The American Rescue Plan Act of 2021 (ARPA 2021), P.L. 117-2, was signed into law on March 11, 2021. This $1.9 trillion legislation is the largest aid package to pass since the COVID-19 pandemic began in March 2020. It contains several tax benefits applicable to tax years 2020 and 2021. As a result, those individual taxpayers who filed their 2020 tax returns early may need to file an amended tax return if they qualify for any of these tax benefits and didn’t use them.
ARPA §9042 provides a special rule for qualified taxpayers to exclude up to $10,200 of unemployment compensation. There are several key points that need to be considered about this special one-year tax amendment. First, the $10,200 exclusion is limited to unemployment compensation received in tax year 2020, which for most individual taxpayers is the calendar year 2020.
Second, the $10,200 exclusion amount applies to each taxpayer. A couple where both spouses are collecting unemployment compensation could exclude up to $20,400 but only if each spouse had at least $10,200 of unemployment compensation. Thus, a spouse can’t claim any “unused” exclusion amount from the other spouse. For example, if one spouse has unemployment compensation of $12,000 and the other has unemployment compensation of $9,200, the couple can only claim an exclusion of $19,400 ($10,200 + $9,200).
Third, a qualified taxpayer is one whose gross income (after certain adjustments) is less than $150,000. This limit is what’s known as a cliff; that is, there is no phase-out area provided by this tax amendment. Once a person has $150,000 or more of gross income, the individual no longer qualifies for any part of the unemployment exclusion. For example, if a taxpayer has gross income of $150,000, he or she can’t exclude any unemployment compensation.
Fourth, the $150,000 limit applies to all taxpayer filing categories. That is, it doesn’t matter if the taxpayer files as married filing jointly, single, head of household, or married filing separately.
Finally, and to make things more complicated, a taxpayer’s gross income is adjusted for several tax items. In other words, gross income is determined after including the:
- Taxable amount only of Social Security and tier 1 railroad retirement benefits,
- Exclusion of interest from U.S. savings bonds used to pay higher education tuition and fees,
- Exclusion of benefits received under an employer-provided adoption assistance program,
- Deduction for traditional IRA contributions,
- Student loan interest deductions,
- Deduction for qualified tuition and fees, and
- Limitation on passive activity losses and credits.
In addition, unemployment compensation isn’t included in gross income for this exclusion calculation.
To help taxpayers, the Internal Revenue Service (IRS) released a post-release change to tax forms, instructions, and publications, titled “New Exclusion of up to $10,200 of Unemployment Compensation,” which contains an unemployment compensation exclusion worksheet. This release, along with the extended tax return due date of May 17, 2021, will be helpful to taxpayers and tax software providers to incorporate this new law into tax returns.
ARPA §9601 provides the third round of a recovery rebate/credit to eligible individual taxpayers. The amount is $1,400 ($2,800 for joint and surviving spouse filers) for eligible taxpayers and an additional $1,400 for each qualifying dependent (i.e., one who would qualify for the dependent exemption) of the taxpayer.
Eligible taxpayers, however, don’t include any nonresident alien individuals, an estate or trust, or any individual who is a dependent of another taxpayer. Therefore, a child who is, or can be, claimed as a dependent by their parents isn’t an eligible taxpayer under this law.
Unlike the unemployment compensation exclusion, the rebate/credit has a phase-out range. Specifically, the phase-out range is the adjusted gross income (AGI) from $150,000 to $160,000 for a joint return, $112,500 to $120,000 for a head of household, and $75,000 to $80,000 for all other taxpayers. These AGI amounts for this round will be applied to the taxpayer’s latest filed and processed tax return from either 2020 or 2019.
CHILD TAX CREDIT
ARPA §9611 temporarily expands the child tax credit (CTC) for tax year 2021. The CTC is increased to $3,000 per child under the age of 18 and to $3,600 per child under 6 years old. Under prior law, the CTC was $2,000 for a child under the age of 17 for 2018 through 2025.
A tax preparer needs to be aware, however, that the higher CTC amounts begin to phase out when the modified AGI exceeds $150,000 for a joint filer, $112,500 for a head-of-household filer, and $75,000 for all other filers. That means those taxpayers whose modified AGI exceeds the limits previously mentioned could still claim a CTC of up to $2,000 under the phase-out limits of $400,000 for married joint filers and $200,000 for all other tax filers. A child who is 17 in 2021 is subject to the CTC rules and not the $500 partial CTC that is available for dependents who aren’t qualifying children.
In addition, the requirement for families to have at least $2,500 of earnings that permitted lower-income taxpayers to claim a refundable credit of up to $1,400 is removed. The CTC, therefore, is fully refundable without a taxpayer having any earnings. A nonrefundable credit means that a taxpayer would get a refund only up to the amount of tax that they owe. But with a refundable credit, the taxpayer can get a refund even if the credit is more than the tax they owe (i.e., a negative tax).
ARPA further modifies this part of the law for 2021 by permitting the IRS to make periodic payments to the taxpayer of up to one-half of his or her CTC in advance. The advanced payments would be made over the period from July 2021 to December 2021 and would be equal to one-twelfth of the taxpayer’s CTC.
Section 9611(b)(1) of ARPA 2021 gives the IRS wiggle room in making the advanced payments. That is, the IRS can make the advanced payments over a longer period and would adjust the payment amount accordingly. Since this law was enacted in March 2021, it’s difficult to see how the IRS would be able to comply with this adjustment before July 2021.
The third COVID-19 stimulus package provides new challenges to many taxpayers and tax preparers. The most significant change is the recovery rebate/credit, which will be sent to most taxpayers electronically. For those who already filed their taxes for 2020, the more challenging change is the exclusion of a limited amount of unemployment compensation. The final challenge is that some taxpayers will be able to claim a larger CTC while others will be able to claim the standard CTC in 2021.
© 2021 A.P. Curatola