Category Archives: Tax and Financial News

Pass-through Entity Tax (PTET)

Finally some great news for the taxpayers!!!
New York State has passed a law and the IRS has issued regulations that allow for the deduction of SALT taxes at the entity level. This will allow taxpayers to pay the tax due on income from Pass Through Entities (Partnerships, LLC’s and S Corporations) and thus reduce their federal income tax liability. At a time where expected federal tax hikes are coming this is an excellent opportunity to mitigate some of that projected increase in taxes.
This election MUST be made annually by the taxpayer. Your tax professional is not and can not be authorized to make the election on your behalf. However, please notify your WZ accountant if you make the election.
This is a new law and the guidelines have only recently been provided by NYS. The election due dates and important items of note are as follows:
  • For the calendar tax year beginning January 1, 2021 and ending December 31, 2021 the election MUST be made by October 15, 2021 (no extensions are available)
  • For the calendar tax year beginning January 1, 2022 and ending December 31, 2022 the election MUST be made by March 15, 2022 (no extensions are available)
  • Once the election is made it is irrevocable for that tax year.
  • Any estimated tax payments for the current tax year ending December 31, 2021 must be paid by December 31, to be deducted if you are a cash basis taxpayer.
  • For tax year ended 2022 quarterly estimates will be required and due on March 15, June 15, September 15 and December 15.
To see the step by step instructions to guide you through the process of setting up a user account (if you currently do not have one) and making the election for the current tax year 2021 please see  PTET Election Instructions
Please note, this election is optional. The decision whether to make the election is up to the entity, through its owners. The actual signing and submission of the election must be done by a duly authorized officer of the company.
The Partners and Team at WZ are available to answer any questions and assist in the process. We will also advise you on tax planning options and assist in quantifying the savings.
Please be advised that any time spent is not included in your current engagement and or retainer and you will incur additional fees at our standard billing rates.
Best regards,
WZ Partners

Tax Breaks for Helping Relatives

Tax Breaks for Helping RelativesIt’s not uncommon for adult children or siblings to act as caregivers for family members or give them financial assistance for medical or long-term care needs. The problem is that all too often those providing the help don’t take advantage of the tax benefits.

Types of Care

Caregiving happens through many different avenues. For example, family members might pay for services that their elderly parents need, such as housekeeping, meal preparation, or nursing care. Outside the home, they may pay for all or a portion of the cost of an assisted living facility.

In other circumstances, individuals could directly provide the care instead of paying for it. This could happen in either the home of the person giving the care or in the home of the person receiving the care. They might also support the relative’s daily living expenses by paying for groceries, utilities or other essentials.

Assessing the Tax Breaks Available

Step one is to figure out if the person receiving care qualifies as a dependent on the caregiver’s tax return. While there are no longer personal or dependent exemptions, qualifying as a dependent opens the door to deduct medical expenses and other medical-related tax breaks. Let’s look at an example to understand the details better.

Dependent Test

Under our scenario, we have Rob taking care of his mother, Laura. Rob is allowed to claim Laura as a dependent if a set of tests are met. First, Laura’s gross income must be less than $4,300 in 2021. While this might seem low, note that tax-exempt interest and Social Security benefits are usually not included.

Second, Rob needs to provide the majority of Laura’s support in the calendar year. “Support” includes basic necessities such as clothes, a place to live, medical expenses, and transportation. In cases where the cared-for relative lives with the taxpayer, they are able to use the equivalent rental value of the housing provided. Given the broad definition of support, it’s often not too hard to meet this test – but make sure to keep diligent records, tracking the amount spent versus the dependent’s total support costs. You can always plan some extra payments near year-end to bump yourself over the 50 percent threshold.

Third, Laura needs to be a United States citizen.

Fourth, the location of the dependent matters. In the case of relatives such as parents, stepparents, grandparents, great-grandparents, and aunts and uncles, these persons can be considered a dependent even if they do not live with you. This means you can be helping them to live in their own house or care facility.

Fifth, Laura cannot jointly file a return with any other taxpayer.

Brothers and Sisters

What happens if you and some of your siblings split the support of a parent? It’s easy to see how in this case no one will meet the majority support test.

