COVID-19 Disruption: Challenges for Life Sciences Companies (and Beyond); Cash flow strategies are paramount, then come "postscript" considerations.

• Author: Majure, Kim

The COVID-19 pandemic has had an unprecedented impact on the business community. The life sciences industry has not been immune to its effects, since the pandemic has affected consumer demand for life sciences products in sometimes unpredictable ways and has wreaked havoc on supply chains. Although some life sciences companies had extra inventory on hand as a cushion against disruption, no one could have foretold the enormity of COVID-19.

Collectively, life sciences companies are experiencing a wide range of effects, including intense patient and consumer focus on certain products, treatments, and equipment as well as distraction or delay with respect to others. Thus, it makes sense to use the life sciences industry to frame a discussion of disruption that can be used as a baseline for other industries.

Two things that are top of mind for all companies, life sciences and otherwise, are cash flow strategies to get through the period of disruption, and "postscript" considerations for moving forward. A technical analysis of direct and indirect disruption tax issues could fill a tome in itself, but for now we limit our discussion to material highlights and considerations in these two areas.

Cash Flow and Financing

FEDERAL INCOME TAX CONSIDERATIONS

Now more than ever, cash is king, and cash flow planning has taken center stage. Several recent federal income tax developments have facilitated cash flow planning significantly.

Tentative tax refunds provide a ready route to a cash infusion. The Coronavirus Aid, Relief, and Economic Security (CARES) Act permits corporations that have remaining minimum tax credits (MTCs) to receive refunds of 100 percent of those amounts in 2018 or 2019, rather than in 2021 as was the case under the legislation commonly referred to as the Tax Cuts and Jobs Act (TCJA).

Companies may file tentative refund requests for remaining MTCs until December 30, 2020. Although the Internal Revenue Service has been instructed to act upon and pay the refunds within ninety days, current realities may lengthen that period. A word of caution: IRS Notice 2020-26 may accelerate the filing deadline if the taxpayer files a single Form 1139, Corporation Application for Tentative Refund, so as to claim both a net operating loss (NOL) carryback and remaining MTCs at the same time. Filing separate Forms 1139 for the NOL and MTC refund claims may prevent the unwary from falling into that trap.

Also valuable when seeking cash is the temporary five-year carryback period for NOLs arising in tax years 2018, 2019, or 2020. In addition to permitting carrybacks into pre-TCJA tax years that had a thirty-five percent tax rate, the CARES Act temporarily permits the losses to offset 100 percent--rather than eighty percent--of taxable income.

A wide range of potential method changes can optimize carryback-eligible NOLs in either 2019 or 2020 (depending on the type of method change and whether the company has already filed its tax return for the year of change) through combinations of accelerating deductions and deferring income. Most companies are familiar with the available method changes, with the critical task being to select the optimal year(s) of change and combination of accounting methods.

In addition, the CARES Act corrects the TCJA treatment of "qualified improvement property" (QIP), retroactively extending bonus depreciation eligibility to most improvements made by the taxpayer to the interior of a nonresidential building after the building was placed in service. Building owners and tenants--including those in some of the hardest-hit sectors of the economy--may each fully expense QIP costs incurred in 2018,2019, or 2020 (and claim bonus depreciation for future years as well).

Revenue Procedure 2020-25 provides liberalized procedures effectively permitting a do-over for QIP accounting methods and for many (but not all) bonus depreciation elections made in 2018, 2019, and 2020. This allows companies to choose between preserving cash immediately (using a method change with a "negative Section 481 adjustment") or instead filing an amended return reducing taxes in a prior year. Although liberalized, the revenue procedures many options require close scrutiny to reach the optimal outcome.

Electing under Section 165(i) to treat "disaster losses" attributable to the pandemic as occurring and being deductible in 2019, rather than in 2020, is another potential option for accelerating a cash refund, and may be available in far more situations than is the case with typical casualty losses.

The CARES Act also increases the Section 163(j) limitation on interest expense deductions from thirty percent to fifty percent of 2019 and 2020 adjusted taxable income (ATI) and allows (but does not require) use of 2019 ATI for 2020 computations. ATI is computed without regard to NOLs, allowing companies to benefit from the temporary NOL carryback provisions without impairing their interest deduction in carryback years.

"Real property trades or businesses" should review the relaxed procedures in Revenue Procedure 2020-22 for electing (or revoking) that designation for purposes of Section 163(j) in light of the CARES Act.

Companies whose 2019 or 2020 interest expense exceeds their Section 163(j) limitation even after these temporary liberalizations should consider identifying financing leases that are more properly treated as operating leases for tax purposes. Characterizing such agreements using an automatic method change may convert deduction-limited interest into fully deductible lease payments, all of which can be included in the NOL.

Finally, the administrative deferral of both filing and paying federal income taxes otherwise due on April 15, 2020, will aid cash flow, as will the ability under the CARES Act to defer paying a portion of federal employment taxes until as late as December 31, 2021, and December 31, 2022. The economic performance rules of Section 461(h) somewhat dampen this latter benefit, permitting taxpayers to deduct payroll taxes only when paying them in either 2021 or 2022. Companies using the...