The Paycheck Protection Program (PPP), a provision in the CARES Act, provides forgivable loans for businesses impacted by the devastating financial impact of the COVID19 epidemic. Under Section 1106(b) of the CARES Act, these covered loans are eligible for full forgiveness if certain criteria are met.
The language in the CARES Act guided the general understanding of borrowers and advisors that the PPP loans and associated forgiveness would be tax-exempt. The IRS later clarified that no deduction would be allowed for any expenses that resulted in forgiveness of the loan reducing the benefit of the loans based on marginal tax rate and potentially resulting tax liabilities that devastated businesses will not have the liquidity to pay.
Because the PPP was extended from an 8 week period to a 24 week period, many borrowers will be well into 2021 before they have a forgiveness decision. This created uncertainty among borrowers and their tax advisors about the deductibility of PPP expenses on 2020 tax returns if borrowers have not yet received a decision from the SBA.
This week, the IRS issued Notice 2020-32 to provide clarity to borrowers that expenses paid with PPP loans are not deductible on the 2020 tax return if the taxpayer “reasonably expects to receive forgiveness of the covered loan based on the otherwise deductible expenses.”
The process to apply for forgiveness can be complex and new guidance regarding the eligibility of expenses in certain scenarios has been released as recently as October 13. Due to the complexity of the rules and the frequency with which they have changed since the establishment of the PPP, I “reasonably expect” some loans will not be fully forgiven to the surprise of the borrower. The IRS issued a revenue procedure (Rev. Proc. 2020-51) outlining the safe-harbor rules for taxpayers to allow a deduction for those expenses on their 2020 tax return.
The taxpayer can deduct some or all of the expenses on (1) a timely filed (including extensions) original tax or information return for the 2020 tax year, (2) an amended 2020 return or administrative adjustment request, or (3) a timely filed original tax or information return for the subsequent tax year.
There are still questions that remain relating to the nondeducibility of PPP expenses (among other aspects of the PPP and forgiveness). Many borrowers will have accumulated covered expenses in excess of their PPP loan amount. There is no guidance to date governing which expenses should be excluded from deductible expenses and borrowers should consider evaluating options as a tax planning strategy. Questions also remain regarding the impact, if any, forgivable wages will have on the QBI calculation and/or R&D credit calculation.
There appears to be bipartisan support for congressional action to align the tax treatment with the congressional intent of the Act to make the PPP tax-exempt. The Small Business Expense Protection Act of 2020, a bill with bipartisan support, would clarify that no deduction shall be denied or reduced, no tax attribute shall be reduced, and no basis increase shall be denied, by reason of the exclusion from gross income. Additionally, several members of Congress from both parties have publicly expressed support and intent to address the deductibility of the expenses in legislation by year end. However, current political tensions make that unlikely and taxpayers should plan assuming the PPP expenses will not be deductible.
We are in this together,
Brinker Simpson & Company, LLC
Disclaimer: This alert is for informational purposes only and does not constitute professional advice. Information contained in this communication is not intended or written to be used as tax advice & cannot be used by the recipient to avoid penalties that may be imposed under the Internal Revenue Code. We strongly advise you to seek professional assistance with respect to your specific issue(s).
Source: https://www.govtrack.us/congress/bills/116/hr748/text; https://www.forbes.com/sites/robertwood/2020/06/15/tax-deductions-for-paycheck-protection-expenses-remain-in-doubt/?sh=1acd4d277257; https://www.journalofaccountancy.com/news/2020/nov/ppp-loan-forgiveness-irs-safe-harbor.html