In the case of multiple support providers, someone can still claim the person as a dependent as long as all the supporting siblings agree on who makes the claim, and they file an IRS Form 2120, Multiple Support Declaration noting it.

Each Form 2120 signer must contribute at least 10 percent support for the year. The siblings can rotate who claims the deduction or keep it the same each year.

Why Dependency Matters

Given that the personal and dependent exemptions have been eliminated, you might wonder what all the fuss is about the person being cared-for qualifying as a dependent. Well, the answer is the taxpayer who can claim the dependent is the one who can itemize the dependent’s medical expenses as well.

Medical Expense Tax Benefit

The potential benefit comes when Rob is able to add his mother’s medical expenses to those of the rest his family. This can allow him to take a larger medical expense deduction when he itemizes expenses on his tax return. Remember that in order to benefit from any itemized deductions, the total of all itemized deductions must exceed the standard deduction.

Indirect medical costs also can be deducted, but only if the person cared-for qualifies as a dependent. Mileage costs for providing transportation to medical appointments and treatments are deductible. In 2021, this expense is deductible at $0.16 per mile.

How to Turn a Summer Job into a Tax-Free Retirement Nest Egg and More

Summer Job into a Tax-Free RetirementTis the season for summer jobs for high school and college kids. These seasonal jobs are more than just an opportunity for teens and college students to earn some money and gain experience. They also provide the opportunity for seeding a significant retirement nest egg and even a down payment on a home through a Roth IRA.

Seems too good to be true? Well, it’s not – but as always, the devil’s in the details, and it is not exactly a free lunch. So, let’s walk through exactly how this all works.

Step 1 – Earned Income

First, teen or college students must get a job that pays – and the more the better. This is because the gateway to opening and contributing to a Roth IRA is earned income. The magic number for earned income to max out a Roth IRA in 2021 is $6,000, as this is the contribution limit. This is because contributions are limited to the lesser of the $6,000 limit or 100 percent of earned income.

Step 2 – Make the Roth IRA Contributions

The next step is to make the contributions to the working child’s Roth IRA. Let’s be honest here. It is a rare case where a kid is going to take all or nearly all their summer job earnings and stash them away in a Roth IRA for 50+ years down the road. There is a way around this, however.

A parent or grandparent can contribute to the Roth IRA in the child’s[h1]  name, with two nuances. First, this contribution is still governed by the earned income limits discussed above. Second, these amounts count toward the $15,000 per year gift tax exclusion ($30,000 if married) so it will eat into that. Lastly, do not forget the deadline to make 2021 Roth IRA contributions of any type is April 18, 2022.

How Much is This Worth?

While $6,000 or so may not seem like a lot, it can make a significant difference over time due to the power of compounding returns from such a young age – coupled with the tax advantages of a Roth IRA.

To illustrate the power of this tax and investment move, let us take a scenario where a high school kid makes the $6,000 per year over three summers from age 16-18 before heading off to college, and the Roth IRA contribution is maxed out.

With contributions at just $18,000 and NEVER putting in another dime again, this will turn into the following amounts under different assumed investment returns by the time they are 66 (40 years of compounding).

  • 6 percent return = $313,000
  • 8 percent return = $783,000
  • 10 percent return = $1.93 million

Now, before you get too excited, you must understand that 40 years from now $300,000 will not be what it used to be if inflation continues at historical rates – but the point remains. This simple move made over just a few years can create significant tax-free wealth.

Side Benefit

Due to the characteristic of a Roth IRA, the other beneficial options relate to withdrawal. First, the contributions can be accessed any time before age 59 ½ without penalties or taxes. Second, even after all the initial contributions are removed, a first-time homebuyer can take up to $10,000 without the 10 percent early withdrawal penalty to help fund the purchase, although they will owe income tax on the withdrawal if it has been less than five years since the initial contribution.

Be VERY careful here though, because any withdrawals will dramatically lower the investment returns noted above.

Conclusion

Funding a Roth IRA for a high school or college child or grandchild can give them a tremendous head start in life. A few years of relatively small contributions early on can create substantial wealth over time due to compounding of returns and the tax advantages of the accounts.

