Business

Federal Tax Relief to Alleviate COVID-19 Hardships

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The massive Coronavirus Aid, Relief and Economic Security (CARES) Act includes numerous tax-related provisions. But before the CARES Act was signed into law March 27, the federal government provided other valuable tax relief in response to the novel coronavirus (COVID-19) pandemic. Here is a closer look.

Families First Coronavirus Response Act

On March 18, President Trump signed into law the Families First Coronavirus Response Act. In certain situations, it mandates paid leave benefits for small business employees affected by COVID-19. The paid leave provisions generally apply to employers with fewer than 500 employees, though employers with fewer than 50 employees may be eligible for an exception. Here are the benefits:

Paid Sick Leave

The law requires covered employers to provide 80 hours of paid sick leave for full-time employees in certain situations. (Part-time employees are entitled to this paid sick leave for the average number of hours worked over a two-week period.)

Generally, paid sick leave is required when an employee is subject to a COVID-19-related quarantine or isolation order, has been advised to self-quarantine or is seeking a medical diagnosis for COVID-19 symptoms. It’s also generally required when an employee is caring for someone subject to a COVID-19-related quarantine or isolation order or is caring for a child whose school or place of care has been closed, or whose childcare provider is unavailable, due to COVID-19 precautions.

When leave is taken for an employee’s own COVID-19 illness or quarantine, the leave must be paid at the employee’s regular rate, up to $511 per day (up to $5,110 in total). When the leave is related to caring for someone else, the leave must be paid at a minimum of two-thirds of the employee’s usual pay, up to $200 per day (up to $2,000 in total).

Paid Family Leave

The law gives an employee the right to take up to 12 weeks of job-protected family leave if the employee’s child’s school or childcare location is closed due to COVID-19. The first two weeks are unpaid (though they might qualify for sick pay). For the remaining 10 weeks, the employer must pay at least two-thirds of the employee’s usual pay, up to a maximum of $200 per day, subject to an overall maximum of $10,000 in total family leave payments.

Tax Credit for Employers

To help employers cover this paid leave, the law allows a refundable tax credit equal to 100% of qualified sick leave wages and family and medical leave wages paid by the employer.

The credit applies only to eligible leave payments made during the period beginning on the effective date of April 1, 2020, and ending on December 31, 2020.

Tax credits may also be available to certain self-employed individuals.

Federal tax deadline deferrals

On March 18, the IRS released guidance that outlined the details of a postponed deadline for paying federal income taxes. Notice 2020-17 clarified that individual taxpayers and corporations can defer until July 15 federal income tax payments that would otherwise be due on April 15.

Notice 2020-18 subsequently provided additional clarifications, including a postponement of the federal income tax filing deadline to July 15 as well.

Some specifics under these relief measures are as follows:

For Individuals:

Individual taxpayers can defer federal income tax payments (including any self-employment tax) owed for the 2019 tax year from the normal April 15 deadline until July 15. They can also defer initial quarterly estimated federal income tax payments for the 2020 tax year (including any self-employment tax) from the normal April 15 deadline until July 15.

For Corporations:

Corporations that use the calendar year for tax purposes can defer until July 15 federal income tax payments that would otherwise be due on April 15. This relief covers the amount owed for the 2019 tax year and the amount due for the first quarterly estimated tax payment for the 2020 tax year. Both of those amounts would otherwise be due on April 15.

For Trusts & Estates:

Trusts and estates pay federal income taxes, too. Normally, federal income tax payments for the 2019 tax year of trusts and estates that use the calendar year for tax purposes would be due on April 15. The initial quarterly estimated federal income tax payments for the 2020 tax year of trusts and estates that use the calendar year for tax purposes would also normally be due on April 15. These deadlines have also been postponed to July 15.

Notice 2020-20 postponed the filing and payment deadlines for 2019 federal gift and generation-skipping transfer taxes from April 15 to July 15.

Moving Target

We’ve covered only some of the COVID-19-related tax law changes that have already been finalized. There are also other types of federal relief under the CARES Act and through federal agencies. And many states have announced their own COVID-19 relief. More federal measures and additional guidance are expected, some of which could affect the relief discussed here. Contact Maggart to discuss which relief measures may apply in your specific situation.

