Inflation Reduction Act Credits

Dear Tax Constituent:

The recently enacted Inflation Reduction Act of 2022 (the Act) contains several new environment-related tax credits that are of interest to individuals and small businesses. The Act also extends and modifies some preexisting credits.

Extension, Increase, and Modifications of Nonbusiness Energy Property Credit

Before the enactment of the Act, individuals were allowed a personal credit for specified nonbusiness energy property expenditures. The credit applied only to property placed in service before January 1, 2022. Now individuals may take the credit for energy-efficient property placed in service before January 1, 2033.

• Increased credit. The Act increases the credit for a tax year to an amount equal to 30% of the sum of (a) the amount paid or incurred for qualified energy efficiency improvements installed during that year, and (b) the amount of the residential energy property expenditures paid or incurred during that year. The credit is further increased for amounts spent for a home energy audit. The amount of the increase due to a home energy audit can’t exceed $150.

• Annual limitation in lieu of lifetime limitation. The Act also repeals the lifetime credit limitation, and instead limits the allowable credit to $1,200 per taxpayer per year. In addition, there are annual limits of $600 for credits with respect to residential energy property expenditures, windows, and skylights, and $250 for any exterior door ($500 total for all exterior doors). Notwithstanding these limitations, a $2,000 annual limit applies with respect to amounts paid or incurred for specified heat pumps, heat pump water heaters, and biomass stoves and boilers.

Extension and Modification of Residential Clean-Energy Credit

Before the enactment of the Act, individuals were allowed a personal tax credit, known as the residential energy efficient property (REEP) credit, for solar electric, solar hot water, fuel cell, small wind energy, geothermal heat pump, and biomass fuel property installed in homes in years before 2024.

The Act makes the credit available for property installed in years before 2035. The Act also makes the credit available for qualified battery storage technology expenditures.

Extension, Increase, and Modifications of New Energy Efficient Home Credit

Before the enactment of the Act a New Energy Efficient Home Credit (NEEHC) was available to eligible contractors for qualified new energy efficient homes acquired by a homeowner before Jan. 1, 2022. A home had to satisfy specified energy saving requirements to qualify for the credit. The credit was either $1,000 or $2,000, depending on which energy efficiency requirements the home satisfied.

The Act makes the credit available for qualified new energy efficient homes acquired before January 1, 2033. The amount of the credit is increased, and can be $500, $1,000, $2,500, or $5,000, depending on which energy efficiency requirements the home satisfies and whether the construction of the home meets prevailing wage requirements.

New Clean-Vehicle Credit

Before the enactment of the Act, individuals could claim a credit for each new qualified plug-in electric drive motor vehicle (NQPEDMV) placed in service during the tax year, subject to limits per vehicle model.

• Manufacturing limitations. The Act, among other things, retitles the NQPEDMV credit as the Clean Vehicle Credit and eliminates the limitation on the number of per-model vehicles eligible for the credit. Final assembly of the vehicle must take place in North America, and there are rules for where the battery components (and critical minerals used in the battery) are sourced.

• Taxpayer income limits. No credit is allowed if the lesser of an individual’s modified adjusted gross income for the year of purchase or the preceding year exceeds $300,000 for a joint return or surviving spouse, $225,000 for a head of household, or $150,000 for others. In addition, no credit is allowed if the manufacturer’s suggested retail price for the vehicle is more than $55,000 ($80,000 for pickups, vans, or SUVs).

Credit for Previously Owned Clean Vehicles

A qualified buyer who acquires and places in service a previously owned clean vehicle after 2022 is allowed an income tax credit equal to the lesser of $4,000 or 30% of the vehicle’s sale price. No credit is allowed if the lesser of an individual’s modified adjusted gross income for the year of purchase or the preceding year exceeds $150,000 for a joint return or surviving spouse, $112,500 for a head of household, or $75,000 for others. In addition, the maximum price per vehicle is $25,000.

New Credit for Qualified Commercial Clean Vehicles

There is a new qualified commercial clean-vehicle credit for qualified vehicles acquired and placed in service after December 31, 2022.

The credit per vehicle is the lesser of: 1) 15% of the vehicle’s basis (30% for vehicles not powered by a gasoline or diesel engine) or 2) the “incremental cost” of the vehicle over the cost of a comparable vehicle powered solely by a gasoline or diesel engine. The maximum credit per vehicle is $7,500 for vehicles with gross vehicle weight ratings of less than 14,000 pounds, or $40,000 for heavier vehicles.

Increase in Qualified Small Business Payroll Tax Credit for Increasing Research Activities

Under pre-Inflation Reduction Act law, a “qualified small business” (QSB) with qualifying research expenses could elect to claim up to $250,000 of its credit for increasing research activities as a payroll tax credit against the employer’s share of Social Security tax.

Due to concerns that some small businesses may not have a large enough income tax liability to take advantage of the research credit, for tax years beginning after December 31, 2022, QSBs may apply an additional $250,000 in qualifying research expenses as a payroll tax credit against the employer share of Medicare. The credit can’t exceed the tax imposed for any calendar quarter, with unused amounts of the credit carried forward.

Extension of Incentives for Biodiesel, Renewable Diesel and Alternative Fuels

Under pre-Act law, taxpayers could claim a credit for sales and use of biodiesel and renewable diesel that is used in a trade or business or sold at retail and placed in the fuel tank of the buyer for such use and sales on or before December 31, 2022. Now taxpayers are permitted to claim a credit for sales and use of biodiesel and renewable diesel fuel, biodiesel fuel mixtures, alternative fuel, and alternative fuel mixtures on or before December 31, 2024.

Taxpayers are also now allowed to claim a refund of excise tax for use of 1) biodiesel fuel mixtures for a purpose other than for which they were sold or for resale of such mixtures on or before December 31, 2024, and 2) alternative fuel as that used in a motor vehicle or motorboat or as aviation fuel, for a purpose other than for which they were sold or for resale of such alternative fuel mixtures on or before December 31, 2024.

If you would like more information on this topic or another tax topic of interest to you, please contact our office.

—McAvoy + Co, CPA

2022 Year-End Tax Planning

Dear Tax Constituent:

The tax landscape for 2022 seems to be somewhat settled after the flurry of COVID-19 response legislation in 2020 and 2021. As of press time, major tax changes from recent years generally remain in place, including lower income tax rates, larger standard deductions, limited itemized deductions, elimination of personal exemptions, a reduced alternative minimum tax (AMT) for individuals, a major corporate tax rate reduction, limits on interest deductions, and generous expensing and depreciation rules for businesses. Non-corporate taxpayers with certain income from pass-through entities may still be entitled to a valuable Qualified Business Income deduction. These rules are scheduled to be in place through 2025 absent earlier changes from Congress.

The composition of the recently elected next Congress, however, may make changes to the tax law politically possible in 2023 and beyond. This could mean potentially higher tax rates to come, and makes tax planning more challenging today.

There was one major tax bill passed late in 2021: the Infrastructure and Investment Jobs Act (IIJA). And there has been one major tax bill passed in 2022: the Inflation Reduction Act of 2022. Key tax provisions of the IIJA include the retroactive termination of the employee retention credit back to October 1, 2021, and information reporting for digital assets like cryptocurrency. The Inflation Reduction Act of 2022 made notable changes to some energy credits that are mostly effective starting in 2023.

Over the summer, President Biden announced a three-part plan to address student loan debt, including forgiveness of up to $20,000 for some borrowers and extended the repayment freeze a final time, until the end of this year. Note that through 2025, the cancellation of student loans is not taxable cancellation of indebtedness income. The constitutionality of Biden’s student loan debt forgiveness is still in question.

Whatever actions Congress takes on tax matters, the time-tested approach of deferring income and accelerating deductions to minimize taxes will still work for most taxpayers, as will the bunching of expenses into this year or next to avoid limitations and maximize deductions. For the highest income taxpayers the opposite strategy may produce the best results: pulling income into 2022 to be taxed at currently lower rates, and deferring deductible expenses until 2023, when they can be taken to offset what could be higher-taxed income. We have divided our commentary between business and individual considerations below:

Business

The Qualified Business Income (QBI) deduction remains in place for 2022. We discussed this deduction earlier at our linked commentary for pass-through businesses and real estate activities. For 2022, the QBI deduction starts to phase out for Specified Service Trade or Businesses (SSTBs), or becomes limited for other pass-through business owners, when taxable income is greater than $340,100 for married taxpayers, and greater than $170,050 for other taxpayers. Taxpayers near these thresholds may benefit from accelerating deductions, deferring discretionary income, or making deductible retirement plan contributions to stay below these thresholds. For non-SSTBs with income exceeding the thresholds, consider increasing W-2 compensation from the business before the end of the year to get the maximum QBI deduction.