Restricted Stock & RSUs: 3 Planning Tips

Equity compensation is becoming more mainstream and is not just for executives anymore. Grants of restricted stock or restricted stock units (RSUs) are getting to be more common than stock options – and the rules are different, as is the tax planning. Below we will look at some of the particulars of how restricted stock and RSUs operate, how to understand a grant, planning for the tax consequences, and what to do after the shares vest.

How Restricted Stock and RSUs Work

At their core, restricted stock and RSU company shares that vest according to a schedule can be awarded as compensation. The vesting schedule can be tied to length of employment, meeting certain performance criteria, or a combination of both. Upon vesting, the employee owns the shares themselves and can do what they wish with them – from holding, selling, gifting, etc. While this might sound simple, the devil is in the details.

Understanding Your Grant

First, it is important to understand that restricted stock or RSUs are similar to stock options but have important tax and financial planning differences.

There are important facts you need to determine. First, how does the vesting schedule work; what amount of shares vest and when? Is the vesting simply tied to length of service or are there performance or even liquidity event triggers? Second, what are your tax-withholding choices?

From there, you can determine or at least estimate key factors such as how much the award will be worth both pre-tax and post-tax.

Tax Planning – Section 83(b) Election

Taxation can be tricky with restricted stock and RSUs. One strategy is to use a Section 83(b) election for restricted stock.

Typically, a person is taxed when the restricted stock vests regardless of whether the shares are sold. The Section 83(b) election allows the taxpayer to be taxed on the share value at the grant date instead. This election can be made within 30 days from the grant date of the restricted stock and is not an option for RSUs.

Why would you want to consider a Section 83(b) election? Remember that regardless of the election or not, you are taxed as ordinary income for the share value regardless of whether you hold or sell the shares. The advantages are that if you think the stock price will rise between the grant and vesting, then you will pay less ordinary income tax and have lower cash outflows. Second, after the initial taxation of the grant, the change in value after this point is capital gains.

Tax Planning – Withholding

The other issue to consider is not withholding enough taxes. The IRS rules say that your company is required to withhold 22 percent for restricted stock and RSUs (37 percent for income over $1 million during the same year).

The problem is that there is a good chance your margin tax bracket is higher than 22 percent if you are receiving these kinds of equity compensation awards. As a result, you will need to make some estimated payments to cover the difference. Unless you have enough cash from other sources, you may need to consider liquidating some of your shares to cover the tax bill.

The conundrum here is that if you do not see the shares immediately and the price falls, then you will be selling shares at a lower value than what you are being taxed on. It is best to consider your holistic tax scenario and work with your tax advisor to come up with a plan.

Game Plan for After Vesting

Aside from the tax consequences, you need to consider the impact on your overall financial planning. One of the biggest risks taxpayers can face is that they become heavily concentrated in the company stock. You will need to look at your overall portfolio and consider if you need to diversify depending on how much of your net worth is tied up in a single stock now.

Some financial planners recommend looking at the situation this way in an example with your shares worth $150,000 at vesting. If you had $150,000 in cash to invest, pay down debt, etc., would you use all of that to buy the company stock? If the answer is no, then why would you hold it? In other words, do not let tax implications lead your financial planning decisions.

Conclusion

More and more companies are issuing compensation in equity forms such as restricted stock grants or RSUs. Make sure you understand your vesting schedule and conditions so you can plan for the tax implications as well as your overall financial picture.

NJ Governor Murphy signs $235M in relief for small businesses

New Jersey small businesses and other entities crushed by the coronavirus pandemic are now eligible for another round of grant funding under a package of bills totaling $235 million in aid that Gov. Phil Murphy signed into law Tuesday.
“Throughout the past year, we have focused our relief efforts on supporting New Jersey’s small businesses so they can emerge from the pandemic stronger than before,” said Governor Murphy. “This additional funding will help us add to the more than 60,000 small businesses that have received aid to date.”
In the Assembly the bills were sponsored by Assembly members Vince Mazzeo, Roy Freiman, Lisa Swain, Andrew Zwicker, John Armato, Chris Tully, Pedro Mejia, Angela McKnight, Adam Taliaferro, Nicholas Chiaravalloti, Linda Carter, Joann Downey, Yvonne Lopez, Stanley Sterley, and Eric Houghtaling. In the Senate, the bills were sponsored by Senators Dawn Marie Addiego, Vin Gopal, and Joseph Lagana.
The funding will be administered by the NJEDA, which has reopened its Phase IV grant pre-application for those businesses that missed the original deadline. To date, the EDA has distributed more than $420 million in aid to some 63,000 businesses across the state. The breakdown of the $235 million in proposed today’s bill package is as follows:
  • Microbusinesses: $120 million
  • Bars and Restaurants: $20 million
  • Child Care Facilities: $10 million
  • Other Small Businesses and non-profits: $50 million
  • New Businesses and Start-Ups: $25 million
  • Sustain and Serve: $10 million

