On January 17, 2024, Senate Finance Committee Chairman Ron Wyden (D-Ore.) and House Ways and Means Committee Chairman Jason Smith (R-Mo.) released a bill, the “Tax Relief for American Families and Workers Act of 2024” (“TRAFA” or the “bill”). All of the provisions in the bill are taxpayer favorable, except those that apply to the “employee retention tax credit”.
In short, the bill, if enacted as introduced, would:
• Allow taxpayers to deduct rather than amortize domestic research or experimental costs until 2026. Under current law, domestic research and experimental expenditures incurred after December 31, 2021 must be amortized over a 5-year period. Starting in 2026, taxpayers would once again be required to amortize those costs (as under current law) over five years (rather than deducting them immediately).
• Allow taxpayers to calculate their section 163(j) limitation on interest deductions without regard to any deduction allowable for depreciation, amortization, or depletion (i.e., as a percentage of earnings before interest, taxes, depreciation, and amortization (EBITDA) rather than earnings before interest and taxes (EBIT)) for tax years 2024-2026. This provision would generally increase the limitation and allow greater interest deductions for taxpayers subject to section 163(j).
• Retroactively extend the 100% bonus depreciation for qualified property placed in service after December 31, 2022 until January 1, 2026 (January 1, 2027, for longer production period property and certain aircraft). 100% bonus depreciation, enacted as part of the Tax Cuts and Jobs Act (the “TCJA”), expired for most property placed into service after December 31, 2022. Under existing law, bonus depreciation is generally limited to 80% for property placed into service during 2023, 60% for 2024, and 40% for 2025.
• Increase the maximum amount a taxpayer may expense of the cost of depreciable business assets under section 179 from $1.16 million in 2023 for qualifying property placed in service for the taxable year, to $1.29 million. The $1.16 million amount is reduced by the amount by which the cost of the property placed in service during the taxable year exceeds $2.89 million. Under the bill, the $2.89 amount is increased to $3.22 million. The provision applies to property placed in service in taxable years beginning after December 31, 2023.
• Effectively grant certain tax treaty benefits to residents of Taiwan, including (i) reducing the 30% withholding tax on U.S.-source interest and royalties from 30% to 10%, (ii) reducing the 30% withholding tax on U.S.-source dividends from to 15% or 10% (if the recipient owns at least 10% of the shares of stock in the payor corporation), and (iii) applying the “permanent establishment” threshold (rather than the lower “trade or business” threshold) for U.S. federal income taxation.
• Extend the qualified disaster area rules enacted in 2020 for 60 days after the date of enactment of the bill; exempt from tax certain “qualified wildfire relief payments” for tax years beginning in 2020 through 2025; exempt certain “East Palestine train derailment payments” from tax.
• Enhance the low income housing tax credit and tax-exempt bond financing rules.
• Increase the threshold for information reporting on IRS forms 1099-NEC and 1099-MISC from $600 to $1,000 for payments made on or after January 1, 2024 and increase the threshold for future years based on inflation.
• End the period for filing employee retention tax credit claims for tax years 2020 and 2021 as of January 31, 2024, and increase the penalties for aiding and abetting the understatement of a tax liability by a “COVID–ERTC promoter”.
• Increase the maximum refundable portion of the child tax credit from $1,600 in 2023 (out of the $2,000 maximum per child tax credit under current law) to $1,800 in 2023, $1,900 in 2024, and $2,000 in 2025; modify the calculation of the maximum refundable credit amount by providing that taxpayers first multiply their earned income (in excess of $2,500) by 15 percent, and then multiply that amount by the number of qualifying children (so that a taxpayer with two children would be entitled to double the amount of refundable credit); adjust the $2,000 maximum per child tax credit for inflation in 2024 and 2025; and allow taxpayers in 2024 and 2025 to use earned income from the prior taxable year to calculate their credit. These provisions would be effective for tax years 2023-2025, after which the maximum per child credit would revert to $1,000.
The bill does not increase the $10,000 limit on state and local tax deductions, or increase the $600 reporting threshold for IRS Form 1099-K (gift cards, payment apps, and online marketplaces).
The bill cleared the House Ways and Means Committee by a vote of 40 to 3 and awaits a vote by the full House (which is not expected to occur before January 29). Although the bill appears to have broad partisan support so far, the timing of final passage and enactment is uncertain.
The remainder of this blog post provides a summary of the key business provisions included in TRAFA.
Summary of Key Business Provisions
1. Retroactive extension for current deduction of domestic research or experimental costs that are paid or incurred in tax years beginning after December 31, 2021, and before January 1, 2026 under Section 174.
Under current Section 174, specified research or experimental expenditures incurred in taxable years beginning after December 31, 2021 may not be currently deducted. Instead, the expenditures must be capitalized and amortized ratably over a 5-year period (or, in the case of expenditures that are attributable to research that is conducted outside of the United States, over a 15-year period). Before the TCJA, enacted in 2021, research or experimental expenditures were generally deductible in the year in which they were incurred.
The bill proposes to allow taxpayers to deduct domestic research or experimental costs until 2026. However, foreign research or experimental expenditures would continue to be amortizable over 15 years (as under current law).
