Uncertainty looms over some income tax provisions

The Tax Cuts and Jobs Act (TCJA) contains a variety of glitches that will require legislative fixes, although Congress has yet to take on the uncertainties that frustrated both businesses and individual taxpayers this year.

The sprawling TCJA signed into law in late 2017 includes unintentional glitches that range from a lack of clarity to significant drafting errors. In some cases, the quirks can produce unintended and costly consequences. Two big glitches still need to be addressed, and one has been addressed recently.

The “retail” glitch

This issue prevents retailers, restaurants, and other businesses from enjoying 100% bonus depreciation on certain assets. Before the TCJA’s enactment, qualified retail improvement property, qualified restaurant property, and qualified leasehold improvement property were depreciated over 15 years under the modified accelerated cost recovery system (MACRS) and over 39 years under the alternative depreciation system (ADS).

The TCJA classifies these property types as qualified improvement property (QIP). QIP generally is defined as any improvement to the interior of a nonresidential real property that’s placed in service after the building was placed in service.

Congress intended for QIP that is placed in service after 2017 to have a 15-year MACRS recovery period and a 20-year recovery under the ADS. Because 15-year property is eligible for bonus depreciation, Congress also intended for QIP to be eligible for that break.

Yet the 15-year recovery period for QIP doesn’t appear in the statutory language of the TCJA, even though it’s found in the Joint Explanatory Statement of Congressional Intent. Until technical corrections are made, therefore, QIP has a 39-year MACRS recovery period, making it ineligible for bonus depreciation.

In late March 2019, a bipartisan bill that would fix the error was introduced in the U.S. House of Representatives. The Restoring Investment in Improvements Act mirrors bipartisan legislation introduced in the Senate in mid-March. But many Democrats in Congress haven’t supported this and other TCJA fixes, due to their complaints about how the law was enacted. Some lawmakers advocate tying such fixes to other tax code changes that might otherwise come up short on the votes necessary for passage.

In the meantime, taxpayers who have invested in QIP might consider cost segregation studies. By separating out QIP from other types of property, they could still qualify for some bonus depreciation.

Effective date glitch for the NOL deduction

The TCJA implemented several changes to deductions for a net operating loss (NOL). Specifically, it limits the deduction to 80% of taxable income, eliminates most NOL carrybacks, and allows unlimited carryforwards (versus a 20-year limitation under prior law).

The statutory text states that changes to carrybacks and carryforwards apply to NOLs arising in taxable years ending after Dec. 31, 2017 — but the Conference Report says they apply to NOLs arising in taxable years beginning after Dec. 31, 2017. The statute and the report agree that the 80% limitation applies to losses arising in taxable years beginning after Dec. 31, 2017. Because statutory language controls, a mismatch now exists between the effective dates for the 80% limitation and the changes to NOL carrybacks and carryforwards.

Congress’s Joint Committee on Taxation has confirmed that all the changes should apply to NOLs in tax years beginning after 2017. It notes, though, that technical corrections may be necessary. As of this writing, no correcting legislation has been introduced in Congress.

The “grain” glitch

This is one glitch that has been addressed. An error in the Section 199A deduction for pass-through entities incentivized farmers to sell their crops to cooperatives, rather than to private businesses. The deduction typically is referred to as the qualified business income (QBI) deduction, but Section 199A had two parts — one for QBI and one for qualified cooperative dividends (QCD).

The QBI deduction was based on the net amount of business income, but the QCD was based on the gross amount of sales. In addition, the QCD deduction wasn’t subject to the same limitations as the QBI deduction (for example, the wage limit and income-related phaseouts).

In other words, the deduction for sales to co-ops was more generous than the deduction for income from sales to businesses. In some circumstances, farmers could have avoided income taxes altogether.

But the appropriations bill President Trump signed on March 23, 2019, includes a section addressing this glitch. It eliminates the QCD concept, leaving farmers with the same QBI deduction as other pass-through businesses have, subject to the same limitations. The law also revives the former Section 199 domestic production activities deduction for cooperatives, allowing a deduction of 9% of the qualified production activities (limited to 50% of the W-2 wages of the cooperative), which generally is passed through from the cooperative to its members.

Proposed tax extenders

Many of the income tax provisions that Congress enacts are temporary. As a result, Congress routinely temporarily reauthorizes some of these more popular provisions before or after they expire.

In late February 2019, Sens. Chuck Grassley (R-IA) and Ron Wyden (D-OR) introduced the Tax Extender and Disaster Relief Act of 2019. Among other things, the legislation would extend through 2019 more than two dozen tax breaks that expired at the end of 2017, including the:

• New Energy-Efficient Home Credit ($1,000 or $2,000 per home for eligible manufacturers of qualified energy-efficient residential homes)
• exclusion from gross income of discharge of qualified principal residence debt (up to $2 million for married couples filing jointly and $1 million for other taxpayers)
• mortgage insurance premiums deduction (phasing out for taxpayers with adjusted gross income of more than $100,000 or, if married filing separately, $50,000)
• deduction for qualified tuition and related expenses (up to $4,000 per year subject to income limitations)
• empowerment zone tax incentives, including tax-exempt bond financing, a wage credit, accelerated depreciation on qualifying equipment, and capital gains tax deferral in designated geographic areas

A waiting game

It remains to be seen whether any of the outstanding issues will be resolved soon, but we’ll share updates when they happen. In the meantime, if you have questions about the current tax law and adjustments, contact us at KraftCPAs.

© 2019