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Friday, December 27, is the last day of our winter hours, with offices closing at noon MST.
Summer hours are in effect: Our offices close at NOON on Fridays from May 17th to July 12th
Our offices will be closed on December 24, December 25, and January 1.
Friday, December 27, is the last day of our winter hours, with offices closing at noon MST.
Understanding obligations and available state tax relief will help businesses navigate the pandemic.
As businesses continue to assess the myriad implications of the COVID-19 pandemic, one area of focus should be on the impact of legislation, regulations and guidance issued at the state and local levels. This becomes increasingly more complex for businesses that operate or have employees in multiple states. Over the past several months, state and local governments have released various tax-related measures in response to the coronavirus pandemic, addressing areas such as state income tax, sales and use tax, property tax and unclaimed property. These measures could affect state tax obligations. In addition, some states have introduced measures that provide relief and/or incentives to businesses.
State Income Tax
The COVID-19 pandemic is forcing millions of employees to work remotely, and there are three potential state tax impacts that could result: nexus, payroll tax withholding and apportionment. With limited—and sometimes inconsistent—guidance from states, businesses will need to monitor these issues closely and address them as they arise.
The first issue is whether having an employee work remotely due to COVID-19 will create a taxable presence (or nexus) for the employer in that state even if the employer does not carry out any other nexus-creating activities in that state. To date, at least 15 states have issued guidance regarding teleworking employees and nexus. In most cases, states have indicated that nexus is not created by an employee teleworking in the state due to COVID-19. While this is a welcome clarification, some questions remain unanswered, such as the nexus implications for businesses once a state lifts its emergency order or where the business lifts its own stay-at-home requirement, but the employee continues to work from home. In states that have not issued guidance on the nexus implications of employees working remotely, businesses may have nexus and new filing and compliance requirements.
Second, state payroll tax withholding obligations should be considered. To date, only six states have issued guidance on the withholding tax requirements for wages paid to employees working remotely. In some cases, states have indicated that employers do not need to withhold tax for employees who are working in that state due to COVID-19, while other states have taken the opposite position. In addition, employees working from home in a state other than the state where the employer’s facilities are located must determine whether their residence state will grant a credit for taxes paid to the employer’s state. In certain situations, teleworking employees could be subject to double taxation if both the employer and employee’s states require wage withholding.
Third, teleworking employees impact business’ apportionment factors. Only a few states have provided guidance in this area, likely because most states have shifted to a single sales factor formula without a payroll factor; thus, the state does not have to address how to source a teleworking employee’s wages for payroll factor purposes. However, businesses that generate service revenues will need to consider those states that adopt cost-of-performance sourcing for service revenues. Those revenues may need to be sourced to a different state due to the location of the teleworking employees. Changes in revenue sourcing could create a higher or lower apportionment factor depending on whether the business or teleworking employees or both are located in a cost of performance state.
Sales and Use Tax
COVID has also had an impact in the sales and use tax area, such as nexus and filing obligations in new states, the introduction of new sales and use tax exemptions, and sales and use tax filing extensions and penalty abatements.
It has been more than two years since the U.S. Supreme Court issued its landmark decision in South Dakota v. Wayfair, in which the court held that a physical presence is not required for a remote seller to collect sales tax in the state provided the seller meets an economic threshold. Based on Wayfair, states are empowered to require remote sellers to administer sales tax; only two states (Florida and Missouri) have not revised their sales tax laws to adopt “economic nexus.” However, all states that have enacted the concept of economic nexus (except Kansas) provide a safe harbor for small sellers. Many businesses are still evaluating the impact of economic nexus and in which states they are required to administer sales tax.
Businesses that were taking a no-nexus position in a state due to a safe harbor (e.g., annual sales under $100,000 and fewer than 200 transactions) may now have nexus because they have employees working remotely in that state. A few states (including New Jersey and Rhode Island) provide an exception when nexus is triggered because an employee is temporarily working from home due to COVID-19.
Some states have introduced new sales and use tax exemptions as a result of the coronavirus pandemic. For example, there is an exemption from self-assessing and remitting use tax on eligible items that are withdrawn from inventory and donated for COVID-19 assistance; in Indiana, the exemption extends to medical supplies, food and cleaning supplies.
Some states, like Florida and Texas, have expanded their back-to-school sales tax exemptions to include personal protective equipment (PPE), such as face masks and shields. Other states have bills pending to exempt the purchase of PPE from sales tax, although enactment of these proposals is likely to face some challenges. State general assemblies may not be in session until 2021 and, more fundamentally, states may object to new exemptions because they need the tax revenue to provide essential services.
Finally, some states have provided tax return filing extensions or abatements of automatic penalties. It should be noted that even if a state has not announced automatic relief, most states provide for an abatement of penalties due to “reasonable cause.” Companies seeking an abatement of penalties should consider taking steps to avoid paying penalties, rather than paying and subsequently requesting relief.
Credits and Incentives
Many states have introduced new incentive programs and/or revamped existing ones to allow more businesses to benefit. While some of these programs have been widely publicized, other incentive programs must be sought out. California has expanded the Employment Training Panel Grant to give approval preference to industry groups that include many “essential businesses” and has raised the cap on allowed safety training. North Carolina has created a Job Retention Program specifically in response to COVID-19, which allows companies to apply for cash grants based on the prior year’s payroll costs. Several states, including Massachusetts, Missouri and Ohio, have enacted grant programs to incentivize existing businesses to retool their facilities to produce PPE.
To help companies keep their employees safe and adjust to new protocols, some states, including Arizona, California and North Carolina, have updated existing training programs to include COVID-19-related training for incumbent workers. Other states have created specific COVID-19 safety training, developed by health and safety experts, which is offered to businesses free of charge.
Some states have postponed compliance requirements for existing incentive agreements. For example, Indiana and Ohio have announced they will not hold companies to 2020 employment commitments and are relaxing the enforcement of compliance reporting deadlines. Other states, such as Georgia, are adjusting headcount increase measurements for purposes of job tax credits; Georgia will allow companies to use 2019 headcount details if the 2020 headcount is skewed by short-term COVID-19-related job reductions.
In addition to programs offered at the state level, many city and county jurisdictions have developed their own programs to help companies deal with the detrimental economic effects of COVID-19. These programs include cash grants and zero-interest loans.
