When COVID struck and the United States was placed in lockdown, the uncertainty surrounding the state of the economy as well as the fate of millions of small businesses was top of mind. In an attempt to ward off economic disaster and mass unemployment, the government passed the CARES Act which offered an injection of capital to assist small businesses and the unemployed to bridge this time of crisis.
In emergency situations like COVID, time is of the essence and the priority is getting funds into the hands of businesses and individuals in need. Because of the rapid nature of the rollout, in recent months the government kept revisiting the terms of the program over the year, clarifying areas and making amendments to guidelines.
So here’s a recap of the latest information released by the IRS, regarding how the elements from the stimulus packages of 2020 will impact your taxes this year.
Paycheck Protection Program (PPP)
The CARES Act that enacted the PPP specifically says that the amount of the loan that is forgiven won’t be included in your taxable income for the year. For example, if you received $10,000 and qualified for it to be entirely forgiven (aka you don’t have to pay it back) you won’t need to include this amount in your taxable income when you calculate your taxes. This remains true as of January 2021 but it’s important to remember that the loan needs to be officially forgiven to receive this tax exempt status. For most freelancers this can be done using Loan Forgiveness Application Form 3508EZ. While you do have 10 months from the end of your covered period (the 8 or 24 month period following your receiving of funds) to apply for forgiveness, considering the scale of the PPP program, it makes the most sense to apply for forgiveness as soon as possible.
So what can be forgiven? Well, PPP loans were distributed based on payroll figures. But as a freelancer, odds are you don’t have any staff or payroll. Therefore loans were distributed to freelancers using their 2.5 months of income using the 2019 Net Income figures per their Schedule C. The SBA refers to this as Owner Compensation Replacement and it is forgivable up to $15,385 or $20,833 depending on whether you applied for a 8 or 24 week coverage period respectively. If you received a loan larger than this amount, the remaining loan amount must have been spent on qualifying expenses paid or incurred during the covered period in order to be forgiven. Qualifying expenses include:
- Business mortgage interest payments
- Business rent or lease payments
- Business utility payments (electricity, internet…)
Lastly, it’s important to mention the deductibility of business expenses covered with PPP loans, especially considering recent legislative updates. When the PPP Program was originally rolled out, the IRS mandated that if PPP loan funds were used to cover an expense during the applicant’s covered period, that expense would no longer be deductible as a business expense. This is no longer the case. Now every business expense you incurred this year, no matter what money you used to pay for it is deductible from your income.
Economic Injury Disaster Loan (EIDL)
Remember that the EIDL is made up of two parts: the loan and the advance. The loan portion of the EIDL is not considered taxable income as you’re required to pay it back. Like PPP loans, there is no effect on the ability to deduct business expenses covered by funds provided from an EIDL loan, but there are limitations on how this capital can be leveraged so it’s prudent to track your expenses and hold onto as much documentation as possible.
The second portion of the EIDL is the advance. The advance allowed for a $1,000 per employee grant capped at $10,000. Considering a self-employed individual has only one employee (themselves), freelancers were only able to claim $1,000 from this grant. As of January 2021, the advance does not require repayment and is not included in your taxable income. The EIDL advances also have no effect on the eligibility of your PPP Loan’s forgiveness status.
Pandemic Unemployment Assistance
Especially during times like this, unemployment benefits can be a literal lifesaver but without paying proper attention, they can also become a nuisance come tax time. First and foremost, unemployment benefits are taxable. This also includes additional funds the federal government allocated through the Pandemic Unemployment Assistance program (the $600 additional dollars added to your weekly unemployment checks earlier last summer). There are two routes you can go when it comes to paying taxes on your unemployment. The first is having the state withhold taxes, much like an employer would do on a W-2. Many states will give you the option to withhold while filing your unemployment claim but in the event you aren’t given that option or forgot to request withholdings, you can do so by filing a form W-4V with the IRS.
The other more burdensome option is to remit taxes on unemployment payouts by making quarterly tax payments. This is akin to the process most freelancers are familiar with and requires receiving your unemployment benefits in full then submitting a 1040-ES to the IRS. Using the IRS’s Tax Withholding Estimator in combination with the 1099-G (the document you’ll receive from the government that outlines your total unemployment received during the year) will help ensure you’ve calculated these withholdings correctly. Lili’s Tax Bucket is another great tool to ensure you’re prepared to make these tax payments.
Lastly, if you were lucky enough to receive a stimulus check (or two) this year, good news, this is not subject to income tax. In fact, the government doesn’t consider the check income at all. In the eyes of the government, the stimulus check was a tax credit paid in advance. So what does this mean for you, the taxpayer? Not only is this check not taxed as income, it also doesn’t need to be considered income for other calculations. For instance, in the case of certain credits/limitations that phase out or are tied to Adjusted Gross Income (see: The Child Tax Credit or Deduction Limitations on IRA Contributions), when calculating AGI you do not need to include the amount received as a stimulus check.
Lastly, if you didn’t receive a stimulus check in either round of issuances but believe you were owed one, fear not, you can claim your stimulus in the form of a credit when filing your 2020 taxes. This is done in the form of a Recovery Rebate Credit and can potentially lower your tax liability by the amount you should have received as a stimulus check.
In summary, it’s been a weird year to say the least and many people are finding themselves in unfamiliar tax situations. Hopefully this provides some clarity that will make tax season a little less complex for those affected. Additionally, for those of you still coping with the financial effects of the pandemic, the government recently announced additional PPP loans and freelancers are still eligible, whether or not they already receive a PPP loan last year.