 

The Biggest Winners and Losers in President Biden’s Proposed Individual Tax Plan

Bidens Tax PlanPresident Biden presented his $1.8 trillion American Families Plan, which focuses on expanding benefits for education, children and childcare. The Biden administration intends to pay for the plan with a series of tax hikes on certain individual taxpayers. Depending on your income and source of wealth, there are some clear winners and losers of this proposal, so let’s look at each and start with those who lose.

Losers Under the Plan

High Earners: The proposed plan would increase the highest individual tax rate from 37 percent up to 39.6 percent. Currently, this tax bracket starts with those earning more than $523,000 for singles and $628,000 for taxpayers who are married filing jointly. While the percentage increase may appear small, this change is projected to raise more than $111 billion over the next 10 years.

Heirs of Large Estates: The plan proposes eliminating the “step-up” in basis on assets received when an estate is passed on. The step-up in basis means that the heir now has a basis in the inherited asset equal to the fair market value at the date of death. This essentially eliminates the payment of capital gains taxes.

The plan allows for the initial $1 million in transferred gains to remain tax-protected, so this would only impact larger estates.

Wealthy Investors: A change to the long-term capital gains and qualified dividends taxation is proposed for taxpayers earning more than $1 million per year.

Currently, long-term capital gains (on assets held for more than one year) and qualified dividends are taxed at a flat 20 percent. The plan taxes long-term capital gains and qualified dividends as ordinary income, raising the rate to 39.6 percent for the taxpayer affected.

Hedge Funds and Private Equity: The Biden plan looks to eliminate the carried interest tax break, which allows partners in the funds to treat a large portion of their compensation as long-term capital gains instead of ordinary income.

Real estate investors: Currently, the tax law allows for what are called section 1031 like-kind exchanges. A 1031 exchange allows the proceeds from the sale of real estate to be reinvested in another similar or “like-kind” asset, and defer the capital gains taxes as a result.

The proposed plan would eliminate section 1031 like-kind exchanges for all sales where there are gains of $500,000 or more.

Winners

Low and Middle-Income Families with Children: The Biden tax plan calls for a five-year extension of the expanded Child Tax Credit (CTC) created in the American Rescue Plan. The CTC gives a credit of $3,000 for every child age 6 to 17 and $3,600 for children 5 and younger for single taxpayers earning $75,000 or less and married filers earning $150,000 or less. The plan would also make the existing $2,000 CTC permanently refundable.

Low-Income Individuals Without Children: The plan proposes a permanent enlargement of the Earned Income Tax Credit. The American Rescue Plan increased the maximum benefit for filers without children from $534 to $1,502 and broadened the eligibility criteria to include those under and over 65.

Working Parents: The American Rescue Plan also included a temporary enhancement of the Child and Dependent Care Tax Credit. This credit would give qualifying families a tax credit of up to $4,000 for one child or $8,000 for more than one child to compensate for childcare costs while they work, including after-school programs. The new tax plan would make this credit permanent for those making $125,000 per year or less.

Conclusion

The benefits of the Biden tax plan for its winners are nothing new or novel. Essentially, it calls for making permanent several the provisions originally passed in the American Rescue Plan and increases taxes on wealthier taxpayers to pay for it.

Tax Highlights of New York’s 2021-2022 Budget Bill

On April 19, 2021, New York State Gov. Andrew Cuomo signed the state’s 2021-2022 Budget Bill, which contains significant tax measures including, but not limited to, increased taxes on businesses and high-net-worth individuals and an elective pass-through entity (PTE) tax.

Read the key tax provisions in this comprehensive Budget Bill  HERE. To this end, we anticipate that additional guidance will be issued by the New York State Department of Taxation and Finance (“the Department”), especially addressing the newly enacted PTE tax.