Property Tax
The effects of the coronavirus pandemic on property values will have a direct impact on real and personal property tax liabilities during the next property tax cycle. As jurisdictions prepare to counterbalance any loss in property tax revenue, businesses should be prepared to capture any detriments to value for the upcoming lien date(s). Some jurisdictions have adopted measures to preserve their tax bases, including the expansion of audits, aggressive audit assessments, abolition of exemptions, increases in the tax rate and proposed legislation that would impact assessments.
In California, voters will vote on legislation in November that would eliminate Proposition 13 (which limits property tax increases and reassessments) for most commercial businesses. This initiative, referred to as the “split roll,” would be created to maintain Proposition 13 for specific property, while Proposition 15 would allow for the revaluation of commercial property on a consistent basis and eliminate the statutorily limited annual increase. If the initiative is passed, it could result in a significant increase in the California real estate tax for many businesses.
Businesses should begin gathering data to analyze the potential impacts to property values. Consideration should be given to factors associated with any reduced revenue, increase in expenses, changes in the workforce, non-utilization of assets, deferred maintenance and additional requirements as a result of COVID-19. Detriments to value should be incorporated through personal property filing on the 2021 renditions, as well as through reviews of real property assessments to potentially lower real property values for the appeal deadlines throughout 2021.
Unclaimed Property
All states have laws regulating the reporting and remittance of unclaimed property (also referred to as abandoned property or escheat). Unclaimed property can include various types of intangible property, as well as some tangible personal property, depending on state law. Common types of unclaimed property include uncashed payroll or commission checks; uncashed vendor checks; unresolved voids, unredeemed gift certificates and gift cards; customer credits, layaways, deposits, refunds and rebates; overpayments and unidentified remittances; and accounts receivable credits, including credits that have been written off and recorded as income or expense (e.g., bad debt, miscellaneous income, etc.).
A holder of unclaimed property is required to report the property to the appropriate state after the time prescribed by the state has passed (the dormancy period). The purpose is to ensure that the property is returned to its rightful owner, the premise being that the state is in a better position to hold the property and return it to the rightful owner, and, in the interim, property held and derivative funds earned on the property may be used for the public good. Jurisdiction over unclaimed property is in the state of the rightful owner’s address, and if the owner’s address is unknown, the state where the holder is incorporated/formed; thus, even organizations that operate in only one state can have unclaimed property obligations in multiple states.
COVID-19 has significantly impacted how businesses address unclaimed property compliance for two main reasons.
First, many businesses have furloughed staff or implemented reduction in workforce measures that have created delays in complying with escheat compliance deadlines. Escheat compliance filings are categorized into (a) spring filings, January 1 through July 1, and (b) fall filings, October 31 or November 1. Some states, including California, Illinois, Michigan, Pennsylvania and Vermont, have granted extensions or waived penalties or interest (automatically or upon request) for the spring filings. However, no extensions or automatic waivers of penalties or interest have been provided for fall filings. Instead, most states have provided holders with online filing and payment instructions. Missed deadlines could result in penalties and interest or create additional audit risk.
The risk of penalties and interest is potentially increased based on the 2019 New York high court decision in New York ex. rel. Raw Data Analytics LLC v. JPMorgan Chase & Co., N.Y. Supp. Ct., No 100271/2015 (August 30, 2019, appealed October 3, 2019), in which the court ruled that JP Morgan was not entitled to judgment as a matter of law for its failure to self-assess and pay interest on late-reported unclaimed property. Presumably, if this case stands, holders in New York will be required to self-assess interest. Failure to do so could result in additional costs. Other states will likely follow suit.
Second, many businesses’ finance, treasury and/or accounting functions operate on a remote work or hybrid platform. This makes reviewing state mailings or notices in a timely fashion or accessing manual records or ancillary systems to assist in escheatment projects difficult. For example, Delaware sends notices to holders requiring them to enter into the state’s Voluntary Disclosure Agreement (VDA) program or risk being audited. Many holders missed the opportunity to enroll in the Delaware VDA program by failing to file the form within 60 days of receiving an initial letter from the state. This is largely because individuals were not in the office to receive and review the letter and distribute to appropriate management. Delaware sent letters February 20, 2020, and extended the VDA deadline to July 18, 2020, but many businesses still missed the deadline and received audit letters the following week. Furthermore, the inability to be in the office where necessary records are kept can result in delays in compliance with voluntary disclosure and audit requirements. To date, most states and auditors have been flexible with the timing of requests due to COVID-19, but this flexibility is expected to decrease in Q4 2020 and into 2021.
Businesses are likely to continue to operate in understaffed capacities and in a remote environment for an indeterminate period of time. Notwithstanding, holders of unclaimed property should consider dedicating some internal resources to address escheat compliance obligation or outsource the function to a third party to avoid the significant costs associated with non-compliance.
Insights
In summary, businesses should consider the following when navigating the complexities resulting from the effect of COVID-19 on their workforce:
Two of the most formidable hurdles businesses face are limited resources and competing priorities. Addressing risk, while understanding potential savings opportunities, will prepare businesses to emerge stronger from the uncertainty created by the pandemic.
THE 2020 TAX PLANNING PARADOX – ACCELERATE INCOME TO LOWER YOUR TOTAL TAX LIABILITY
As 2020 winds down, it’s time to consider year-end planning. It’s an unusual year, with taxpayers experiencing losses due to the economic downturn and the possibility of higher income tax rates next year. Consequently, we need to rethink the traditional year-end advice of deferring income and accelerating deductions to minimize one’s total tax liability over the years. Accelerating income in 2020 has several advantages. First, the Tax Cuts and Jobs Act reduced the maximum individual tax rate from 39.6% to 37%. Second, many taxpayers will be in a lower tax bracket this year from losses incurred in this economic downturn. Third, accelerating income increases a taxpayer’s adjusted gross income (AGI) limitation for charitable contributions. The CARES Act suspends the traditional 60% AGI limitation and permits individual taxpayers to take a charitable contribution deduction for qualifying cash contributions made in 2020 to the extent such contributions do not exceed the taxpayer’s AGI.
Here’s a rundown of some ways to accelerate income in 2020.