The Social Security wage base (the maximum earned income that Social Security tax of a combined 12.4% is assessed upon) will be $160,200 for 2023. The Social Security wage base was $147,000 for 2022.

Businesses can also claim a 100% bonus first year depreciation deduction for machinery and equipment bought used (with some exceptions) or new if purchased and placed in service this year, and for qualified improvement property with a tax life of 20 years or less. The 100% write-off is permitted without any proration for the length of time that an asset is in service during the tax year. As a result, the 100% bonus first-year write-off is available even if qualifying assets are in service for only a few days in 2022. The 100% bonus depreciation stays in effect until January 1, 2023. At that point, the first-year bonus depreciation deduction decreases as follows:

• 80% for property placed in service during 2023

• 60% for property placed in service during 2024

• 40% for property placed in service during 2025

• 20% for property placed in service during 2026

Even with reduced bonus depreciation, Section 179 could still allow for 100% expensing of qualifying property.

As of June 30, 2022, the California Calsavers program requirements are in full effect. Nonexempt employers with five or more California W-2 employees, at least one of whom is age 18, must register with Calsavers or verify their exemption. As yearend approaches, consider establishing a qualified retirement plan such as a 401(k) to give the business more control over the amount and nature of retirement plan contributions allowed for all employees, including owners.

For California Pass-through Entity owners, the Pass-through Entity Elective Tax (PEET) credit offers a way to get a tax benefit for paying related individual state income tax through the pass-through entity. To get a 2022 deduction, it is generally considered necessary to make a payment before December 31, 2022. See our earlier linked discussion for additional limitations and considerations.

Individual

Specifically for 2022, given the general decline of the stock market, it may make sense to harvest capital losses if other 2022 income would be higher than usual. Alternatively, if 2022 looks to be a lower than usual income year, then a Roth conversion of regular taxable retirement assets may make sense. A Roth conversion is most beneficial when stock values have significantly declined, and when the current tax rate is expected to be lower than the tax rate that would apply when future regular taxable retirement plan distributions are taken.

If Required Minimum Distributions (RMDs) are not needed to meet current financial obligations, and you are charitably minded, consider paying some of the RMD (up to $100,000) directly to charity. This generally produces the best tax benefit by not increasing your Adjusted Gross Income (AGI) by the RMD, and avoiding the threshold for itemizing deductions. A charitable contribution of appreciated property held longer than one year is generally better than a cash donation as well. A taxpayer can get a deduction for the higher fair value of the appreciated property while avoiding the recognition of capital gain from selling the property.

If you are facing a penalty for underpayment of estimated tax and increasing your wage withholding won't sufficiently address the problem, consider taking an eligible rollover distribution from a qualified retirement plan before the end of 2022. Income tax will be withheld from the distribution and will be applied toward the taxes owed for 2022. You can then timely roll over the gross amount of the distribution (i.e., the net amount you received plus the amount of withheld tax) to a traditional IRA. No part of the distribution will be includible in income for 2022, but the withheld tax will be applied pro rata over the full 2022 tax year to reduce previous underpayments of estimated tax. Be careful of the strict timing limits on this strategy.

If you become eligible in December of 2022 to make Health Savings Account (HSA) contributions, you can make a full year's worth of deductible HSA contributions for 2022 before April 15, 2023.

What is new for individuals for 2022:

• Expanded health insurance subsidies are extended through 2025.

• Both the child tax credit and the child and dependent care credit revert to pre-pandemic levels.

  • The CTC reverts to $2,000 and the old phase-out applies.

  • The age of a qualifying child decreases to under age 17

  • The child and dependent care credit reverts to its lower pre-pandemic amount.

  • The exclusion from income for employer-provided dependent care assistance also decreases to pre-pandemic levels.

• The temporary charitable deduction for nonitemizers expired on December 31, 2021.

Possible changes for individuals in 2023:

• The SECURE Act 2.0 (if passed by Congress) could require automatic enrollment in or expanded access to certain retirement plans; a potential increase to 75 for the age at which required minimum distributions must start; enhancements to the age 50+ catch-up contribution provisions; modified rules to allow SIMPLE IRAs to accept Roth contributions; and creating an online “lost and found” for retirement accounts.

• Provisions affecting individuals that are scheduled to expire at the end of 2022 include the temporary allowance of a 100% deduction for business meals, the mortgage insurance premium deduction, and COVID-19 credits for sick and family leave for the self-employed.

• Proposed legislation could change the transfer by gift or bequest of appreciated assets with unrealized gains to a “realization event” for tax purposes, and tax the transfer as if the underlying property was sold. In addition, such property transferred by gift or held at death would be subject to a $5 million lifetime exclusion for a single filer. Unrealized capital gains in appreciated assets would also be taxed if they were transferred into or distributed in kind from an irrevocable trust, partnership or other noncorporate entity if the transfer was effectively a gift to the recipient.

• There are also proposed changes to the rules for donor advised funds (DAFs), grantor retained annuity trusts (GRATS), the way promissory notes are valued when selling appreciated property to a grantor trust and limits to the generation-skipping transfer (GST) exemption that would limit the GST exemption to direct skips no more than two generations from the grantor.

If you would like our assistance with your specific yearend tax planning, or more information on these or other tax topics of interest to you, please contact our office.

—McAvoy + Co, CPA

California Pass-through Entity Tax Credit

[The original November 3, 2021, post was updated on February 17, 2022, to add additional information from recently passed California’s Senate Bill 113 (SB 113)]

The 2017 Tax Cuts and Jobs Act reduced taxes for most taxpayers. However, this law limited the itemized deduction for state and local taxes paid by individuals at the federal level to a maximum of $10,000. States have been looking for work-arounds to this limitation since the passage of the Tax Cuts and Jobs Act. In the fall of 2021, California passed legislation that allows a work-around of this limitation for owners of pass-through entities that has been approved by the IRS.

For the 2021 through 2025 taxable years, a qualified S corporation, partnership, or LLC taxed as a partnership or S corporation that is doing business in California and is required to file a California return may make an election to pay a passthrough entity tax equal to 9.3% of its qualified net income. A single member (SMLLC) cannot make this election. To be eligible, the LLC must add a member or elect to be treated as an S corporation. However, an SMLLC owned by a husband and wife can elect to be taxed as a partnership and can qualify to pay the passthrough entity tax.

Why make the election?

Paying this Pass-through Entity Elective Tax (PEET) at the entity level will decrease the federal net income included on the owners’ K-1 by the amount of the state tax paid. In essence, this allows the K-1 recipient to reduce federal Adjusted Gross Income (AGI) rather than having a state tax deduction on Schedule A, which would be subject to the $10,000 state and local tax (SALT) deduction limit. For California, the tax will be added back into net income because state taxes paid do not give rise to a deduction on the California return. The participating owners will receive a California tax credit equal to 100% of the state tax paid by the passthrough entity on behalf of the owner.

Qualified entity

Entities are qualified to make the election only if they meet both of the following requirements for the taxable year:

• The entity is taxed as a partnership or S corporation; and

• The entity is not a publicly traded partnership, or required or permitted to be included in a combined report.

Prior to SB 113, if an entity had a partnership owner, it could not be considered a qualified entity.

Qualified net income

Qualified net income is the sum of the consenting individual, trust, or estate owners’ pro rata share, or distributive share, of the entity’s income subject to California tax, including interest, dividends, and capital gains. This means for California residents it includes all income from the passthrough entity, but for nonresidents it only includes the entity’s apportioned California-source income.

Only “qualified taxpayers” can consent to have their share of income paid by the passthrough entity. Corporation and partnership owners of partnerships are not “qualified taxpayers” and cannot elect to have the passthrough entity pay tax on their distributive share of net income. SMLLCs owned by individuals can be considered qualified taxpayers.

The entity may still elect to pay the tax even if some of its owners do not consent. However, the amount of qualified net income does not include the nonconsenting owners’ share of the entity’s income.

Making the election

The election is made annually, is irrevocable, and can only be made on an original, timely filed return, including extensions.

