Business Tax Provisions of Federal Legislation
The CARES Act makes significant changes to the calculation of taxes for both C corporations and flow through entities. AAFCPAs has provided a summary of these provisions below. Where appropriate, information from the Families First Coronavirus Response Act (FFCRA) and other IRS announcements has been included.
Net Operating Losses (NOLs)
Under existing law, in effect since January 1, 2018, NOLs may only be carried forward to future tax years. These losses may be carried forward indefinitely, but the amount used in any given year may not offset more than 80% of taxable income.
Prior to 2018, NOLs could be carried back two years or forward for twenty years, and would offset 100% of taxable income. Taxpayers could elect out of the carryback period and just carry losses forward if they so choose.
The CARES Act reinstates many of the pre-2018 rules for losses incurred in tax years beginning after December 31, 2017 and before January 1, 2021, but on a modified basis. Losses incurred during these periods may be carried back five years, or as early as 2013 for losses incurred in 2018. Losses from these periods that get carried forward will not be subject to the 80% limitation.
Taxpayers who wish to elect out of the carryback period in favor of carrying these losses forward may make an election on their first return for a tax year ending after March 27, 2020 (the date the CARES Act was signed into law). Corporations filing with a fiscal year ending March 31, 2020 will thus decide on making this election by the July 15, 2020 due date for filing their tax return, unless they extend the due date to January 15, 2021.
Other provisions include:
- Form 1139 is used for carryback claims applicable to 2019 and 2020.
- Form 1120X is used for carryback claims applicable to 2018.
- Taxpayers with Controlled Foreign Corporations may not apply NOL carrybacks as an offset to the 2017 Transition Tax.
- A technical correction applies to fiscal year taxpayers for the 2017-18 that incurred losses. Those losses may now be carried back up to two years, consistent with the rules available for the 2017 calendar year.
Excess Business Losses of Noncorporate Taxpayers
Starting in 2018, noncorporate taxpayers are limited on the amount of business losses they may deduct against other income (wages, investment income, etc.). These limits are $250,000 and $500,000 for single filers, respectively, and are subject to inflation adjustments starting in 2019. These limitations apply at the owner (not entity) level with respect to sole proprietorships, partnerships, and S corporations.
The CARES Act removes this limitation for the 2018 through 2020 tax years. Individuals subject to this limitation in 2018 should consider filing amended returns to claim the full amount of pass through losses. Note that deduction of the full loss may, depending on the individual, create an NOL that is available for carryback under the rules described in the preceding section.
The Excess Loss rules will be reinstated for the 2021 tax year. The CARES Act also included a number of technical modifications to the original rules that will be in effect for 2021.
Limitation on Deduction for Business Interest
Under existing law, the deduction for business interest expense is limited to 30% of Adjusted Taxable Income (ATI). Interest expense in excess of the computed limitation is carried forward for future use. Note that these limitations do not apply to companies with average gross receipts under $26 million.
The CARES Act increases the ATI limit from 30% to 50% for years beginning in 2019 and 2020. For partnerships only, this increase only applies to tax years beginning in 2020. In addition, taxpayers may elect to use 2019 ATI as the base year in computing the 2020 limitation. This election recognizes the fact that most businesses will see a decrease to income in 2020.
The Act contains other elections available to partnerships, including the ability to allocate excess interest calculated for 2019 to the 2020 and 2021 tax years. In addition, any filer may elect out of the increased limitations.
Qualified Improvement Property
The Tax Cut and Jobs Act of 2017 (TCJA) combined multiple classes of 15-year depreciable property (leasehold; restaurant; retail) into a single group named Qualified Improvement Property. The intent was for this property to be depreciable over 15 years and to qualify for bonus depreciation. Due to a drafting error, this language was omitted from the final law, meaning that property placed in service in 2018 was depreciable over 39 years.
The CARES Act fixes this error retroactively for property placed in service after January 1, 2018. The manner in which taxpayers may claim this deduction vary, depending on whether they have already filed their 2019 return.
Taxpayers claiming the deduction may be required to use bonus depreciation, because the election out of bonus must be made on a timely filed return. It is anticipated that the IRS will provide further guidance on this question.
Other Provisions Applicable to C Corporations
- The limitation on charitable deductions increased from 10% of taxable income up to 25%, for tax years beginning in 2020. The deduction limitation for food inventory (applicable to all entities) is increased from 15% to 25%.
- TCJA eliminated the Alternative Minimum Tax for C corporations, starting in 2018. Corporations that had a Minimum Tax Credit carryforward from 2017 were eligible to recover the credit over a four-year period. The CARES Act allows corporations to accelerate the recovery into 2019, or retroactively to 2018 via filing a claim. The IRS is expected to provide further guidance on how to file the claim.
State and Local Tax Provisions
States and local jurisdictions continue to announce tax relief in response to the coronavirus crisis. Multi-state filers are advised to consult with your AAFCPAs Tax Partner for specific guidance related to your business.
The tax practice of AAFCPAs will continue to monitor communications from the IRS, the Treasury Department, and the MA DOR. We will keep you informed as changes occur or become clarified.