Assets held in traditional IRAs have several disadvantages compared to assets held in Roth IRAs: Distributions in excess of basis are taxable as ordinary income, required minimum distributions must begin once a taxpayer reaches age 70½ (72 for taxpayers who attain age 70½ after December 31, 2019), and early withdrawals before age 59½ are subject to a 10% penalty unless one of several exceptions apply.
One way to mitigate these disadvantages while accelerating income in 2020 is to convert the traditional IRA to a Roth IRA. In doing so, the taxpayer will accelerate the ordinary income tax liability that would otherwise be due upon distribution had the assets remained in the traditional IRA. Conversion in 2020, while the asset values are likely to be temporarily lower than normal, reduces the tax liability while allowing the future recovery in value plus all appreciation to avoid taxation. The earning power of the account is maximized because there will be no required minimum distributions during the taxpayer’s lifetime (heirs will be subject to the required minimum distribution rules). While the income taxes have been paid on the converted amount, distributions from the converted amounts only remain subject to the 10% early withdrawal penalty for five years unless the taxpayer has attained age 59½.
The earnings and appreciation on the account can be distributed tax and penalty-free, provided the account is at least five years old and the IRA owner is at least 59½. Other distributions qualifying for tax-free treatment include those (i) made to a beneficiary (or estate) after the death of the Roth IRA owner, (ii) made due to the Roth IRA owner’s disability, or (iii) made under first-time homebuyer exception.
The installment sale rules require taxpayers who sell property where at least one of the payments will be received in a subsequent taxable year to recognize a portion of the gain as each payment is received. By electing out of the installment method, a taxpayer may recognize the entire gain in the year of sale. The election must be made on a timely filed return (including extensions) and is irrevocable once made.
The Tax Cuts and Jobs Act permitted taxpayers to defer tax on capital gains invested in a qualified opportunity fund (QOF) until the earlier of an inclusion event or December 31, 2026. Presidential candidate Joe Biden has proposed subjecting capital gains to a 39.6% ordinary income tax rate for those taxpayers with over $1 million in income. Thus, there exists the possibility that a deferral until December 31, 2026, will result in a capital gains tax on the deferred gain at a rate of 39.6% instead of the current 23.8%. Inclusion events include a gift, disposition or sale of the QOF. In addition, for those QOFs held in a grantor trust, the termination of the grantor trust status for reasons other than the death of the grantor is also an inclusion event.
Harvesting capital gains is an ideal strategy to hedge against a future increase in the capital gains tax rate. Here, a taxpayer can increase their cost basis by selling an appreciating investment and then use the sales proceeds to repurchase the same or a similar investment. While the sale will realize a taxable gain, the repurchase of the investment will provide a stepped-up cost basis and later yield a lower gain when the investment is sold in the future – when the capital gains tax rate is higher. The wash sale rules, which dissuade harvesting tax losses, do not apply to harvesting capital gains.
The Tax Cuts and Jobs Act limited the nonrecognition of gain from like-kind exchanges to exchanges of real property not primarily held for sale. When a transaction qualifies as a like-kind exchange, nonrecognition treatment is mandatory. To avoid the imposition of the like-kind rules, a taxpayer merely needs to actually or constructively receive cash or other boot in the transaction. For deferred gains on prior like-kind exchanges, taxpayers can trigger the gain recognition by selling the replacement property.
Nonqualified stock options (NQSO) are a useful tool for taxpayers who are looking to accelerate income because they generate taxable compensation equal to the fair market value of the shares less the exercise price when exercised. Employees may be offered the ability to defer their income tax liability on the exercise by making a Section 83(i) election. The Section 83(i) election is a useful cash conservation strategy that allows an employee to exercise more options before additional appreciation drives up the amount taxed as ordinary compensation without an immediate cash outlay for income taxes. However, the election to defer will not be useful to those looking to accelerate income to the current year for tax planning purposes.
Incentive stock options (ISO) are taxed upon disposition of the ISO shares rather than upon exercise of the option. The sale proceeds minus the exercise price of ISO stock are taxed at capital gain rates, provided the sale occurs not sooner than 1 year after exercise and 2 years after grant of the option. Earlier dispositions of the ISO shares generate taxable compensation equal to taxation as a NQSO, with any excess gain taxed as capital gains.
Restricted stock awards are generally taxed to the employee when the shares vest unless the employee elects to be taxed upon receipt of the unvested shares by making a Section 83(b) election.
C corporations are well-known for their “double taxation” concept. That is, a C corporation is taxed on its earnings, and any dividend paid from the C corporation’s earnings are also taxable to the shareholder while not being deductible to the corporation. To avoid the second layer of tax, shareholders often cause the C corporation to retain earnings rather than distribute dividends. However, shareholders may find the low tax rates and losses in 2020 an ideal time to pull cash out of their C corporations by taking dividends.
Managing cash flow is an ongoing priority for any business. Protecting an organization’s cash flow in times of economic distress is paramount. To retain liquidity in the short term, many organizations are examining their retirement plans for flexibility in cash outflows.
Adjusting or temporarily putting a hold on employer contributions to retirement plans stands out as a prominent option for some, but other less obvious tools can help plan sponsors operate more efficiently during a crisis as well.
Before making any changes, employers need to consider both the short-term and long-term consequences of these actions. While such decisions can provide some immediate cash flow relief, they can also increase long-term costs or negatively impact an organization’s employee morale and competitive positioning.
Eliminating or suspending the employer match, while a potentially effective tool employers can use to shore up cash, may not be an option, depending on how the plan document is written. Plans that include an annual safe harbor 401(k) contribution may include restrictions relating to the suspension or elimination of these contributions. Plan documents must be thoroughly reviewed before reaching a decision.
Even if eliminating or suspending the employer match is an option, employers should approach these decisions with care as they may negatively affect an organization’s ability to attract new employees. This potential backlash may be the reason many employers are hesitating to suspend contributions, even as we anticipate a continued quarantine. A recent survey by the Plan Sponsor Council of America (PSCA) showed that only 16 percent of benefit plans expect to suspend contributions.
