Tax Effects of the American Rescue Plan Act

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In addition to the $1,400 stimulus payments to many Americans, the American Rescue Plan Act provides many other relief measures, and also some new business tax measures, that should be noted.

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The American Rescue Plan Act of 2021 (ARPA), enacted by President Joe Biden on Thursday, is an approximately $1.9 trillion COVID-19 relief, funding and tax bill that has received a lot of attention for the inclusion of $1,400 direct payments to individuals.

Here is a look at the final version of the tax provisions:

Unemployment Benefits

The act makes the first $10,200 in unemployment benefits tax-free in 2020 for taxpayers making less than $150,000 per year. The State of Michigan has recently announced they will follow suit.

Recovery Rebates aka Stimulus Checks

The act creates a new round of economic impact payments to be sent to qualifying individuals. The same as last year’s two rounds of stimulus payments, the economic impact payments are set up as advance payments of a recovery rebate credit. The act creates a new Sec. 6428B that provides individuals with a $1,400 recovery rebate credit ($2,800 for married taxpayers filing jointly) plus $1,400 for each dependent (as defined in Sec. 152) for 2021, including college students and qualifying relatives who are claimed as dependents. As with last year’s economic impact payments, the IRS will send out the advance payments of the credit.

For single taxpayers, the credit and corresponding payment will begin to phase out at an adjusted gross income (AGI) of $75,000, and the credit will be completely phased out for single taxpayers with an AGI over $80,000. For married taxpayers who file jointly, the phaseout will begin at an AGI of $150,000 and end at AGI of $160,000. And for heads of household, the phaseout will begin at an AGI of $112,500 and be complete at AGI of $120,000.

The act uses 2019 AGI to determine eligibility, unless the taxpayer has already filed a 2020 return.

Child Tax Credit

The act expands the Sec. 24 child tax credit in several ways and provides that taxpayers can receive the credit in advance of filing a return. The act makes the credit fully refundable for 2021 and makes 17-year-olds eligible as qualifying children.

The act increases the amount of the credit to $3,000 per child ($3,600 for children under 6). The increased credit amount phases out for taxpayers with incomes over $150,000 for married taxpayers filing jointly, $112,500 for heads of household, and $75,000 for others, reducing the expanded portion of the credit by $50 for each $1,000 of income over those limits.

The IRS is directed to estimate taxpayers’ child tax credit amounts and pay monthly in advance one-twelfth of the annual estimated amount. Payments will run from July through December 2021.

The IRS must set up an online portal to allow taxpayers to opt out of advance payments or provide information that would be relevant to modifying the amount.

Taxpayers in general will have to reconcile the advance payment amount with the actual credit amount on next year’s return and their increase tax by the excess of the advance payment amount over the actual credit allowed. But taxpayers whose modified AGI for the tax year does not exceed 200% of the applicable income threshold ($60,000 for married taxpayers filing jointly) will have the increase for an excess advance payment reduced by a safe harbor amount of $2,000 per child.

Earned Income Tax Credit

The act also makes several changes to the Sec. 32 earned income tax credit. It introduces special rules for individuals with no children: For 2021, the applicable minimum age is decreased to 19, except for students (24) and qualified former foster youth or homeless youth (18). The maximum age is eliminated.

The credit’s phaseout percentage is increased to 15.3%, and the phaseout amounts are increased.

The credit would be allowed for certain separated spouses.

The threshold for disqualifying investment income would be raised from $2,200 to $10,000.

Temporarily, taxpayers would be allowed to use their 2019 income instead of 2021 income in figuring the credit amount.

Child & Dependent Care Credit

The act makes various changes to the Sec. 21 child and dependent care credit, effective for 2021 only, including making it refundable. The credit will be worth 50% of eligible expenses, up to a limit based on income, making the credit worth up to $4,000 for one qualifying individual and up to $8,000 for two or more. Credit reduction will start at household income levels over $125,000. For households with income over $400,000, the credit can be reduced below 20%.

The act also increases the exclusion for employer-provided dependent care assistance to $10,500 for 2021.