Corporation tax 

The Budget Bill sets the tax rate for corporations with business income that exceeds $5 million at 7.25%, up from 6.5%. It also delays the scheduled phase-out of the capital base tax to Jan. 1, 2024, and establishes a tax rate of 0.1875% for tax years beginning on or after Jan. 1, 2021. Note that the phase-out delay does not apply to manufacturers and small businesses.

Personal income tax 

The Budget Bill increases the personal income tax rates on high-income earners for the 2021 through 2027 tax years. The new rates are as follows:

  • 65% for individuals with income over $1,077,550 but not over $5 million; joint filers with income over $2,155,350 but not over $5 million; and heads of household with income over $1,646,450 but not over $5 million
  • 30% for all classes of taxpayers with income over $5 million but not over $25 million
  • 90% for all classes of taxpayers with income over $25 million

Factoring in the current New York City personal income tax rate (3.876%), these new rates will result in a combined state and local personal income tax rate of 14.776% for affected high-income taxpayers with taxable income exceeding $25 million. Clearly, high-net-worth individuals will be significantly impacted by this increase in personal income tax rates.

Pass-through Entity Tax

Partnerships and S corporations can elect to pay an optional pass-through entity income tax on the entity’s taxable income at rates ranging from 6.85% to 10.9%. Partners/shareholders of electing partnerships and S corporations will be allowed to take an offsetting personal income tax credit for the portions of the PTE tax paid by the entity that are attributable to such partners/shareholders.

An irrevocable, annual election must be made by the due date of the first estimated tax payment. For the 2021 tax year, the election must be made on or before Oct. 15, 2021, and there are no estimated taxes required to be remitted.

Resident Tax Credit

The Budget Bill also amends the resident tax credit provisions, and, effective for the 2021 tax year, New York residents who are partners or shareholders in entities that pay “substantially similar” PTE in other jurisdictions will be allowed a credit for their respective share of PTE taxes paid to other states. Prior to this amendment, it was the Department’s position that residents were not eligible for such a resident tax credit for entity-level taxes paid.

Sales and Use Tax 

The Budget Bill increases the threshold from $300,000 to $500,000 for gross receipts from property delivered into New York State and maintains the threshold of 100 sales transactions in the state to require vendors to register in response to the Wayfair decision.

Real Estate Transfer Tax 

The Budget Bill clarifies that the Real Estate Transfer Tax is the responsibility of the grantor. The grantor cannot pass the liability to the grantee unless there is a contract or a written agreement between both parties.

Real Property Tax Relief Credit

Individuals with qualified adjusted gross income of less than $250,000 will be eligible for a new credit if New York real property taxes on their New York State principal residence exceed 6% of qualified adjusted gross income. The credit is based on the real property tax paid in excess of that 6% amount, and the rate is determined on a gradual sliding scale from 14% to 0%.

Qualified Opportunity Funds 

Effective Jan. 1, 2021, taxpayers will no longer be able to defer current capital gains by reinvesting them into Qualified Opportunity Funds. The Budget Bill no longer allows a federal exclusion of the reinvested capital gain amount, and now requires an add-back modification for the gains deferred in the year of such deferral.

Restaurant Return-to-Work Tax Credit

The Budget Bill creates a new “Restaurant Return-to-Work-Tax Credit” program. Eligible businesses can claim a $5,000 credit for each full-time net employee increase, up to a total of $50,000 in tax credits. To qualify, the restaurant should have experienced at least a 40% decrease in gross receipts and/or average full-time employment due to the pandemic.

Employees working outside N.Y. due to COVID-19

Due to COVID-19, many businesses have New York-based employees working remotely. The Budget Bill allows these businesses to treat “such remote work as having been performed at the location such work was performed prior to the declaration of such state disaster emergency,” in order to claim tax credits and incentives requiring a minimum number of employees.

It is critical to note that the Budget Act does not address the personal income tax implications of remote workers. That is, the Department has already made its position clear on remote workers and its interpretation of its “convenience of the employee” rule. In this regard, “if you are a nonresident [of New York] whose primary office is in New York State, your days telecommuting during the pandemic are considered days worked in the state unless your employer has established a bona fide employer office at your telecommuting location.”

