President Trump signed into law billions of dollars in long-awaited COVID-19 and economic relief. The relief package is part of the nearly 5,600 page Consolidated Appropriations Act (CAA), which also contains numerous other tax, payroll, and retirement provisions.
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By Andy Clark
Here are some of the provisions most likely to affect individual taxpayers.
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PPP – Paycheck Protection Program
The act includes clarification on the treatment of business expenses by businesses/self-employed individuals that received PPP loans that were later forgiven. The PPP loan amounts that are forgiven are excluded from the borrower’s gross income and not considered cancellation of debt income for federal income tax purposes. The exclusion does not prevent the taxpayer from claiming any deduction for ordinary and necessary business expenses. For example, a business can still deduct payment of interest even if the interest was paid for with proceeds from a forgiven PPP loan.
Additionally, any amounts forgiven do not result in the reduction of any tax attributes or the denial of basis increase in assets. The same tax treatment also applies to any PPP loans made and forgiven after December 27, 2020.
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Recovery rebates
The most headline-grabbing component of the CAA is the second round of direct payments. The law calls for nontaxable “recovery rebates” of $600 per eligible taxpayer ($1,200 for married couples filing jointly), plus an additional $600 per qualifying child.
The payments begin phasing out at $75,000 of modified adjusted gross income (MAGI) for single filers, $112,500 for heads of household and $150,000 for married couples filing jointly. Payments are reduced by $5 for every $100 of income above these thresholds, and phaseouts reduce the total payment amount, including the amounts for qualifying children.
The CAA expands eligibility for the payments to so-called mixed status households, meaning those where not every family member has a Social Security Number (SSN). This change is retroactive to the CARES Act. Eligible families who didn’t receive a payment in the first round because one spouse lacked an SSN can claim a credit for that payment on their 2020 federal tax returns.
Because the rebates are based on your 2019 tax returns, you could receive a payment that is less than you’re entitled to under the law. If your income was lower in 2020, your family grew, or your dependent status changed, you may be able to claim an additional credit for the difference on your 2020 tax return. But, if you receive a payment and it turns out your actual 2020 income is high enough that your payment should have been phased out, you won’t have to repay the difference.
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Unemployment benefits
The CAA provides an extra $300 per week in unemployment benefits, over and above state unemployment benefits, for 11 weeks. It also extends the Pandemic Unemployment Assistance program for 11 weeks, which makes unemployment benefits available to workers who typically don’t qualify, including the self-employed, gig economy workers, and others in nontraditional employment.
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Retirement relief
The CARES Act provides several forms of temporary relief related to retirement plan requirements. For example, it permits penalty-free withdrawals from certain retirement plans for expenses related to COVID-19, and lifts the limit on retirement plan loans. The CAA clarifies that money purchase pension plans are included among the retirement plans subject to the temporary relief measures under the CARES Act.
The CAA recognizes the pandemic wasn’t the only disaster to befall taxpayers this year. It includes tax relief for taxpayers in federally declared disaster areas for major disasters (not related to COVID-19) declared from January 1, 2020, through February 25, 2021.
The relief under the CAA mirrors some of the relief afforded under the CARES Act. For example, it provides that residents of qualified disaster areas can take distributions of up to $100,000 from retirement plans without the normal 10% early withdrawal penalty. A “qualified disaster distribution” must be made no later than June 25, 2021. The CAA also contains special rules for the recontribution of retirement plan distributions applied to a home purchase in a qualified disaster area, and raises the limit for retirement plan loans made following a qualified disaster.
Be aware that the CAA doesn’t extend the CARES Act’s temporary waiver of required minimum distributions. Affected taxpayers should plan on resuming those distributions for 2021.
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Earned income and child tax credits
The CAA includes a temporary change that could result in larger earned income tax credits (EITCs) and child tax credits (CTCs). It allows lower-income individuals to use their earned income from the 2019 tax year to determine their EITC and the refundable portion of their CTC for the 2020 tax year. This could produce larger credits for eligible taxpayers who earned lower wages in 2020 due to the pandemic.
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Medical expense deductions
For tax years beginning before January 1, 2021, you could claim an itemized deduction for unreimbursed medical expenses that exceeded 7.5% of your adjusted gross income (AGI). The threshold was scheduled to jump to 10% of AGI for 2021, which would make it more difficult to qualify for a medical expense deduction. The CAA permanently sets the threshold at 7.5% of AGI for tax years beginning after December 31, 2020.
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Charitable contributions
Under the CARES Act, taxpayers who don’t itemize their deductions on their tax returns can still claim a $300 “above-the-line” deduction for cash contributions to qualified charitable organizations in 2020. The CAA extends that deduction through 2021 and doubles the deduction for married filers to $600. Contributions to donor-advised funds and supporting organizations don’t qualify for the deduction.
The CARES Act also loosened the limitations on charitable deductions for cash contributions made in 2020, boosting it from 50% to 100% of AGI. The CAA carries that over for 2021. Cash contributions remain limited to the excess of AGI over the amount of all other charitable contributions. Any excess cash contributions are carried forward to later years.
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Education tax credits
Qualified taxpayers generally can claim an education tax break with the American Opportunity Tax Credit (AOTC) and the Lifetime Learning Credit (LLC). Previously, the two credits were subject to different phaseout rules, with the AOTC available at a greater MAGI than the LLC. Before the new law, taxpayers could claim a “higher education expense deduction” for qualified tuition and related expenses.
The CAA adopts a single phaseout for both the AOTC and the LLC, effective for tax years beginning after December 31, 2020. The credits will phase out beginning at $80,000 for single filers and ending at $90,000. For joint filers, they will begin to phase out at $160,000 and disappear at $180,000. The new law also repeals the higher education expense deduction. Instead, taxpayers can apply the LLC credit.
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There’s more
The CAA is one of the longest pieces of legislation in congressional history, and the provisions outlined above are only a sampling of those that could affect you. Contact us to make sure you make the most of the changes.
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