Generally, a taxpayer who had already amortized the appropriate portion of its domestic research or experimental costs incurred in the 2022 tax year but wanted to switch to deducting these costs would be able to do so by electing to treat the application of the TRAFA provision as a Section 481(a) adjustment for the 2023 tax year and the adjustment would be taken into account ratably in the 2023 and 2024 federal income tax returns.
2. Retroactive extension to allow depreciation, amortization, or depletion in determining the limitation on business interest expense deduction under Section 163(j) for taxable years beginning before January 1, 2026.
Under current section 163(j), a deduction for business interest expense is disallowed to the extent it exceeds the sum of (i) business interest income, (ii) 30% of adjusted taxable income (“ATI”), and (iii) floor plan financing interest expense in the current taxable year. Any disallowed business interest expense may be carried forward indefinitely to subsequent tax years. The interest limitation generally applies at the taxpayer level (although special rules apply in the case of partnerships and S-corporations). Furthermore, in the case of a group of affiliated corporations that file a consolidated return, the limitation applies at the consolidated tax return filing level.
For tax years beginning before January 1, 2022, the ATI of a taxpayer was computed without regard to (i) any item of income, gain, deduction, or loss that is not properly allocable to a trade or business, (ii) business interest expense and income, (iii) net operating loss deductions under section 172, (iv) deductions for qualified business income under section 199A, and (v) deductions for depreciation, amortization, or depletion (“EBITDA computation”). However, for tax years beginning on or after January 1, 2022, ATI is computed taking into account deductions for depreciation, amortization, or depletion (“EBIT computation”). The EBIT computation generally allows less interest deductions than the EBITDA computation.
The bill proposes to apply the EBITDA computation (instead of the EBIT computation) for taxable years beginning before January 1, 2026. the bill provides that this proposal generally is effective for taxable years beginning after December 31, 2023, but includes an elective transition rule, details to be provided by the Secretary of the Treasury, to allow a taxpayer to elect to apply the EBITDA computation for tax years beginning after December 31, 2021.
3. Extension of 100% bonus depreciation deduction for certain business property placed in service during the years 2023 through 2025 under Section 168(k).
A taxpayer generally must capitalize the cost of property used in a trade or business or held for the production of income and recover the cost over time through annual deductions for depreciation or amortization. Changes to section 168(k), under the TCJA, allowed an additional first-year depreciation deduction, known as bonus depreciation, of 100% of the cost of MACRS property with a depreciable life of 20 years or less, water utility property, qualified improvement property and computer software placed into service after September 27, 2017 and before January 1, 2023. Under current law, property placed in service from January 1, 2023 through December 31, 2026 qualifies for partial bonus depreciation – 80% bonus depreciation for 2023, 60% bonus depreciation for 2024, 40% bonus depreciation for 2025 and 20% bonus depreciation for 2026.
The bill proposes to extend the 100% bonus depreciation for property placed in service during the years 2023 through 2025 and to retain the 20% bonus depreciation for property placed in service in 2026.
4. Increase in limitations on expensing of depreciable business assets under Section 179 to $1.29 million and increase the phaseout threshold amount to $3.22 million.
Generally, under Section 179, a taxpayer may elect to immediately deduct the cost of qualifying property, rather than to claim depreciation deductions over time, subject to limitations discussed below. Qualifying property is generally defined as depreciable tangible personal property, off-the-shelf computer software, and qualified real property (including certain improvements (e.g., roofs, heating, and alarms systems) made to nonresidential real property after the property is first placed in service) that is purchased for use in the active conduct of a trade or business. Under current law, the maximum amount a taxpayer may expense is $1 million of the cost of qualifying property placed in service for the taxable year and the $1 million is reduced (but not below zero) by the amount by which the cost of qualifying property placed in service during the taxable year exceeds $2.5 million. The $1 million and $2.5 million amounts are indexed for inflation for taxable years beginning after 2018. For taxable years beginning in 2023, the total amount that may be expensed under current law is $1.16 million, and the phaseout threshold amount is $2.89 million.
The bill proposes to increase the maximum amount a taxpayer may expense to $1.29 million, reduced by the amount by which the cost of qualifying property exceeds $3.22 million, each in connection with property placed in service in taxable years beginning after December 31, 2023. The $1.29 million and $3.22 million amounts would be adjusted for inflation for taxable years beginning after 2024.
5. Adoption of the United States-Taiwan Expedited Double-Tax Relief Act, “treaty-like” relief for Taiwan residents and the United States-Taiwan Tax Agreement Authorization Act, a framework for the negotiation of a tax agreement between the President of the United States and Taiwan.
The United States does not have formal diplomatic relations with Taiwan, and therefore negotiating a tax treaty with Taiwan raises significant difficulties.
Under the bill, new section 894A would grant certain tax treaty-like benefits to qualified residents of Taiwan. A reduced rate of withholding tax would apply to interest, dividends, royalties, and certain other comparable payments from U.S. sources received by qualified residents of Taiwan. Instead of the 30% withholding tax rate generally imposed on U.S.-source income received by nonresident aliens and foreign corporations, interest and royalties would be subject to a 10% withholding tax rate and dividends would be subject to a 15% withholding tax rate (or a 10% withholding tax rate if paid to a recipient that owns at least ten percent of the shares of stock in the corporation and certain other conditions are met).