Given the magnitude and complexity of the tax changes in the Budget Bill, all taxpayers (New York and non-New Yorkers) should review the new provisions to see how these changes impact their specific tax positions. In addition, given New York State’s tax rate increases on high-net-worth individuals and businesses, coupled with the pandemic’s current remote workforce climate, we would anticipate more individuals contemplating a change in domicile/residency outside of New York State and businesses exploring whether they need to have a physical location within the State of New York.

Moreover, partnerships and S corporations also need to evaluate whether the newly enacted PTE tax should be timely elected and whether this would be beneficial to their respective entities and partners/shareholders. We expect that the Department will need to issue clarifying guidance on the PTE, as we anticipate there will be many open questions that will have to be addressed based on what we have seen in other states that are administering a PTE.

 

Everything There is to Know About the New Child Tax Credit

The Child Tax Credit as we know it originated during the Clinton administration, but the recently enacted American Rescue Plan created a new version. The updated version of this tax credit could have a beneficial impact on Americans struggling through the COVID-19 pandemic. There are changes to many aspects of the credit, so let’s look at each one below.

Monthly Payments Versus Once-a-Year Credit

First, the new version of the Child Tax Credit applies only to the year 2021. If a family qualifies, the credits are $3,600 for each child under age 6 and $3,000 for those ages 6 to 17.

The major difference is not the limits, but that in 2021 half of the credit will be paid on a monthly basis in the second half of the year. From July through December, the credit will be paid out at a rate of $300 for each child under age 6 and $250 for each child ages 6 to 17. In prior years, the tax credit was available only when filing an annual tax return. The other half of the credit in 2021 will be reconciled on 2021 income tax returns.

Income Limits and Phase-Outs

Similar to the stimulus checks, the tax credit is based on adjusted gross income. To receive 100 percent of the credit, the AGI limits are $75,000 for single filers, $112,500 for heads of household and $150,000 for those married filing jointly.

The phase-outs start once a taxpayer exceeds these AGI thresholds. Every $1,000 in AGI over the limit reduces the credit by $50 (per dependent child). For example, if a couple filing jointly earned an AGI of $165,000, their credit will be reduced by $750 per child.

Qualification for the Credit

While the tax credit is ultimately based on 2021 income, to facilitate the monthly payments, the new Child Tax Credit will use 2020 income tax returns. For those who haven’t filed yet, the look-back will be to 2019. The monthly payments will be based on these already filed tax returns and then the balance of the credit be reconciled based on 2021 income.

If a taxpayer receives more interim monthly payments on the tax credit than their 2021 AGI entitles them to, they will need to pay back the unqualified portion of the credit.

Unique Situations

In the scenario where a child crosses age thresholds mid-year in 2021, the age for determining the credit will be based on how old the child is on Dec. 31, 2021. For example, a child who turns 6 before the end of the year will qualify for the lower $3,000 credit and not the $3,600 for those under 6.

Existing Child Tax Credit is Still Available

One of the unique features of the new Child Tax Credit is that the old version is still available. This version established under the Tax Cuts and Jobs Act of 2017 has significantly higher AGI thresholds: single taxpayers with an AGI of $200,000 and married filing jointly at $400,000. As a result, many taxpayers will still qualify for this version with its lower credit of $2,000 per child and no monthly payments.

Conclusion – There’s More to Come

As the July 1, 2021 start date approaches, the IRS will release more details on the new Child Tax Credit and what taxpayers can do to take advantage of the changes.

Tax-Free Student Loan Forgiveness is Part of the Latest Covid-19 Relief Bill

Tax-Free Student Loan ForgivenessThe recently passed American Rescue Plan (ARP) Act of 2021 includes a provision making nearly all student loan forgiveness tax-free, at least temporarily. Before the ARP, student loan forgiveness was tax-free only under special programs. Before we look at the changes to come under the ARP, let’s look back at what the previous law provided.

The Old Rules

Under the earlier measure, student loan forgiveness was tax-free under certain circumstances. These special programs included working in certain public sectors, some types of teachers as well as some programs for nurses, doctors, veterinarians, etc. Essentially, you had to work in a specific field under certain conditions for a minimum length of time and some or all your student loans would be forgiven or discharged. There are also other technical qualifications, such as death and disability, closed school, or false certification discharges, but these aren’t widely applicable.

