California enacts net operating loss and credit limits due to COVID-19
TAX ALERT |
On June 29, 2020, California Gov. Gavin Newsom signed Assembly Bill 85, enacting several tax proposals included in the state’s Fiscal Year 2021 budget. Specifically, the bill temporarily suspends net operating loss (NOL) deductions for certain businesses and creates a limit on business income tax credits, among other changes.
Assembly Bill 85 suspends the NOL deduction for tax years beginning on or after Jan. 1, 2020 and before Jan. 1, 2023. The suspension does not apply to taxpayers with a net business income or a modified adjusted gross income of less than $1 million for the taxable year. The bill also extends the carryover period for losses disallowed during the temporary suspension as follows:
- One year for losses incurred in taxable years beginning on or after Jan. 1, 2021, and before Jan. 1, 2022
- Two years for losses incurred in taxable years beginning on or after Jan. 1, 2020, and before Jan. 1, 2021
- Three years for losses incurred in taxable years beginning before Jan. 1, 2020
Business tax credits
Assembly Bill 85 provides that for each taxable year beginning on or after Jan. 1, 2020, and before Jan. 1, 2023, a limitation on the use of business tax credits to offset no more than $5 million in tax liability applicable to both personal and corporate taxpayers. The carryover period for any credit disallowed because of this limitation is increased by the number of years the credit or portion of credit was disallowed. Certain credits are excluded from the limitation. Members of a combined report cannot reduce the aggregate amount of tax liability of all the members of the combined report by more than $5 million.
The legislation also makes the following changes:
- Extends the $800 first-year franchise tax minimum payment exemption to limited liability partnerships, limited partnerships and limited liability companies when those entities organize or register on or after Jan. 1, 2021, and before Jan. 1, 2024
- Provides that the new advanced strategic aircraft credit can reduce the alternative minimum tax for taxable years beginning on Jan. 1, 2020 and before Jan. 1, 2026
- Extends the sales and use tax exemption for diapers and feminine hygiene products from Jan. 1, 2022 to July 1, 2023
- Requires used car dealers to remit sales tax with the registration fee to the California Department of Motor Vehicles, effective Jan. 1, 2021
Assembly Bill 85 is projected to benefit the state’s general fund by almost $4.5 billion in FY21, with the suspension of the NOL deduction and the limitation on certain tax credits making up almost $4 billion of that estimate. California has been hit particularly hard by the COVID-19 pandemic with the state estimating a budget deficit of more than $54 billion attributable to the pandemic.
While over half of the states are out of session for the year, taxpayers should anticipate states considering similar tax measures to generate needed revenue. Although much of this activity could occur in 2021, many states could still schedule special sessions to increase tax bases, limit exemptions and reduce credits and incentives availability. New York and Wisconsin have already provided some legislative guidance in response to COVID-19 and the CARES Act.
Businesses in every industry should consider State tax planning in response to economic distress. For more information on the coronavirus, please see RSM’s Coronavirus Resource Center which includes related and frequently updated developments.