2021 Business Tax Planning Involves Few New Provisions

This year corporate tax planning is about maximizing potential credits

Very few new tax-law changes went into effect for companies in 2021.

Nearly all changes from 2020 to 2021 were related to the loss or reduction of COVID-19-related benefits tied to the Coronavirus Aid, Relief, and Economic Security (CARES) Act or other provisions. However, as the pandemic remained a challenge for many organizations during 2021, changes to related tax-relief provisions may affect your business’ 2021 taxes.

As Congress continues to debate potential tax changes, it’s not yet clear whether 2022 will bring new tax provisions for most companies. You can read about the most current and relevant proposed corporate tax changes here.

In the meantime, here are a few considerations to keep in mind and action items to address for your business as you plan for the remainder of the 2021 tax year.

Consider taking advantage of employee retention credit and paid leave credits

The employee retention credit (ERC) was expanded in December 2020 with passage of the Taxpayer Certainty and Disaster Tax Relief Act. Some of the act’s provisions aimed to help more businesses – especially those with fewer than 500 employees – obtain larger payroll credits for qualified wages. Even if you didn’t qualify for the ERC when it was first introduced as part of the CARES Act, you may qualify for the expanded credit.

There are two circumstances in which a company might qualify for the ERC:

1. Gross receipts declined more than 50% in any quarter of 2020 compared to the same quarter of 2019 or declined more than 20% in any quarter of 2021 compared to the same quarter of 2019.
2. The company had to fully or partially suspend operations due to a government order limiting travel, commerce or group meetings due to COVID-19, and experienced a “more than nominal” effect.

The expanded ERC:

• Can be applied retroactively to 2020.
• Can be claimed by PPP loan borrowers, as long as the loan proceeds and the ERC cover different expenses.
• Can offset employment taxes equal to 50% of qualified wages paid between March 13, 2020 and December 31, 2020, or 70% of qualified wages paid between January 1, 2021, and September 30, 2021.
• Has a maximum credit of $5,000 per employee per year for 2020 or $7,000 per employee per quarter for 2021.
• Can be claimed for bonus pay to essential workers.

Businesses with fewer than 500 employees may also be able to claim fully refundable tax credits to cover wages paid to employees who took paid sick or family leave related to COVID-19, from January 1, 2021, through September 30, 2021. This includes paid leave employees took to be vaccinated or recover from vaccination.

Employers who claim refundable tax credits for qualified leave must separately report those wages to employees. They can do so via a 2021 Form W-2 or on a separate statement. Separate reporting may be required for wages paid from January 1st through March 31st and wages paid from April 1st through September 30th.

Remember business loss deduction is limited to $500,000

Deduction of aggregate trade or business losses for tax year 2021 returns to the $500,000 limit, after the CARES Act temporarily repealed that limit for tax years 2018, 2019 and 2020.

Address Paycheck Protection Program loans

Paycheck Protection Program (PPP) loans that are forgiven do not count as taxable income. In addition, federal law allows a business to deduct eligible expenses paid with those funds.

However, not all states have adopted the federal rules allowing for deduction of expenses paid via PPP loan. Florida is following the federal rules, but other states may not be.

Remember that any other loan modification or forgiveness may have tax implications. If you modified or refinanced debt, or if your lender changed loan covenants or terms, this may result in taxable income. Be sure your tax advisor knows about any changes to your business loans, even those that may seem minimal or trivial.

While this isn’t strictly a tax-planning issue, if you received a second-round PPP loan, talk with your tax and financial advisors about the best PPP forgiveness strategy for your business.

Explore state and local tax (SALT) impacts

Companies with employees working from home in states other than where their offices are located or that saw significant shifts in where their sales occur may have new state and local tax implications to consider.

Businesses with employees who worked from home in other states, even for part of the year, may have nexus in that state. This means you may have taxable income that must be apportioned to that state and need to file state tax returns, possibly where you haven’t done so in the past. You may also not have paid required estimated state taxes in those states.

Even if this isn’t a new tax filing state for your business, these work-from-home employees may increase the apportioned income in those existing states, increasing your income tax attributed to those states.

In addition, with more states seeking to apply economic nexus for income tax purposes, you should speak with your tax advisor about whether conducting a nexus study may make sense for your business.

