From trading in-person for virtual and adding masks to the dress code, this year has brought with it an unprecedented amount of uncertainty for businesses. The pandemic and political landscape continue to generate change that affects enterprises and small organizations alike. This comprehensive 2020 Year-End Tax Guide will help businesses prepare for the ambiguous future and mitigate uncertainty.
This year, we have divided our year-end recommendations into two different guides. Below we will cover strategies specifically tailored towards businesses and business owners. You can learn more about year-end individual tax planning strategies by reading our 2020 Year-End Tax Planning Guide for Individuals.
The concepts discussed in these both year-end tax planning guides provide only a general overview. We recommend that you review your business’s specific situation with your Aldrich Advisor.
CARES Act — Business Impact
In response to the pandemic, Congress authorized economic stimulus payments and favorable business loans as part of the Coronavirus Aid, Relief, and Economic Security (CARES) Act. The CARES Act also featured key tax changes. This new law follows the massive Tax Cuts and Jobs Act (TCJA) of 2017. The TCJA revised whole sections of the tax code and included notable provisions for individuals and businesses. The CARES Act modified or slowed down many of those tax changes.
Interest Limitation Rules
Before 2018, business interest was fully deductible. But the TCJA generally limited the deduction for business interest to 30 percent of adjusted taxable income (ATI). Now the CARES Act raises the deduction to 50 percent of ATI, but only for 2019 and 2020.
Business owners should determine if they qualify for a special exception. The 50 percent of ATI limit does not apply to a business with average gross receipts of $25 million (indexed for inflation) or less for the three prior years. The threshold for 2020 is $26 million.
For these purposes, ATI is defined as your business income without regard to business interest income and expense; net operating losses (NOLs); the 20 percent qualified business income (QBI) deduction; and, for tax years beginning before 2022, depreciation, amortization or depletion. Additionally, given that some businesses will not have taxable income in 2020, the company can elect to use its 2019 ATI in computing its 2020 limitation.
Net Operating Loss Rules
Corporate Net Operating Losses can be carried back up to five years for tax years 2018 through 2020. Also, there is a suspension on the 80 percent limitation to allow taxpayers to fully deduct losses incurred against prior years’ income.
New Section 461(l) provided that the amount of net business loss an individual may use in a year to offset other sources of income was capped at $250,000 (if single; $500,000 if married filing jointly). These excess business loss limitations will be suspended through December 31, 2020. This limitation unchanged would limit the individual owner of a pass-through to a $500,000 deductible loss in a given year.
During this turbulent year, many small businesses are struggling to stay afloat, resulting in large numbers of outstanding receivables and collectibles. Businesses should consider increasing collection activities now. For example, companies may issue a series of dunning letters to debtors asking for payment. Then, if you are still unable to collect the unpaid amount, you can generally write off the debt as a business bad debt in 2020.
Generally, business bad debts are claimed in the year they become worthless. To qualify as a business bad debt, a loan or advance must have been created or acquired in connection with your business operation and result in a loss to the business entity if it cannot be repaid.
We suggest businesses keep detailed records of all collection activities—including letters, telephone calls, e-mails, and collection agency efforts—in your files. This documentation can help support claiming the worthlessness of the debt if the IRS ever challenges the bad debt deduction.
Under current law, a business may benefit from a combination of three depreciation-based tax breaks, including the section 179 deduction, bonus depreciation, and regular depreciation.
We recommend that taxpayers and property owners place qualified property in service before the end of the year. Typically, a small business can write off most, if not all, of the cost in 2020.
The Section 179 tax code allows you to expense the cost of qualified property placed in service anytime during the year. The maximum annual deduction is phased out on a dollar-for-dollar basis above a specified threshold. However, be aware that the Section 179 deduction cannot exceed the taxable income from all your business activities this year. This could limit your deduction for 2020.
We recommend coordinating this effort with your personal 1040. Claiming too much or too little in this section will create inefficient use of tax brackets.
The TCJA doubled the 50 percent first-year bonus depreciation deduction to 100 percent for property placed in service after September 27, 2017, and expanded the definition of qualified property to include used, not just new, property. However, the TCJA gradually phases out bonus depreciation after 2022. Taxpayers should carefully heed this phaseout and position their properties strategically to maximize the bonus depreciation.
Qualified Improvement Property
Qualified Improvement Property (QIP) has had a technical correction to update the depreciable life to 15 years as initially intended in the TCJA. QIP is an improvement to an interior portion of a building which is nonresidential real property. This correction makes QIP eligible for 100 percent bonus depreciation, allowing for a complete write-off of these costs in the acquisition year. Otherwise, a taxpayer would be required to depreciate these costs over 39 years.
In addition, this rule change is retroactive to the original passage of the TCJA, thus making QIP placed in service in 2018 and 2019 eligible for this tax treatment. We recommend amending previous tax returns to take advantage of these write-off costs if any QIP was placed in service in those earlier years.
