The American Rescue Plan Act of 2021 (ARPA) was passed by the Senate on Saturday, March 6, 2021, and by the House on Wednesday, March 10. The President has signed it into law.
SUMMARY OF THE PERSONAL TAX PROVISIONS
Unemployment compensation in 2020 may not be taxable. The general rule is that unemployment compensation has always been taxable income. ARPA changes that to say, retroactive to 1/1/2020, that unemployment compensation up to $10,200 is not taxable for those with adjusted gross income (“AGI”) of up to $150,000. For married-filing-jointly taxpayers, each joint filer can exempt up to $10,200 under this rule.
- It is highly unusual to make a retroactive tax change in the midst of filing tax returns for the affected year. Many taxpayers who have already filed may need to consider amended tax returns. Many others with tax returns in the process may need to pause their work
- The AGI of $150,000 limitation does not vary based on filing status. Most provisions in tax law have a limit for married-filing-jointly taxpayers that is roughly double that of single filers – but not in this case.
- In most similar tax rules, the benefit would phase out over a certain range before it is completely disallowed. In this case, however, it is a “cliff” test, meaning that those with AGI of $149,900 would completely benefit, but filers with an AGI of $150,100 would receive zero benefits.
- Those taxpayers affected by this change for 2020 should consider filing an extension, or if they have already filed, should wait for clarity before filing an amended return. Why? First, the Internal Revenue Service will need to re-program its tax software to accommodate this change. Then, commercial tax software vendors will have to re-program their software and get IRS approval. Both of these updates would need to happen before tax returns can be filed with this change. Second, the states will need time to respond to their filing positions. For NC, for example, a response is unlikely by April 15, since the response would be directed by the NC General Assembly.
- Taxpayers who have unemployment compensation income, and are planning to take advantage of this provision, should look carefully at their adjusted gross income. Since this provision uses a “cliff” test (see above discussion), taxpayers with unemployment compensation income and AGI over just over $150,000 should consider their eligibility to make deductible HSA or IRA contributions by April 15, 2021, to get their AGI under $150,000.
New economic recovery rebates are coming. ARPA brings a third round of economic recovery rebates. This payment will be $1,400 for taxpayer, $1,400 for spouse if filing jointly, plus $1,400 per eligible dependent. Contrast this with the prior rebates, where only dependents that were children under-age-17 were eligible. Thus, an extra $1,400 is coming for those with a child in college. According to press reports, the White House expects payments to begin in late March.
As in prior COVID-19 economic stimulus rebates, the full rebate is available to those with AGI of $150,000 or less for those married-filing-jointly, $112,500 for those head of household, or $75,000 for all other taxpayers. The rebate is fully phased out in fairly short order, at $160,000 married-filing-jointly, $120,000 head of household, or $80,000 for all other filers.
Also, as in prior rebates in the past year, the payment is an advance payment on a tax credit. This time, it is a credit on the 2021 tax return. The payment will be estimated based on the 2020 income tax return if that information is available at the time of the computation. If it is not, it will be based on the 2019 income tax return. Again, as with other economic stimulus rebates, this rebate will be reconciled with the 2021 income tax return, and any additional eligible stimulus will be given to the taxpayer as a 2021 income tax credit. An excess rebate payment, determined after this reconciliation, does not have to be returned.
- Those filers who will not qualify based on 2020 tax data, but will qualify based on 2019, should consider delaying filing until the rebate math is done. The reverse is also true – those who qualify based on 2020 but do not based on 2019 information should file as soon as possible to increase their likelihood of receiving an advance rebate payment.
The law includes a provision authorizing the IRS to “true-up” these rebates later in 2021 if the form 1040 filed for 2020 suggests a higher credit should be allowed, and this information was not available at the time the rebate was calculated.
The child tax credit is enhanced for 2021. For many years, the child tax credit was $2,000 per child dependent (under age 17). Those with other dependents were eligible for a $500 credit each. Under the Tax Cuts and Jobs Act of 2017, the credit beings to phase out at AGI of $400,000 for those married-filing-jointly ($200,000 for all other filers).
The changes by ARPA are several. For 2021 only –
- The definition of eligibility for the larger credit includes dependent children under age 18. These dependents are not also eligible for the $500 credit.
- The credit amount is expanded to $3,000 per child ($3,600 if under age 6 at the end of the year).