Another option could be to reduce the number of participants in a plan to archive a lower administrative cost in upcoming quarters. Employers can achieve this is by removing inactive participants from the plan. The Internal Revenue Service (IRS) allows plan sponsors to cash out inactive participants with $1,000 or less in their accounts, and plan sponsors don’t need permission from the individual to do this. In addition, plan sponsors can roll accounts with balances of $5,000 or less into Individual Retirement Accounts (IRAs).
Participants with more than $5,000 in their accounts can’t be forced out of the plan, but plan sponsors are permitted to contact such participants and inquire if they would like to be cashed out. As always, it’s important for plan sponsors to refer to their plan documents before seeking to reduce the number of inactive participants or issue distributions.
Several other tools exist that may help plan sponsors operate more efficiently:
When examining the potential tools at your disposal for conserving cash, it’s important that employers don’t make these decisions in a vacuum. While certain actions can be taken to improve cash flow now, they could lead to greater expenses in the long term—and changes to retirement savings plans may ultimately weaken an organization’s ability to recruit and retain talent.
Your representative is available to help evaluate your plan and look for opportunities to create valuable flexibility while still being mindful of the long-term impacts of these changes.
On August 28, 2020, the IRS issued Notice 2020-65 that provides some needed guidance for employers wondering whether and how to comply with the employee payroll tax deferral described in the August 8, 2020 Presidential memorandum (often referred to as an “executive order.”). Even though the Notice leaves many questions unanswered, it addresses some key items.
Although the IRS Notice does not specifically state whether the employee payroll tax deferral is mandatory, the deferral appears to be voluntary, which lines up with Treasury Secretary Mnuchin’s widely reported comments.
Internal Revenue Code Section 7508A (which is the basis for the memorandum and the Notice) allows the President to postpone certain tax deadlines due to a disaster, such as COVID-19. However, Section 7508A does not give the President authority to require taxpayers to use the extended deadline. In other words, even if a deadline is postponed, a taxpayer could continue to adhere to the normal deadlines. As a result, employers can continue to withhold employee Social Security tax or Railroad Retirement tax from September 1 to December 31, 2020 if they do not wish to avail themselves of the deadline extension.
The Notice clearly places responsibility on employers for withholding and depositing the deferred taxes and states that penalties generally would apply for any failure to comply (although the Notice states that employers can “make arrangements to otherwise collect the total Applicable Taxes from the employee”). Neither the memorandum nor the Notice eliminates the tax liability.
It appears that the employee payroll tax deferral does not apply to self-employed individuals, since it only applies to Social Security tax and Railroad Retirement tax and does not include Self-Employment Contributions Act (SECA) taxes.
In an August 8, 2020 memorandum to the Secretary of the Treasury entitled, “Deferring Payroll Tax Obligations in Light of the Ongoing COVID-19 Disaster,” President Trump directed Treasury Secretary Mnuchin to use his authority to defer the withholding, deposit and payment of employee Social Security tax on wages (i.e., 6.2% of employee wages) or Railroad Retirement tax on compensation paid to certain employees during the period September 1 through December 31, 2020. The memorandum instructed the Treasury Department to issue guidance explaining how to implement the deferral and to explore avenues, including legislation, to eliminate the obligation to pay the deferred taxes. Secretary Mnuchin made comments in an August 10 interview that employers would not be required to offer the deferral.
Since the guidance was released so close to the first available deferral date (i.e., September 1), employers have very little time to modify payroll procedures and payroll system to allow employees the deferral on the first pay cycle in September. Under the current IRS rules, it is not possible to “recover” the tax that already was withheld and remitted, but was eligible for the deferral, without causing issues with the employer tax filings and the imposition of penalties. Retroactive changes generally are not allowed simply because a taxpayer failed to use an available extension. This is consistent with the IRS’s position on employers that failed to timely defer the employer’s share of Social Security taxes (6.2%) as permitted under the CARES Act.
The two-and-a-half-page IRS guidance leaves unanswered many concerns surrounding the employee payroll tax deferral, but it does clarify several important points as they pertain to an employer’s payroll process. Below is a summary of the guidance.
Employees who are paid hourly or whose wages vary from pay period to pay period may not benefit from the payroll tax deferral in every pay period depending on whether the amount of wages exceeds the biweekly threshold of $4,000, or the equivalent. Employers should review with their IT departments or payroll service providers to ensure that the payroll system is configured correctly to determine who is eligible to participate in the employee payroll tax deferral on a pay period-by-pay period basis.
The very short-term deferral and repayment period results in a modest benefit.
An employee who earns the Federal minimum wage would have an increased biweekly paycheck of $36 (or $324 for nine pay periods, from September 1 to December 31, 2020).
For employees that earn the maximum $3,999 every two weeks for nine pay periods, the benefit is $2,231. ($3,999 x 6.2% x 9 pay periods).
Unless something happens to dramatically improve the employee’s household income before January 1, 2021, the repayment of taxes ratably over the first four months of 2021 may create a greater hardship than their current cash flow shortage.
Employer Dilemma
Many questions remain in terms of how the employee payroll tax deferral will impact employees and employers, how the deferred payroll taxes are to be reported and what changes must be made to an employer’s payroll system. Until the IRS provides further guidance regarding these outstanding questions and concerns, employers that consider implementing the employee payroll tax deferral should exercise care by putting safeguards in place to ensure that they do not fall victim to the IRS penalties.
Since the employee payroll tax deferral takes effect as early as September 1, 2020, employers that consider implementing the tax deferral likely will face a dilemma due to some of the unanswered questions unless the IRS issues additional guidance soon. For example:
The opportunity zone program was created through the passage of tax reform in 2017, also known as the Tax Cuts and Jobs Act (P.L. 115-97). Over $10 billion dollars have been deployed into qualified opportunity zone investments. While the investment has slowed, COVID-19 and additional guidance has created renewed interest in utilizing this program to assist with underserved communities and to provide tax relief for investors. Discussions and drafts of proposed bills would extend the program and provide other favorable provisions to investors. As a result, planning opportunities exist for new investments into the program, as well as for current investments.
Treasury and the IRS released final regulations and proposed regulations at the end of 2019. Additional guidance has been released in the form of correcting amendments, Notice 2020-23, and Notice 2020-39.
