Stop the Surprise Small-Business Tax Increase
An Op-ed by Christopher Smith, Executive Director of the Parity for Main Street Advisors coalition, ran this morning in the Morning Consult.
The Payroll Protection Program enacted this past spring has helped millions of employers and workers survive an economy that was in freefall from COVID-related closures. Now, with the recovery underway, those same small businesses will face a surprise $100 billion tax hike if Congress fails to act soon.
The PPP program’s design was simple – use local banks to provide loans to smaller employers during the shutdown. If the employers used the money to keep workers employed and on other necessary expenses, their loans could be forgiven and tax-free.
The tax-free aspect of the PPP was not an afterthought, but a central element of the plan. The sponsors of the program and their supporters repeatedly emphasized this benefit during the congressional debate, and it was well understood as the law started to be implemented. Simply take out the loan, spend it on the approved expenses, and any loan forgiveness would be tax-free.
But recent positions taken by the Treasury and the Internal Revenue Service have turned this policy on its head. By denying borrowers the ability to deduct the same expenses that qualified them for the loan forgiveness, this action produces the same result as if the loan forgiveness was repealed. This was not at all what Congress intended.
Read the full op-ed here.
Tax Outlook Under a Possible Democratic Sweep
On September 22nd, S-Corp hosted a Zoom briefing entitled “Tax Outlook under a Possible Democratic Sweep” featuring George Callas, Managing Director, Government Affairs at Steptoe Johnson LLP, and Brian Reardon, President of the S Corporation Association. With the former Vice President continuing to lead in the polls and the elections less than two months out, taxpayers are taking a harder look at his policies and considering what might emerge from a Democratic-led Congress next year. The speakers cover the details of Biden tax plan, how they might affect taxpayers both foreign and domestic, and how that plan might evolve as it moves through Congress. Run time for the presentation is one hour.
Priorities for Reopening Main Street
The Commerce Department last week revised its 2nd Quarter GDP estimates showing the economy shrunk by nearly one-third. In a $22 trillion economy, that translates into nearly $2 trillion in lost wages, profits, retirement savings, etc.
The threat of this precipitous decline was the catalyst for the business community letter dated back on March 18th. As Governors closed businesses and schools to slow the spread of COVID-19, one hundred and twenty national trade groups called on Congress to provide relief to families and employers that was on the same scale as the nationwide shutdown.
The result was the CARES Act, which provided trillions in checks, tax benefits, and credit to families and businesses through a myriad of programs. The chart below depicts the CARES Act as a somewhat shotgun response, but it also reflected a good-faith effort on the part of Congress and the Administration to find new solutions to an unprecedented challenge.
As Congress debates the contents of another CARES-type bill with literally dozens of competing policies on the table, S-Corp thought some indication of which policies are most important to business community might be helpful.
The survey described here asked trades to rank sixteen distinct policies on a five-star scale along the following lines:
- 5 Stars: Our Top Priority
- 4 Stars: Important to Our Members
- 3 Stars: Good Policy
- 2 Stars: Doesn’t Hurt
- 1 Star: Not Important
The polices listed are largely limited to those directly affecting businesses and the workers they employ. These policies were included in the House-passed HEROES Act, the proposed Senate Republican Phase IV bill, and the Administration’s stated priorities. They lean primarily to tax policy, but not entirely.
Of the hundreds of groups contacted, sixty-two responded, providing what appears to be well-rounded answer to the critical question of what is most important to employers as Congress continues to grapple with COVID-19.
The top priority is for Congress to provide employers with liability protection when they reopen while taking reasonable precautions to protect their employees. This policy scored an almost perfect 4.7 Stars, suggesting that the business community is beginning to shift its focus from helping employers and workers during the shutdown to taking the steps necessary to reopen the economy.
Other policies that scored 4 Stars or better related to the Paycheck Protection Program (PPP). No program has been as widely utilized. Despite several missteps, the program provided more than $500 billion in needed capital to over five million businesses, helping to preserve those businesses and jobs of the workers they employ.