Family & Sick Leave Credits

The act codifies the credits for sick and family leave originally enacted by the Families First Coronavirus Response Act (FFCRA), P.L. 116-127, as Secs. 3131 (credit for paid sick leave), 3132 (credit for paid family leave), and 3133 (special rule related to tax on employers). The credits are extended to Sept. 30, 2021. These fully refundable credits against payroll taxes compensate employers and self-employed people for coronavirus-related paid sick leave and family and medical leave.

The act increases the limit on the credit for paid family leave to $12,000.

The number of days a self-employed individual can take into account in calculating the qualified family leave equivalent amount for self-employed individuals increases from 50 to 60.

The paid leave credits will be allowed for leave that is due to a COVID-19 vaccination.

The limitation on the overall number of days taken into account for paid sick leave will reset after March 31, 2021.

The credits are expanded to allow 501(c)(1) governmental organizations to take them.

Employee Retention Credit

The act codifies the employee retention credit in new Sec. 3134 and extends it through the end of 2021. The employee retention credit was originally enacted in the Coronavirus Aid, Relief, and Economic Security (CARES) Act, P.L. 116-136, and it allows eligible employers to claim a credit for paying qualified wages to employees.

Under the act, the employee retention credit would be allowed against the Sec. 3111(b) Medicare tax.

Premium Tax Credit

The act expands the Sec. 36B premium tax credit for 2021 and 2022 by changing the applicable percentage amounts in Sec. 36B(b)(3)(A). Taxpayers who received too much in advance premium tax credits in 2020 will not have to repay the excess amount. A special rule is added that treats a taxpayer who has received, or has been approved to receive, unemployment compensation for any week beginning during 2021 as an applicable taxpayer.

Student Loans

The act amends Sec. 108(f) to specify that gross income does not include any amount that would otherwise be included in income due to the discharge of any student loan after Dec. 31, 2020, and before Jan. 1, 2026.

What else does the American Rescue Plan Act do?
  • An extension of the $300 federal unemployment benefit supplement through Sept. 6,
  • $15 billion of additional targeted Economic Injury Disaster Loan (EIDL) grants
  • $28.6 billion to fund a new grant program for certain restaurants,
  • $7 billion of expanded Paycheck Protection Program (PPP) eligibility for certain nonprofit organizations,
  • support for Affordable Care Act coverage,
  • an extension and expansion of paid sick leave and Family and Medical Leave Act leave tax credits through September,
  • an extension of and increase in certain FFCRA (defined below) credits,
  • extends the 15% increase in Supplemental Nutrition Assistance Program benefits through September
  • provides $7.5 billion for Centers for Disease Control and Prevention vaccination distribution,
  • $5.2 billion for Biomedical Advanced Research and Development Authority vaccine procurement;
  • $48.3 billion for testing, contact tracing and personal protective equipment for healthcare workers;
  • $50 billion for the Federal Emergency Management Agency Disaster Relief Fund;
  • $125 billion for K-12 schools; $39.6 billion for colleges and universities;
  • $39 billion for child care programs; $25 billion for emergency rental assistance;
  • $7.6 billion for community health centers; $7 billion to help with broadband for remote learning;
  • $4.5 billion for the Low-Income Home Energy Assistance Program;
  • and $3.8 billion to support state mental health and substance abuse programs.

The ARPA contains several revenue-raising provisions, including

  • an outright repeal of the long-delayed Section 864(f) worldwide interest allocation rules, which otherwise would have applied beginning this year;
  • an expansion of the Section 162(m) compensation deduction limitation to include an additional five of the highest-paid corporate employees, beginning in 2027;
  • increased information reporting for certain third-party settlement organizations regarding payees receiving in excess of $600 annually;
  • and an extension for one year – through 2026 – of the Section 461(l) limitation on excess business losses for noncorporate taxpayers.

The ARPA does not include federally proposed so-called Mobile Workforce provisions or COVID-19-related liability protections, and most believe those proposals are unlikely to be enacted in 2021. The ARPA also contains no restrictions on the Section 461(l) loss limitation suspension for 2018-2020 pursuant to prior COVID-19 relief legislation and also does not prevent net operating losses generated in 2018-2020 from being carried back even if not yet carried back in filed tax returns.