COVID-19 Relief: Overview of the CARES Act

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The Coronavirus Aid, Relief, and Economic Security (CARES) Act was signed into law on March 27, 2020. In addition to funding the health care fight against the novel coronavirus (COVID-19), the roughly $2 trillion legislation provides much-needed financial relief to individuals, businesses, not-for-profit organizations, and state and local governments during the pandemic. Here are some of the key provisions for individuals and businesses.

Economic Impact Payments

The CARES Act provides one-time direct Economic Impact Payments of up to $1,200 for single filers or heads of households; married couples filing jointly can receive up to $2,400. An additional payment of up to $500 is available for each qualifying child under age 17.

Economic Impact Payments are subject to phaseout thresholds based on adjusted gross income (AGI). The phaseouts begin at $75,000 for singles, $112,500 for heads of household and $150,000 for married couples.

The payments are phased out by $5 for every $100 of AGI above the thresholds. For example, the payment for a married couple with no children is completely phased out when AGI exceeds $198,000. The payment for a head of household with one child is completely phased out when AGI exceeds $146,500. And, for a single filer, it’s completely phased out when AGI exceeds $99,000.

Employee Retention Credit

The CARES Act creates a new payroll tax credit for employers that pay wages when:

  • Their operations are partially or fully suspended because of certain government orders related to the COVID-19 pandemic, or
  • Their gross receipts have declined by more than 50% compared to the same quarter in the prior year.

Eligible employers may claim a 50% refundable payroll tax credit on wages paid (including health insurance benefits) of up to $10,000 that are paid or incurred from March 13, 2020, through December 31, 2020.

For employers who had an average number of full-time employees in 2019 of 100 or fewer, all employee wages are eligible, regardless of whether the employee is furloughed. For employers who had a larger average number of full-time employees in 2019, only the wages of employees who are furloughed or face reduced hours as a result of their employers’ closure or reduced gross receipts are eligible for the credit.

Be aware that additional rules and restrictions apply.

Paycheck Protection Program (PPP)

This $349 billion loan program — administered by the Small Business Administration (SBA) — is intended to help U.S. employers keep workers on their payrolls. To potentially qualify, you must have fewer than 500 full- or part-time employees. PPP loans can be as large as $10 million. But most organizations will receive smaller amounts — generally a maximum of 2.5 times their average monthly payroll costs.

If you receive a loan through the program, proceeds may be used only for paying certain expenses, generally:

  • Payroll (including benefits),
  • Mortgage interest,
  • Rent, and
  • Utilities.

Perhaps the most reassuring aspect of PPP loans is that they can be forgiven — so long as you follow the rules. And many rules and limits apply. Because of the limited funds available, if you could qualify, you should apply as soon as possible.

The CARES Act expands business access to capital in additional ways. Many of the other loan programs are also being administered by the Small Business Administration (SBA).

Modifications of TCJA Provisions

The CARES Act rolls back several revenue-generating provisions of the Tax Cuts and Jobs Act (TCJA). This will help free up cash for some individuals and businesses during the COVID-19 crisis.

The new law temporarily scales back TCJA deduction limitations on:

  • Net operating losses (NOLs),
  • Business tax losses sustained by individuals,
  • Business interest expense, and
  • Certain itemized charitable deductions by individuals and charitable deductions for corporations.

The new law also accelerates the recovery of credits for prior-year corporate alternative minimum tax (AMT) liability.

Significant for the hard-hit restaurant and retail sectors, the CARES Act also fixes a TCJA drafting error for real estate qualified improvement property (QIP). Congress originally intended to permanently install a 15-year depreciation period for QIP, making it eligible for first-year bonus depreciation in tax years after the TCJA took effect. Unfortunately, due to a drafting glitch, QIP wasn’t added to the list of property with a 15-year depreciation period — instead, it was left subject to a 39-year depreciation period. The CARES Act retroactively corrects this mistake and allows you to choose between first-year bonus depreciation and 15-year depreciation for QIP expenditures.

