UPDATE: Per PPP FAQ #43, the SBA is extending the repayment date for this safe harbor to May 14, 2020. Borrowers do not need to apply for this extension. This extension will be promptly implemented through a revision to the SBA’s interim final rule providing the safe harbor. SBA intends to provide additional guidance on how it will review the certification prior to May 14, 2020.
Late yesterday, the IRS issued Notice 2020-32 to provide guidance regarding the deductibility for Federal income tax purposes of expenses covered by a Paycheck Protection Program (“PPP”) loan. These loans are a program of the Small Business Administration (“SBA”) and have been a source of contention since the program was quickly put together and rolled out to address the immediate cash needs of small businesses in light of the global COVID-19 pandemic. When the second round of funding is fully disbursed, approximately $660 billion in PPP loans will be distributed to approved applicants.
Under the PPP, an eligible small business with fewer than 500 employees can receive a loan of up to $10 million; and if certain criteria related to the use of the proceeds are met, the loan may actually be forgiven, in essence turning it into a grant. Scrutiny has been made publicly regarding some of the larger, better funded companies who applied for and were granted PPP loans, which prompted US Treasury Secretary Mnuchin to declare this week that all PPP loans greater than $2 million would be subject to audits. He also reminded borrowers that there would be criminal liability if the certification was made and it is not true. The SBA and Treasury issued guidance last week reaffirming that companies must certify they were affected by the pandemic and telling large companies with access to other sources of capital that they shouldn’t apply. The guidance, now known as FAQ #31, also noted that borrowers who applied for a PPP loan prior to the issuance of this guidance who repay the loan in full by May 7, 2020 will be deemed by the SBA to have made the required certification in good faith, and can return the money without penalty.
This guidance has had many companies in a panic wondering if they were truly eligible, what the actual criteria for eligibility will be measured on, and contemplating whether they should return the funds if they are not yet in completely desperate times. Yesterday’s IRS Notice adds one more thing to consider, and a very short timeline of now less than a week to do so. The Notice clarifies that any expenses covered by a PPP loan that is forgiven will not be deductible expenses for Federal income tax purposes. The loan forgiveness will not be taxable income for Federal income tax purposes either. Thus, this does not result in taxable income as a result of the PPP, but it does diminish the potential value of the program; and perhaps in light of the possible risks associated with taking the money, may prompt some companies to return the funds next week. Prior to this guidance, many were viewing the double benefit of getting both a deduction and potentially tax-free income, as part of the intended stimulus package. The Notice clarifies, however, that these expenses will not be eligible for a double benefit, consistent with current tax law under IRC Section 265. Taxpayers must now rely on Congress to pass a law which would allow the deductions, if intended by the program. However, the countdown to return the funds is on, and without swift action, companies may need to gamble on whether that will happen or not.