Plan Ahead for 2020 Tax Return with Tips for Tax Saving
Many taxpayers earned alternative incomes that came from other sources than usual due to the COVID-19-related restrictions on economic activities. As they have new types of income, their 2020 tax returns should be well planned based on the newer tax codes reflecting changes. According to the IRS, the deadline for 2020 personal income tax return is April 15, 2021. Although the deadline can be postponed given special circumstances, the IRS recommends 2020 tax returns to be filed on time because there are many changes from the previous year. We discuss the changes to the tax code due to the COVID-19 and tax saving tips for the upcoming tax return season.
COVID-19-related Taxes for Individuals
1. Stimulus check is NOT taxable incom
The $1,200 per person and $500 child support are not a loan and thus need not be repaid, and the stimulus money needs not be reported as taxable income in 2020 tax return.
2. Unemployment Insurance payment is taxable income
All unemployment compensation including the extra $600 from the federal government are taxable income. If taxes were not withheld from the employment benefits, you should include the amount of unemployment benefits you have received and will received in the year for tax return. However, you do not pay social security or Medicare taxes for this money. Unless you live in California, Montana, New Jersey, Pennsylvania, or Virginia, all your unemployment benefits received from the state government are taxable income for your state tax return purpose as well as the federal unemployment benefits. In Wisconsin, only parts of the benefits constitute taxable income.
3. Short term capital gain from stock investment is taxable income
During the Pandemic, many taxpayers made profit by investing in financial market. All investment income is categorized as long-term or short-term capital gains based on the duration of investment. If your investment duration lasted longer than a year, it is subject to capital gain tax rate, but if you earned profit from a shorter term investment, a usual personal income tax rate applies in both state and federal tax returns.
COVID-19-related Taxes and Deductions for Businesses
1. Taxation on EIDL Advance is to be determined
EIDL Advance is a grant provided before an approval of an EIDL loan application. It is the program that provided $1,000 payment per employee up to $10,000 last year. The EIDL Advance money is not part of the loan, so unlike the loan, it should be considered other income in tax returns. The IRS has not specifically addressed whether EIDL Advances should be included in taxable income. If it is included in your taxable income, any expenses that you spend to receive the government grant can be deducted. If you received the PPP as well, your EIDL Advance forgiveness will count toward the PPP loan forgiveness amount.
2. Paycheck Protection Program (“PPP”)
PPP forgiveness is NOT taxable income.
Expenses paid for with PPP loans are NOT deductible business expenses.
Most of retail store owners applied for the PPP in 2020; the application started in last April and most of the business loans were forgiven by last October. As the forgiveness applications started to pile up, many were paying attention to its tax consequence.
The core of PPP loans is forgiveness of the full amount if they went to qualifying expenses as set forth by the law. The law requires that 60% of the money go to payroll costs and 40% to non-payroll costs while the covered period is 24 weeks.
According to the CARES Act, the PPP forgiveness is not taxable income, but any expenses paid for with PPP loans are not deductible unlike other business expenses. Therefore, unless the IRS changes the stance on deduction, the otherwise deductible business expenses will increase your taxes if paid out with the loan.
So, now you should wonder as you prepare for the PPP forgiveness application: if you used the PPP loan money in 2020 and receive forgiveness in 2021 or later, what happens? If you are using your PPP loans in accordance with the forgiveness requirement, even before the loan forgiveness decision is made, you can forgo the report of it as income. At the same time, you should not deduct the expenses paid for with the same. A better, certain way is to extend the tax return for 6 months and file a tax return after the loan is actually forgiven.
There are cases where businesses did not include the PPP loan money as taxable income in tax return because they believed it would be forgiven not to mention that they did not deduct the expenses, but later the SBA disapproved the forgiveness. In these cases, the IRS implemented the Safe Harbor rule where they can amend the tax returns to make corrections. However, this rule only applies to a tax return filed on time. Therefore, you must make sure you include all required documentation for your tax return.
Applying for PPP Forgiveness
The PPP forgiveness application period runs ten months from the completion of loan forgiveness covered period. If you do not apply for forgiveness during this window, you need to start making payments. The loan forgiveness covered period is 24 weeks (168 days) starting from the grant of the loan money, and 8 weeks (56 days) for any loans made before June 5th, which may be changed to 24 weeks. A forgiveness request can be made using SBA Form 3805, and if the loan amount is less than $50,000, you may use a simplified Form 3805EZ, or more recently published Form 3805S. The deadline for forgiveness application is, if you received the loan on June 25, 2020, 10 months from the 24 weeks (168 days) of loan forgiveness covered period, which is October 10, 2021.