So Much More

The financial relief package under the CARES Act also includes provisions to:

  • Significantly expand unemployment benefits for workers,
  • Allow IRA owners and qualified retirement plan participants under age 59 ½ who suffer certain adverse effects due to the COVID-19 pandemic to withdraw in 2020 up to $100,000 and then recontribute the withdrawn amount within three years with no federal income tax consequences,
  • Waive required minimum distributions (RMDs) from IRAs and retirement plans that would otherwise have to be taken in 2020 to avoid an expensive penalty,
  • Provide an above-the-line charitable deduction of up to $300, generally for 2020 cash contributions to qualified charities, and
  • Exclude from an employee’s taxable income up to $5,250 of employer payments made on the employee’s student loans from the date of the CARES Act’s enactment through December 31, 2020.

The CARES Act also allows employers to defer their portion of payments of Social Security payroll taxes through the end of 2020 (with similar relief provided to self-employed individuals).

Need Help?

Keep in mind that additional guidance could be released, or legislation signed into law, that could affect these CARES Act provisions. And more relief measures could be forthcoming.

The COVID-19 pandemic has affected every household and business in some way. If you have suffered financial losses, contact Maggart to discuss resources that may be available to help you weather this unprecedented storm.

Gig Workers, Know Your Tax Responsibilities

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Let’s say you drive for a ride-sharing app, deliver groceries ordered online or perform freelance home repairs booked via a mobile device. If you do one of these jobs or myriad others, you’re a gig worker — part of a growing segment of the economy.

In fact, a 2019 IRS report found that the share of the workforce with income from alternative, nonemployee work arrangements grew by 1.9 percentage points from 2000 to 2016. (That’s a big increase.) And, over 50% of this rise occurred during the period 2013 to 2016, almost entirely because of gigs set up online.

A Different Way

No matter what the job or app, all gig workers have one thing in common: taxes. But the way you’ll pay taxes differs from the way you would as an employee.

To start, you’re typically considered self-employed. As a result, and because an employer isn’t withholding money from your paycheck to cover your tax obligations, you’re responsible for making federal income tax payments. Depending on where you live, you also may have to pay state income tax.

Quarterly Tax Payments

The U.S. tax system is considered “pay as you go.” Self-employed individuals typically pay both federal income tax and self-employment taxes four times during the year: generally on April 15, June 15, and September 15 of the current year, and January 15 of the following year.

If you don’t pay enough over these four installments to cover the required amount for the year, you may be subject to penalties. To minimize the risk of penalties, you must generally pay either 90% of the tax you’ll owe for the current year or the same amount you paid the previous year.

The 1099

You may have encountered the term “the 1099 economy” or been called a “1099 worker.” This is because, as a self-employed person, you won’t get a W-2 from an employer. You may, however, receive a Form 1099-MISC from any client or customer that paid you at least $600 throughout the year. The client sends the same form to the IRS, so it pays to monitor the 1099s you receive and verify that the amounts match your records.

If a client (say, a ride-sharing app) uses a third-party payment system, you might receive a Form 1099-K. Even if you didn’t earn enough from a client to receive a 1099, or you’re not sent a 1099-K, you’re still responsible for reporting the income you were paid. Keep in mind that typically you’re taxed on income when received, not when you send a request for payment.

Good Record Keeping

As a gig worker, you need to keep accurate, timely records of your revenue and expenses so you pay the taxes you owe — but no more. Maggart can help you set up a good record keeping system, file your taxes and stay updated on new developments in the gig economy.

Expense Deductions

By definition, gig workers are self-employed. So, your taxes are based on the profits left after you deduct business-related expenses from your revenue. Expenses can include payment processing fees, your investment in office equipment and specific costs required to provide your service. Remember, if you use a portion of your home as a work space, you may be able to deduct the pro rata share of some home-related expenses.

Careful Tax Planning Required for Incentive Stock Options

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Incentive stock options (ISOs) are a popular form of compensation for executives and other key employees. They allow you to buy company stock in the future at a fixed price equal to or greater than the stock’s fair market value on the ISO grant date. If the stock appreciates, you can buy shares at a price below what they’re then trading for. But careful tax planning is required because of the complex rules that apply.