Pass-through entities should explore potential state-level relief from SALT tax deduction cap

Several states have enacted a pass-through entity tax that provides some personal income tax relief to owners of these entities. Because it is a state tax on an entity, taxpayers can deduct its full amount from their federal taxable income.

In most states, this pass-through entity tax is elective and has various requirements and consequences. If your business is in a state with this option, consider whether it is advantageous to elect this tax.

Sole proprietorships reported on an individual’s 1040 Schedule C or reported on a single-member LLC’s 1040 that file in a number of states should consider whether their owner would benefit by converting to a different entity type.

Decisions about state-level pass-through entity taxes are complex. Consult with a tax professional with state and local tax experience to work through the potential implications.

Changes to research and experimentation expenditures and R&D tax credit

Under current law, for tax years beginning after 2021, taxpayers will be required to capitalize and amortize over five years all U.S.-based Research & Experimentation (R&E) expenditures. Non-U.S.-based R&E expenditures (such as overseas product or software development) will have to be capitalized and amortized over 15 years. Amortization will begin with the midpoint of the taxable year in which the expenditure is paid or incurred.

This new requirement, enacted as part of the Tax Cuts and Jobs Act (TCJA), is a major drawback as taxpayers have been allowed to expense R&E expenditures since 1954. R&E expenditures, also known as Internal Revenue Code (IRC) Section 174 Expenditures, cover a broad range of costs paid or incurred in connection with research and development (R&D) activities such as process development and experimentation, software development and new product development.

Furthermore, for tax years starting after 2021, taxpayers will no longer be allowed to deduct software development expenses under Rev. Proc. 2000-50. Software development expenses, either U.S. or non-U.S.-based, will be treated as Section 174 R&E expenditures and will have to be capitalized and amortized over five and 15 years respectively.

While many practitioners believe Congress could still repeal this new capitalization requirement for R&E and software development expenditures, you will need to plan carefully and take into consideration the potential impact of this new requirement on your R&D and software development activities.

The new capitalization requirement for R&E expenditures does not directly impact the research credit (also known as the R&D tax credit) as described in IRC Section 41. However, given that any expenditure qualifying for the R&D tax credit must satisfy the requirements of Section 174 R&E expenditures, any expenditures included in the credit will have to be capitalized and amortized over a period of five years.

Additionally, on October 15th, the Office of Chief Counsel for the IRS released a memorandum suggesting a much more burdensome specificity requirement for refund claims triggered by the R&D tax credit. Tax practitioners are still analyzing the memorandum and more guidance from the IRS is expected to be released in the coming weeks. If you are considering amending prior year tax returns to file a refund claim for the research credit in light of this announcement, you should consult with your tax advisor before doing so. Moreover, if your business is planning any large R&E expenditures, speak with your tax advisor as soon as possible to understand how this might impact your tax bill.

Other tax considerations

In addition to the areas above, other important tax considerations to think about before year-end include:

• Decide whether to acquire new assets you can depreciate this year, or how you want to depreciate new assets you’ve already acquired. The ability to depreciate 100% of the basis of qualified “new to the taxpayer” property in the first year of ownership is expected to sunset after 2022. Take into account how any net operating losses and your expectation of potential changes to tax rates in 2022 may affect this.
• Maximize your deduction for qualified business income (QBI). Most likely, your tax advisor has explored this area with you. The rules haven’t changed since last year.
• The limitation on allowable deductions for business interest expense is back to 30% of the taxpayer’s adjusted taxable income under the section 163(j) limitation.
• If you haven’t already done so, consider whether it makes sense to accelerate disaster losses under IRC Section 165(i). This may give you faster access to much-needed cash. If you accelerate losses, you may be able to request a “quick refund” by filing Form 4466.
• The information required by Schedule K-1, and several other forms, has expanded in recent years. This is a good time to think about any new information you may need to prepare. It’s also a good time to check whether you have current, signed, valid W-8s and W-9s from all partners, investors or lenders.
• States continue to expand their rules regarding collection of state sales taxes when doing business across state borders. Multi-state businesses may need to increase emphasis on planning for state taxes.

There’s a lot to consider before year-end. Stay up-to-date on the latest tax proposals in Congress, and contact your Kaufman Rossin tax advisor to learn more about what you can do now to minimize your 2021 tax bill and start preparing for 2022.