For the next COVID-19 bill, business trades strongly support restoring the tax deductibility of PPP loan forgiveness. This was clearly Congress’ intent when it enacted the PPP, and it continues to be a priority. The cost to existing PPP borrowers would exceed $100 billion if Congress fails to act. Trade groups also strongly support extending the PPP while making its benefits more accessible.
At the other end of the scale, the Administration’s plan to defer payroll tax payments scored poorly. The lack of clarity about how it would work, who would have to repay the deferred taxes, and whether Congress would act to make the deferral permanent all likely contributed to the low score. These concerns were outlined in a US Chamber letter earlier this month and, despite the guidance released late last week, many of those concerns remain.
Last week’s GDP estimates demonstrate that Congress was correct to go big with the CARES Act, while the continuing shutdowns and business closures make clear that more is needed. As Congress considers another COVID-19 response bill, we hope the this survey helps focus their efforts.
Avoiding a $100 Billion Tax Hike on Main Street
As the Administration negotiates with Congress over the next round of COVID-19 relief, here’s a simple way they can help Main Street businesses to the tune of $100 billion plus… just do what Congress intended.
That’s the message more than 170 business trades are sending to congressional leadership today. The letter, signed by the Farm Bureau, NFIB, AICPA, the National Restaurant Association, the National Retail Federation among others, makes clear that loan forgiveness under the Paycheck Protection Program should be tax-free as intended in the CARES Act. Here’s the text of the letter:
As Congress negotiates another round of relief in response to the on-going COVID-19 pandemic, we strongly encourage you to include a technical correction addressing the tax treatment of loan forgiveness under the Paycheck Protection Program (PPP).
When the PPP was adopted as part of the Coronavirus Aid, Relief, and Economic Security (“CARES”) Act, Congress made clear that any loan forgiveness under the program would be excluded from the borrower’s taxable income. Specifically, a recipient of a PPP loan was eligible for forgiveness of indebtedness for amounts equal to certain payroll, mortgage interest, rent, and utility payments made during a prescribed period, with any resulting cancelled indebtedness excluded from the borrower’s taxable income. As Section 1106(i) makes clear:
(i) TAXABILITY.—For purposes of the Internal Revenue Code of 1986, any amount which (but for this subsection) would be includible in gross income of the eligible recipient by reason of forgiveness described in subsection (b) shall be excluded from gross income.
The publication of IRS Notice 2020-32 effectively overturned this policy by denying these borrowers the ability to deduct the same expenses that qualified them for the loan forgiveness. The Notice argues “…section 265(a)(1) of the Code disallows any otherwise allowable deduction… for the amount of any payment of an eligible section 1106 expense to the extent of the resulting covered loan forgiveness….”
Defenders of the IRS’ position argue that allowing businesses to deduct these expenses would result in business owners receiving a “double” benefit. This is simply untrue. Congress intended for the loan forgiveness under PPP to be tax-free. The IRS Notice reverses that position and eliminates any benefit, let alone a double benefit. If a business has $100,000 of PPP loans forgiven and excluded from its income, but then is required to add back $100,000 of denied business expenses, the result is the same as if the loan forgiveness was fully taxable. Section 1106(i) becomes moot if the IRS Notice is allowed to stand.
On the other hand, denying the correct tax treatment of these loans will result in hardship for many struggling businesses. More than five million businesses have participated in the PPP. More than $520 billion has been lent. In nearly all cases, these businesses have already spent the loan proceeds keeping employees on payroll and meeting other necessary costs. In addition to the approximate $100 billion tax hike the IRS position represents, denying businesses the ability to deduct these expenses could result in numerous other complications – how would the denial of deductible wages affect the 199A deduction or the Work Opportunity Tax Credit? How do you offset expenses incurred in 2020 with loan forgiveness realized in 2021? Does disallowed interest expense avoid the excess business interest expense limitation under section 163(j)?
The correctness of the IRS’s reasoning underpinning Notice 2020-32 is a debatable point and if left intact it will certainly result in extensive legal challenges. What is not debatable, however, is congressional intent regarding the tax treatment of these forgiven loan amounts. As part of the next round of COVID-19 relief, we request that Congress reaffirm its intent and restore the tax benefits it intended to give distressed Main Street businesses as part of the CARES Act.
