Rules around small business taxes have changed significantly in the last two years. This year is no exception as many of the various pandemic-era deductions and deferrals come to an end.
The good news is that even though these benefits are ending, the impact on the overall tax rate for most small business owners won’t be significant. Accountants and tax planners say the bigger impact would have come from the Build Back Better infrastructure bill, which includes proposals to increase capital gains tax, limit the 20% deduction for qualified business income under section 199A, and other factors that would increase taxes, but those have not come to pass. Yet.
“A lot of ways, the tax bill’s been about the dog that didn’t bark. They didn’t do anything on capital gains, they didn’t do anything on state tax. There’s a lot of good news about things that didn’t happen,” said Dean Zerbe, national managing director at Alliantgroup, a tax consultancy.
Meanwhile, business owners can still apply retroactively for certain pandemic-related benefits. Here are some of the biggest changes that small business owners need to know about this tax season.
It’s not too late to claim Employee Retention Credit
Created in 2020 as part of the CARES Act under then-president Donald Trump, the Employee Retention Credit ended in September — a quarter earlier than expected. The ERC is a fully refundable payroll tax credit for employers that can add up to $70,000 per quarter and was created to encourage businesses to keep employees on their payroll.
The program underwent three major changes in the last two years, which is a big reason why many business owners were unaware of the program or didn’t apply for it.
The program was originally not open to those who took out a PPP loan. That changed when the second iteration came along. Also loosened up were rules that limited how much a business could get depending on how much it had been impacted by the pandemic.
For small businesses that missed the program, it’s not too late to file retroactively. Many business owners are not familiar with the program, said Kevin Kuhlman, vice president of federal government relations at the National Federation of Independent Business, but can still apply. Retroactive filings are expected to be a big part of this year’s taxes.
“We have seen a lot of frustration from business owners about the changes to that program, especially the shortening of it. They kind of felt — especially if they were relying on the tax credit — that they had received a little short shrift,” said Kuhlman.
Tax treatment of operating losses is less generous
How business owners can carry back or carry forward net operating loss has changed a lot in the last few years. Previously, NOLs could be carried back two years and carried forward 20 years. Then the Tax Cuts and Jobs Act in 2017 changed the rules by limiting NOL deductions to 80% of taxable income and not allowing carrybacks.
When the pandemic hit, the CARES Act waived TCJA rules and allowed business owners to carry back net operating losses generated after Dec 31, 2017 and before Jan 1, 2021 up to five years. Moreover, the cap for business interest expenses was raised to 50% of business income, up from 30%. Net operating losses were prominent in 2020 taxes and business owners also amended previous tax returns with net operating losses that they carried back.
Now, the rules around how business interest expenses and net operating loss can be used have changed back to what they were before the pandemic. Limits on net operating losses could mean additional income tax payments. For instance, if a business owner had a net operating loss in 2018, then had taxable income in 2019, they could use net operating loss to decrease 2019 taxable income. Under the CARES Act that could also be carried backwards if they had a taxable income in 2017. That’s now coming to a close.
Tax credit for paid Covid-19 leave has expired
Many people have had to take time off in the last two years due to caretaking responsibilities — caring for a quarantined family member or children who have to be supervised all day because school is closed due to Covid-19. The Families First Coronavirus Response Act, passed in March 2020, required certain employers to provide paid sick leave or medical leave for reasons related to the pandemic. While that expired at the end of 2020, employers that continued to offer such benefits could use payroll tax credits to cover the cost of benefits. Now the tax credit for Covid-19 related paid leave expired in September, making it difficult for smaller employers to give additional paid leave.
Deferred Social Security payments are due
Under the CARES Act, employers could defer deposits of the employer portion of Social Security. Now, those payments are due. Half was due at the end of 2021, and the other half is due at the end of this year. Since the payments have already been deferred, the IRS has warned that there will be penalties to any taxpayers who miss the Dec. 31 deadlines.
Tax planners say this change is less likely to cause business owners pain since few took advantage of it. Edward Renn, a partner in the private client and tax team at Withers, said he’s not seeing too many problems as many clients prudently put the money aside in a bank account so the money would be ready when needed.
Given all the changes in tax rules over the last two years, small business owners may need to lean on an accountant or tax planner more than ever. Adding to the stress that tax filings often bring is the lack of responsiveness from an overburdened IRS, which is dealing with a record backlog of tax returns.
“It just it feels like it’s fallen off the rails. There’s 6 million pieces of returns that still need to be filed and maybe one out of every 10 phone calls are being answered,” said Meredith Tucker, principal at Kaufman Rossin, an accounting and advisory service firm. Tax returns from last year are still being processed. Taxpayers that have an overpayment may want to apply that overpayment to the next period, but the earlier tax filings haven’t been processed yet.