Entities will have to reach out to their partners/shareholders/members to determine whether any of them consent to have the entity pay the tax on their behalf. The tax will only be paid on behalf of consenting owners. S corporations that elect to pay the tax on behalf of their consenting shareholders must make “compensating” distributions to their nonqualified or nonconsenting shareholders to avoid making disproportionate distributions and jeopardizing their S corporation status.

For years 2022 through 2025, the decision to participate in the PEET credit must effectively be made by June 15 of the elected year, because if a portion of the tax is not paid by that date, the election is not available.

Paying the tax

For the 2021 taxable year, the tax is due on the due date of the original return, without regard to extensions (March 15, 2022, for calendar-year taxpayers). For the 2022 through 2025 taxable years, the entity must make two payments. The first payment is due by June 15 of the taxable year, or the 15th day of the six month of the taxable year for fiscal year taxpayers. The amount due is the greater of:

• 50% of the elective tax paid for the prior year; or

• $1,000.

The remaining amount that brings the total to 9.3% of qualified net income must be paid by the entity’s original filing date deadline (March 15 for calendar-year taxpayers). If the entity fails to pay the remaining amount due by the entity’s original filing date deadline, any underpayment will incur late payment penalties and interest. Overpayments on extended entity returns can be refunded.

Year of deduction

The IRS gave its stamp of approval to these type of passthrough entity taxes in IRS Notice 2020-75 and stated that they intend to issue proposed implementing regulations clarifying the treatment of taxes on both the entity’s and owners’ returns.

The notice appears to state that the passthrough entity would deduct the tax in the year the tax is paid and that the tax payment would reduce the passthrough entity’s distributable net income reported on the owner’s K-1 for the year the tax is paid.

This would mean that a tax payment made in 2022 for the 2021 tax year would qualify for a 2021 credit on the owners’ California returns, but will be deducted on the partnership’s 2022 tax return and reduce net income on the owners’ 2022 federal K-1. We are waiting to see if the forthcoming regulation confirms this interpretation.

Credit use and carryover

The credit was previously only allowed to the extent that regular California tax exceeded Alternative Minimum California tax. SB 113 removed this limitation. California tax credits unused by the owner of the electing passthrough entity may be carried forward for up to five years and are then lost.

Interplay with consenting owners’ estimated taxes

According to the FTB, qualified taxpayers reduce the amount of their overall tax due by the amount of passthrough entity tax credit that they claim for purposes of determining any underpayment of estimated tax penalties. However, prepayments of the credit amount are not considered estimated tax payments.

When projecting third and fourth quarter estimated tax payments, taxpayers should not consider the credit amount as an estimated tax payment. Instead, reduce projected tax liability by the credit amount, and use that reduced amount to calculate third and fourth quarter estimate payments.

This issue is especially important for high-income taxpayers who cannot rely on the estimated tax prior-year safe harbor.

Forms

• Form 3893 is used to report the early or first portion of the tax paid at the pass-through entity level.

• Form 3804 is used to report the remaining tax payment by the entity’s original filing date deadline.

• Form 3804-CR is used on the owner’s personal tax return to report the credit.

This commentary is based on guidance provided by Spidell Publishing Inc. (caltax.com).

If you would like more information on this topic or another tax topic of interest to you, please contact our office.

—McAvoy + Co, CPA

2021 Year-End Tax Planning

Dear Tax Constituent:

The legislative response to COVID-19 resulted in significant tax law changes for 2020 and 2021. As of late October, major tax changes from recent years generally remain in place, including lower income tax rates, larger standard deductions, limited itemized deductions, elimination of personal exemptions, an increased child tax credit, and a reduced alternative minimum tax (AMT) for individuals, a major corporate tax rate reduction and elimination of the corporate AMT, limits on interest deductions, and generous expensing and depreciation rules for businesses. Non-corporate taxpayers with certain income from pass-through entities may still be entitled to a valuable deduction.

However, two tax bills are being debated, which will complicate year-end planning. How these will end up is not entirely clear. Our year-end tax planning considerations may need to be updated if/when new tax legislation is passed.

Whatever Congress decides to do, the time-tested approach of deferring income and accelerating deductions to minimize taxes will still work for most taxpayers, as will the bunching of expenses into this year or next to avoid restrictions and maximize deductions. We have divided our commentary between business and individual considerations below:

Business

If proposed tax increases do pass, the highest income businesses and owners may find that pulling income into 2021 to be taxed at currently lower rates, and deferring deductible expenses until 2022, when they can be taken to offset what would be higher-taxed income will be a better strategy. This will require careful evaluation of all relevant factors.

We have compiled a list of actions based on current tax rules that may help you save tax dollars if you act before year-end. Not all of them will apply to you or your business, but you may benefit from many of them.

• Taxpayers other than corporations may be entitled to a deduction of up to 20% of their qualified business income. For 2021, if taxable income exceeds $329,800 for a married couple filing jointly, (about half that for others), the deduction may be limited based on whether the taxpayer is engaged in a service-type trade or business (such as law, accounting, health, or consulting), the amount of W-2 wages paid by the business, and/or the unadjusted basis of qualified property (such as machinery and equipment) held by the business. The limitations are phased in; for example, the phase-in applies to joint filers with taxable income up to $100,000 above the threshold, and to other filers with taxable income up to $50,000 above their threshold.

• Taxpayers may be able to salvage some or all of this deduction, by deferring income or accelerating deductions to keep income under the dollar thresholds (or be subject to a smaller deduction phaseout) for 2021. Depending on their business model, taxpayers also may be able increase the deduction by increasing W-2 wages before year-end. The rules are quite complex, so consider asking for our help in this area.

• More small businesses are able to use the cash (as opposed to accrual) method of accounting than were allowed to do so in earlier years. To qualify as a small business a taxpayer must, among other things, satisfy a gross receipts test, which is satisfied for 2021 if, during a three-year testing period, average annual gross receipts don't exceed $26 million (next year this dollar amount is estimated to increase to $27 million). Not that many years ago it was $1 million. Cash method taxpayers may find it a lot easier to shift income, for example, by holding off billings until next year or by accelerating expenses, for example, paying bills early or by making certain prepayments.

• Businesses should consider making expenditures that qualify for the liberalized business property expensing option. For tax years beginning in 2021, the expensing limit is $1,050,000, and the investment ceiling limit is $2,620,000. Expensing is generally available for most depreciable property (other than buildings) and off-the-shelf computer software. It is also available for interior improvements to a building (but not for its enlargement, elevators or escalators, or the internal structural framework), for roofs, and for HVAC, fire protection, alarm, and security systems.

• The generous dollar ceilings mean that many small and medium sized businesses that make timely purchases will be able to currently deduct most if not all their outlays for machinery and equipment. What's more, the expensing deduction is not prorated for the time that the asset is in service during the year. So expensing eligible items acquired and placed in service in the last days of 2021, rather than at the beginning of 2022, can result in a full expensing deduction for 2021.

• Businesses also can claim a 100% bonus first year depreciation deduction for machinery and equipment bought used (with some exceptions) or new if purchased and placed in service this year, and for qualified improvement property, described above as related to the expensing deduction. The 100% write-off is permitted without any proration based on the length of time that an asset is in service during the tax year. As a result, the 100% bonus first-year write-off is available even if qualifying assets are in service for only a few days in 2021.

• Businesses may be able to take advantage of the de minimis safe harbor election (also known as the book-tax conformity election) to expense the costs of lower-cost assets, and materials and supplies, assuming the costs aren’t required to be capitalized under the UNICAP rules. To qualify for the election, the cost of a unit of property can't exceed $5,000 if the taxpayer has an applicable financial statement (AFS, e.g., a certified audited financial statement along with an independent CPA's report). If there's no AFS, the cost of a unit of property can't exceed $2,500. Where the UNICAP rules aren't an issue, and where potentially increasing tax rates for 2022 aren’t a concern, consider purchasing qualifying items before the end of 2021.

• A corporation (other than a large corporation) that anticipates a small net operating loss (NOL) for 2021 (and substantial net income in 2022) may find it worthwhile to accelerate just enough of its 2022 income (or to defer just enough of its 2021 deductions) to create a small amount of net income for 2021. This allows the corporation to base its 2022 estimated tax installments on the relatively small amount of income shown on its 2021 return, rather than having to pay estimated taxes based on 100% of its much larger 2022 taxable income.

