March 11, 2021
American Rescue Plan Act extends and expands COVID-19 relief legislation
On March 11, 2021, President Biden signed the American Rescue Plan Act of 2021 (ARPA), providing extensive and varied relief meant to mitigate the impact of COVID-19. This Alert focuses on the following tax provisions that affect employers:
Employee Retention Credit
Section 9651 of the ARPA adds new Section 3134 to the Internal Revenue Code (IRC) creating an employee retention credit (ARPA ERC), which is fundamentally an extension of the employee retention credit that was created by the CARES Act (CARES ERC) and later enhanced and extended by the Consolidated Appropriations Act, 2021 (CAA). The ARPA ERC extends the enhanced CARES ERC through the end of 2021 (the CAA had previously extended the credit through June 30, 2021). Like the CARES ERC, the ARPA ERC provides a credit against payroll taxes based on qualified wages paid by an eligible employer.
The ARPA ERC makes the following modifications to the credit, which apply prospectively to credits claimed for the third and fourth calendar quarters of 2021:
Families First Coronavirus Response Act paid leave credit
The FFCRA required employers of fewer than 500 employees to provide paid leave to employees absent from work due to certain specified COVID-19-related reasons, and allowed a payroll tax credit to employers based on the amount of leave required to be paid (see Tax Alert 2020-0586). The CAA allowed the paid leave requirement to expire on December 31, 2021, but extended the credit through March 31, 2021, to employers who voluntarily paid leave that would have been required had the requirement been extended (see Tax Alert 2020-2938). Section 9641 of the ARPA further extends the credit (again without the associated paid leave requirements) through September 30, 2021, with certain modifications:
COBRA Premium Subsidy
Section 9501 of the ARPA subsidizes COBRA continuation coverage premiums for coverage provided to assistance-eligible individuals from April 1, 2021 through September 30, 2021. Unlike the 65% COBRA premium subsidy provided by the American Recovery and Reinvestment Act in 2009, the ARPA subsidizes 100% of the COBRA premium (which may include the 2% administrative fee allowed under IRC Section 4980B(f)(2)(C)).
An assistance-eligible individual is one who (1) has qualified for COBRA continuation coverage due to a reduction in hours or an involuntary termination in employment that is not due to the employee's gross misconduct and (2) elects COBRA continuation coverage.
Under normal circumstances, a plan administrator is responsible for providing a notice of continuation coverage when a COBRA-qualifying event occurs. From April 1, 2021 through September 30, 2021, the ARPA requires this notice to include additional details concerning the premium assistance program and imposes additional notification requirements beyond the initial notice. The ARPA allows an assistance-eligible individual an extended period to elect continuation coverage even if coverage had not been previously elected. In addition, the ARPA allows plans to permit eligible individuals to elect into certain different coverage of a same or lesser value to the individual's previous enrollment. Assistance-eligible individuals are not taxed on the amount of the premium assistance and must be reimbursed by the plan, employer or other coverage provider if they pay premiums not required by virtue of the premium assistance. The premium assistance program ends on September 30, 2021, but cuts off sooner if (1) an individual becomes eligible to enroll in certain other group health plan coverage or Medicare or (2) the individual's COBRA coverage period expires.
In connection with the premium assistance program, the ARPA adds a new IRC Section 6432, which allows a refundable credit against the employer's share of Medicare tax for the amount of premium assistance provided to assistance-eligible individuals. Depending on the type of coverage, the credit is allowed to either the multiemployer plan, the issuer of insured coverage or the sponsoring employer for all other coverage. The credit is treated as gross income to the entity. Like the extended ARPA ERC, the credit is subject to a five-year statute of limitations period.
Dependent Care Assistance
Employees may generally exclude the value of dependent care assistance up to $5,000 annually from income and wages. This exclusion applies whether the dependent care assistance is provided directly or using a flexible spending arrangement (FSA) under a cafeteria plan. Salary reduction used to fund a dependent care assistance FSA is generally forfeited if the amount is not used during the plan year; however, the CAA temporarily modified the use-or-lose rules that apply to FSAs, allowing for carryover of unused amounts. Although the IRS has informally indicated that it understood the CAA's intent to not treat dependent care FSA carryover amounts as taxable, this was unclear under the statute. Section 9632 of the ARPA resolves this ambiguity by increasing the excludable amount to $10,500 for 2021.
IRC Section 162(m)
Section 9708 of the ARPA expands IRC Section 162(m)'s disallowance for deduction of certain compensation paid by publicly held corporations, effective for tax years beginning after December 31, 2026. Prior to the change, covered employees included (1) anyone serving as CEO or CFO during the year, (2) the next three highest compensated officers, and (3) any individual who was a covered employee in any previous tax year beginning after December 31, 2016.
Section 9708 of the ARPA expands the scope of covered employees to include the five highest compensated employees — not limited to officers — that are not already treated as covered employees under (1) or (2) above. In contrast to the permanency of covered employee status for the existing group of covered employees, this new group of covered employees will not permanently retain that status for subsequent tax years.
The ARPA generally extends the duration and expands the size and scope of the relief provided to employers in prior COVID-19 legislation.
The extension of the employee retention credit through the end of 2021 significantly increases the amount of the credit available to employers that continue to be adversely impacted by the COVID-19 pandemic. Expanding the credit for businesses that were severely impacted by the COVID-19 pandemic and including startup businesses established during the COVID-19 pandemic will be particularly helpful to those businesses that have been uniquely impacted. By defining the ARPA ERC and the paid leave credits as refundable credits against Medicare tax, eligible employers may receive more of the credit in the form of a refund than under prior legislation.
The amendment to IRC Section 162(m) to apply to up to five additional individuals represents a significant expansion to the $1 million deduction limitation. In addition to increasing the number of covered employees, the amendments apply IRC Section 162(m) to non-officer employees for the first time. Many industries and sectors have non-employee officers earning significant amounts of compensation, such as sales or media employees. It is helpful to taxpayers that these individuals are determined on an annual basis and not subject to the "once covered, always covered" permanency rule. These five employees might also include officers who are covered employees only by virtue of the permanency rule, which would cause the non-officer covered employees to be fewer than five in a given year.
One important question is whether IRC Section 162(m) will continue to rely on the SEC definition of "compensation" to determine who is most highly compensated. Many taxpayers currently identify their IRC Section 162(m) covered employees in conjunction with preparing their proxy disclosures of officer compensation, which may not be well suited to assessing non-officer compensation.
The amendment will not be effective until tax years beginning after 2026, which may allow time for the Treasury and IRS to provide clarifying guidance. Taxpayers should consider how this determination could be incorporated into existing practices but may not need to take immediate action. Taxpayers should keep an eye out for any further guidance on how this determination should be made.