January 5, 2021
Consolidated Appropriations Act, 2021 modifies and extends key employment-related tax credits and creates new tax credit for employers in 2020 qualified disaster zones
On December 27, 2020, President Trump signed the Consolidated Appropriations Act, 2021 (the Act), which includes a $1.4 trillion omnibus appropriations package to fund the government through fiscal year 2021, approximately $900 billion in coronavirus relief and a variety of important tax provisions. This Alert focuses on the Act's changes to several federal tax credit provisions, including:
ERC extended six months with modifications
The Act extends the ERC through June 30, 2021, with prospective modifications that increase its value for eligible employers and open the credit to public colleges, universities and hospitals.
Effective January 1, 2021 through June 30, 2021, the Act modifies the ERC as follows:
For purposes of determining eligibility under the gross receipts test, employers should compare calendar-quarter gross receipts as follows:
* Employers that did not exist at the beginning of Q1 or Q2 2019 should use Q1 or Q2 2020, respectively.
The Act also makes certain changes retroactive to the date that the CARES Act was enacted in March 2020, including clarifying the determination of gross receipts for tax-exempt organizations; clarifying that group health plan expenses can be considered qualified wages even when no other wages are paid to an employee; and allowing employers receiving Paycheck Protection Program (PPP) loans to claim the credit on wages that were not paid for with forgiven PPP loan funds. For more information, see Tax Alert 2020-2938.
Tax credits for employers in a 2020 qualified disaster zone
Employers impacted by certain major disasters in 2020 (not COVID-19-related) may claim an income tax credit (DZ Credit) of up to $2,400 per employee if their trade or business (1) was active at the time of the disaster, (2) located in a qualified disaster zone and (3) rendered inoperable as a result of the disaster and the employer continued to pay to, or incur wages for, eligible employees (i.e., employed at the location immediately before the disaster). The DZ Credit covers disaster zones, as determined by the President from January 1, 2020, to 60 days after the Act's enactment (i.e., December 27, 2020), that are eligible for individual assistance under the Robert T. Stafford Disaster Relief and Emergency Assistance Act.
The DZ Credit equals 40% of wages (up to a maximum of $6,000 per employee) paid to or incurred for an eligible employee beginning on the date the disaster first rendered the trade or business inoperable at the employee's principal place of employment (determined immediately before the disaster) and ending on the earlier of (1) the date that significant operations resumed at the employee's principal place of employment or (2) 150 days after the last day of the disaster incident period. Qualified wages do not include wages that were paid with forgiven PPP loan funds or taken into account for purposes of the ERC and credits under IRC Sections 41, 45A, 45P, 45S, 51 and 1396.
The new DZ Credit is similar to DZ credits created by the Further Consolidated Appropriations Act, 2020, the Disaster Tax Relief and Airport and Airway Extension Act of 2017 and the Bipartisan Budget Act of 2018 in the aftermath of hurricanes Harvey, Irma, Maria, Florence and Michael, California wildfires and various severe storms.
Tax-exempt entities described in IRC Section 501(c) and exempt from tax under IRC Section 501(a), as well as governmental entities that are public colleges or universities or principally provide medical or hospital care, are also eligible for the DZ Credit. For these entities, the DZ credit is available as a non-refundable credit against the tax imposed by IRC Section 3111(a).
Extension of FFCRA credits for paid leave
The Act does not extend the FFCRA mandates to provide paid sick and paid family and medical leave beyond December 31, 2020. The Act extends the credits through March 31, 2020, however, for employers that (1) would have been subject to such mandates had they been extended and (2) voluntarily provide paid sick or family and medical leave as formerly required by the mandates. For more information on these credits, see Tax Alert 2020-0598.
Extension of certain employment-related tax extenders that were set to expire on December 31, 2020
The Act extends the WOTC through December 31, 2025. The WOTC gives a general business credit of up to $9,600 to employers that hire and retain individuals from certain targeted groups (e.g., long-term unemployed, veterans). The Act does not include the COVID-19 unemployed target group proposed in the Senate HEALS Act during the summer of 2020.
The PFML credit is extended to include wages paid in tax years beginning on or before December 31, 2025. The PFML credit provides a general business credit of up to 25% of wages paid to qualifying employees taking leave for a reason covered under the federal Family and Medical Leave Act (FMLA). Employers must have a written policy in place giving all qualifying employees a minimum of 50% wage replacement for at least two weeks (pro-rated for part-time employees) in order to qualify for the PFML credit. Qualifying employees include those (1) who have been employed by the employer for one year or more, and (2) whose compensation for the preceding year was not more than 60% of the amount applicable for that year under IRC Section 414(q)(1)(B)(i).
The FedEZ credit for hiring and retaining employees who live and work in empowerment zones is extended to December 31, 2025. The FedEZ credit, which is up to $3,000 per employee per year, encourages hiring and retention in distressed urban and rural areas that are designated by the federal government for revitalization.
