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How the CARES Act and Operational Adjustments Can Help Businesses Survive COVID-19

Marcy Greenfield, CPA and Ian Alberts, CPA

4.6.20 | Berdon Industry Insights

As the COVID-19 pandemic continues to grow, U.S. and local governing authorities are forced to issue mandates to help mitigate the spread, such as the “New York State on PAUSE” executive order issued by Governor Andrew Cuomo on March 22, all businesses not considered “essential” must now close until current restrictions are lifted. Many manufacturing, distribution and retail (“MDR”) companies, which are categorized as nonessential, are forced to grapple with disruptions to their businesses during these unprecedented times.

To provide a jolt to the economy and offer economic relief for individuals and businesses, the U.S. Government passed the Coronavirus Aid, Relief, and Economic Security Act (CARES Act), a $2+ trillion stimulus package, on March 27. Part of the bill will set aside $500 billion for large corporations, $250 billion in direct payments to individuals, $350 billion for small businesses and $250 billion in unemployment insurance benefits. Manufacturing, wholesale distributing, and retail are some of the industries specifically named in the Act, more so for certain sectors such as healthcare, that will benefit from this stimulus package, aimed to deliver much needed financial aid into a struggling economy.

As the details of the CARES Act become clear, Berdon LLP will continue to track and issue updates relating to its benefits for MDR businesses. However, there are immediate concerns that MDR companies can address now to mitigate some of the financial implications caused by COVID-19.

Cash Flow

MDR businesses are faced with multiple cash flow matters. With the inability to manufacture product, stock merchandise, or sell inventory, income is at a standstill. No income, no cash flow. There are some considerations to explore:

  • Inventory – Many companies may have a large surplus of inventory on hand. If businesses have the space to stockpile, they can consider selling inventory to e-commerce businesses (if not currently set up for online purchasing), at discounted prices to provide some operational revenue. For food and beverage sector companies, reach out to local nonprofit food banks to donate to, reducing the costs of unsold inventory at scale by maximizing tax deductions for food donations and minimizing disposal expenses.
  • Line of credit – Businesses can reach out to financial lending institutions for increased lines of credit, where applicable, or new lines of credit, to help stay afloat. For businesses that fall within the criteria of a small business with the Small Business Administration (SBA), the newly available SBA loans offered through the Paycheck Protection Program (“PPP”) under the CARES Act, which amends the SBA Section 7(a) loan program to expand eligibility and loan amounts, may prove beneficial and should be explored.

For the period beginning February 15, 2020 through June 30, 2020, the PPP would generally allow eligible companies to qualify for 100% federally-backed loans. Eligibility is based on number of employees—no more than 500, or the applicable North American Industry Classification System (NAICS) industry size standard as  provided by the SBA, if higher. For companies that have been in business for the preceding year, the amendment allows for a maximum loan amount that is the lesser of (i) $10 million or (ii) the average monthly payroll (limited to $100,000 annual compensation per employee) for the preceding 12 months multiplied by 2.5  times.

The PPP also allows for loan forgiveness. The statute provides that any cancelled debt resulting from this section will not be included in the borrower’s taxable income to the extent of the principal amount. Moreover, many of the traditional SBA requirements will be waived, such as the traditional collateral and personal guarantee requirements, and the requirement that credit is not available elsewhere.

The U.S. Senate Committee on Small Business and Entrepreneurship released a Small Business Owner’s Guide to the CARES Act as a resource to help small businesses with some of their more frequent questions on the PPP and other available funding.

  • Rent – Communicate with landlords for forms of rent relief, such as abatement and deferrals, which can help keep a business operating. Review all lease agreement terms and obligations for any other possibility of relief due to unforeseen circumstances.
  • Bill payments – Slow down the payment of bills to preserve cash flow. With most businesses effected, many institutions are waiving late payment fees. Check with the billing issuer first to assist in prioritizing which payments to hold, and which may require immediate payment.
  • Budget review – Review current budget and forecasting calculations to identify opportunities to assist in improving cash flow. Such opportunities can include marketing campaigns and advertising, new constructions or expansion plans, and development of discounted product sale initiatives, to name a few. With uncertainties regarding the future, businesses must take a detailed look at their various expenditures and create a more cost-effective structure.
  • Delayed Payments of Employer Payroll Taxes – Employers can postpone payments of the employer’s share of the Social Security tax with respect to their employees, beginning on the date of the enactment and ending before January 1, 2021. Instead of quarterly payments, employers would be permitted to remit employment tax over the following two years with half of the amount paid by December 31, 2021 and the other half by December 31, 2022. An employer will be treated as having timely made all deposits of employment taxes that are required to be made during the payroll tax deferral period so long as such deposits are made by those applicable dates. However, this relief is not available for taxpayers with indebtedness forgiven under the SBA loan provisions.

