The CARES Act: Individual Tax Impact
In light of the economic consequences of the COVID-19 pandemic, Congress passed into law The Coronavirus Aid, Relief, and Economic Security (CARES) Act. This relief package, costing over $2 trillion, aims at assisting both individuals and businesses to combat the economic pressures brought by the pandemic. This post focuses on the impact of the CARES Act to individuals and families.
The most significant impact of the CARES Act to individuals will be the economic stimulus payments of up to $1,200 or $2,400 depending on the taxpayer’s filing status. Single filers may receive up to $1,200 in aid, phased out for taxpayers with AGI above $75,000. Taxpayers married filing jointly are eligible for a stimulus payment of up to $2,400 with the phaseout beginning with AGI of $150,000. Head of Household filers are eligible to receive a $1,200 stimulus payment with the phaseout beginning with AGI of $112,500. For those with children, the government provides further aid in the amount of $500 per child under the age of 17.
The stimulus payment reduction is calculated on the total payment received. For every $100 a taxpayer’s AGI exceeds the phaseout threshold for his or her filing status, the stimulus payment is reduced by $5. The following equation can be used to calculate this amount:
For example, if John is a taxpayer married filing jointly with his spouse and they have three children, they will be entitled to a $3,900 stimulus payment. If John’s AGI is $175,000, his stimulus payment would be reduced by $1,250 to $2,650.
The amount of payment will be determined by the taxpayer’s AGI on their 2019 tax return if already filed. If the taxpayer hasn’t filed their 2019 tax return, the payment will be based on 2018 AGI. If the taxpayer received benefits from Social Security and did not file a 2018 or 2019 return, the IRS will calculate the stimulus rebate based on the Social Security Benefit Statement. Although the amount of the stimulus payment will be based on AGI from a previous year, this stimulus is actually an advanced refundable credit for 2020. If after filing their 2020 return, the taxpayer discovers they are entitled to a larger credit, the IRS will refund this amount. If the taxpayer finds they were not entitled to the full credit they received there is no indication the amount will have to be repaid. This provides a unique opportunity for those who have yet to file their 2019 taxes. Those in this situation can compare their 2018 AGI with their 2019 AGI to evaluate which would give them a larger stimulus payment. Changes in marital status and number of children should also be considered in this evaluation.
Finally, in order to receive the stimulus payment, the taxpayer must do or have done at least one of the following: (1) filed a 2018 tax return, (2) file a 2019 tax return, (3) receive Social Security benefits in either 2018, 2019, or 2020, or (4) file a 2020 tax return when the time comes. Valid social security numbers must be provided for the taxpayer, their spouse, and each qualifying child. Those who are being claimed as a dependent on another’s tax return are ineligible to receive the stimulus payment.
The Tax Cuts and Jobs Act of 2017 allowed a taxpayer to deduct charitable contributions of up to 60 percent of their adjusted gross income. The CARES Act temporarily lifted any limit on this deduction, allowing taxpayers to deduct charitable contributions of up to 100 percent of their AGI. Any contributions in excess of AGI will be carried over to the next five years. Furthermore, for taxpayers who do not itemize their deductions, Congress allows a $300 for AGI deduction for charitable contributions. Normally charitable contributions are only allowed as a from AGI deduction, meaning they decrease AGI in calculating taxable income. This deduction is normally allowed only for taxpayers who itemize. The $300 charitable contribution deduction allowed by the CARES Act allows taxpayers who do not itemize to take the $300 deduction along with the standard deduction. Again, this $300 deduction is available only for those who do not itemize their deductions.
Retirement Account Implications
The CARES Act eliminates the required minimum distribution for those who are required to take it in 2020. This requirement is suspended for 2020 only. In addition, for those in need of extra cash on hand, Congress eliminated the penalty on early withdrawals from a qualified retirement plan. Normally such early withdrawals are subject to a 10 percent penalty. The CARES Act allows the taxpayer to withdraw up to $100,000 in 2020 for a “coronavirus-related” reason without penalty. A “coronavirus-related” distribution is one made to a taxpayer:
· who is diagnosed with COVID-19
· whose spouse or dependent is diagnosed with COVID-19
· who experiences financial difficulty as a result of being quarantined, laid off, furloughed, having work hours reduced, or being unable to work due to lack of child care
The amount taken as a distribution is still subject to income tax, but it may be recognized over a three-year period beginning in 2020. If the taxpayer repays the entire distribution within three years, they can avoid any income recognition. Taxpayers may also take up to three years to complete any IRA rollovers. Normally these rollovers must be completed within 60 days to be nontaxable. The CARES Act extends this period to up to three years. Finally, as part of the relief package, Congress increased the amount an individual may borrow from their retirement account from $50,000 to $100,000 for the 180-day period after the enactment date of March 27, 2020. This also allows the taxpayer to take the full amount of their vested benefit as a loan as opposed to the previous limit of 50 percent.
Net Business Loss Rule Change
With the TCJA Congress limited an individual’s ability to deduct losses from a business. The CARES Act puts a temporary stoppage on this limitation and allows the taxpayer to deduct losses limited by the rule retroactively to January 1, 2018. Prior law limited business losses at the individual level to $250,000 (single) and $500,00 (married filing jointly) and converted the excess loss to a net operating loss. This limitation will return in 2021 and wages will not be considered business income, thus resulting in a greater limitation of losses in the future.
The CARES Act also aims to help those with the burden of student debt. From March 13 to September 30, 2020 the interest rate is set to 0 percent and all payments are suspended. This applies only to loans held by the federal government. There is no action required by the taxpayer to take advantage of these benefits—they are automatically implemented. Taxpayers should beware of scams suggesting any kind of payment required to suspend loan payments.
The CARES Act also allows a tax break to taxpayers whose employer pays some of their student loan obligation. An employer may pay up to $5,250 of the taxpayer’s student loan payment without any income recognition by the taxpayer. This does limit the taxpayer’s ability to deduct interest on that portion of the loan paid for by his or her employer. Furthermore, this $5,250 limit is combined with the provision previously allowing employers to pay for qualified education expenses of their employees on a tax-free basis. Thus, an employee may exclude from income only $5,250 of expenses and loan payments paid by his or her employer.
The CARES Act allows a self-employed individual to delay payment of 50 percent of his or her self-employment taxes that would be due from the date of enactment of March 27, 2020 through the end of 2020. The taxpayer can delay half of the payment to 2021 and the other half percent until 2022. This deferral is not available if your self-employed business has received a Payroll Protection Plan loan.