• Year-end bonuses can be timed for maximum tax effect by both cash- and accrual-basis employers. Cash-basis employers deduct bonuses in the year paid, so they can time the payment for maximum tax effect. Accrual-basis employers deduct bonuses in the accrual year, when all events related to them are established with reasonable certainty. However, the bonus must be paid within 2½ months after the end of the employer’s tax year for the deduction to be allowed in the earlier accrual year. Accrual employers looking to defer deductions to a higher-taxed future year should consider changing their bonus plans before year-end to set the payment date later than the 2½-month window or change the bonus plan’s terms to make the bonus amount not determinable at year-end.

• To reduce 2021 taxable income, consider deferring a taxable debt-cancellation event until 2022.

• Sometimes the disposition of a passive activity can be timed to make best use of its freed-up suspended losses. Where reduction of 2021 income is desired, consider disposing of a passive activity before year-end to take the suspended losses against 2021 income. If possible 2022 top rate increases are a concern, holding off on disposing of the activity until 2022 might save more in future taxes.

Individuals

As noted for businesses above, if proposed tax increases pass, the highest income taxpayers may find that pulling income into 2021 to be taxed at currently lower rates, and deferring deductible expenses until 2022, when they can be taken to offset what would be higher-taxed income will be a better strategy.

The following is a list of actions based on current tax rules that may help you save tax dollars if you act before year-end. Not all of them will apply to you, but you (or a family member) may benefit from many of them.

• Higher-income individuals must be wary of the 3.8% surtax on certain unearned income. The surtax is 3.8% of the lesser of: (1) net investment income (NII), or (2) the excess of Modified Adjusted Gross Income (MAGI) over a threshold amount ($250,000 for joint filers or surviving spouses, $125,000 for a married individual filing a separate return, and $200,000 in any other case).

• As year-end nears, the approach taken to minimize or eliminate the 3.8% surtax will depend on the taxpayer’s estimated MAGI and NII for the year. Some taxpayers should consider ways to minimize (e.g., through deferral) additional NII for the balance of the year, others should try to reduce MAGI other than NII, and some individuals will need to consider ways to minimize both NII and other types of MAGI. An important exception is that NII does not include distributions from IRAs or most other retirement plans.

• Pending legislative changes to the 3.8% Net Investment Income Tax (NIIT) proposed to be effective after this tax year would subject high income (e.g., phased-in starting at $500,000 on a joint return; $400,000 for most others) S-corporation shareholders, limited partners, and LLC members to NIIT on their pass-through income and gain that is not subject to payroll tax. Accelerating some of this type of income into 2021 could help avoid NIIT on it under the potential 2022 rules, but would also increase 2021 MAGI, potentially exposing other 2021 investment income to the tax.

• The 0.9% additional Medicare tax also may require higher-income earners to take year-end action. It applies to individuals whose employment wages and self-employment income total more than an amount equal to the NIIT thresholds, above. Employers must withhold the additional Medicare tax from wages in excess of $200,000 regardless of filing status or other income. Self-employed persons must take it into account in figuring estimated tax. There could be situations where an employee may need to have more withheld toward the end of the year to cover the tax. This would be the case, for example, if an employee earns less than $200,000 from multiple employers but more than that amount in total. Such an employee would owe the additional Medicare tax, but nothing would have been withheld by any employer.

• Long-term capital gain from sales of assets held for over one year is taxed at 0%, 15% or 20%, depending on the taxpayer's taxable income. If you hold long-term appreciated-in-value assets, consider selling enough of them to generate long-term capital gains that can be sheltered by the 0% rate. The 0% rate generally applies to net long-term capital gain to the extent that, when added to regular taxable income, it is not more than the maximum zero rate amount (e.g., $80,800 for a married couple; estimated to be $83,350 in 2022). If, say, $5,000 of long-term capital gains you took earlier this year qualifies for the zero rate then try not to sell assets yielding a capital loss before year-end, because the first $5,000 of those losses will offset $5,000 of capital gain that is already tax-free.

• Postpone income until 2022 and accelerate deductions into 2021 if doing so will enable you to claim larger deductions, credits, and other tax breaks for 2021 that are phased out over varying levels of Adjusted Gross Income (AGI). These include deductible IRA contributions, child tax credits, higher education tax credits, and deductions for student loan interest. Postponing income is also desirable for taxpayers who anticipate being in a lower tax bracket next year due to changed financial circumstances. Note, however, that in some cases, it may actually pay to accelerate income into 2021. For example, that may be the case for a person who will have a more favorable filing status this year than next (e.g., head of household versus individual filing status), or who expects to be in a higher tax bracket next year. That's especially a consideration for high-income taxpayers who may be subject to higher rates next year under proposed legislation.

• If you believe a Roth IRA is better for you than a traditional IRA, consider converting traditional-IRA money invested in any beaten-down stocks (or mutual funds) into a Roth IRA in 2021 if eligible to do so. Keep in mind that the conversion will increase your income for 2021, possibly reducing tax breaks subject to phaseout at higher AGI levels. This may be desirable, however, for those potentially subject to higher tax rates under pending legislation.

• It may be advantageous to try to arrange with your employer to defer, until early 2022, a bonus that may be coming your way. This might cut as well as defer your tax. Again, considerations may be different for the highest income individuals.

• Many taxpayers won't want to itemize because of the high basic standard deduction amounts that apply for 2021 ($25,100 for joint filers, $12,550 for singles and for marrieds filing separately, $18,800 for heads of household), and because many itemized deductions have been reduced or abolished, including the $10,000 limit on state and local taxes; miscellaneous itemized deductions; and non-disaster related personal casualty losses. You can still itemize medical expenses that exceed 7.5% of your AGI, state and local taxes up to $10,000, your charitable contributions, plus mortgage interest deductions on a restricted amount of debt, but these deductions won't save taxes unless they total more than your standard deduction. In addition to the standard deduction, you can claim a $300 deduction ($600 on a joint return) for cash charitable contributions.

• Some taxpayers may be able to work around these deduction restrictions by applying a bunching strategy to pull or push discretionary medical expenses and charitable contributions into the year where they will do some tax good. For example, a taxpayer who will be able to itemize deductions this year but not next will benefit by making two years' worth of charitable contributions this year. The COVID-related increase for 2021 in the income-based charitable deduction limit for cash contributions from 60% to 100% of MAGI assists in this bunching strategy.

• Consider using a credit card to pay deductible expenses before the end of the year. Doing so will increase your 2021 deductions even if you don't pay your credit card bill until after the end of the year.

• If you expect to owe state and local income taxes when you file your return next year and you will be itemizing in 2021, consider asking your employer to increase withholding of state and local taxes (or make estimated tax payments of state and local taxes) before year-end to pull the deduction of those taxes into 2021. But this strategy is not good to the extent it causes your 2021 state and local tax payments to exceed $10,000.

• Required minimum distributions (RMDs) from an IRA or 401(k) plan (or other employer-sponsored retirement plan) have not been waived for 2021, as they were for 2020. If you were 72 or older in 2020 you must take an RMD during 2021. Those who turn 72 this year have until April 1 of 2022 to take their first RMD but may want to take it by the end of 2021 to avoid having to double up on RMDs next year.

• If you are age 70½ or older by the end of 2021, and especially if you are unable to itemize your deductions, consider making 2021 charitable donations via qualified charitable distributions from your traditional IRAs. These distributions are made directly to charities from your IRAs, and the amount of the contribution is neither included in your gross income nor deductible on Schedule A, Form 1040. However, you are still entitled to claim the entire standard deduction. (The qualified charitable distribution amount is reduced by any deductible contributions to an IRA made for any year in which you were age 70½ or older, unless it reduced a previous qualified charitable distribution exclusion.)

• Take an eligible rollover distribution from a qualified retirement plan before the end of 2021 if you are facing a penalty for underpayment of estimated tax and increasing your wage withholding won't sufficiently address the problem. Income tax will be withheld from the distribution and will be applied toward the taxes owed for 2021. You can then timely roll over the gross amount of the distribution, i.e., the net amount you received plus the amount of withheld tax, to a traditional IRA. No part of the distribution will be includible in income for 2021, but the withheld tax will be applied pro rata over the full 2021 tax year to reduce previous underpayments of estimated tax.

• Consider increasing the amount you set aside for next year in your employer's FSA if you set aside too little for this year and anticipate similar medical costs next year.

