In the wake of COVID-19, on March 27, 2020, Congress passed and the President signed into law the Coronavirus Aid, Relief, and Economic Security Act (CARES Act) which included significant changes to U.S. federal income tax law. Corporations subject to U.S. federal income tax should give consideration to how these aspects of the CARES Act may impact their provision for income taxes reported in interim and annual financial statements. Following are some key considerations which should be evaluated when measuring deferred tax accounts and determining income tax expense.
Accounting Standards Codification 740, Income Taxes (ASC 740) requires the effect of changes in income tax laws (or rates) on deferred tax assets and liabilities to be recorded in continuing operations in the period which includes the date of enactment (i.e., March 27, 2020 in the case of the CARES Act). For interim financial reporting purposes, the tax effects would be recognized during the period of enactment (e.g., the first quarter of 2020 for calendar year-end companies) and not allocated to subsequent interim periods through adjustments to the estimated annual effective tax rate.
As a result, the tax effect of these changes should not be recognized in the December 31, 2019 financial statements of calendar year-end companies. However, if the effects are expected to be material, companies should consider whether they require subsequent event disclosure under ASC 855.
The following discusses certain changes in the CARES Act with potential to impact companies:
Net operating losses
- The CARES Act has temporarily restored the ability to carryback net operating losses (NOL) originating in 2018, 2019 and 2020 to offset taxable income in the five preceding years. This creates the opportunity to recognize a current benefit for losses that would otherwise have been carried forward.
- If the company intends to elect out of the carryback or there is no historical taxable income to offset, companies should continue to record any NOLs generated as a deferred tax asset. Consistent with the Tax Cuts and Jobs Act (TCJA), losses continue to be carried forward indefinitely.
- The CARES Act included the elimination of the 80% taxable income NOL limitation for the 2018, 2019 and 2020 tax years. The limitation will be reinstated for tax years beginning in 2021. For companies that limited the utilization of 2018 NOLs on their 2019 financial statements, there may be a balance sheet reclassification between deferred taxes and taxes receivable required in the interim period that includes the enactment date.
