ARPA’s Tax Provisions Are Mostly Straightforward, With One Hair-Raising Exception!
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American Rescue Plan Act Tax Provisions: Mostly Straightforward With One Big Exception!

On March 11, President Biden signed the American Rescue Plan Act, the government’s latest effort to fight the recession. The law includes a slew of targeted tax breaks designed to give working families more money to pump into the economy. Notably, many of these provisions are retroactive, designed to avoid taxing people on benefits they received in 2020. Also notably, Congress declined the President’s request to include raising the minimum wage to $15/hour.

The law includes targeted relief for state and local governments, K-12 and college-level education, Small Business Administration (SBA) help for businesses suffering under the pandemic, people collecting unemployment, and healthcare providers. However, this discussion focuses on the tax provisions affecting individual and family taxpayers.

Recovery Rebates

The Recovery Rebates are the centerpiece of the act. Last year, Washington considered a proposal to send $2,000 checks to all Americans. During debate, that amount got whittled down to $600. Joe Biden campaigned on a promise to restore the full $2,000, and the Act does that.

The “rebates” are structured as advance payments against a refundable tax credit. They’re based on 2019 AGI, unless taxpayers have already filed for 2020.
The payments go out to taxpayers, spouses, children (including college students) and other dependent relatives.

Finally, they phase out as Adjusted Gross Income (AGI) goes up. For single filers, the range is $75,000 to $80,000. For heads-of-households, the range is $112,500 to $120,000. And for joint filers, the range is $150,000 to $160,000.

Checks and bank deposits started going out within hours of the bill passing, so most Americans already have their payments.

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Child Tax Credit

Next up, the Act turbocharges the existing Child Tax Credit, for 2021 only. However, if Washington extends these provisions, it would mark the greatest expansion of anti-poverty spending since the Johnson Administration. (Lyndon, not Andrew.)

Under current law, children up to age 16 qualify for a credit of up to $2,000. The credit is nonrefundable, which means you can use it to reduce your tax to zero but you won’t get a refund for any unused amount.

The Act increases the current credit from $2,000 to $3,000 per child. It adds a $600 bonus for children under age 6. It extends the reach of the credit to 17-year-olds. And finally, it makes the credit fully refundable for 2021.

The credit phases out for single filers earning $75,000-80,000; heads of households earning from $112,500-120,000, and joint filers earning from $150,000-160,000.

The Act directs the IRS to estimate each taxpayer’s credit amounts and pay it out monthly from July-December, 2021. The IRS also has to set up an online portal for taxpayers to modify or opt out of those advance payments.


Child and Dependent Care Credit

The Act also makes the existing Child and Dependent Care Credit more generous – again, for 2021 only.

Under previous law, taxpayers could take a credit for daycare and similar expenses to allow them to work. (You can’t claim the credit if you don’t have earned income.) You could claim the credit for expenses you incurred on behalf of a child up to age 13, or a spouse or other dependent who can’t care for themselves. You could claim it for up to $3,000 in expenses per dependent or $6,000/family. The credit started at 35% of eligible expenses and phased down, but never completely out, to 20% of expenses. The maximum credit was $2,100 per family.

The ARPA increases those amounts, for 2021 only, up to $8,000/dependent or $16,000/family. It expands eligibility up to 50% of eligible expenses. It makes the credit fully refundable for 2021 only. That means the maximum credit jumps from $2,100 all the way up to $8,000 per family. And it phases out the credit completely by one percentage point for every $2,000 of AGI over $400,000.

The Act also increases the income exclusion for employer-provided dependent care assistance to $10,500 – again, for 2021 only.


Healthcare Provisions

The Act includes provisions designed to help make healthcare more affordable. The Act also expands the Affordable Care Act’s existing premium tax credit and specifies that taxpayers who got too much advance premium credit dollars in 2020 don’t have to repay the excess. Also, taxpayers who aren’t eligible for the regular health insurance premium tax credit qualify for a new premium credit for COBRA continuation coverage.