• If you become eligible in December of 2021 to make HSA contributions, you can make a full year's worth of deductible HSA contributions for 2021.

• Make gifts sheltered by the annual gift tax exclusion before the end of the year if doing so may save gift and estate taxes. The exclusion applies to gifts of up to $15,000 made in 2021 to each of an unlimited number of individuals. You can't carry over unused exclusions to another year. These transfers may save family income taxes where income-earning property is given to family members in lower income tax brackets who are not subject to the kiddie tax.

• If you were in federally declared disaster area, and you suffered uninsured or unreimbursed disaster-related losses, keep in mind you can choose to claim them either on the return for the year the loss occurred (in this instance, the 2021 return normally filed next year), or on the return for the prior year (2020), generating a quicker refund.

• If you were in a federally declared disaster area, you may want to settle an insurance or damage claim in 2021 to maximize your casualty loss deduction this year.

If you would like more information on these topics or another tax topic of interest to you, please contact our office.

—McAvoy + Co, CPA

Expanded Child Tax Credit for 2021 under ARPA

Dear Tax Constituent:

A significant provision of the American Rescue Plan Act of 2021 (ARPA) includes temporary enhancements to the child tax credit (CTC) . These enhancements temporarily expand the eligibility for, and the amount of, the CTC for tax years beginning in 2021 and require IRS to make monthly advance payments of the credit to taxpayers in July through December of 2021.

Under pre-ARPA law, the CTC was $2,000 per "qualifying child." A qualifying child was defined as an under-age-17 child whom you could claim as a dependent (i.e., a child related to you who, generally, lived with you for at least six months during the year), and who was a U.S. citizen or national, or a U.S. resident.

The $2,000 CTC was phased out (reduced) if your modified adjusted gross income (AGI) was over $200,000, or over $400,000 if you filed jointly, at a rate of $50 per $1,000 (or part of a $1,000) by which modified AGI exceeded the threshold amount.

The CTC was also partially refundable—to the extent of 15% of your earned income in excess of $2,500. An alternative formula for determining refundability applied for taxpayers with three or more qualifying children. But, the maximum refundable credit for 2021 was $1,400 per qualifying child.

A $500 nonrefundable credit (per dependent) (so called "family credit") is also allowed for each qualified dependent who isn't a qualifying child under the CTC definition.

CTC temporarily expanded for 2021. For 2021, ARPA expands the CTC as to eligibility and amount, as follows:

1. The definition of a qualifying child is broadened to include 17 year-olds (i.e., children who haven't turned 18 by the end of 2021).

2. The CTC is increased to $3,000 per child ($3,600 for children under age 6 as of the close of the year). But, the increased credit amounts are subject to their own phase-out rule.

For 2021, the CTC is subject to two sets of phase-out rules:

• The increased CTC amount (the $1,000 or $1,600 amount) is phased out for taxpayers with modified AGI of over $75,000 for singles, $112,500 for heads-of-households, and $150,000 for joint filers and surviving spouses; and

• After applying the above phase-out rule to the increased amount, the remaining $2,000 of CTC is subject to the existing phase-out rules (i.e., the $2,000 of credit is phased out for taxpayers with modified AGI of over $200,000/$400,000 for joint filers).

If you aren't eligible to claim an increased CTC in 2021, you can still claim the regular $2,000 CTC, subject to the existing phase-out rules.

1. The CTC is fully refundable for 2021 for a taxpayer (either spouse for a joint return) with a principal place of abode in the U.S. for more than one-half of the tax year, or for a taxpayer who is a bona fide resident of Puerto Rico for the tax year.

A member of the U.S. Armed Forces stationed outside the U.S. while serving on extended active duty is treated as having a principal place of abode in the U.S.

The phase-out rules apply regardless of refundability, and the $500 family credit for dependents other than qualifying children remains nonrefundable.

Advance payments of the 2021 CTC. IRS must establish a program to make monthly (periodic) advance payments (generally by direct deposits) which in total equal 50% of IRS's estimate of the eligible taxpayer's 2021 CTCs. These payments will be made in July 2021 through December 2021. To determine your advance CTC payments, IRS will look at your 2020 return, or, if it's not yet filed, your 2019 return.

If you receive advance CTC payments that are in excess of the CTC actually allowable to you for 2021, you'll have to repay those excess amounts (by increasing the tax liability reported on your 2021 returns). But, for certain low- and moderate-income taxpayers, the excess may be reduced by a safe harbor amount, limiting the amount by which they'll have to increase tax liability, and allowing them to keep a portion of the excess amount.

Application of the CTC in U.S. territories. For 2021, the CTC is made fully refundable for taxpayers who are Puerto Rico bona fide residents for the tax year, claimed by filing a tax return with the IRS. But, IRS won't make advance payments to residents of Puerto Rico.

Other special rules apply for residents of Guam, the Commonwealth of the Northern Mariana Islands, and the U.S. Virgin Islands (the so-called "Mirror Code territories"), and American Samoa.

Social security number still required to claim CTCs for 2021. Not changing for 2021: to claim the CTC, you must include each qualifying child's name and social security number (SSN) on your tax return, and those SSNs must have been issued before the return's filing due date. If a qualifying child doesn't have an SSN, you will be able to claim the $500 family credit for that child—using an individual taxpayer identification number (ITIN) or adoption taxpayer identification number (ATIN).

The changes made by the Act should make the CTC more valuable and more widely available to many taxpayers in 2021.

Child Care Credit

Under ARPA, Child and dependent care assistance is increased to 50% of qualified expenses, and the credit percentage is reduced by one point for each $2,000 in excess of $125,000. Eligible expenses that qualify for the child and dependent care credit are increased from $3,000 to $8,000 for one child and from $6,000 to $16,000 for two or more children. The maximum exclusion of employer-provided dependent care assistance almost doubled for 2021 expenses only. Expenses eligible for the credit and age limitations did not change

If you would like more information on these topics or another tax topic of interest to you, please contact our office.

—McAvoy + Co, CPA

American Rescue Plan Act of 2021

Dear Tax Constituent:

The American Rescue Plan, 2021 (ARPA, 2021) was signed into law by President Biden on March 11, 2021, to enlarge the federal safety net and provide additional coronavirus (COVID-19) relief. The legislation extends and expands provisions found in the Families First Coronavirus Relief Act (FFCRA), Coronavirus Aid, Relief and Economic Security (CARES) Act, and the Consolidated Appropriations Act, 2021 (CAA, 2021).  We have highlighted some of the major tax provisions below.

Third Round of Economic Impact Payments

Eligible taxpayers have begun to receive a third stimulus payment subject to income phaseouts. A maximum of $1,400 is available to each person with a valid Social Security number including taxpayers, children, and nonchild dependents. The fully refundable payments are credits against 2021 taxes and paid in advance. The amount phases out at $80,000 of adjusted gross income for single filers, $120,000 for head of household filers, and $160,000 for married couples who file a joint tax return. A word of caution: The payments are now subject to creditor claims whereas the previous payments were not

Paid Sick and Family Leave Credits

Changes under ARPA apply to amounts paid with respect to calendar quarters beginning after March 31, 2021. ARPA, 2021:

• Extends the FFCRA paid sick time and paid family leave credits from March 31, 2021 through September 30, 2021. 

• Provides that paid sick and paid family leave credits may each be increased by the employer's share of Social Security tax (6.2%) and employer's share of Medicare tax (1.45%) on qualified leave wages.

• Permits the Treasury Secretary to waive failure to deposit penalties on "applicable employment taxes" if the failure to deposit is due to an anticipated credit. "Applicable employment taxes" are defined as the employer's share of Medicare or Tier 1 RRTA tax. 

• Allows for the credits for paid sick and family leave to be structured as a refundable payroll tax credit against Medicare tax only (1.45%), beginning after March 31, 2021.

• Increases the amount of wages for which an employer may claim the paid family leave credit in a year from $10,000 to $12,000 per employee.

• Expands the paid family leave credit to allow employers to claim the credit for leave provided for the reasons included under the previous employer mandate for paid sick time. For the self-employed, the number of days for which self-employed individuals can claim the paid family leave credit is increased from 50 to 60 days. 

• Permits the paid sick and family leave credit to be claimed by employers who provide paid time off for employees to obtain the COVID-19 vaccination or recover from an illness related to the immunization.  