Portions of the ARPA are supplemental in certain respects to the Dec. 27, 2020, Consolidated Appropriations Act, 2021 (CAA); the March 27, 2020, Coronavirus Aid, Relief, and Economic Security (CARES) Act; the March 18, 2020, Families First Coronavirus Response Act (FFCRA); and the March 6, 2020, Coronavirus Preparedness and Response Supplemental Appropriations Act.

I. Details of Certain Corporate Tax Provisions

A. Repeal of IRC Section 864(f) Worldwide Interest Allocation Rules IRC Section 864(f), enacted in 2004 with a delayed effective date, would have allowed taxpayers to elect to allocate and apportion interest expense on a worldwide basis. The provision has been repeatedly delayed by legislation but was finally scheduled to be effective in 2021. The ARPA permanently repeals the provision. The repeal is scored as raising $22 billion to help lower the cost of the ARPA.

B. Increase in Number of Employees Subject to IRC Section 162(m)’s Limitation on Deductions of Executive Compensation IRC Section 162(m) generally prohibits tax deductions by publicly traded corporations for so-called covered employees to the extent annual compensation of those employees exceeds $1 million. Section 162(m) generally applies to the CEO, the CFO and the three next-highest-compensated individuals. For tax years beginning in 2027, the ARPA requires corporations to also include the five next-highest-compensated individuals, so that the total number of covered individuals will be at least 10. Once an individual is subject to Section 162(m) under pre-ARPA law, the individual continues to be covered by Section 162(m) even if not among the five highest-compensated employees. With respect to the five next-highest-compensated individuals, the ARPA does not provide for continuing coverage by Section 162)(m) if they later fall outside the ARPA-expanded group. The expansion of Section 162(m) is scored as raising $6 billion to help lower the cost of the ARPA.

II. Details of Certain Tax and Related Provisions Relevant to Noncorporate Businesses and Individuals

A. Extension of IRC Section 461(l)’s Limitation on Excess Business Losses of Noncorporate Taxpayers IRC Section 162(l) generally disallows use of noncorporate losses in excess of $250,000 ($500,000 for joint filers). The CARES Act removed the Section 461(l) limitation for tax years 2018-2020. The ARPA pushes out the current expiration of Section 461(l) from 2026 to 2027. The ARPA does not remove or change CARES Act provisions relating to Section 461(l).

B. Recovery Rebate PaymentsThe ARPA provides for additional recovery rebates of up to $1,400 for most individual U.S. residents. The rebates begin to phase out for individuals with earnings in excess of $75,000 ($150,000 for joint filers), with rebates being unavailable to individuals with earnings in excess of $80,000 ($160,000 for joint filers). The rebate, which will be delivered via direct deposit when possible, is not taxable income; it is an advance payment of a refundable tax credit on the taxpayer’s 2021 federal income tax return.

III. Additional Infrastructure Spending and Very Significant Tax Changes Are Forthcoming

With passage of the ARPA, the focus in Washington, D.C., now shifts to a second budget reconciliation bill – Biden administration tax changes, expected to be joined with infrastructure spending. The tax changes are expected to be substantial and far-reaching and to include corporate, individual and capital gains tax rate increases; international tax changes; and estate and gift tax changes.

President Biden’s fiscal year 2022 budget is expected to be released in mid- to late April, at which point the House and then the Senate will craft and approve a budget resolution to serve as the vehicle for the next reconciliation process. Most expect committee action to begin in the next few months, with ultimate enactment in the fall. Only 51 votes are needed to pass budget reconciliation legislation in the Senate.

The effective dates of the newly enacted provisions generally are expected to be Jan. 1, 2022, but certain provisions may have proposed effective dates tied to committee action or the date of enactment (for example, capital gains tax rate increases may be proposed to apply to sales occurring after the date of committee action in early October or the date of enactment of the legislation later in the fall). The effective dates of certain provisions may be phased in over time, and certain provisions may be enacted on a temporary basis to help keep the scored cost of the legislation within acceptable parameters.