Effective for tax years beginning after December 31, 2020, the Act terminates certain other tax benefits available to businesses in empowerment zones, such as the increase in expensing on qualifying equipment under IRC Section 179 and the deferral of capital gains tax on the sale of certain qualified assets.
The IEC is extended through December 31, 2021. The IEC, which is up to $4,000 per employee per year, provides an incentive to businesses to hire certain individuals who live on or near an Indian reservation. A qualified employee for purposes of the IEC is an enrolled member of an Indian tribe, or his or her spouse, who performs substantially all his or her services for the employer within an Indian reservation and also lives on or near that reservation.
The Act creates important tax credit opportunities for employers that are still struggling to retain employees amid the COVID-19 pandemic and the aftermath of multiple natural disasters in 2020.
The Act's prospective modifications to the ERC should make the credit both more valuable and accessible in 2021. Instead of the maximum credit of $5,000 per employee allowed in 2020, eligible employers that pay qualified wages in the first two quarters of 2021 may claim a credit of up to $14,000 per employee. Two other changes will also make the credit more valuable for certain employers. First, employers that had between 101 and 500 full-time employees in 2019 will be able to claim a credit for all wages paid to employees rather than only those wages paid to employees not providing services. Second, employers that decide to increase their employees' rate of pay will now be able to claim the ERC on the increased wages.
In terms of eligibility, public colleges, universities and hospitals will welcome the opportunity to claim the ERC in 2021. In addition, employers whose operations are not fully or partially suspended due to government orders in 2021 but nonetheless experience a decline in revenue will also welcome the new 20% threshold for satisfying the gross receipts test. Employers that satisfy the gross receipts test in the first quarter of 2021 will be automatically eligible for the ERC in the second quarter; thus, all employers — even those that experience a suspension of operations in 2021 — may want to consider conducting a gross receipts analysis (including an analysis under the new safe harbor rule) in 2021 in order to potentially extend the eligibility period.
The Act's retroactive change eliminating the ERC recapture provision and allowing employers to claim the ERC and receive PPP loans fixes an issue that had prevented some employers from moving forward with mergers and acquisitions. Although the Act's retroactive changes should not require employers to recalculate their ERC, PPP loan recipients from 2020 whose payroll costs were not fully forgiven or covered by the PPP loan may want to analyze whether the ERC could offset those costs (the statute of limitations for filing an amended Form 941-X is three years). Moreover, any entity that did not receive a PPP loan in 2020 but was previously barred from claiming the ERC because a member of its aggregated group received a PPP loan may want to analyze whether it is eligible for the ERC and paid qualified wages in 2020.
Employers that were previously subject to the FFCRA mandates and elect to continue providing paid sick or paid family and medical leave in the first quarter of 2021 should welcome the opportunity to offset such costs via extension of the FFCRA credits.
While the pandemic was a challenge for all employers, many employers were also impacted by other natural disasters in 2020, such as hurricanes, wildfires, earthquakes and severe storms. The Act's DZ Credit provides relief in the form of an income tax credit (non-refundable payroll tax credit for qualified tax-exempt organizations) for employers that were located in disaster zones, rendered inoperable by those disasters and continued to pay employees until significant operations resumed.
Employers in the following states and US territories may be eligible for the 2020 DZ Credit: Alabama, California, Florida, Iowa, Louisiana, Mississippi, Oregon, Puerto Rico, South Carolina, Tennessee and Utah. To determine qualified wages paid to or incurred for employees in these locations, employers should consider thoroughly analyzing, on a location-by-location basis, when their location(s) first became inoperable and resumed significant operations. Employers with Puerto Rico disaster zone locations may receive additional guidance on the DZ Credit from the Puerto Rico Treasury Department.
Although payroll tax credits are only available to tax-exempt organizations affected by 2020 disasters, income tax credits are available to for-profit employers that were impacted by major disasters in 2017, 2018 and 2019; those employers may choose to look back at prior open tax years to claim credits associated with disasters that impacted them in prior years.
In addition to the ERC and DZ Credit, extensions of the WOTC, FedEZ and IEC credits present an opportunity for employers to utilize credits to offset hiring and payroll costs for several years. Employers should continue to screen new applicants to determine eligibility for these credits. Keep in mind that the FedEZ and IEC credits are available on an annual basis for both new hires and retained employees.
A five-year extension of the PFML credit may warrant a second look at plan changes for employers that decided the short-term, two-year credit for paid family and medical leave originally enacted as part of the Tax Cuts and Jobs Act was not worth the administrative burden of changing leave plans. While the credit has been extended for wages paid in tax years beginning on or before December 31, 2025, under the guidance provided in IRS Notice 2018-71, the credit is only available for wages paid to employees on or after the later of the qualifying policy's adoption date or the policy's effective date. Therefore, employers who do not currently have a qualifying paid leave policy but are considering amending their policy or creating a new policy altogether should account for this limitation in determining the credit's potential benefits.
Finally, the Act contains several double benefit provisions that disallow the use of wages for more than one credit. Therefore, taxpayers claiming any of the credits previously discussed may want to conduct an overlap analysis to avoid claiming a prohibited double benefit.