Tax Advantages Abound

Although ISOs must comply with many rules, they receive tax-favored treatment. You owe no tax when ISOs are granted. You also owe no regular income tax when you exercise ISOs. There could be alternative minimum tax (AMT) consequences, but the AMT is less of a risk now because of the high AMT exemption under the Tax Cuts and Jobs Act.

There are regular income tax consequences when you sell the stock. If you sell after holding it at least one year from the exercise date and two years from the grant date, you pay tax on the sale at your long-term capital gains rate. You also may owe the 3.8% net investment income tax (NIIT).

If you sell the stock before long-term capital gains treatment applies, a “disqualifying disposition” occurs and a portion of the gain is taxed as compensation at ordinary-income rates.

2019 Impact

If you were granted ISOs in 2019, there likely isn’t any impact on your 2019 income tax return. But if in 2019 you exercised ISOs or you sold stock you’d acquired via exercising ISOs, then it could affect your 2019 tax liability. It’s important to properly report the exercise or sale on your 2019 return to avoid potential interest and penalties for underpayment of tax.

Planning Ahead

If you receive ISOs in 2020 or already hold ISOs that you haven’t yet exercised, plan carefully when to exercise them. Waiting to exercise ISOs until just before the expiration date (when the stock value may be the highest, assuming the stock is appreciating) may make sense. But exercising ISOs earlier can be advantageous in some situations.

Once you’ve exercised ISOs, the question is whether to immediately sell the shares received or to hold on to them long enough to garner long-term capital gains treatment. The latter strategy often is beneficial from a tax perspective, but there’s also market risk to consider. For example, it may be better to sell the stock in a disqualifying disposition and pay the higher ordinary-income rate if it would avoid AMT on potentially disappearing appreciation.

The timing of the sale of stock acquired via an exercise could also positively or negatively affect your liability for higher ordinary-income tax rates, the top long-term capital gains rate and the NIIT.

Nice Perk

ISOs are a nice perk to have, but they come with complex rules. For help with both tax planning and filing, please contact our team at Maggart.

Every Business Owner Needs an Exit Strategy

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As a business owner, you have to keep your eye on your company’s income and expenses and applicable tax breaks. But you also must look out for your own financial future. And that includes creating an exit strategy.

Buy-Sell Agreement

When a business has more than one owner, a buy-sell agreement can be a powerful tool. The agreement controls what happens to the business if a specified event occurs, such as an owner’s retirement, disability or death. A well-drafted agreement provides a ready market for the departing owner’s interest in the business and prescribes a method for setting a price for that interest. It also allows business continuity by preventing disagreements caused by new owners.

A key issue with any buy-sell agreement is providing the buyer(s) with a means of funding the purchase. Life or disability insurance often helps fulfill this need and can give rise to several tax issues and opportunities. One of the biggest advantages of life insurance as a funding method is that proceeds generally are excluded from the beneficiary’s taxable income, provided certain conditions are met.

Succession Within the Family

You can pass your business on to family members by giving them interests, selling them interests or doing some of each. Be sure to consider your income needs, the tax consequences, and how family members will feel about your choice.

Under the annual gift tax exclusion, you can currently gift up to $15,000 of ownership interests without using up any of your lifetime gift and estate tax exemption. Valuation discounts may further reduce the taxable value of the gift.

With the gift and estate tax exemption approximately doubled through 2025 ($11.4 million for 2019), gift and estate taxes may be less of a concern for some business owners. But others may want to make substantial transfers now to take maximum advantage of the high exemption. What’s right for you will depend on the value of your business and your timeline for transferring ownership.

Get Started Now

To be successful, your exit strategy will require planning well in advance of retirement or any other reason for ownership transition. Please contact Maggart for help.

Planning for the Net Investment Income Tax

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Despite its name, the Tax Cuts and Jobs Act (TCJA) didn’t cut all types of taxes. It left several taxes unchanged, including the 3.8% tax on net investment income (NII) of high-income taxpayers.

