The federal Consolidated Appropriations Act, 2021 (CAA), signed into law in late December of 2020, modifies and clarifies the tax provisions of last year’s Coronavirus Aid, Relief and Economic Security Act (the CARES Act) and provides other forms of tax relief for businesses.
Deductibility of Expenses Paid With Forgiven PPP Loans
Perhaps the most significant change for small businesses comes in Title III of the Act, which resolves questions (and overrides previous IRS guidance) about the deductibility of business expenses funded through forgiven PPP loans.
Under the Act, deductions are affirmatively allowed for expenses that would ordinarily be deductible and are paid for with the proceeds from a PPP loan that is (or was) later forgiven. This business-friendly provision supersedes IRS guidance issued in April of 2020 under the CARES Act that expenses paid with PPP proceeds would not be deductible (based on the idea that allowing the deductibility of PPP-funded expenses would provide a double benefit for the recipients of forgiven loans because those loan funds are not considered gross income).
Instead, Title III of the CAA specifies that Congress did not intend to disallow the deduction of ordinarily deductible expenses, and those deductions remain available to businesses.
Allowing these deductions helps businesses in several ways:
- Offering clarity for financial statement income tax provisions
- Simplifying tax planning for companies and individual owners of pass-through entities
- Resolving questions about coordinating deductions with provisions such as research and development tax credits, payroll-based credits, and other rules.
The Act also specifies that the proceeds of forgiven loans under the first PPP loan program and the Second Draw program (created under the CAA) do not count as gross income (as forgiven debts would ordinarily). A forgiven PPP loan is now completely tax-exempt and not taxable income.
Similarly, the CAA provides that the proceeds of an Economic Injury Disaster Loan (EIDL) are not considered gross income, and a company that receives an EIDL is entitled to deduct business expenses paid with the proceeds of that loan.
Expanded Employee Retention Credit
The Act significantly expands the Employee Retention Credit, which was designed to help employers that retained staff members during 2020 despite being affected by COVID-19.
The act amends the Employee Retention Credit to be equal of 70% of qualified wages, up to $10,000 in qualified wages that are paid to each employee per quarter for the first two quarters of 2021. This creates a maximum potential credit of $7,000 per employee per quarter, or $14,000 for 2021, compared with a $5,000 maximum annual credit per employee under the 2020 CARES Act.
An employer qualifies for the retention credit if the employer’s operations were fully or partially suspended under a COVID-19-related government order, or if the employer’s gross receipts declined by 20% in the year-ago quarter (compared with a 50% decline under the CARES Act).
The CAA also expands eligibility from an average of fewer than 100 employees to fewer than 500. This provision is retroactive to an average of 500 employees in 2019, which means a significant group of employers with 100 to 499 employees who were ineligible to apply the credit under the CARES Act provisions are eligible (for the first two quarters of 2020) under the CAA.
In addition, the CAA clarifies that “qualified wages” go beyond cash wages to include amounts paid to maintain a group health plan.
Retention Credit and PPP Coordination
The CAA also expands the pool of employers that are eligible for the retention credit by stating that employers who received (or receive) PPP loans can also apply the Employee Retention Credit for 2020 and 2021, provided that the PPP proceeds and ERC don’t cover the same payroll expenses.
Any wages that qualify under both programs can be applied to either, but not both. This gives employers the opportunity to maximize their PPP loan forgiveness and retention credit by comparing the effects of both programs and choosing the best scenario for them.
Flexible Spending Account Flexibility
Employers should know the CAA allows individual taxpayers to roll over unused amounts in their health or dependent care flexible spending accounts from 2020 to 2021, and from 2021 to 2022. This provision also permits employers to allow employees to make a 2021 midyear change to their contribution amounts.
Expanded Meal Deductions
The Act temporarily allows a 100% business-expense deduction (compared with the previous 50%) for food or beverages provided by a restaurant that are paid or incurred after December 31, 2020 and before January 1, 2023.
Contact us to learn more about the CAA’s tax provisions, how they apply to your company’s specific situation, and how we can help you maximize your company’s benefits and potential loan forgiveness.