• Increases the paid sick and family leave credit by the cost of the employer's qualified health plan expenses and by the employer's collectively bargains contributions to a defined benefit pension plan and the amount of collectively bargained apprenticeship program contributions.

• Establishes a non-discrimination requirement where no credit will be permitted to any employer who discriminates in favor of highly-compensated employees, full-time employees, or employees on the basis of employment tenure. 

• Resets the 10-day limitation on the maximum number of days for which an employer can claim the paid sick leave credit with respect to wages paid to an employee. The current 10-day limitation runs from the start of the credits in 2020 through March 31, 2021. For the self-employed, the 10-day reset applies to sick days after January 1, 2021 for self-employed individuals. 

• Clarifies that while no credit for paid sick and family leave may be claimed by the federal government or any federal agency or instrumentality, this would not apply to any organization described under Code Sec. 501(c)(1) and exempt from tax under Code Sec. 501(a), including state and local governments.

Employee Retention Credit

The new legislation:

• Extends the Employee Retention Credit (ERC) from June 30, 2021 until December 31, 2021. The legislation would continue the ERC rate of credit at 70% for this extended period of time. It also continues to apply on up to $10,000 in qualified wages for any calendar quarter. Taking into account the CAA extension and the ARPA extension, this means an employer would potentially have up to $40,000 in qualified wages per employee through 2021. 

• Limits the ERC to $50,000 per calendar quarter of an eligible employer that is a "recovery startup business." A "recovery startup business" is one that: (1) began operations after February 15, 2020 whose average annual gross receipts for a 3-taxable-year period ending with the taxable year which precedes such quarter does not exceed $1,000,000, and (2) experiences a full or partial suspension of operations due to a governmental order or experiences a significant gross receipts decline.

• Allows the credit to be claimed against Medicare (1.45%, Hospital Insurance – HI) taxes only. Since the employer/employee tax rate for Medicare is 1.45%, it could take longer to immediately claim the credit under the ARPA for the third and fourth quarters of 2021. Instead of just withholding the taxes immediately, it could be more likely that more employers would need to file Form 7200 (Advance Payment of Employer Credits Due to COVID-19).

• Continues the year-over-year gross receipts decline requirement at 20%; and the threshold for qualified wages (even if the employee is working) would continue to be 500 employees, as expanded by the CAA. Also, certain governmental employers would continue to be exempt from claiming the ERC, except certain tax exempt organizations that would include colleges and universities or medical or hospital care providers.

• Requires the Treasury Secretary to issue guidance providing that payroll costs paid during the covered period would not fail to be treated as qualified wages to the extent that a covered loan under the Small Business Act is not forgiven. As with the expansion of the ERC under the CAA, this would continue to mean that Paycheck Protection Program (PPP) recipients would be eligible if the loan did not pay the wages in question.

• Qualified wages paid by an employer taken account as payroll costs under (1) Second Draw PPP loans; (2) shuttered venues assistance and (3) restaurant revitalization grants are not eligible for the ERC.

Unemployment Provisions

The new legislation:

• Extends continued unemployment provisions to September 6, 2021. This would include the: (1) pandemic unemployment assistance (PUA), (2) federal pandemic unemployment compensation (FPUC), (3) pandemic emergency unemployment compensation (PEUC), (4) the funding for waiving the one-week unemployment benefit waiting period, (5) the temporary financing of short-time compensation (STC) payments for states with programs, (6) STC agreements for states without programs, (7) temporary assistance for states with federal unemployment advances, and (8) the full federal funding of extended unemployment compensation.

  Further temporary suspension on the accrual of interest on federal unemployment loans to states and a waiver of interest payments under the ARPA assists certain employers that otherwise would have to pay an unemployment tax assessment.

• Extends the FPUC unemployment payment of $300 per week through September 6, 2021.

• Does not extend the 50% credit for reimbursing employers.

• Provides for an exclusion of up to $10,200 of unemployment compensation for taxpayers with less than $150,000 of modified Adjusted Gross Income (AGI) for the 2020 tax year only.

Paycheck Protection Program Modifications

The new legislation:

• Allocates an additional $7.25 billion towards PPP funding, however, the application period has not been extended and remains March 31, 2021.

• Adds "additional covered nonprofit entity" as an eligible nonprofit eligible for First Draw and Second Draw PPP loans. An "additional covered nonprofit entity" is an organization listed in Code Sec. 501(c) other than those Code Sec. 501(c)(3), Code Sec. 501(c)(4), Code Sec. 501(c)(6), or Code Sec. 501(c)(19). An "additional covered nonprofit entity" is eligible for a PPP loan if: (1) the organization employs no more than 300 employees; (2) it does not receive more than 15% of its receipts from lobbying activities; (3) lobbying activities do not comprise more than 15% of the organization's total activities; and (4) the cost of lobbying activities does not exceed $1,000,000 during the most recent tax year that ended prior to February 15, 2020.

• Adds the following to eligible entities for PPP loans: (1) Code Sec. 501(c)(3) nonprofit and veterans' organizations with up to 500 employees; and (2) Code Sec. 501(c)(6) nonprofit organizations (business leagues, chambers of commerce, real estate boards, boards of trade and professional football leagues); and (3) domestic marketing organizations with no more than 300 employees per physical location.

• Adds Internet-only news publishing and Internet-only periodical publishers to businesses eligible for First and Second Draw PPP loans. To be eligible, the organization must employ no more than 500 employees.

• Provides that amounts used from First Draw and Second Draw PPP loans for premiums used to determine the credit for COBRA premium assistance as provided under Code. Sec. 6432 are eligible for loan forgiveness. See Pension and Benefits Related Provisions below for further information regarding COBRA.

Other Relief-Related Provisions

Restaurant revitalization grants. ARPA appropriates $28,600,000,000 for fiscal year 2021 to struggling restaurants to be administered by the SBA. The money will be available until expended. Eligible entities include restaurants, or other specified food businesses, and includes businesses operating in an airport terminal. It does not include a state or local government operated business, or a company that as of March 13, 2020 operates in more than 20 locations, whether or not the locations do businesses under the same name. It also does not include any business that has a pending application for, or has received, and grant under the Economic Aid to Hard-Hit Small Businesses, Non-Profits and Venues Act. The amount given to any business who fulfills the eligibility and certification requirements is $10,000,000 and limited to $5,000,000 per physical location of the business. Grants may be used for:  (1) payroll costs; (2) mortgage payments; (3) rent; (4) utilities; (5) maintenance expenses; (6) supplies; (7) food and beverage expenses; (8) covered supplier costs; (9) operational expenses; (10) paid sick leave; and (11) any other expense determined to be essential to maintaining the business. 

Shuttered venue operators. CAA, 2021 authorized grants to eligible live venue operators or promoters, theatrical producers, live performing arts organization operators, museum operators, motion picture theatre operators, or talent representatives who demonstrate a 25% reduction in revenues. ARPA appropriates $1,250,000,000, for fiscal year 2021, to help carry out these grants. The money will be available until expended. Governmental entities do not qualify.

Aviation manufacturing job protection. ARPA establishes a payroll support program for the continuation of employee wages, salaries and benefits for aviation manufacturing employers who have furloughed at least 10% of its workforce in 2020 compared to 2019, or experienced a 15% decline in revenues from 2019 to 2020 (although separate qualifications are set forth for companies that had no involuntary furloughs. 

Additional relief provisions. ARPA establishes funds to assist the National Railroad Passenger Association and airports financially impacted by COVID-19.

Earned Income Credit

For tax years beginning after December 31, 2020, and before January 1, 2022, for taxpayers with no qualifying children:

• The 7.65% credit percentage and phaseout percentage is increased to 15.3%.

• The $4,220 earned income amount is increased to $9,820.

• The $5,280 phaseout amount is increased to $11,610. These amounts are not adjusted for inflation.

  ARPA does not mention any change to the $5,000 amount for married taxpayers. Presumably, then, the phaseout amount for married taxpayers is $16,610 (using the unadjusted $5,000 amount).

Benefits Related Provisions

Dependent Care Assistance. The amount of taxable wage exclusion for dependent care benefits is increased from $5,000 to $10,500 for married couples filing jointly. The amount of excludable wages for married couples filing separately is $5,250. This increase applies to any taxable year beginning after December 31, 2020, and before January 1, 2022,  effective December 31, 2020.

COBRA. Under ARPA, Assistance Eligible Individuals (AEIs) may receive an 85% subsidy for COBRA premiums paid during any period of COBRA coverage during the period beginning on April 1, 2021 (the first day of the first month beginning after enactment) and ending on September 30, 2021. 

