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2021 Year-End Tax Planning for Businesses
This year once again proved to be challenging as we continued to work through the various economic stimulus programs as well as the constantly changing tax deadlines for federal and state returns. Listed below are tax provisions currently in place that businesses should consider as we approach the end of 2021 and prepare for a fresh start in tax year 2022.
Employee Retention Credit (ERC)
The ERC was first enacted with the passage of the Coronavirus Aid, Relief, and Economic Security Act in 2020. The Taxpayer Certainty and Disaster Tax Relief Act of 2020 extended the ERC to apply to wages paid from January 1, 2021, through June 30, 2021, and the American Rescue Plan Act of 2021 further extended the ERC to apply to wages paid from July 1, 2021, through December 31, 2021. There were a number of modifications to the ERC that will apply to wages paid in 2021, including which businesses are eligible for the credit as well as the amount of the credit.
To qualify for the credit for tax year 2021, you must meet the definition of an eligible employer. Eligible employers can claim a credit equal to 70 percent of qualified wages up to a maximum of $10,000 of wages per employee per quarter. This means the maximum credit for any one employee could total $28,000 for calendar-year 2021. However, the bipartisan infrastructure bill currently awaiting a vote in the House includes a provision that would end the credit for most taxpayers as of September 30, 2021, which would reduce the maximum 2021 credit per employee to $21,000. The credit is claimed on payroll tax Form 941. In addition, the amount of wages you are allowed to deduct on your 2021 income tax return is reduced by the amount of the 2021 credit claimed.
Net Operating Losses
The changes to net operating losses over the last few years have been numerous. In general, for tax years beginning after December 31, 2020, businesses that incur a net operating loss will only be allowed to carry the loss forward to be used in future tax years. While these losses will be carried forward indefinitely, they can only be used to offset 80 percent of taxable income.
Research & Development Costs
For tax years beginning after December 31, 2021, research and development costs must be capitalized and amortized. Research and development costs incurred in the U.S. will have an amortization period of five years, while those costs incurred outside the U.S. will have an amortization period of 15 years. This tax treatment is different from the way businesses currently account for these costs, as businesses can either deduct these costs or choose to capitalize and amortize these costs. Note, there is a provision in the budget reconciliation bill that would delay the effective date of the R&D capitalization and amortization requirement to taxable years beginning after December 31, 2025.
Business Interest Expense Limitation
The passage of the Tax Cuts and Jobs Act applicable for tax years beginning after December 31, 2017, created a new provision for the potential business interest expense limitation. For each tax year, businesses are required to compute their adjusted taxable income to determine their eligibility to deduct business interest expense paid during the year. The deductible business interest expense was limited to 30 percent of the computed adjusted taxable income, and the computation for adjusted taxable income included an addback for depreciation, depletion, and amortization. For tax years beginning after December 31, 2021, the addback for depreciation, depletion, and amortization will no longer be included in the computation of adjusted taxable income. This change in the computation of adjusted taxable income may result in businesses having more interest expense disallowed for tax purposes.
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