accept applications for PPP loans after June 30, 2020. The statement says: “Our intent and understanding of the law is that, consistent with the CARES Act as amended by H.R. 7010, when the authorization of funds to guarantee new PPP loans expires on June 30, 2020, the SBA and participating lenders will stop accepting and approving applications for PPP loans, regardless of whether the commitment level enacted by the Paycheck Protection Program and Health Care Enhancement Act has been reached.” Given this affirmation, very few loans will have fewer than 24 weeks as a covered period.
2. Replaces the June 30, 2020, date for the rehire safe harbor with December 31, 2020.
Additional guidance is needed to determine if a borrower who elects their original or alternative payroll eight-week covered period would also retain the June 30, 2020, date for the rehire safe harbor.
3. Expands the rehire exception based on the non-availability of former employees and applies that exception when the need for workers is reduced to comply with COVID-19 standards. Specifically, PPP loan forgiveness would not be reduced due to a lower number of full-time equivalent (FTE) employees if:
4. Allows up to 40% of the loan proceeds to be used on mortgage interest, rent or utilities (previously such expenses were capped at 25% of the loan proceeds), while at least 60% of the PPP funds must be used for payroll costs (down from the 75% that was noted in SBA guidance). This applies even if the borrower elects to use the eight-week covered or alternative payroll covered period. If the borrower does not use at least 60% of the loan on payroll costs, then it appears that no forgiveness would be available (i.e., the 60% would be a “cliff,” even though it was previously unclear whether the 75% limit would allow for partial loan forgiveness for payroll costs of less than 75% of loan proceeds).
Some members of Congress are considering a “technical correction” that would provide that the new 60% limit is not a “cliff” (thereby allowing partial loan forgiveness if less than 60% of PPP loan proceeds are used for payroll costs).
5. Provides a five-year term for all new PPP loans disbursed after June 5, 2020. Loans disbursed before that date would retain their original two-year term unless the lender and borrower renegotiate the loan into a five-year term.
6. Changes the six-month deferral period for loan repayments and interest accrual so that payments on any unforgiven amounts will begin on either (i) the date on which loan forgiveness is determined or (ii) 10 months after the end of the borrower’s covered period if forgiveness is not requested.
Although the PPP Flexibility Act doesn’t clearly say as much, it appears that the $100,000 maximum on cash compensation paid to any one employee that is eligible for PPP loan forgiveness would continue to apply, such that the $15,385 cap (for eight weeks) would now be $46,153 (for 24 weeks).
The PPP Flexibility Act does not address whether the loan forgiveness cap for “owner-employees” (i.e., 8/52 of their 2019 compensation) would change to 24/52 of their 2019 compensation.
Notwithstanding some commentary that has been released, the statute does not appear to allow borrowers to request PPP loan forgiveness as soon as they spend all of their PPP funds in the ninth to 24th weeks following receipt of their PPP funds. That is because the CARES Act has been amended to substitute “24 weeks” for “eight weeks,” so absent additional guidance, it seems that borrowers must wait until the end of the 24-week period to request PPP loan forgiveness, unless they elect to use the original eight-week period (regular or alternative payroll covered period).
These changes garnered nearly unanimous, bipartisan support in both the House and Senate because the CARES Act assumed that most businesses would be up and running in a matter of weeks. But more time is needed to incur forgivable costs, because many businesses are at or near the end of their initial eight-week loan forgiveness period, yet they remain partially or fully suspended by governmental orders.
Payroll Tax Deferral Expanded
In addition to PPP loan changes, the bill allows all employers, even those with forgiven PPP loans, to defer the payment of 2020 employer’s Social Security taxes, with 50% of the deferred amount being payable by December 31, 2021, and the balance due by December 31, 2022. Previously, the CARES Act prohibited such payroll tax deferral after a borrower’s PPP loan was forgiven.