• Refundable tax credit. Employers will be allowed a quarterly tax credit against the Medicare payroll tax equal to the premium amounts not paid by AEIs. If the credit amount exceeds the quarterly Medicare payroll tax, the excess will be treated as a refundable overpayment. The quarterly credit may be paid in advance according to forms and instructions to be provided by the Department of Labor.  

• Notice requirements.  Group health plans must provide the following notices to AEIs:

  1. Notice of assistance availability. Informs AEIs of the availability of the subsidy and the option to enroll in different coverage (if permitted by the employer). Must be provided to individuals who become eligible to elect COBRA during the period beginning on April 1, 2021, and ending on September 30, 2021. This notice requirement may be met by amending existing notices or including a separate document along with them. Specific content requirements apply. 

  2. Notice of extended election period. Must be provided to individuals eligible for an extended election period within 60 days after April 1, 2021.  

  3. Notice of expiration of subsidy. Must be provided between 45 and 15 days before the date on which an individual’s subsidy will expire, unless the subsidy is expiring because the individual has gained eligibility for coverage under another group health plan or Medicare.

  Provision of these notices is required in order to meet COBRA’s notice requirements.

• Model notices. Within 30 days of enactment, the Department of Labor is to issue model notices which can be used to notify eligible individuals of the availability of assistance and the availability of an extended enrollment period. Within 45 days, the Department is to issue model notices regarding the expiration of the subsidy.

Advance Premium Tax Credits

The ARPA eliminates the 2020 recapture provision for taxpayers who received excess premium tax credits. This means that taxpayers whose income was higher than expected in 2020 are not required to repay any premium tax credit on their 2020 return. For 2021 and 2022, individuals who make in excess of 400% of the federal poverty line will have premium tax credits available to them. Taxpayers who received at least one week of unemployment insurance benefits (including Pandemic Unemployment Assistance) during 2021 are deemed to have received income of 133% of the poverty level for purposes of determining the amount of their premium tax credit for 2021 (even if their income was actually higher).

If you would like more information on these topics or another tax topic of interest to you, please contact our office.

—McAvoy + Co, CPA

2021 CAA - Individual Provisions

Dear Tax Constituent:

On December 27, 2020, the President signed the Consolidated Appropriations Act of 2021 (CAA or the Act) into law. This more than 5,500 page law contains many subsections, including the COVID-Related Tax Relief Act of 2020 (COVIDTRA) and the Taxpayer Certainty and Disaster Tax Relief Act of 2020 (TCDTR). We have highlighted some major provisions affecting individuals below.

• New recovery rebate

  The COVIDTRA provides a refundable tax credit to eligible individuals in the amount of $600 per eligible family member. The credit is $600 per taxpayer ($1,200 for married filing jointly), in addition to $600 per qualifying child. The credit phases out starting at $75,000 of modified adjusted gross income ($112,500 for heads of household and $150,000 for married filing jointly) at a rate of $5 per $100 of additional income. 

  The term "eligible individual" does not include any nonresident alien, anyone who qualifies as another person's dependent, and estates or trusts.

  The credit is available on the taxpayer's 2020 return, and provides for Treasury to issue advance payments based on the information on 2019 tax returns. Eligible taxpayers treated as providing returns through the nonfiler portal with respect to their EIP, will also receive payments.

  In general, taxpayers without an eligible Social Security number are not eligible for the payment. However, married taxpayers filing jointly where one spouse has a Social Security Number and one spouse does not are eligible for a payment of $600, in addition to $600 per child with a Social Security Number. 

  If the amount of the credit determined on the taxpayer’s 2020 tax return exceeds the amount of the advance payment based on the taxpayer’s 2019 tax return, the taxpayer will not be required to repay any amount of the payment, but will instead receive the difference as a refundable tax credit.

• Emergency financial aid grants

  An individual taxpayer may claim the American opportunity tax credit and/or the Lifetime Learning credit for higher education expenses at accredited post-secondary educational institutions paid for themselves, their spouses, and their dependents. However, higher education expenses paid for by tax-exempt income can’t be used to claim either of these credits. Under the new law, COVIDTRA excludes certain CARES Act emergency financial aid grants made after March 26, 2020, from the gross income of college and university students. This provision also holds students harmless for purposes of determining their eligibility for the American Opportunity and Lifetime Learning tax credits.

• Certain Charitable Contributions Deductible by Non-Itemizers

  For 2020 and 2021, individuals who normally do not itemize deductions may take up to a $300 ($600 for married filers) above-the-line deduction for cash contributions to qualified charitable organizations. A 50% penalty applies to tax underpayments attributable to any overstated cash contribution by non-itemizers.

• Net disaster losses of individuals are allowed as an addition to the standard deduction, subject to $500 per-casualty floor but exempt from 10%-of-AGI limitation

  Prior to the enactment of the CAA, losses of property not connected with a trade or business or a transaction entered into for profit were considered as personal casualty losses if the loss arose from fire, storm, shipwreck, or other casualty. Such personal casualty losses not reimbursed by insurance and if related to a federally declared disaster could be claimed as itemized deductions subject to additional limits of $100 per casualty and a floor of 10% of Adjusted Gross Income.

  The TCDTR provides special rules for individuals who have a net disaster loss for any tax year. "Net disaster loss" means the excess of qualified disaster-related personal casualty losses over personal casualty gains. "Qualified disaster-related personal casualty losses" means personal casualty losses that arise in a qualified disaster area on or after the first day of the incident period of the qualified disaster to which the area relates, and that are attributable to the qualified disaster.

  The TCDTR increases the per-casualty floor for qualified disaster-related personal casualty losses from $100 to $500. Under the TCDTR, the 10%-of-AGI limitation doesn't apply to the net disaster loss. The TCDTR treats the net disaster loss as an addition to the individual's standard deduction, rather than as an itemized deduction. Although the standard deduction is disallowed for alternative minimum tax purposes, that disallowance does not apply to the increased amount attributable to the net disaster loss.

  Tax Extenders

• Reduction in Medical Expense Deduction Floor

  Under pre-Act law, for tax years beginning before Jan. 1, 2021, individuals could claim an itemized deduction for unreimbursed medical expenses to the extent that such expenses exceeded 7.5% of AGI. The CAA makes the 7.5% threshold permanent, applicable for tax years beginning after Dec. 31, 2020.

• Exclusion from Gross Income of Discharge of Qualified Principal Residence Indebtedness and Reduction in Maximum Indebtedness Limits

  Under pre-Act law, discharge of indebtedness income from qualified principal residence debt, up to a $2 million limit ($1 million for married individuals filing separately), was, in tax years beginning before Jan. 1, 2021, excluded from gross income. The exclusion also applied to qualified principal residence indebtedness discharged pursuant to a binding written agreement entered into before Jan. 1, 2021.  The CAA extends this exclusion to discharges of indebtedness before Jan. 1, 2026. The Act also reduces the above maximum acquisition indebtedness limits to $750,000 and $375,000, respectively.

• Treatment of mortgage insurance premiums as qualified residence interest

  Under pre-Act law, mortgage insurance premiums paid or accrued before Jan. 1, 2021 by a taxpayer in connection with acquisition indebtedness with respect to the taxpayer's qualified residence were treated as deductible qualified residence interest, subject to a phase-out based on the taxpayer's adjusted gross income (AGI). The amount allowable as a deduction was phased out ratably by 10% for each $1,000 by which the taxpayer's adjusted gross income exceeded $100,000 ($500 and $50,000, respectively, in the case of a married individual filing a separate return). Thus, the deduction wasn't allowed if the taxpayer's AGI exceeded $110,000 ($55,000 in the case of married individual filing a separate return). The CAA extends this treatment through 2021 for amounts paid or incurred after Dec. 31, 2020.

• Credit for Health Insurance Costs of Eligible Individuals

  The Internal Revenue Code (the Code) provides a refundable credit (commonly referred to as the health coverage tax credit or “HCTC”) equal to 72.5% of the premiums paid by certain individuals for coverage of the individual and qualifying family members under qualified health insurance.  The CAA extends this credit by one year, through 2022, applicable to months beginning after Dec. 31, 2020.