The signatory trade groups are not alone in supporting restoring congressional intent. Key tax-writers in Congress also recognize this as a technical correction restoring what Congress intended, as does the Joint Committee on Taxation. Meanwhile, other trade groups have previously written Congress requesting this fix (here, here and here).
The Paycheck Protection Program has been a successful response to the COVID-19 shut down. Congressional action to avoid a surprise $100 billion tax hike on millions of Main Street business would help ensure it continues to be a success.
Senate Amendment Targets Private Businesses
The Senate this week will debate an amendment to require private companies to annually report the personal information of their owners to the Financial Crimes Enforcement Network (FinCEN) at the Department of Treasury, or face large fines and multi-year jail sentences.
The amendment — sponsored by Senate Banking Committee leaders Mike Crapo (R-ID) and Sherrod Brown (D-OH) – mirrors the Corporate Transparency Act of 2019 that passed the House last fall. If it passes the Senate as part of this year’s Defense Authorization Act, it is very likely to become law.
The stated goal of the amendment is to crack down on criminals who use shell companies to launder money, but nobody believes terrorists and other criminals will volunteer accurate, detailed information of their criminal enterprises to the Department of Treasury. Can you imagine Tony Soprano sitting in his kitchen filling out forms identifying the senior members of his crime family and which enterprises they benefit from?
No, real criminals will take a pass, so the burden will fall on legitimate businesses with law-abiding owners instead. They are the ones who will have to comply with the new annual reporting requirements or face stiff penalties and jail terms. As the Due Process Institute argued last year:
Creating criminal penalties for paperwork errors will not prevent money laundering or terrorism, which are already crimes. To support the criminalization of this reporting requirement, you would have to accept the premise that those engaging in such crimes—and who have the intention of engaging in such crimes while “hiding behind” a legal entity to go unnoticed—would comply with any legal requirement to disclose themselves. Meanwhile, those attempting to comply in good faith would be providing personal identifiable information to government entities that may then share them with other government entities with little meaningful assurance that their privacy will be properly protected. The draft would impose criminal penalties, including jail time, on small businesses that fail to meet compliance requirements with no real indication that such requirements would curtail international money laundering cartels.
The scale of the reporting alone defies effective law enforcement. The National Federation of Independent Business estimates these new rules will apply to over five million businesses, while the Congressional Budget Office estimated last year’s House-passed bill would have resulted in 25-30 million new filings to Treasury every year. There is simply no means for FinCEN or any other government agency to effectively manage and monitor a database that large.
A good measure of the amendment’s lack of seriousness is the long list of industries and entities that are exempt from the reporting requirements, including banks, credit unions, accounting firms, money transfer firms, registered brokers and dealers, investment companies, investment advisors, insurance companies, dealers in commodities, swaps, foreign exchanges and futures, public utilities, pooled investment vehicles, non-profits, political organizations, trusts, and larger corporations, LLCs, and partnerships. Sarcasm Alert: Oh no, those types of businesses are never involved in money laundering.
What’s left are all newly formed corporations and LLCs and those existing corporations and LLCs with $5 million or less in revenues, 20 or fewer employees, and a physical presence in the United States. As noted above, the NFIB estimates that encompasses more than 5 million businesses for starters, but you should expect that number to grow over time. There’s simply no rationale for exempting partnerships and trusts, for example, and no reason the amendment’s proponents won’t immediately begin advocating for their inclusion once this amendment has passed.
Opposition to beneficial ownership efforts is broad and diverse. Last fall, nearly fifty national trade groups wrote to Senators Crapo and Brown in opposition to the beneficial ownership provisions included in their Illicit Cash Act (S. 2563). Signatories included the Farm Bureau, the Restaurant Association, and the National Retail Association. Other groups opposing the effort include the American Bar Association and the ACLU.
Concerns with the rules include the failure of proponents to demonstrate they will be effective, their redundancy to existing “know your customer” and other reporting requirements, their lack of privacy protections for legitimate business owners, their use of vague key legal terms, and their complexity of compliance for multi-tiered businesses.
If your business or organization would like to join that opposition, please let us know or, better yet, reach out to your Senators immediately. A vote on this amendment could happen as early as this week.