Sale of Property Before Year-End
Property owners may consider selling real estate on an installment basis. For payments that occur over at least two tax years, owners can defer tax on a portion of the gain. If any sales are occurring before year-end, you may consider delaying part of cash receipt until January. This may also effectively reduce your overall tax liability, depending on your personal tax rates.
Employer Retention Credit
Many small businesses have been unable to continue regular operations during the COVID-19 pandemic. Frequently, they are facing difficult decisions concerning maintaining staff. Employers can receive a refundable quarterly payroll tax credit if the employer closed partially or fully due to government mandates or has a significant decrease in gross receipts compared to the same quarter in the prior year.
The amount of the credit is limited to 50 percent of qualifying wages paid to eligible employees. The qualifying wages are capped at $10,000 per employee, and as such, the credit is limited to $5,000 per eligible employee.
- If an employer has more than 100 employees, eligible employees only include employees that did not work during the quarter.
- If an employer has less than 100 employees, all employees are considered eligible.
Employers are ineligible for this credit if they received a Paycheck Protection Program loan.
Student Loan Benefits
Before the CARES Act, any employer contributions toward an employee’s student loans were treated as part of their wages, making them subject to income and payroll taxes for the employer and employee. Section 2206 allows employers to contribute to their employees’ student loans tax-free until December 31, 2020.
Businesses looking to maximize these tax-free contributions can contribute up to $5,250 towards an employee’s private or federal student loans. As a note, the provision only applies to loans that are held by the employees for their own education.
SECURE ACT Tax Credit
On December 20, 2019, the “Setting Every Community Up for Retirement Enhancement” (SECURE) Act of 2019 was signed into law. The SECURE Act provided the most drastic changes to retirement plan law for over a decade. The law’s provisions are intended to improve small business owners’ and employees’ ability to save for retirement.
Some of the Act’s updates were then modified again to provide pandemic relief, including creating a tax credit for new plans. The tax credit for implementing a new qualified retirement plan is equal to 50 percent of the plan’s startup costs up to the greater of $500 or 250 times the number of “non-highly compensated employees” eligible to participate in the plan up to a maximum of $5,000 per year for up to three years.
“Non-highly compensated employees” are generally employees who earn $125,000 or less in 2019 or own no more than 5 percent of the company. The compensation amount used to determine “non-highly compensated” increases each year depending upon cost of living adjustments.
Paycheck Protection Program
As part of the CARES Act, the government and Small Business Administration (SBA) made billions available to small businesses for emergency funding via the Paycheck Protection Program (PPP) loans. The largest incentive is that 100 percent of this loan could be forgiven. For specific PPP questions, please reference our frequently asked questions article.
PPP Tax Implications
Congress could change the IRS position, but for now, expenses paid for with PPP funds are non-deductible. While California has already confirmed that PPP expenses are non-deductible, the rest of the country is waiting for Congress to intervene for the Federal treatment of such expenses. If those expenses are non-deductible in 2020, businesses’ taxable income could be much higher than expected. Taxpayers should consider extending their return if Congress does not provide additional guidance by Tax Day.
Schedule C owners may be in the best position since there are no deductions to disallow and, as such, no increase in income for the PPP loan. Partners in partnerships may have a similar out from the non-deductibility since the deduction is not based on actual wage expense, and as such no deduction to exclude.
Payroll Tax Deferral
Under the CARES Act, employers may take advantage of a payroll tax deferral break. In a typical year, employers must deposit payroll taxes with the IRS under a schedule based on the company revenue size. Most small businesses are on a monthly schedule.
Businesses could take advantage of the break by deferring payment of the 6.2 percent Social Security tax portion of payroll taxes for the period spanning March 27 through December 31, 2020.
Half of the deferred amount is due at the end of 2021. The employer must pay the other half by the end of 2022. If you choose this approach, make sure you will have the funds needed to meet your company’s obligations in the future. While this deferral helps with business cash flow, businesses should be aware that waiting until the next December to make the payment will limit the amount that will be deducted on the 2020 return.
Even as we reach the end of the year, a business with short-term cash flow needs may want to consider this deferral versus borrowing money from a line of credit or another source. The deferral is, in essence, an interest-free loan. This aspect, though, will need to be balanced with losing the tax deduction. If the business has any interest in conserving cash, we recommend deferring immediately and discussing with the tax advisor if the deferred payment should be paid before year-end or at another date that will allow the amount to be deducted in 2020.
FFCRA Tax Credits
Under the Families First Coronavirus Act (FFCRA), the IRS allows businesses to retain funds that they would, under normal circumstances, pay to the IRS in payroll tax. These credits are available on applicable payroll paid from April 1 until December 31. If these credits were missed earlier in the year, it may still be possible to capture these credits now.
Eligible employers will receive a dollar-for-dollar reimbursement on all qualifying wages paid out under FFCRA leave via a payroll tax credit. This credit, however, is not available to employers who are already receiving the credit for paid family and medical leave via IRS Code Section 45S.