Notice 2020-39
In Notice 2020-39 the IRS provided relief to qualified opportunity funds (QOFs) and their investors in response to the COVID-19 pandemic. Additionally, the IRS has updated its Qualified Opportunity Zones frequently asked questions. The guidance provided the following relief:
2020, through December 31, 2020, will be considered to be due to reasonable cause and that the failure will not prevent qualification of an entity as a QOF or an investment in a QOF from being a qualifying investment. The QOF will not be liable for the statutory penalty for any failures to meet the asset testing during this period. The QOF, however, must complete all lines on the annual filing of the Form 8996 – Qualified Opportunity Fund. This relief is automatic. If this exception applies, the taxpayer should place a zero in Part IV, line 8, “Penalty” on this form.
The Treasury Department and the Internal Revenue Service recently issued correcting amendments to the opportunity zone final regulations under Section1400Z, that were previously released on December 19, 2019. The correcting amendments are effective on April 1, 2020, and, are applicable as of January 13, 2020. While there were numerous changes, the following provides a summary of the key provisions.
The correcting amendments further provide language that appears to state that during a working capital safe harbor period, an entity meets the 70% tangible property standard. Under this interpretation, the 70% tangible property standard would be suspended during the safe harbor period. As such, non-QOZB property (i.e., bad assets) would not impact the asset requirement. This provision is very beneficial for start-up entities.
Further, the correcting amendments clarify that working capital itself is never treated as QOZB property for any purpose. It is not included in determining the 70% tangible property standard.
A QOF that receives an investment before June 30, 2020, will be required to invest those funds within six months, or December 31, 2020. If a QOF delayed the receipt of those funds until sometime in July 2020, then the QOF will have until June 30, 2021, to invest those funds into qualified opportunity zone property. The testing is done every six months and the investment is given six months to be deployed, so there would be no issue with the December 31, 2020, testing. The next testing period will be June 30, 2021. Planning the receipt of funds is important and provides some flexibility.
Many investors sold stock in reaction to COVID-19 to reap the capital gains. As a result, investors may have capital gains available to invest. Previously, some investors did not like the 10-year required holding period required to escape taxation on the gain during the time of the investment in the QOF. During this time of market uncertainty, the 10-year investment holding period may be more appetizing. The 10-year period may leap frog this uncertainty period. As a result, investors are looking at real estate projects and other businesses that may not have been previously considered. QOFs should be prepared to receive these funds that will likely expire in late summer or early fall.
The final regulations provided that the “original use” provision does not apply to property that has been vacant for three years, if it was bought by the QOF after 2018. The “original use” test would have required the investor to substantially improve the property. This is not required for these vacant properties, which would eliminate the significant funds required for substantial improvements. A building or land meets the rule of being vacant if 80% of its usable space is empty. As such, a large property that is still 20% leased would likewise be exempt from the “substantial improvement” rule. Additionally, buildings acquired directly from the government through bankruptcies or tax sales would not have to be substantially improved. There will likely be numerous abandoned, foreclosed, and government tax sales properties in opportunity zones as a result of COVID-19. These properties may now be more attractive due to the elimination of the “substantial improvement” requirement.
The CARES Act permits NOLs from 2020 to be carried back five years to offset taxable income. This can be particularly valuable if it is carried back to a year with a pre-tax reform tax rate (e.g., 35% for corporations). As such, investors want to increase the NOL in 2020. Taxpayers may wish to defer the gross (not net) capital gains by investing in a QOF, even in a loss year.
Under the final regulations, investors do not need to net Section 1231 gains with Section 1231 losses. As such, investors do not need to wait until year end to invest in opportunity zones. Rather, an investor can invest the capital gain on the sale of business property into a QOF, while maintaining the loss amount separately. Accordingly, the Section 1231 loss, to the extent that it can create a NOL, can be carried back for five years, generating cash refunds (especially if it is at a pre-tax reform rate).
Property acquired and placed in service between September 27, 2017, and December 31, 2022, is eligible for 100% bonus depreciation. The CARES Act corrected the depreciable life of QIP from 39 years to 15 years. QIP is now bonus-eligible property. Pursuant to the opportunity zone final regulations, there is no bonus recapture. If the property is held for the 10-year period, an investor may create a permanent tax benefit. As a result, cost segregation studies for non-commercial property are extremely valuable. You would get the deductions for bonus depreciation with no recapture and the step up in basis at the end of the 10-year holding period. If the QOZB elects to be a real property trade or business to prevent the Section 163(j) limitation, then bonus depreciation is not permitted. However, QIP would be reduced from a 39-year life to a 20-year life, which still provides tax benefits to the investors. Bonus depreciation may likewise result in NOL carrybacks that could be extremely valuable.
The final regulations also allow a QOZB to extend the 31-month period for project delays resulting from government approvals. Many government entities are limiting services. As such, any delay in permits or other approvals should be documented.
With COVID-19 and the resulting financial crisis, the Qualified Opportunity Zone program is a valuable tool for purposes of revitalizing distressed communities. Some state plans have already utilized the infrastructure of the program for their own investment incentive programs. Opportunity zones can assist in producing public-private partnerships that are critical for the recovery of distressed communities and will be needed for an increase in affordable housing and mixed-use projects, as well as job creation. Congress could provide additional incentives during this time of uncertainty to bring in additional capital investments. How Congress enhances the opportunity zone program will likely impact its durability. Funding for underserved communities is more important than ever and the opportunity zone program may be a key tool to revitalize these communities and the economy.
Colorado Springs, Colo. – Stockman Kast Ryan + Co, LLP (SKR+CO), the largest locally-owned certified public accounting firm in Southern Colorado, has been named a 2020 IPA 400 Firm by INSIDE Public Accounting, based on the 2020 annual INSIDE Public Accounting Survey and Analysis of Firms.
SKR+CO ranked #306 in 2020, up from #323 in 2019. Four Colorado-based firms made the top 400 list.
IPA 100, 200, 300 and 400 firms are ranked by U.S. net revenues and are compiled by analyzing responses received this year for IPA’s Survey and Analysis of Firms. This is IPA’s 30th annual ranking of the largest accounting firms in the nation.
View the full list of the IPA 100, 200, 300 and 400 Firms.
