CARES Act – Income Tax Accounting Considerations
Published April 7, 2020
The Coronavirus Aid, Relief, and Economic Security (CARES) Act was signed into law on March 27, 2020, providing funding to fight the COVID-19 pandemic and stimulate the US economy.
The funding assistance includes tax relief and government loans, grants and investments.
Key Tax Provisions
The key business-related tax provisions of the Act include temporary changes to income and non-income-based U.S. tax laws, some of which include:
- Allowing net operating losses (NOL) generated in 2018, 2019 or 2020 to be carried back five years
- Eliminating the 80% of taxable income limitations provided for in the Tax Cuts and Jobs Act (TCJA) by allowing corporate entities to fully utilize NOL carryforwards to offset taxable income in 2018, 2019 or 2020 and reinstating the 80% limit for tax years after 2020
- Increasing the net interest expense deduction limit from 30% to 50% of adjusted taxable income (ATI) for the 2019 and 2020 tax years (and if 2020 is a loss year for a corporation, the entity can use 2019 ATI in computing the 2020 limitation)
- Allowing taxpayers with alternative minimum tax (AMT) credits to claim a refund for the entire amount of the credit instead of recovering the credit through future refunds as provided for in the TCJA over a period of years, as previously
- Allowing entities to deduct more of their charitable cash contributions made during calendar year 2020 by increasing the taxable income limitation to 25% from 10%
U.S. Generally Accepted Accounting Principles (GAAP), under ASC 740 requires the effect of changes in tax laws on deferred tax balances to be recognized in the period the new law is enacted. Accordingly, entities will need to account for these provisions in the period that includes the March 27, 2020 enactment date. This will include first quarter reporting for calendar year-end entities. In other words, the effects from adjusting deferred tax assets or changes in valuation allowances due to the CARES Act should be recognized as a component of deferred income tax expense or benefit in the interim period that includes March 27, 2020. The impact of these changes should not impact the annual effective tax rate for subsequent periods.
The tax effect of a change in tax law on taxes payable or refundable for a prior year should be recognized as of the enactment date as tax expense or benefit for the current period. The tax effect of a change in tax law on taxes payable or refundable for the current year should be recognized after the enactment date and reflected in the calculation of the annual effective tax rate beginning in the first interim reporting period that includes the enactment date.
Income tax receivables for NOLs able to be carried back should be recorded via a reclassification from deferred tax assets, if expected to be received within 12 months. These may be complex calculations due to changing limitations, Section 965 (foreign repatriation) transition tax under TCJA and different corporate income tax rates (21% for 2019 and 2018; 35% for previous years). Entities may also need to adjust the carrying value of deferred tax assets for NOL carryforwards and reevaluate their conclusions on valuation allowances in the reporting period that includes the enactment date.
Further, companies that have deferred tax assets for disallowed interest deductions originating in 2019 will need to consider whether the temporary increase in the interest deduction limitations changes the amount of NOLs to be carried back.
Companies may also need to revisit their position regarding their intent and ability to reinvest foreign earnings due to current market conditions in the respective country. If this reinvestment position changes during an interim period, the deferred income tax effects of undistributed earnings related to prior years, should be recorded as a charge to income tax expense in the period in which the change in position occurs.
Measures not related to income taxes as well as “Post-CARES Act” accounting considerations will be addressed in another update.
We’re here to help.
For more information on CARES Act income tax accounting matters, reach out to COVIDACCT@MCMCPA.COM and a member of our MCM COVID-19 Solutions Group will be in touch.
Nothing in this document should be construed as providing tax advice. Please consult with your own professional tax advisor. In addition, this document represents the information that we have up to the date the presentation was made and cannot be relied upon for additional updates beyond that date.