Employee Retention Tax Credit and Some Other Last-Minute Tax Changes in the Consolidated Appropriations Act

January 6, 2021

In continuing with our look at the Consolidated Appropriations Act (CAA) that was passed the other week, we wanted to bring attention to another area that may be relevant to many taxpayers. Besides the economic-impact and unemployment payments that many qualified individuals were expecting, the CAA also included the extension and expansion of the eligibility for the Employee Retention Tax Credit (ERTC), which was originally enacted in the CARES Act to encourage businesses to keep workers on payroll.

Under the new legislation, an eligible employer can take the ERTC against certain employment taxes equal to 70% of qualified wages but not exceeding $10,000 per quarter per employee that the employer pays to an employee beginning 01/01/2021 through 06/30/2021. Previously this limitation was set to 50% of qualified wages up to $10,000 per year per employee for the period of March 12, 2020 through December 31, 2020. Eligible employers can get immediate access to the credit by reducing employment tax deposits they are otherwise required to make. In addition, any penalty assessed for any failure to make the proper deposit of any applicable employment taxes shall be waived if the failure is determined to be due to the reasonable anticipation of the credit allowed.

An eligible employer is any employer with an active business where the operations of the business are fully or partially suspended during a calendar quarter for the period beginning on January 1, 2021 and ending June 30, 2021 under orders from an appropriate governmental authority due to COVID-19 or experiences a 20% decline in revenue during a calendar quarter withing that same period. Under the previous rules the eligibility test was set at 50% rather than 20% so the new threshold should allow more businesses to qualify. One of perhaps the most beneficial changes regarding the ERTC is that the new legislation now allows employers that obtained PPP loans to also claim the ERTC on any eligible wages that are not used to support PPP loan forgiveness. Previously, an employer that received a covered loan under paragraph (36) of section 7(a) of the Small Business Act would not be entitled to the ERTC. These changes together result in a significantly larger ERTC, which is expected to be a source of cash flow for many businesses in 2021. The test to determine whether qualified wages are restricted to employees who are not performing services remains essentially the same, but the threshold has been increased from 100 to 500 employees. Thus, eligible employers with less than 500 employees will now be able to claim all wages paid to their employees during an eligible quarter regardless of whether the employees provided services or not.

Also included in the CAA were the following last-minutes tax updates that might have significant impacts to taxpayers. Some of the updates apply to 2020, while others affect both years or only take effect in 2021.

* Charitable Deductions: Congress extended and expanded charitable deductions for taxpayers who take the standard deduction instead of itemized deductions. It allows single taxpayers to deduct up to $300 in eligible donations and married joint filers to deduct up to $600. However, the expansion is not applicable until 2021. For 2020, the limit remains $300 for both single and joint filers. In addition, the CAA extends the ability of individuals who itemize to deduct charitable donations up to 100% of adjusted gross income (AGI) from 2020 through 2021.

* Flexible Spending Accounts (FSA): Participants in FSA plans can carry over unused funds from 2020 to 2021 and 2021 to 2022, or for up to 12 months for companies with fiscal years. For dependent-care accounts, the CAA extends the age limit from 12 to 13 for some carried-over funds. However, company plans must opt into the new rules in order for the employees to take advantage of the changes.

* Medical-Expense Deductions: the CAA put in place a permanent threshold of 7.5% of AGI for deducting medical expenses. Without the change, the medical AGI threshold would have risen to their pre-TCJA level of 10%.

* Retirement-Plan Withdrawals: The CAA has a permanent provision that allows victims of officially declared disasters such as, hurricanes, and fires to make withdrawals up to $100,000 of IRA and 401(k) assets. These withdrawals can then be included in taxable income or restored to the account over three years. Also, the 10% penalty on early withdrawals does not apply to people younger than 59 ½ who make such withdrawals.

We here at Chapman, Hext will continue to pull details on various topics that could be relevant and provide that information. If you have any questions regarding the CAA and how it might impact you and your business or require any other assistance with your tax planning and compliance needs, please do not hesitate to contact one of our knowledgeable team members.

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