CARES Act Continuation

The Act also continues some of the tax breaks included in last year’s CARES Act. Specifically, it continues the Employee Retention Credit through the end of 2021. It provides that Economic Injury Disaster Loan grants, along with SBA Restaurant Revitalization grants, won’t be included in taxable income. Finally, it continues and extends the CARES Act’s family and sick leave credits through September 30, 2021.


Miscellaneous Provisions

Finally, the Act includes the usual grab-bag of miscellaneous provisions you’d expect in any legislation this size:

  • There are several changes to the Earned Income Tax Credit program, including new rules for childless individuals, higher phaseout amounts, credits for certain separated spouses, and a higher, $10,000 limit on disqualifying investment income.
  • The Act excludes income from cancellation of student loan debt after December 31, 2020, through December 31, 20206.

There are also several changes affecting large and publicly-traded businesses:

  • It adds a publicly-traded company’s five highest-compensated employees who aren’t already covered by Code Section 162(m) to the list of individuals subject to the $1 million limit on deductible compensation.
  • It extends the Section 461(l) limit on excess business losses of noncorporate taxpayers for an additional year (through 2027).
  • It permanently repeals Section 864(f), which would have certain financial companies allocate interest expense on a worldwide basis.
  • And it temporarily delays rules affecting critical or endangered multiemployer pension plans.


Tax Planning May be Needed to Protect Benefits

These changes all sound pretty straightforward. Most people won’t have to do any planning to qualify for the new benefits, and most people can’t do any planning to qualify for more.

However, some people may need to do some planning to protect their new benefits. Did you notice how many of them phase out at the same levels — $75,000-80,000 for single taxpayers, $112,500-120,000 for heads of households, and $150,000-160,000 for joint filers? Herein lies the danger, and the planning opportunity. If your income falls in one of those phaseout ranges, you may find each additional dollar of income costs you more – in the form of extra taxes plus lost credits – than you’re actually earning.

It’s ironic – the same politicians who could heat the U.S. Capitol with hot air from arguing over a 37% or 39.6% top marginal rate just gave some unlucky taxpayers a marginal rate in the neighborhood of 110%. A family of five earning $149,999 per year can get back enough in recovery rebates, child tax credits, and dependent care credits to wipe out their tax bill. But earn a $10,000 bonus, and the extra tax on that income, along with the lost credits, can add up to well over $10,000.

The solution here, if your adjusted gross income is approaching any of those phaseouts, is to plan your income as if you’re playing The Price is Right on TV – you want your income to get as close to the bottom of the phaseout range as possible without going over. Defer income. Accelerate expenses. Maximize deductible retirement plan contributions. Do whatever you have to do to stay out of those danger zones. It’s easier if you’re self-employed. But even if you’re salaried, you may be able to defer part of your regular income, or commission or bonus income, into 2022.

Where does that leave us? Probably in limbo, at least until the Covid pandemic finishes running its course. We shouldn’t be surprised to see another round of stimulus, if that’s what it takes to get the economy back to full employment, although we might see them more targeted specifically towards people or businesses that can continue proving economic harm from the pandemic.

The real wild card is whether Washington decides to make any of these changes permanent. The Child Tax Credit is probably the likeliest candidate. Democrats and Republicans alike are looking more favorably in the direction of guaranteed minimum income rules, and permanently expanding the Child Tax Credit would move us in that direction, at least for families with children. But if 2020 taught us anything, it’s to be careful making predictions – how many of you had murder hornets on your 2020 bingo card? So stay tuned . . . it’s likely to be a bumpy ride!

Edward Lyon

Edward Lyon

Edward A. Lyon is CEO of the Tax Master Network, where he's coached tax professionals to add planning and financial services to their business since 2005. Go here to join the network. Go here to upgrade your membership or discuss opportunities in financial services.
Edward Lyon

Edward Lyon

Edward A. Lyon is CEO of the Tax Master Network, where he's coached tax professionals to add planning and financial services to their business since 2005. Go here to join the network. Go here to upgrade your membership or discuss opportunities in financial services.

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