Because student loans are not dischargeable in bankruptcy, income-driven repayment plans were the other main type of program that could result in forgiveness or discharge. Typically, borrowers repaid an amount indexed to their income over a 20-to 25-year period; whatever was leftover at the end was discharged. The forgiven loan amounts under income-driven repayment programs were considered a discharge of indebtedness and tax as ordinary income (although there are exclusions for insolvent taxpayers).

The New Rules

Under the new law in the ARP, the forgiveness of all federal student and parent loans are tax-free. This includes Direct Loans, Family Federal Education Loans (FFEL), Perkins Loans, and federal consolidation loans. Additionally, non-federal loans such as state education loans, institutional loans direct from colleges and universities, and even private student loans also qualify.

The essential criteria for the loan discharge to qualify for tax-free treatment is that it must have been made expressly for post-secondary educational expenses and be insured or guaranteed by the federal government (this includes federal agencies).

This all means that the debt discharged under income-driven forgiveness programs will now be tax-free as well, but there’s a catch. The discharge of student loan debt needs to happen within the next five years because the provision expires at the end of 2025. There could be an extension, but that’s uncertain now.

Why this Change May Really Matter

The change in rules making income-driven student loan forgiveness tax-free isn’t a huge deal for most people. The new law really matters because it sets the stage for broader student loan forgiveness. The program currently being floated by President Biden to forgive $10,000 in student loan debt or the even larger $50,000 proposal by some Senate Democrats will qualify for tax-free treatment.

Four Essential Questions You Should Ask Your Tax Professional This Season Related to COVID-19

Good tax professionals ask the right questions to ensure they understand your situation and can help you to the best extent the law allows. Given the host of pandemic-related tax changes for 2020, it’s good to keep these four questions below in mind. If your tax preparer doesn’t ask these questions in your tax organizer or during a meeting, raise them yourself.

1. Did you receive your stimulus payment?

Not everyone received all the stimulus they were entitled to. As a result, the amount of your stimulus payments needs to be reconciled on your 2020 tax return to calculate if you qualify for the Recovery Rebate Credit.

The way the Recovery Rebate Credit works is that if you qualified for stimulus payments but didn’t receive them, then you’ll receive a credit on your 2020 tax return. On the other hand, if you received too much, there is no impact to your refund or balance due. You can’t lose here, so make sure you discuss your stimulus payments.

2. Did you work remotely? If so, when and where?

As a result of the pandemic, a lot of people worked from home for all or part of the year. If you lived in the same state you worked in, then there’s no cause for concern or further investigation. In situations where workers lived and therefore worked remotely in a different state than they normally would have commuted to when going into the office, then there could be an issue.

If you worked from another state for any part of the year, make sure you ask your tax preparer about this so you can understand the filing requirements in each state and any nexus issues. Just remember that if you are a W-2 employee, it doesn’t matter if you worked from your home, there is no home office deduction unless you’re self-employed.

3. Did you take any distributions from your retirement accounts in 2020 due to COVID-related circumstances?

Typically, early distributions from tax-advantaged retirement accounts such as 401(k) and IRAs are subject to a 10 percent penalty. There are provisions in the law that allowed penalty-free distributions in 2020 under certain circumstances related to COVID-19. Also, the income from distributions is spread over three years, which can further reduce the overall tax rate (unless you elected to tax it all in the year of distribution).

If you took distributions from a retirement account and were impacted by COVID-19, make sure your tax professional is aware of these exceptions; and ask the right questions to see if you qualify for any of the preferential treatment.

4. Are you self-employed and missed work because you were sick with the coronavirus or needed to care for someone who was ill with it?

Under the Families First Coronavirus Response Act (FFCRA), those who are self-employed can be eligible for sick and family leave credits if they or a family member had coronavirus and couldn’t work between April 1 and Dec. 31, 2020, as a result. If eligible, your tax preparer will file Form 7202 with your Form 1040 to make the claim.

Conclusion

Doing the best as a tax preparer means knowing your client’s situation and circumstances. There’s a good chance your tax professional is already on top of the COVID-19 changes, but it’s good to keep the questions above in mind just in case.