• Nonbusiness Energy Property

  The Code allows a credit of 10% of the amounts paid or incurred by the taxpayer for qualified energy improvements to the building envelope (windows, doors, skylights, and roofs) of principal residences. The Code allows credits of fixed dollar amounts ranging from $50 to $300 for energy-efficient property including furnaces, boilers, biomass stoves, heat pumps, water heaters, central air conditioners, and circulating fans, and is subject to a lifetime cap of $500. The CAA extends this credit through 2021, for property placed in service after Dec. 31, 2020.

• Residential energy-efficient property credit extended, bio-mass fuel property expenditures included

  Under pre-Act law, individual taxpayers were allowed a personal tax credit, known as the residential energy efficient property (REEP) credit, equal to the applicable percentages of expenditures for qualified solar electric property, qualified solar water heating property, qualified fuel cell property, qualified small wind energy property, and qualified geothermal heat pump property. Under a phasedown provision, the REEP applicable percentage was 30% for property placed in service after Dec. 31, 2016, and before Jan. 1, 2020, 26% for property placed in service after Dec. 31, 2019, and before Jan. 1, 2021, and 22% for property placed in service after Dec. 31, 2020, and before Jan. 1, 2022 The REEP credit did not apply to property placed in service after Dec. 31, 2021.

  For property placed in service after Dec. 31, 2020, the CAA extends the phasedown of the credit by two years by providing that the 26% rate applies to property placed in service before Jan. 1, 2023, and the 22% rate applies to property placed in service after Dec. 31, 2022, and before Jan. 1, 2024. Therefore, the REEP credit will no longer apply for property placed in service after Dec. 31, 2023.

  In addition, as to expenditures paid or incurred in tax years beginning after Dec. 31, 2020, the Act adds qualified biomass fuel property expenditures to the list of expenditures qualifying for the credit. A qualified biomass fuel property expenditure is an expenditure for property (i) which uses the burning of bio-mass fuel (i.e., any plant-derived fuel available on a renewable or recurring basis) to heat a dwelling unit located in the U.S. and used as a residence by the taxpayer, or to heat water for use in the dwelling unit, and (ii) which has a thermal efficiency rating of at least 75% (measured by the higher heating value of the fuel).

If you would like more information on these topics or another tax topic of interest to you, please contact our office.

—McAvoy + Co, CPA

2021 CAA - Business Provisions

Dear Tax Constituent:

On December 27, 2020, the President signed the Consolidated Appropriations Act of 2021 (CAA or the Act) into law. This more than 5,500 page law contains many subsections, including the COVID-Related Tax Relief Act of 2020 (COVIDTRA) and the Taxpayer Certainty and Disaster Tax Relief Act of 2020 (TCDTR). We have highlighted some major provisions affecting businesses below.

• Deductions allowed for expenses paid for with forgiven PPP proceeds

  The CARES Act provides that a recipient of a Paycheck Protection Program (PPP) loan may use the loan proceeds to pay payroll costs, certain employee benefits relating to healthcare, interest on mortgage obligations, rent, utilities, and interest on any other existing debt obligations. If a PPP loan recipient uses their PPP loan to pay those costs, they can have their loan forgiven up to an amount equal to those costs. PPP loan forgiveness doesn't give rise to taxable income, but the Code generally doesn't allow a taxpayer to deduct expenses that are paid with tax exempt income. The new COVIDTRA explicitly states that taxpayers whose PPP loans are forgiven are allowed deductions for otherwise deductible expenses paid with the proceeds of a PPP loan, and that the tax basis and other attributes of the borrower’s assets will not be reduced as a result of the loan forgiveness.

• Clarification of tax treatment of certain loan forgiveness and other business financial assistance under the CARES Act

  The CARES Act expanded access to Economic Injury Disaster Loans (EIDL) and established an emergency grant to allow an EIDL applicant to request a $10,000 advance on that loan. The CARES Act also provided loan repayment assistance for certain recipients of CARES Act loans. COVIDTRA clarifies that gross income does not include forgiveness of EIDL loans, emergency EIDL grants, and certain loan repayment assistance. The provision also clarifies that deductions are allowed for otherwise deductible expenses paid with the amounts not included in income, and that tax basis and other attributes will not be reduced as a result of those amounts being excluded from gross income.

• Authority to waive certain information reporting requirements

  Generally, the Internal Revenue Code requires an lender that discharges at least $600 of a borrower’s indebtedness to file a Form 1099-C, Cancellation of Debt, with IRS, and to furnish a payee statement to the borrower. COVIDTRA allows the Treasury Department to waive information reporting requirements for any amount excluded from income by a) the exclusion of covered loan amount forgiveness from taxable income, b) the exclusion of emergency financial aid grants from taxable income or c) the exclusion of certain loan forgiveness and other business financial assistance under the CARES act from income.

• 50% limit on business meal deduction is suspended for meals provided by restaurants in 2021 and 2022

  Taxpayers may generally deduct the ordinary and necessary food and beverage expenses associated with operating a trade or business, including meals consumed by employees on work travel. The deduction is generally limited to 50% of the otherwise allowable amount. There are some exceptions to this 50% limit. However, under pre-Act law, there was no exception for meals provided by a restaurant. Under COVIDTRA, the 50% limit won’t apply to expenses for food or beverages provided by a restaurant that are paid or incurred after Dec. 31, 2020, and before Jan. 1, 2023.

Tax Extenders

• Energy Efficient Commercial Buildings Deduction

  Under pre-Act law, for property placed into service before Jan. 2021, taxpayers could claim a deduction for energy efficiency improvements to lighting, heating, cooling, ventilation, and hot water systems of commercial buildings. This includes a $1.80 deduction per square foot for construction on qualified property. A partial $0.60 deduction per square foot is allowed if certain subsystems meet energy standards but the entire building does not, including the interior lighting systems, the heating, cooling, ventilation, and hot water systems, and the building envelope. The CAA makes this deduction permanent. The Act also added an inflation adjustment for tax years beginning after 2020.

• Work Opportunity Credit

  The Code provides an elective general business credit to employers hiring individuals who are members of one or more of ten targeted groups under the Work Opportunity Tax Credit program. Under pre-Act law, the credit, which is based on qualified first-year wages paid to the hire, applied to hires before Jan. 1, 2021. The CAA extends the credit through 2025. The amendment applies to individuals who begin work for the employer after Dec. 31, 2020.

• Employer Credit for Paid Family and Medical Leave

  Under pre-Act law, for tax years beginning before Jan. 1, 2021, the Code provides an employer credit for paid family and medical leave, which permits eligible employers to claim an elective general business credit based on eligible wages paid to qualifying employees with respect to family and medical leave. The credit is equal to 12.5% of eligible wages if the rate of payment is 50% of such wages and is increased by 0.25 percentage points (but not above 25%) for each percentage point that the rate of payment exceeds 50%. The maximum amount of family and medical leave that may be taken into account with respect to any qualifying employee is 12 weeks per tax year. The CAA extends this credit through 2025, applying to wages paid in tax years beginning after Dec. 31, 2020.

  Families First Coronavirus Response Act paid leave credits (see link) are extended through March 31, 2021.

• Exclusion for Certain Employer Payments of Student Loans

  Educational assistance provided under an employer's qualified educational assistance program, up to an annual maximum of $5,250, can be excluded from the employees income. The CARES Act added to the educational payments excluded from an employee gross income, “eligible student loan repayments” (below) made after Mar. 27, 2020, and before Jan. 1, 2021. These payments are subject to the overall $5,250 per employee limit for all educational payments. Eligible student loan repayments are payments by the employer, whether paid to the employee or a lender, of principle or interest on any qualified higher education loan for the education of the employee (but not of a spouse or dependent). The CAA extends the exclusion for loan repayments through 2025.

• Business Solar Credit Extension

  Before amendment by the CAA, a credit of 26% of eligible solar energy property costs was available for business solar energy property, the construction of which began after 2019 and before 2021, that was placed in service before 2024. A credit of 22% of eligible solar energy property costs was available for business solar energy property, the construction of which began after 2020 and before 2022, that was placed in service before 2024.

  Under the CAA, a credit of 26% of eligible solar energy property costs is available for business solar energy property, the construction of which begins after 2019 and before 2023 that is placed in service before 2026. A credit of 22% of eligible solar energy property costs is available for business solar energy property, the construction of which begins after 2022 and before 2024 that is placed in service before 2026.

If you would like more information on these topics or another tax topic of interest to you, please contact our office.

—McAvoy + Co, CPA