Article written by:
Rebekah Smith, CPA, CFF, CVA, MAFF
Director of Forensic & Dispute Advisory Services
Dustin Minton, CPA, MBA
Director, Restaurant Services
Kaz Unalan, CPA
Director, Tax & Business Advisory Services
Note: The guidance provided below is based on our knowledge at this point in time. The information is continuously changing. Please ensure you verify this information with your GBQ advisor.
The rules and guidance regarding the Small Business Administration’s (“SBA”) Paycheck Protection Program (“PPP”) loans authorized in the Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”) continue to evolve.
The CARES Act provides that, “an eligible [PPP loan] recipient shall be eligible for forgiveness of indebtedness on a covered loan in an amount equal to the sum of” payroll, mortgage interest, rent and utilities (all as defined in the CARES Act) incurred and paid during an eight week period following the funding of the loan.
The CARES Act also provides that, “For purposes of the Internal Revenue Code of 1986, any amount which (but for this subsection) would be includible in gross income of the eligible recipient by reason of forgiveness described in subsection (b) shall be excluded from gross income.” In other words, the forgiveness of the PPP loan will not result in taxable income to the borrower.
So what has changed?
The CARES Act was silent regarding the tax treatment of the expenses paid with PPP loan proceeds that were subsequently forgiven. Late yesterday, the Internal Revenue Service (“IRS”) issued guidance (Notice 2020-32) regarding the tax treatment of expenses paid with PPP loan proceeds. The notice “clarifies” that:
…no deduction is allowed under the Internal Revenue Code (Code) for an expense that is otherwise deductible if the payment of the expense results in forgiveness of a covered loan…and the income associated with the forgiveness is excluded from gross income for purposes of the Code…
This guidance means that expenses paid using PPP loan proceeds that are later forgiven will not be deductible for tax purposes.
How does this new guidance impact you?
Prior to the IRS clarification, you may have been expecting a tax “benefit” generated by the deductibility of expenses paid using PPP loan proceeds. Since the loan forgiveness is not taxable (and still is not taxable), deducting expenses paid with forgiven loan proceeds would have resulted in a net tax benefit because the expenses would have been deducted without recognizing any revenue (i.e., the normally taxable loan forgiveness income).
Based on this new guidance (and assuming it is not subsequently changed), your company will still not recognize loan forgiveness income but will also not be able to deduct expenses paid with the forgiven loan proceeds. This guidance makes the PPP loan forgiveness tax neutral rather than resulting in a tax benefit. Please note that expenses paid with PPP loan proceeds that are not forgiven are still deductible.
So what should you do?
If you are working on modeling what loan forgiveness might look like for your company, we encourage you to make the best decisions for your business regarding your employees, compensation, benefits and allowable operating expenses and then consider how to those decisions fit within the context of maximizing the value of your loan proceeds. While the guidance regarding PPP loans continues to evolve, we do not think that this guidance from the IRS should change the way that you think about your company’s use of its PPP loan proceeds.
Your PPP loan, qualified expenses and loan forgiveness should also be discussed with your tax advisor during your 2020 tax planning process.
Our SBA team is ready and able to help if you would like assistance with thinking through, or modeling, your PPP loan forgiveness. Please contact your GBQ advisor or Rebekah Smith, Dustin Minton or Jeremy Bronson if you have questions or would like to schedule a call.