INSIDE Public Accounting (IPA) is a leader in practice management resources for the public accounting profession that include: the monthly practice management newsletter, the annual national practice management benchmarking reports, firmwide culture assessment and corresponding reports and training. IPA has assisted firms across North America grow and thrive since 1985.
About Stockman Kast Ryan + Company
SKR+CO is Southern Colorado’s largest independent certified public accounting firm providing a variety of in-depth consulting for businesses and individuals. Advisory services include tax planning, audit and assurance compliance, outsourced controller and contract CFO, financial reporting, estate planning, business valuations and litigation support. For more information, visit www.skrco.com. SKR+CO is an independent member firm of the BDO Alliance USA, a nationwide association of independently owned local and regional accounting, consulting and service firms with similar client service goals.
The full impact of COVID-19 is unknown. While we wait for questions to be answered many are asking what can we do right now? What’s next for our families? What’s next for family businesses and the people who work for them? Planning for our future generations is the greatest gift we can give, particularly during times of uncertainty.
Background
Many closely-held businesses have been impacted by the COVID-19 pandemic, leading to depressed company valuations. The current federal estate, gift, and generation-skipping transfer (GST) tax exemption is $11.58 million per person. That, coupled with the low AFR and Section 7520 rates, provides an opportune time to transfer wealth out of estates without using up exemptions.
Opportunity
There are estate tax planning techniques that can be implemented which transfer the greatest amount of value from an estate while using the least amount of exemption. Transferring assets while they have a low value is a technique that is used to lock-in or freeze those low values in anticipation the asset will one day significantly increase in value. This transfers the appreciation in excess of the frozen value out of the estate with the added benefit of preserving the exemption for additional transfers.
Estate Planning Strategies
GRATS
A grantor retained annuity trust (GRAT) is a powerful technique that allows a transfer of assets to a trust, in exchange for an annuity over a fixed term of years. After the annuity is paid off the assets transferred are owned by the trust for the benefit of the trust beneficiaries, normally the children.
A transaction can be structured to create a “zeroed-out” GRAT, where the annuity is structured in a manner so that the transaction does not produce a taxable gift. The calculation of the GRAT annuity payment is based on the Section 7520 rate in effect at the time of the transfer (for June 2020, the Section 7520 rate is 0.6%), thereby allowing more value to be transferred to the trust without using the exemption.
When transferring assets to the next generation, families are concerned about transferring too much to the younger generation, creating cashflow constraints and transfers that do not use their exemption in an effective manner. The zeroed-out GRAT can achieve financial stability, optimal estate tax results and flexible estate planning options. This simple, effective and time-tested strategy can achieve:
IDGT
An intentionally defective grantor trust (IDGT) is an effective and efficient technique to transfer assets to a trust for future generations. Once the assets are gifted to the trust, they are considered taxable gifts and property of the trust. Those assets can remain in trust for multiple generations, allowing the gift to benefit both children and grandchildren, if desired.
The transaction can be structured as a sale of assets to an IDGT in exchange for a promissory note. This structure is typically an alternative to the aforementioned GRAT. However, this sale is not considered a taxable gift and does not create any gain for income tax purposes. The IDGT promissory note payment is based off the AFR in effect at the time of the transfer (for June 2020, the long-term AFR is 1.01% for promissory note terms longer than nine years), allowing more value to be transferred without using your exemption.
A sale to an IDGT is typically more successful than funding a GRAT as the AFR rate used as the interest rate in the promissory note is generally lower that the Section 7520 rate used to value GRATs. The promissory note can also be structured as an interest-only note with a balloon payment upon maturity, whereas a GRAT must be structured as an annual annuity. Moreover, sales to an IDGT allow for the immediate allocation of GST exemption. With a GRAT, the grantor cannot allocate GST exemption until the end of the GRAT term.
The sale to an IDGT can achieve financial stability, optimal estate tax results, and multigenerational estate planning options. This efficient, effective and time-tested strategy can achieve:
GIFTS
Giving money to a family member in excess of the annual exclusion ($15,000 in 2020) will be a taxable gift. A simple way to provide cash to a family member is to make a loan to them. Historically, if the loan has an interest rate of at least the AFR, the IRS will respect the loan and not claim the transaction to be a gift. With the historically low AFR, cash can be loaned to a family member without creating a burden from charging the family member a high interest rate. June 2020 AFR rates are at historic lows (June 2020 short-term AFR is .18% which applies for terms less than three years, mid-term AFR is 0.43% for terms three years through nine years, and long-term AFR is 1.01% for terms longer than nine years).
The intra-family loan achieves financial stability, optimal estate tax results, and cashflow. This simple, effective and time-tested strategy can achieve:
Planning for the future is not a task to be taken lightly, even in the best of times. During times of uncertainty it becomes even more important. The three estate planning strategies summarized above provide options.
Conclusion: The zeroed-out GRAT is an effective strategy to take advantage of the increased exemption, low Section 7520 rate, and current economic environment. These three factors significantly increase the amount of wealth a family can transfer to the next generation while using a minimal amount of their exemption. Alternatively, a sale to an IDGT can be an effective strategy to transfer wealth to multi-generations and take advantage of the extremely low AFR. Finally, low interest intra-family loans allow families to provide liquidity to various family members without overburdening the family with onerous interest payments.
Summary
The novel coronavirus (COVID-19) pandemic is changing the way we work. More specifically, it is changing where we work. At first blush, simply working from home might not raise any tax-related red flags. Why should it matter for a business whether its employees work from home temporarily or if they work remotely in a state other than where the employer’s base of operations is located?
In the discussion that follows, we explore three important state and local tax (SALT) effects that could result from teleworking employees. First, what are the employer’s state payroll tax withholding obligations when employees are temporarily working from home in a state different than the normal base of operations, and, what impact could the employer’s withholding have on the teleworking employee’s residence state tax returns? Second, does teleworking due to COVID-19 create nexus in a state? Third, how does teleworking impact the apportionment factors of a multistate business?
Details
Payroll Tax Withholding
When it comes to payroll taxes and teleworking employees, there are implications for the employer and employee. Will an employer’s payroll tax withholding obligations on employees’ wages be affected when those employees are now teleworking at home in another state? For those employees, will their resident state credit withheld payroll taxes of the employer’s state while the employee is teleworking from home? The second issue, unfortunately, is not receiving the attention it deserves from states. As a result, teleworking employees could be subjected to multiple taxation, if the employer’s state allows the employer to follow the status quo, but the employee’s residence state thinks otherwise.