You’re potentially liable for the NII tax if your modified adjusted gross income (MAGI) exceeds $200,000 ($250,000 for joint filers and qualifying widows or widowers; $125,000 for married taxpayers filing separately). Generally, MAGI is the same as adjusted gross income. However, it may be higher if you have foreign earned income and certain foreign investments.

To calculate the tax, multiply 3.8% by the lesser of 1) your NII, or 2) the amount by which your MAGI exceeds the threshold. For example, if you’re single with $250,000 in MAGI and $75,000 in NII, your tax would be 3.8% × $50,000 ($250,000 – $200,000), or $1,900.

NII generally includes net income from, among others, taxable interest, dividends, capital gains, rents, royalties, and passive business activities. Several types of income are excluded from NII, such as wages, most nonpassive business income, retirement plan distributions and Social Security benefits. Also excluded is the nontaxable gain on the sale of a personal residence.

Given the way the NII tax is calculated, you can reduce the tax either by reducing your MAGI or reducing your NII. To accomplish the former, you could maximize contributions to IRAs and qualified retirement plans. To do the latter, you might invest in tax-exempt municipal bonds or in growth stocks that pay little or no dividends.

There are many strategies for reducing the NII tax. Consult with one of our tax advisors before implementing any of them. And remember that, while tax reduction is important, it’s not the only factor in prudent investment decision-making.

Consider the Tax Advantages of Qualified Small Business Stock

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While the Tax Cuts and Jobs Act (TCJA) reduced most ordinary-income tax rates for individuals, it didn’t change long-term capital gains rates. They remain at 0%, 15% and 20%.

The capital gains rates now have their own statutory bracket amounts, but the 0% rate generally applies to taxpayers in the bottom two ordinary-income tax brackets (now 10% and 12%). And, you no longer must be in the top ordinary-income tax bracket (now 37%) to be subject to the top long-term capital gains rate of 20%. Many taxpayers in the 35% tax bracket also will be subject to the 20% rate.

So, finding ways to defer or minimize taxes on investments is still important. One way to do that — and diversify your portfolio, too — is to invest in qualified small business (QSB) stock.

QSB by Definition

To be a QSB, a business must be a C corporation engaged in an active trade or business and must not have assets that exceed $50 million when you purchase the shares.

The corporation must be a QSB on the date the stock is issued and during substantially all the time you own the shares. If, however, the corporation’s assets exceed the $50 million threshold while you’re holding the shares, it won’t cause QSB status to be lost in relation to your shares.

2 Tax Advantages

QSBs offer investors two valuable tax advantages:

  1. Up to a 100% exclusion of gain. 
    Generally, taxpayers selling QSB stock are allowed to exclude a portion of their gain if they’ve held the stock for more than five years. The amount of the exclusion depends on the acquisition date. The exclusion is 100% for stock acquired on or after Sept. 28, 2010. So, if you purchase QSB stock in 2019, you can enjoy a 100% exclusion if you hold it until sometime in 2024. (The specific date, of course, depends on the date you purchase the stock.)
  2. Tax-free gain rollovers. 
    If you don’t want to hold the QSB stock for five years, you still have the opportunity to enjoy a tax benefit: Within 60 days of selling the stock, you can buy other QSB stock with the proceeds and defer the tax on your gain until you dispose of the new stock. The rolled-over gain reduces your basis in the new stock. For determining long-term capital gains treatment, the new stock’s holding period includes the holding period of the stock you sold.

More to Think About

Additional requirements and limits apply to these breaks. For example, there are many types of businesses that don’t qualify as QSBs, ranging from various professional fields to financial services to hospitality and more. Before investing, it’s important to also consider non-tax factors, such as your risk tolerance, time horizon and overall investment goals. Contact Maggart’s team to learn more.

Business vs Hobby: The Tax Rules Have Changed

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If you generate income from a passion such as cooking, woodworking, raising animals — or anything else — beware of the tax implications. They’ll vary depending on whether the activity is treated as a hobby or a business.

The bottom line: The income generated by your activity is taxable. But different rules apply to how income and related expenses are reported.

Factors to Consider

The IRS has identified several factors that should be considered when making the hobby vs. business distinction. The greater the extent to which these factors apply, the more likely your activity will be deemed a business.