3. Employee Retention Tax Credit (ERC)
If you did not receive PPP loans, you can try to get tax credits for retaining your workforce. This program is an incentive given to businesses whose operation was restricted partially or fully by government mandates, and businesses that lost 50% or more quarterly revenue compared to the previous year are eligible. If qualified, you will get tax credits in an amount of 50% of all payroll expenses from March 12 to December 31, 2020. Although there is no restriction as to the number of employees, you are eligible for tax credit up to $5,000 per employee.
4. Delay of Payment of Employer Payroll Taxes
This program, designed to reduce the social security tax burden of employers, defers the payment of employer’s portion of social security tax for the period from March 27, 2020 to December 31, 2020 to 50% payment at the end of 2021 and the rest in 2022, for eligible employers. This program applies to businesses of all sizes, but it excludes the employers who are taking advantage of the Paycheck Protection Program. For self-employed, there is no divided burden of social security tax, so they can defer 50% of social security taxes incurred from March 27, 2020 to December 31, 2020 to partial payments in 2021 (50%) and 2022 (50%).
New Implementation of CARES Acts and Tax Saving Tips
1. 100% Bonus Depreciation for Qualified Improvement Property (QIP Fix)
A missing bonus depreciation for qualified improvement property in Trump Administration’s tax reform law, also known as Tax Cuts and Jobs Acts (“TCJA”), was fixed by the CARES Act.
Qualified Improvement Property includes any non-residential building that has improved interiors in accordance with the building codes after completion. Most improvements made on commercial buildings are covered, and you are covered if you renovated the retail store floor or made some improvement. If you have not received the 100% bonus depreciation for your QIP from 2018 to 2019, you can make amendments to save taxes through the bonus depreciation.
2. Special Rules for Using Retirement Funds for Coronavirus Costs
The 10% penalty on withdrawal of retirement savings of taxpayers under 59.5 will be waived up to $100,000 if the taxpayers or their family members were infected by the virus or met economic hardship such as job loss or quarantine. Although the penalty is waived, the taxation on the withdrawal is not. (You can spread the withdrawal income to tax returns in three years.)
3. Changes to Charitable Contributions
You can deduct charitable contributions that were not applicable because they were less than the standard deduction. If you made donations to non-profit organizations recognized by the IRS, you can deduct them up to $300 per year, and in 2020, the donation limits are temporarily suspended, so cash donations can be made up to 100% (originally 60%) of adjusted gross income for individuals and 25% (originally 10%) of taxable income of companies.
4. Exclusion from Income of Employer-paid Employee Student Loan Debts
Employers may pay up to $5,250 of the student loan principal of employees (as of 2020). This payment can be deducted as educational expenses, and the employees are exempted from paying taxes on the canceled debt whereas they may not receive student loan interest deduction.
The total deduction from educational expenses including payments of the student loan principal may not exceed $5,250 under the current law.
5. Changes to the Net Operating Loss (NOL) Rules
The NOL carryback, repealed by the TCJA in 2017, was temporarily brought back, so any net operating loss in 2018, 2019, or 2020 can be carried back up to 5 years. Any taxes paid for previous years can be refunded by filing amended tax returns. Simply put, if a business incurred loss due to the coronavirus, the net operating loss can be applied toward taxes already paid to the IRS for a refund. Especially for NOL incurred in 2019 and 2020 can be used up to 100% of taxable income, instead of 80%. (The previous law allowed deductions up to 80% of taxable income.)
NOL Carryback: Before the change, any NOL could not be applied retrospectively but is only carried forward to future taxable income. However, for NOLs in 2018 through 2020, you can get tax refund for the NOL from tax paid in past five years. For NOLs in 2017 and 2018, you can carry it back up to 2 years for tax refund.
6. Changes to the Interest Limitation Rules
Any interest incurred from business loans in 2019 and 2020 can be deducted up to 50% of taxable income, a change from 30%.
*All contents in this article should be used for the sole purpose of disseminating information, and you should not rely on them as legal opinion or advice. All tax information related to COVID-19 is subject to change depending on situations, and the article was written based on the current understanding.