Labor Issues

All nonessential business owners are faced with difficult staffing decisions, as they are forced to close in compliance with the New York State on PAUSE executive order. Many businesses are laying off workers, or mandating furloughs. For those companies that are essential and remain operational, many are deciding to eliminate or minimize employee benefits to preserve overhead costs and manage cash flow shortage. For those businesses that support office staff, employees are encouraged to work from home.

Recently passed legislation has also offered some relief in this area. The Families First Coronavirus Response Act (FMLA) entitles workers infected with the virus up to 12 weeks of unpaid leave. Additionally, the newly passed CARES Act is offering Employer Payroll Tax Credit Relief for Employee Retention. Under the Act, an employer will be permitted a refundable tax credit against applicable employment taxes (social security and railroad retirement) for each calendar quarter in an amount equal to 50% of qualified wages paid by the employer during the COVID-19 crisis. The amount of qualified wages, with respect to any employee that may be considered, cannot exceed $10,000 for wages paid from March 13, 2020 through December 31, 2020. The credit is generally available for companies where operations were fully or partially suspended because of a COVID-19 related shutdown order or where gross receipts declined by more than 50% when compared to the same quarter in the prior year. Note this credit may not be claimed for employers taking the SBA loan mentioned above.

Supply Chain

The outbreak, which first appeared on an international scale, severely affected countries that heavily support U.S. company supply chains—including China and European Union (EU) countries, such as Italy, France and Germany—instantly impacting U.S. manufacturing and retail companies. The abrupt halt of imported goods, as international suppliers were forced to temporarily shut down assembly and manufacturing plants, resulted in supply lead time delays.

Additionally, with the closing of ports and terminated flights, pre-pandemic ordered goods are experiencing a bottleneck. Although Chinese ports resumed shipping in late February, U.S. companies will not start receiving pre-pandemic ordered goods until the end of March. Furthermore, with other EU countries all at various stages of the virus, imports and exports of goods are struggling to be on the same schedule. In the short term, usable supply issues are being addressed through surplus inventory held in company warehouses, which accumulated over the past year due to recent tariff issues.

Business Interruption Insurance

Since many MDR companies have been forced to close, businesses have turned to their Business Interruption Insurance plans, if in place, only to discover that their existing policies do not cover pandemics. While many insurance products exist to provide much needed support to companies facing revenue loss, business interruption and supply chain coverage, including Contingent Business Interruption, will typically require that a business sustain physical damage (i.e., a natural disaster). However, “civil authority” coverage provides interruption insurance for losses resulting directly from forced closure of property by the government, including interruption or cessation of business activities. Review your policy carefully for all clauses and terms pertaining to business interruption and contact your insurance broker.

Tax Savings

Under the CARES Act, there are two tax saving opportunities that MDR companies may be able to benefit from:

  • Technical Amendment on Qualified Improvement Property (QIP) – The CARES Act fixes a glitch contained in the Tax Cuts and Jobs Act of 2017 (TCJA) and designates QIP, generally non-structural internal building improvements, as 15-year MACRS property (or 20-year life property if the alternative depreciation system method is elected or required). The technical correction is made retroactive to 2018 as if originally included in TCJA. Accordingly, QIP can depreciate over a shorter life and will qualify for the 100% bonus depreciation unless an election is made to opt out. By qualifying for bonus depreciation, the amendment enables businesses to immediately write-off the full costs of QIP when placed in service instead of depreciating the improvements over the 39-year life of a building.
  • Modification of Limitation on Business Interest Expense – The CARES Act temporarily increases the 30% percent limitation for business interest expense (imposed by TCJA) to 50% of Adjusted Taxable Income (ATI) for tax years 2019 and 2020 (although partnership business interest deductions would still be limited to 30% of ATI for 2019 under the language of the current bill) unless an election is made to opt out. On 2020 tax returns, taxpayers will have the opportunity to use 2019 ATI to calculate their interest limitation, which will allow taxpayers with 2020 losses to deduct interest expense they otherwise would not be able to.

Given the fact that the COVID-19 pandemic is an unprecedented situation, each business needs to determine the best approach for them to survive the crisis. By following these tips and leveraging the resources available, which includes your Berdon Relationship Team, will help to reduce the negative impact that every business is feeling as a result of the COVID-19 pandemic.

For more information on this tax relief, please visit https://www.irs.gov/coronavirus or contact your Berdon Advisor.