- The additional ARPA credit (an additional $1,000 or $1,600, depending on age) phases out at AGI of $150,000 for joint filers, $112,500 for the head of household filers, and $75,000 for all other filers.
- The IRS is instructed to pay regular payments of the child tax credit in advance to those eligible in July through December of 2021, monthly if possible. The amount advanced should be one-half of the expected eligible credit. Again, the credit is estimated based on 2020 tax filings, or if not available, then 2019 tax returns.
Example. Taxpayers filing jointly have 3 dependent children, one under age 6. Joint AGI is under $150,000. Based on these facts, they should be eligible for $9,600 in child tax credits in 2021. The IRS is instructed to advance $4,800 to the taxpayers in the second half of 2021, and the balance is a credit on their 2021 tax return.
- The amount advanced, if in excess of the final eligible amount, as determined with the 2021 tax returns, may have to be repaid.
- These advance credit payments are a substantial change from taxpayers claiming a credit at the end of the year against their tax liability.
- The child tax credit is fully refundable for 2021.
The dependent care tax credit is enhanced for 2021. Before the ARPA, this credit was based on up to $3,000 of expenses for one dependent and up to $6,000 for two or more dependents. The credit rate applied to this expense amount was based on income and ranged from 20% to 35%. The credit was not refundable.
Under ARPA, for 2021 only, the amount of eligible expenses is increased to up to $8,000 for one dependent, and up to $16,000 for two or more dependents. The maximum credit rate is increased to 50%, and the credit is now refundable. If the credits exceed the tax liability, the taxpayers will get a refund of the excess credit.
Other personal tax changes include –
- Earned income credit. For 2021 only, an expansion of the earned income tax credit for taxpayers without qualifying children, an easing of the requirements for married couples to file jointly, and an increase in the amount of investment income allowed. Also for 2021, EIC recipients can base their eligibility on 2019 earned income.
- Premium tax credit. Those filers making between 100% and 400% of the federal poverty limit who purchase health insurance from the exchange are eligible for a tax credit. The income eligibility for the credit is expanded beyond 400%, and the credit rate is increased.
- Repaying excess premium tax credit. Taxpayers who apply for health insurance on the exchange are allowed to claim an estimated advance tax credit to help pay for the insurance. When they file their tax return for that year, the amount received in advance must be reconciled on form 8962 to the amount they qualified for, and excess must be repaid with the tax return. For 2020 only, the excess does not need to be repaid. Finally, the IRS computers will have to be re-programmed for this change, and affected returns will likely need to be extended.
- Premium tax credit in 2021. If the taxpayer receives unemployment compensation in 2021, the amount of premium tax credit available is increased.
- Student loan discharges 2021 through 2026. Generally, discharges of debt constitute taxable income, unless some statutory exception applies. ARPA provides that certain discharges through 2026 of student loan debt are eligible for one of these exceptions.
SUMMARY OF THE BUSINESS TAX PROVISIONS
The employer “cafeteria plan” exclusion for dependent care is expanded. For 2021 only, the maximum that can be contributed to a cafeteria plan for dependent care is expanded from $5,000 to $10,500. To use this higher limit, the plan must be amended to so provide by the end of the plan year.
A new subsidy is offered for some COBRA premiums. If an employee elects COBRA insurance coverage in the period of 4/1/2021 through 9/30/2021, due to involuntary termination or a reduction in hours, a subsidy will be available to cover this cost. Significant details are forthcoming about this provision, administered by the Department of Labor.
Families First Coronavirus Credits are extended. There are changes to payroll credits for paid sick leave and paid family leave initially established by the Families First Coronavirus Response Act for wages paid for the period beginning April 1, 2021, and ending September 30, 2021. For purposes of the family leave credit, eligible wages are increased to $12,000 from $10,000. The allowed credit is for up to 50% of eligible wages paid.
The Employee Retention Credit is extended through the end of 2021.
SUMMARY OF THE NON-TAX PROVISIONS
These include –
- Targeted EIDLs (Economic Injury Disaster Loans). These tax-free forgivable loans can be used to pay for deductible expenses and increase the basis of the business owners, which provides the opportunity to deduct further losses.
- Restaurant grants. Special grants for restaurants and bars are available, businesses who may have suffered the most under the pandemic.
- Funding relief for multi-employer retirement plans. Various relief is available, which is highly specialized and beyond the scope of this memorandum.
Please contact us if you have any questions about these matters.