Further, a state such as New York may follow a “convenience of the employer” rule and require withholding of payroll taxes on employee wages while an employee of a New York employer is teleworking outside of New York at their home. New York permits an allowance for days worked outside New York, if “based upon the performance of services which out of necessity, as distinguished from convenience, obligate the employee to out-of-state duties in the services of his employer.” While one could reasonably consider the COVID-19 pandemic to satisfy such an allowance, it appears New York tax authorities may think otherwise.
At least six states have issued guidance on withholding on wages paid to teleworking employees, including Maryland, Massachusetts, Mississippi, New Jersey, Ohio, and Pennsylvania. However, so far, only Massachusetts and New Jersey have provided their residents a corresponding credit for wages subject to withholding by another state due to COVID-19.
In its technical information release, Massachusetts indicates the following:
States like Pennsylvania and Mississippi, on the other hand, have instructed employers to continue to withhold on wages paid to employees, as if the employees were not temporarily teleworking in other states. It might seem that those states are doing the companies a favor by allowing them to continue to follow the status quo and not requiring the employer to change its withholding practices. However, the residence state where the employees are now teleworking may see things differently. For example, a Delaware employer with an employee now teleworking from a home in Maryland, the employee’s state of residence, will be required to withhold tax on those wages, because Maryland does not have a reciprocity agreement with Delaware. However, the employer would be excused from withholding if services were being performed by an employee teleworking from a Virginia residence, since Maryland and Virginia are parties to a reciprocity agreement.
State payroll tax withholding as a result of COVID-19 and teleworking raises a host of questions as varied as are the teleworking circumstances of employers and employees. Convenience of employer rules, status quo guidance, reciprocity agreements, and resident state credits are all factors that must be considered.
Nexus
More so than payroll withholding requirements, states have been addressing whether income tax nexus is created by employees temporarily teleworking in a state due to COVID-19 when the employer-business has no other nexus-creating contacts or activities with the state. To date, nine states have issued guidance regarding teleworking employees and nexus – Washington D.C., Indiana, Massachusetts, Minnesota, Mississippi, New Jersey, North Dakota, Ohio, and Pennsylvania.
So far, most of the states listed above have issued high-level guidance in the form of frequently asked questions (FAQs). For example, a Minnesota FAQ stated that “the department will not seek to establish nexus for any business tax solely because an employee is temporarily working from home due to the COVID-19 pandemic.” Similarly, a Pennsylvania FAQ states that “as a result of COVID-19 causing people to work from home as a matter of safety and public health, the department will not seek to impose CNIT nexus solely on the basis of this temporary activity occurring during the duration of this emergency.”
While this is taxpayer-friendly guidance, it does leave some open questions. What exactly does “temporarily” and “due to the COVID-19 pandemic” mean? Does that mean once a state lifts its emergency order, or once the business lifts its own stay-at-home requirement, or even perhaps once the employee decides that her individual health and safety are no longer at risk and ventures back to the office? Outside of factor-based presence thresholds, nexus is traditionally a facts-and-circumstances based analysis.
Indiana’s guidance also indicated that the state will not contend that a teleworking employee performing services or activities not protected by Public Law 86-272 from a home office will cause an out-of-state business to lose the protections of Public Law 86-272 as a result of COVID-19. Further, Indiana recognized that nexus and/or loss of Public Law 86-272 protections are a double-edge sword. For example, nexus in another state can now make Indiana’s sales factor “throwback” rule inapplicable to an Indiana taxpayer that ships sales of tangible personal property from Indiana, or could allow an affiliated group to file an Indiana nexus consolidated return. As a result, Indiana’s guidance also provides that “an employer may not assert that solely having a temporarily relocated employee in Indiana [during the COVID-19 pandemic] creates nexus for the business or exceeds the protections of P.L. 86-272 for the employer.”
Apportionment Factors
Of the three SALT issues discussed in this alert, apportionment is – by far – the least addressed by the states. A possible reason could be that a majority of states have shifted from the traditional three-factor formula to a single-sales factor formula. States without a payroll factor in their apportionment calculation do not need to address whether to include a teleworking employee’s wages in the numerator of a payroll factor.
North Dakota still uses a three-factor formula and has provided payroll factor guidance in an FAQ that provides that compensation of an employee teleworking in North Dakota as a result of COVID-19 will not be assigned to the payroll factor numerator. Likewise, Mississippi’s guidance also states that a taxpayer’s Mississippi apportionment formula will not be impacted by employees temporarily teleworking from homes in the state due to COVID-19.
What about sourcing of services receipts for purposes of the sales factor? This question may not be important for most states, since they have adopted market-based sourcing. For most states, services receipts will continue to be sourced to the location where the benefit of the service is received or where the service is delivered. However, teleworking employees performing services at home and in a state different than the business’s location could present sourcing issues for states that still follow costs-of-performance sourcing, such as Florida or Virginia, or that require pass-through entities to still use costs-performance sourcing, like Michigan and New York. The COVID-19 pandemic and service providers using services performed by teleworking employees could impact where those costs of performance are now incurred.
Insights:
The Paycheck Protection Program Flexibility Act of 2020 (H.R. 7010) (PPP Flexibility Act), enacted on June 5, 2020, makes welcome changes to the forgiveness rules for Paycheck Protection Program (PPP) loans made to small businesses in response to the novel coronavirus global pandemic (COVID-19). The PPP Flexibility Act greatly increases the likelihood that a large percentage of a borrower’s PPP loan will be forgiven. PPP loans (and related forgiveness) were created by the Coronavirus Aid, Relief, and Economic Security Act (CARES Act) (Public Law 116-136), which was enacted on March 27, 2020. The PPP Flexibility Act also eliminates a provision that made recipients of PPP loan forgiveness ineligible to defer certain payroll tax deposits.