For starters, in the event of an audit, the IRS will examine the time and effort you devote to the activity and whether you depend on income from the activity for your livelihood. Also, the IRS will likely view it as a business if any losses you’ve incurred are because of circumstances beyond your control, or they took place in what could be defined as the start-up phase of a company.

Profitability — past, present and future — is also important. If you change your operational methods to improve profitability, and you can expect future profits from the appreciation of assets used in the activity, the IRS is more likely to view it as a business. The agency may also consider whether you’ve previously made a profit in similar activities. Also, the intent to make a profit is a key factor.

The IRS always stresses that the final determination will be based on all the relevant facts and circumstances related to your activity.

Changes Under the TCJA

Under previous tax law, if the activity was deemed a hobby, you could still generally deduct ordinary and necessary expenses associated with it. But you had to deduct hobby expenses as miscellaneous itemized deduction items, so they could be written off only to the extent they exceeded 2% of adjusted gross income (AGI).

All of this has changed under the Tax Cuts and Jobs Act (TCJA). Beginning with the 2018 tax year and running through 2025, the TCJA eliminates write-offs for miscellaneous itemized deduction items previously subject to the 2% of AGI threshold.

Thus, if the activity is a hobby, you won’t be able to deduct expenses associated with it. However, you must still report all income from it. If, instead, the activity is considered a business, you can deduct the expenses associated with it. If the business activity results in a loss, you can deduct the loss from your other income in the same tax year, within certain limits.

An Issue to Address

Worried the IRS might recharacterize your business as a hobby? Contact Maggart. We can help you address this issue on your return or assist you in perhaps filing an amended return, if appropriate.

Installment Sales: A Viable Option for Transferring Assets

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Are you considering transferring real estate, a family business, or other assets you expect to appreciate dramatically in the future? If so, an installment sale may be a viable option. Its benefits include the ability to freeze asset values for estate tax purposes and remove future appreciation from your taxable estate.

Giving Away vs. Selling

From an estate planning perspective, if you have a taxable estate it’s usually more advantageous to give property to your children than to sell it to them. By gifting the asset you’ll be depleting your estate and thereby reducing potential estate tax liability, whereas in a sale the proceeds generally will be included in your taxable estate.

But an installment sale may be desirable if you’ve already used up your $11.18 million (for 2018) lifetime gift tax exemption or if your cash flow needs preclude you from giving the property away outright. When you sell property at fair market value to your children or other loved ones rather than gifting it, you avoid gift taxes on the transfer and freeze the property’s value for estate tax purposes as of the sale date. All future appreciation benefits the buyer and won’t be included in your taxable estate.

Because the transaction is structured as a sale rather than a gift, your buyer must have the financial resources to buy the property. But by using an installment note, the buyer can make the payments over time. Ideally, the purchased property will generate enough income to fund these payments.

Advantages & Disadvantages

An advantage of an installment sale is that it gives you the flexibility to design a payment schedule that corresponds with the property’s cash flow, as well as with your and your buyer’s financial needs. You can arrange for the payments to increase or decrease over time, or even provide for interest-only payments with an end-of-term balloon payment of the principal.

One disadvantage of an installment sale over strategies that involve gifted property is that you’ll be subject to tax on any capital gains you recognize from the sale. Fortunately, you can spread this tax liability over the term of the installment note. As of this writing, the long-term capital gains rates are 0%, 15%, or 20%, depending on the amount of your net long-term capital gains plus your ordinary income.

Also, you’ll have to charge interest on the note and pay ordinary income tax on the interest payments. IRS guidelines provide for a minimum rate of interest that must be paid on the note. On the bright side, any capital gains and ordinary income tax you pay further reduces the size of your taxable estate.

Simple Technique, Big Benefits

An installment sale is an approach worth exploring for business owners, real estate investors and others who have gathered high-value assets. It can help keep a family-owned business in the family or otherwise play an important role in your estate plan.

Bear in mind, however, that this simple technique isn’t right for everyone. Maggart can review your situation and help you determine whether an installment sale is a wise move for you.