The economic impact of the COVID-19 outbreak is starting to be felt in states throughout the country, and many of the issues that state governments will face in the coming months are just now coming into focus.
The federal government’s $2.2 trillion Coronavirus Aid, Relief, and Economic Security (CARES) Act contains numerous provisions that carry potential tax implications for individuals and businesses. To help clarify issues that tax professionals should be aware of as this crisis continues to unfold, a panel of KPMG tax experts recently shared their insights in a KPMG TaxWatch webinar, State and Local Tax Implications and Guidance on COVID-19.
Moderated by Sarah McGahan, Director of State & Local Tax in KPMG’s Washington National Tax group, the webinar addresses the potential fiscal impact of the pandemic on state budgets, as well as legislative changes contained in the CARES Act and other issues relevant to corporate tax departments, including strategies for finding and generating cash in emergency situations.
McGahan kicked off the discussion by noting that most of the guidance coming out of the federal government thus far has involved income taxes, not other types of taxes. For example, many (though not all) states have adopted the three-month federal extension for filing income taxes, which are now due July 15, she says, “but you have to read the state guidelines, because it’s not always clear if all types of income are included [e.g., trusts and estates, bank taxes, etc.], and relief for fiscal filers is not always addressed.”
Businesses considering delayed returns should review their internal policies about tax payments as well, explains McGahan, because some companies have rules that might preclude them from exercising extension options. Other considerations — such as debt covenants — could apply as well.
Due to the fluid nature of the COVID-19 response, the panelists were unanimous in their expectation that more state-level guidance would be forthcoming in the very near future. For example, McGahan noted, that “Indiana Executive Order 20-05 provides that manufacturers making donations of medicine, medical supplies, or other goods used in fighting COVID-19 will not be subject to the Indiana use tax on items donated.”
The fiscal outlook
As far as the fiscal outlook for states is concerned, the landscape has shifted dramatically in a matter of weeks. Coming off a ten-year expansion, most economic forecasts now foresee a US recession with some potential for rebound in late-2020 and early-2021. “There’s no place for states to hide at this point in time,” says Harley Duncan, KPMG Managing Director of State & Local Tax. In addition to the employment impact from stay-at-home orders and business closings, retail sales-tax declines that began in March will be felt “full bore” in April, he cautions.
You can view the complete KPMG TaxWatch webinar, State and Local Tax Implications and Guidance on COVID-19 here.
For example, Vermont is projecting a 12% drop in general fund revenues from March-June 2020, Duncan notes, along with a 25% to 30% drop in revenue from taxes on meals, room, and fuel. A 27% drop in income-tax revenue is also expected from the July 15 extensions.
Conflicts and confusion are bound to arise in the coming weeks, but several states have begun issuing guidance with regard to their Controversy functions, says Shirley Sicilian, KPMG Managing Director of State & Local Tax Controversy. “But the reality is that there continue to be gaps in state guidance, and even where we do have guidance, the situation is fluid,” she says.
Some states are suspending audits, for example, and others are suspending or modifying processes for protests and appeals. Maintaining communication channels is critically important for taxpayer representatives right now, Sicilian explains, as is “making sure mail will be received, and identifying ways documents will be reviewed and signed.” Some states are waiving requirements for an in-person signature, for instance.
The CARES Act
Things are no more certain with regard to the federal CARES act, due in no small part to the fact that states are not required to conform to federal Internal Revenue Code (IRC) guidelines. While 24 states are rolling states that automatically conform to the federal IRC, many states are so-called fixed states that require legislative action to adopt federal changes.
“There could be some difficulty in fixed states, because legislatures have been suspended,” says Daniel De Jong, KPMG Senior Manager of State & Local tax. “We will have to watch those states carefully to see if they comply with the CARES Act.” A third category of states — selective states — require legislative action as well, but might not conform to all provisions of the CARES Act, he notes.
That said, for states that do conform, the CARES Act includes several changes worth noting, says Justin Hill, a KPMG Partner in State & Local Tax, most notably several changes to the Net Operating Loss (NOL) rules. “NOLs arising in a tax year beginning in 2018, 2019, and 2020 can be carried back five years,” Hill explains. “This provision has been well-received, and helps taxpayers in need of conserving and generating cash as a result of the current economic environment.”
The new law also temporarily suspends the 80% limitation on use of NOLs, Hill says, but he cautions that there is no guarantee states will pick it up. “Most states have their own NOL carryback provisions,” he adds, and “much will depend on whether states adopted the 80% limitation” in the first place.
Tax preparers should also be aware of changes to IRC Section 163(j), which pertains to deductions for net interest expenses. “Currently, the deduction for net interest expense is limited to the extent it exceeds 30% of a taxpayer’s adjusted taxable income (ATI),” says Hill. “Under the CARES Act, taxpayers can deduct interest expense up to 50% of ATI for the 2019 and 2020 tax years only.” But again, whether a state adopts the 163(j) increase will depend on its conformity rules, he explains, so tax preparers need to check each state’s statutes individually.
Similarly, since President Donald J. Trump has declared the entire country a disaster area, taxpayers who are considering taking a deduction under IRC Section 165(i) for losses attributable to a disaster should check for discrepancies between state and federal guidelines, says De Jong, as many states have decoupled their asset depreciation from federal regulations.
Other considerations & incentives
Finally, current nationwide stay-at-home orders could trigger Nexus considerations for some telecommuters in some states in relation to sales of taxable digital products and services, but guidelines in this area are just starting to come out.
Employers should also be mindful of certain CARES Act incentives, such as the Payroll Tax Credit and Small Business Administration (SBA) loans, says KPMG’s Robert Maida, Managing Director of Global Locations & Expansion Services. “The SBA offers up to $2 million in assistance to small businesses to overcome temporary loss of revenue, and the Paycheck Protection Program offers $10 million in potentially forgivable loans to employers with fewer than 500 employees.”
Again, due to the fluid and unprecedented nature of the COVID-19 outbreak, tax rules for individual states are still in flux. Tax professionals are advised, however, to check state websites and remain in close contact with their colleagues at both the state and federal level to stay up-to-date on the latest changes.