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Safe Harbor for Certain PPP Loan Recipients Who Did Not Deduct Expenses
A safe harbor is available for certain Paycheck Protection Program (PPP) loan recipients who relied on prior IRS guidance and did not deduct eligible business expenses. These taxpayers may elect to deduct the expenses for their first tax year following their 2020 tax year, rather than filing an amended return or administrative adjustment request for 2020.
The IRS had initially determined that businesses whose PPP loans were forgiven or expected to be forgiven could not deduct business expenses paid for by the loan. However, the Consolidated Appropriations Act of 2021 ( P.L. 116-260), enacted on December 27, 2020, subsequently permitted taxpayers to deduct these expenses.
Safe Harbor Eligibility
To be eligible for the safe harbor, the taxpayer must have received an original PPP covered loan and filed a federal income tax return or information return for the 2020 tax year on or before December 27, 2020. The taxpayer must have paid or incurred original eligible expenses during the taxpayer’s 2020 tax year that the taxpayer did not deduct because:
- the expenses resulted in forgiveness of the original PPP covered loan; or
- the taxpayer reasonably expected at the end of the 2020 tax year that the expenses would result in forgiveness.
Electing the Safe Harbor
A taxpayer elects the safe harbor by attaching a statement to a timely, including extensions, federal income tax return or information return for the taxpayer’s first tax year following the 2020 tax year in which the original eligible expenses were paid or incurred. The statement must include:
- the taxpayer’s name, address, and social security number or taxpayer identification number;
- a statement that the taxpayer is applying the safe harbor provided by section 3.01 of Revenue Procedure 2021-20;
- the amount and date of disbursement of the taxpayer’s original PPP loan; and
- a list, including descriptions and amounts, of the original eligible expenses.
Certain Expenses and Loans Not Covered
The safe harbor applies only to original eligible expenses, and not to additional expenses that were added by the Consolidated Appropriations Act. The safe applies only to original PPP loans. It does not apply to PPP second draw loans.
Dependent Care Carryover, Extended Claims Period Treatment Clarified
Dependent care assistance benefits carryovers and extended claims period amounts that would have been excluded from income if used during the preceding tax year will remain excludable in tax years ending in 2021 and 2022. In addition, these benefits will not be taken into account in determining the dependent care benefits exclusion limit for the tax years ending in 2021 and 2022.
Dependent Care Assistance Exclusion
Employees may exclude amounts their employer pays or incurs for dependent care assistance benefits if furnished pursuant to a dependent care assistance program. For 2020, the exclusion could not exceed $5,000, $2,500 if married filing separately (for 2021 only, increased to $10,500, $5,250 if married filing separately). Unused benefits may be used during a 2 1/2 month grace period following the plan year’s end. However, if the sum of the benefits used in the tax year (including unused benefits used during a grace period that falls in the tax year) exceeds the limitation, the excess is taxable.
Carryovers and Extensions
Beyond the grace period, carryovers of unused dependent care assistance program amounts generally are not permitted. However, the Taxpayer Certainty and Disaster Tax Relief Act of 2020 ( P.L. 116-260) allowed employers to amend their plans to permit carryovers to plan years ending in 2021 and 2022, or to extend the permissible period for incurring claims to plan years over the same period.
Under Notice 2021-15, I.R.B. 2021-10, 898, if an employer adopts the carryover or the extended period, the annual limits apply to amounts contributed for a year, and not to amounts reimbursed or otherwise available for reimbursement.
Notice 2021-26 clarifies that dependent care assistance program benefits that would have been excluded from income if used during the tax year ending in 2020 or 2021, remain eligible for exclusion from the participant’s gross income, and are disregarded in applying the limits for the employee’s subsequent tax years when they are carried over from a plan year ending in 2020 or 2021 or permitted to be used pursuant to an extended claims period.
Notice 2021-26 also provides examples illustrating the possible tax consequences of electing $10,500 in benefits for a plan year beginning in 2021 but ending in 2022.
Simplified Return Procedures for Advance Child Credit Payments and EIPs
Individuals may use two special procedures to file returns for 2020 that allow them to receive advance payments of the 2021 child credit and the 2021 Recovery Rebate Credit. Under the procedures:
- individuals who are not required to file returns for 2020 can use a simplified federal income tax return filing procedure; and
- individuals with zero adjusted gross income (AGI) for 2020 can file electronic returns by entering “$1” in several fields.
Simplified Return Procedures
Individuals may file simplified 2020 returns electronically or on paper if they have not filed and are not required to file 2020 returns. The simplified procedures apply to Forms 1040, 1040-SR and 1040-NR.
The individual should write “Rev. Proc. 2021-24” at the top of a paper return. The procedure includes detailed instructions for providing identification, income and direct deposit information.
Zero AGI
Many filing systems for electronic returns will not accept returns that report zero AGI. To file an electronic return, in addition to all other information required to be entered on Form 1040, Form 1040-SR, or Form 1040-NR, an individual with no AGI should report:
- $1 as taxable interest on line 2b of the form;
- $1 as total income on line 9 of the form; and
- $1 as AGI on line 11 of the form.
Filers of Form 1040-NR with no AGI should also report $1 as itemized deductions on lines 7 and 8 of Schedule A (Form 1040-NR) and line 12 of Form 1040-NR.
Returns Must Be Accurate
Simplified returns and zero-AGI electronic returns are federal income tax returns for all purposes. Thus, the individual must properly sign the return under penalties of perjury. The returns must also provide accurate information. However, the IRS will not challenge the accuracy of income items reported by taxpayers using these special procedures.
Individuals Who Filed 2020 Returns
Individuals who have already filed their 2020 returns do not have to do anything further to:
- receive advance child credit payments for an eligible child shown on that return;
- receive a third-round Economic Impact Payment (EIP) for the 2021 recovery rebate credit that is attributable to a dependent shown on that return; or
- claim a previously claimed 2020 recovery rebate credit and additional 2020 recovery rebate credit for themselves and for each eligible qualifying child.
Similarly, an individual who filed a federal income tax return for 2019, including by entering information in the “Non-Filers: Enter Information Here” tool on the IRS website, also do not need to file any additional forms of contact the IRS in order to receive advance child credit payments for a qualifying child shown on that return. An individual who did not receive EIPs for the full amount of the 2020 Recovery Rebate Credits may claim them by filing a 2020 federal income tax return.
U.S. Territory Residents
The simplified return and zero-AGI procedures do not apply to residents of American Samoa, Guam, the Commonwealth of the Northern Mariana Islands, the Commonwealth of Puerto Rico, or the U.S. Virgin Islands.
- Residents of Puerto Rico may be eligible to claim the child tax credit from the IRS under procedures to be announced at a later date, but they are not eligible to receive advance child tax credit payments.
- Residents of other U.S. territories should contact their local territory tax agency for additional information about the child tax credit and advance child tax credit payments, third-round economic impact payments, the 2020 recovery rebate credit, and the additional 2020 recovery rebate credit.