Additionally, under new section 894A, income of a qualified resident of Taiwan that is effectively connected to a U.S. trade or business would be subject to U.S. income tax only if such resident has a permanent establishment in the U.S., which is a higher threshold than the U.S. trade or business standard generally applied to non-U.S. persons under the Internal Revenue Code. Furthermore, only the taxable income effectively connected to the United States permanent establishment of a qualified resident of Taiwan would be subject to U.S. income tax.
No U.S. Tax would be imposed under section 894A on wages of qualified residents of Taiwan in connection with personal services performed in the United States and paid by a non-U.S. person.
Also, the proposal would impose general anti-abuse standards similar to those in section 894(c) to deny benefits when payments are made through hybrid entities. The proposed rules are applicable only if, and when, the Secretary of Treasury determines that reciprocal provisions apply to U.S. persons with respect to income sourced in Taiwan.
The bill also provides a framework for the negotiation of a tax agreement between the President of the United States and Taiwan. Specifically, the bill would authorize the President to negotiate and enter into one or more non-self-executing tax agreements to provide for bilateral tax relief with Taiwan beyond that provided for in proposed section 894A. Any such negotiation would only be permitted after a determination by the Secretary of the Treasury that Taiwan has provided benefits to U.S. persons that are reciprocal to the benefits provided to qualified residents of Taiwan under proposed section 894A. Furthermore, the bill would require that any provisions in such a tax agreement must conform with provisions customarily contained in U.S. bilateral income tax conventions, as exemplified by the 2016 U.S. Model Income Tax Convention, and any such tax agreement may not include elements outside the scope of the 2016 U.S. Model Income Tax Convention.
6. Changes in threshold for reporting on Forms 1099-NEC and 1099-MISC for payments by a business for services performed by an independent contractor or subcontractor and for payments of remuneration for services from $600 to $1,000 and for payments of direct sales from $5,000 to $1,000.
Under current law, a person engaged in a trade or business who makes certain payments aggregating $600 or more in any taxable year to a single recipient in the course of the trade or business is required to report those payments to the IRS. This requirement applies to fixed or determinable payments of income as well as nonemployee compensation, generally reported on Form 1099-MISC, Miscellaneous Information, or Form 1099-NEC, Nonemployee Compensation. In addition, any service recipient engaged in a trade or business and paying for services is required to file a return with the IRS when aggregate payments to a service provider equal $600 or more in a calendar year. Additionally, a seller who sells at least $5,000 in the aggregate of consumer products to a buyer for resale anywhere other than a permanent retail establishment is required to report the sale to the IRS.
The bill proposes to set the reporting threshold for the payments described in the preceding paragraph at $1,000 for a calendar year (indexed for inflation for calendar years after 2024), effective for payments made after December 31, 2023.
7. New Enforcement Provisions with Respect to COVID-Related Employee Retention Tax Credit
Under current law, an eligible employer can claim a refundable Employee-Retention Tax Credit (ERTC) against applicable employment taxes for calendar quarters in 2020 and 2021 in an amount equal to a percentage of the qualified wages with respect to each employee of such employer for such calendar quarter. The percentage is 50% of qualified wages paid after March 12, 2020, and before January 1, 2021, and 70% of qualified wages for calendar quarters beginning after December 31, 2020, and before January 1, 2022, subject to a maximum amount of wages per employee. An eligible employer may claim the ERTC on an amended employment tax return (Form 941-X) if the employer did not claim (or seeks to correct) the credit on its original employment tax return. For tax year 2020, an amended employment tax return must be filed by April 15, 2024, and for tax year 2021, by April 15, 2025.
The bill proposes to end the period for filing ERTC claims for both 2020 and 2021 as of January 31, 2024. Additionally, the bill would impose large penalties on any “COVID–ERTC promoter” who aids or abets the understatement of a tax liability or who fails to comply with certain due diligence requirements relating to the filing status and amount of certain credits. A COVID–ERTC promoter is defined as any person that provides aid, assistance or advice with respect to an affidavit, refund, claim or other document relating to an ERTC or to eligibility or to the calculation of the amount of the credit, if the person (x) charges or receives a fee based on the amount of the ERTC refund or credit, or (y) meets a gross receipts test. The proposed penalties for an ERTC promoter that aids and abets understatement of a tax liability is the greater of $200,000 ($10,000 in the case of an ERTC promoter that is a natural person) or 75% of the gross income of the ERTC promoter from providing aid, assistance, or advice with respect to a return or claim for ERTC refund or a document relating to the return or claim.
Furthermore, the bill would extend the statute of limitations period on assessment for all quarters of the ERTC to six years from the later of (1) the date on which the original return for the relevant calendar quarter is filed, (2) the date on which the return is treated as filed under present-law statute of limitations rules, or (3) the date on which the credit or refund with respect to the ERTC is made.