Insight:
The PPP Flexibility Act does not address whether employers can deduct the expenses underlying their PPP loan forgiveness. In Notice 2020-32, the IRS announced that employers could not deduct such expenses, but congressional leaders vowed to reverse the IRS’s position in future legislation. On June 3, Chairman of the House Ways and Means Committee, Richard Neal (D-MA), said that in the next COVID-19 stimulus bill he intends to clarify that the loan forgiveness expenses are tax deductible. But negotiations on that bill are still in the early stages.
PPP Loan Forgiveness Expanded
The PPP Flexibility Act makes the following changes:
1. Extends the “covered period” for PPP loan forgiveness from eight weeks after loan origination to the earlier of (i) 24 weeks after loan origination or (ii) December 31, 2020. Borrowers who received their loans before this change can elect to use their original or alternative payroll eight-week covered period.
Insight:
In connection with passing the PPP Flexibility Act, a Statement for the Record was issued by several Democrats and Republicans in the House and Senate, clarifying that the Small Business Administration (SBA) will not accept applications for PPP loans after June 30, 2020. The statement says: “Our intent and understanding of the law is that, consistent with the CARES Act as amended by H.R. 7010, when the authorization of funds to guarantee new PPP loans expires on June 30, 2020, the SBA and participating lenders will stop accepting and approving applications for PPP loans, regardless of whether the commitment level enacted by the Paycheck Protection Program and Health Care Enhancement Act has been reached.” Given this affirmation, very few loans will have fewer than 24 weeks as a covered period.
2. Replaces the June 30, 2020, date for the rehire safe harbor with December 31, 2020.
Insight:
Additional guidance is needed to determine if a borrower who elects their original or alternative payroll eight-week covered period would also retain the June 30, 2020, date for the rehire safe harbor.
3. Expands the rehire exception based on the non-availability of former employees and applies that exception when the need for workers is reduced to comply with COVID-19 standards. Specifically, PPP loan forgiveness would not be reduced due to a lower number of full-time equivalent (FTE) employees if:
4. Allows up to 40% of the loan proceeds to be used on mortgage interest, rent or utilities (previously such expenses were capped at 25% of the loan proceeds), while at least 60% of the PPP funds must be used for payroll costs (down from the 75% that was noted in SBA guidance). This applies even if the borrower elects to use the eight-week covered or alternative payroll covered period. If the borrower does not use at least 60% of the loan on payroll costs, then it appears that no forgiveness would be available (i.e., the 60% would be a “cliff,” even though it was previously unclear whether the 75% limit would allow for partial loan forgiveness for payroll costs of less than 75% of loan proceeds).
Insight:
Some members of Congress are considering a “technical correction” that would provide that the new 60% limit is not a “cliff” (thereby allowing partial loan forgiveness if less than 60% of PPP loan proceeds are used for payroll costs).
5. Provides a five-year term for all new PPP loans disbursed after June 5, 2020. Loans disbursed before that date would retain their original two-year term unless the lender and borrower renegotiate the loan into a five-year term.
6. Changes the six-month deferral period for loan repayments and interest accrual so that payments on any unforgiven amounts will begin on either (i) the date on which loan forgiveness is determined or (ii) 10 months after the end of the borrower’s covered period if forgiveness is not requested.
Insight:
Although the PPP Flexibility Act doesn’t clearly say as much, it appears that the $100,000 maximum on cash compensation paid to any one employee that is eligible for PPP loan forgiveness would continue to apply, such that the $15,385 cap (for eight weeks) would now be $46,153 (for 24 weeks).
The PPP Flexibility Act does not address whether the loan forgiveness cap for “owner-employees” (i.e., 8/52 of their 2019 compensation) would change to 24/52 of their 2019 compensation.
Notwithstanding some commentary that has been released, the statute does not appear to allow borrowers to request PPP loan forgiveness as soon as they spend all of their PPP funds in the ninth to 24th weeks following receipt of their PPP funds. That is because the CARES Act has been amended to substitute “24 weeks” for “eight weeks,” so absent additional guidance, it seems that borrowers must wait until the end of the 24-week period to request PPP loan forgiveness, unless they elect to use the original eight-week period (regular or alternative payroll covered period).
These changes garnered nearly unanimous, bipartisan support in both the House and Senate because the CARES Act assumed that most businesses would be up and running in a matter of weeks. But more time is needed to incur forgivable costs, because many businesses are at or near the end of their initial eight-week loan forgiveness period, yet they remain partially or fully suspended by governmental orders.
Payroll Tax Deferral Expanded
In addition to PPP loan changes, the bill allows all employers, even those with forgiven PPP loans, to defer the payment of 2020 employer’s Social Security taxes, with 50% of the deferred amount being payable by December 31, 2021, and the balance due by December 31, 2022. Previously, the CARES Act prohibited such payroll tax deferral after a borrower’s PPP loan was forgiven.
President Trump is providing support to healthcare providers fighting the COVID-19 pandemic. On March 27, 2020, the President signed the bipartisan CARES Act that provides $100 billion in relief funds to hospitals and other healthcare providers on the front lines of the coronavirus response. This funding will be used to support healthcare-related expenses or lost revenue attributable to COVID-19 and to ensure uninsured Americans can get testing and treatment for COVID-19.
Recognizing the importance of delivering funds in a fast and transparent manner, $30 billion is being distributed immediately – with payments arriving via direct deposit beginning April 10, 2020 – to eligible providers throughout the American healthcare system. These are payments, not loans, to healthcare providers, and will not need to be repaid.
Yes. The CMS Accelerated and Advance Payment Program has delivered billions of dollars to healthcare providers to help ensure providers and suppliers have the resources needed to combat the pandemic. The CMS accelerated and advance payments are a loan that providers must pay back. Read more information from CMS.
All relief payments are being made to providers and according to their tax identification number (TIN). For example:
The Administration is working rapidly on targeted distributions that will focus on providers in areas particularly impacted by the COVID-19 outbreak, rural providers, providers of services with lower shares of Medicare reimbursement or who predominantly serve the Medicaid population, and providers requesting reimbursement for the treatment of uninsured Americans.
The Trump Administration is committed to ensuring that Americans are protected against financial obstacles that might prevent them from getting the testing and treatment they need from COVID-19.
SOURCE: https://www.hhs.gov/provider-relief/index.html; Content created by Assistant Secretary for Public Affairs (ASPA); Content last reviewed on April 13, 2020