FFCRA also provides a tax credit to certain small businesses that have provided emergency paid leave due to the pandemic. The credit offsets any tax paid toward payroll taxes, and any excess credits are refundable. As a note, any FFCRA wages should be excluded from the allowable payroll costs included for PPP forgiveness purposes.
Oregon Tax Updates
After several recent ballot measures and legislative changes, there are several upcoming changes and additions to Oregon’s tax landscape. These updates could impact tax liability for 2020 and future years. Tracking revenue sources will be a common theme in the coming years as businesses will need to apportion their taxes according to location to maximize savings.
Corporate Activity Tax
In response to the pandemic, Governor Kate Brown and the Oregon Department of Revenue (DOR) slowed down the requirements for businesses making payments on the new Corporate Activity Tax (CAT).
The DOR has revised OAR 150-317-1300 to reflect a change in the threshold for making estimated tax payments from $5,000 of annual tax liability to $10,000 of annual tax liability for the first year of the tax. This means, effective immediately, businesses that will owe less than $10,000 are not required to make quarterly estimated tax payments for 2020.
In addition, the DOR will not assess penalties for underestimated quarterly payments or for not making a quarterly payment if businesses do not have the financial ability to make the estimated payment. However, if a business knows it will owe more than $10,000 in annual Oregon CAT in 2020, and can pay, it should make estimated quarterly payments and comply with the law to the fullest extent possible.
If it has not been done already, we recommend examining the three main drivers involved in calculating the CAT tax liability: revenue, cost-of-goods-sold (COGS), and payroll. Consider each revenue stream and determine if it is wholly Oregon-sourced, partially Oregon-sourced, or not Oregon-sourced at all. Remember that this calculation is separate from revenue tracking for income tax purposes. Those without any non-Oregon revenue for income taxes may have non-Oregon revenue for CAT purposes.
Other best practices include knowing where items are being shipped, taking a second look at COGS for income tax purposes, and capturing all the possible payroll expenses.
Oregon Paid Family Medical Leave
Effective January 2022, Oregon businesses and employees will start paying insurance to cover Family Medical Leave. The contribution will be up to 1 percent of payroll and covered 60 percent by employees and 40 percent by employers. Employers with less than 25 employees can opt-out of paying the employer portion. The paid leave would go into effect in January 2023.
Employers could consider establishing their own paid time off plan, and with approval from Oregon, avoid the state-funded plan. We recommend that companies begin planning for the additional operational expense now as it may not make sense for many small businesses to create a separate program.
Multnomah County Business Tax
In March, the Board of County Commissioners voted to increase the Multnomah County Business Tax from 1.45 percent to 2 percent. Other changes included increasing the gross receipts exemption from less than $50,000 to less than $100,000 and increasing the maximum owner’s compensation deduction to $127,000. The Portland side of the Business Tax stays at 2.6 percent, previously raised in 2018. Thus, the combined rate is now 4.6 percent for income earned inside the city and county.
For businesses wholly inside the city and county, they should consider if they have valid business operations outside of city or county limits that would allow them to apportion income outside of the city. It is possible that if employees are working from their homes, outside of the city or county limits, this may be enough activity to allow a business to apportion their income on a go-forward basis.
We suggest that all service businesses track the county where their employees are working. For non-service businesses, we suggest confirming if the business has any significant activity outside of the county/city.
Metro Business Income Tax
The tax passed in Metro ballot Measure 26-210 goes into effect for income earned after January 1, 2021, and estimated tax payments may be required, with the first payment due April 15, 2021. No regulations have yet been released, so we are all in a wait-and-see regarding how the tax will be implemented. Businesses with worldwide gross receipts in excess of $5 million will also owe a 1 percent tax on net income earned in the metro area. Businesses with gross receipts less than $5 million will be exempt. As businesses look ahead into 2021 planning, we can assume that tracking the location where all receipts are sourced will be important.
Oregon Transit Districts
For many business owners working in the Portland Metro and Lane County, they are often familiar with the local transit district taxes that support public transit. But many business owners forget that there are other transit districts in which they may be subject to taxes (i.e., Sandy or Wilsonville).
Other local transit districts also have their own forms of a transit tax. Businesses should ensure they are up to date on their local city registrations and not ignore any reminders to file the local tax returns.
Aldrich is Here to Help
As a reminder, Aldrich Advisors recommends keeping all relevant tax documents on hand for a minimum of seven years. You can find a detailed chart with record retention best practices here.
This year-end tax-planning guide is based on the prevailing federal tax laws, rules, and regulations. It is subject to change, especially if Congress enacts additional tax legislation before the end of the year. Your personal circumstances will likely require careful examination. Your Aldrich Advisor is here to provide support and answer your questions. Reach out today to schedule a meeting to discuss your 2020 tax plan.