Congress passed the Coronavirus Aid, Relief, and Economic Security (CARES) Act on March 27, 2020. The US Small Business Administration (SBA) received funding and authority through the Act to modify existing loan programs and establish new loan programs to assist small businesses nationwide that were adversely impacted by COVID-19. One of these new loans, the Paycheck Protection Program (PPP), provides a direct incentive for small businesses to keep their workers on the payroll. Issued by the SBA, PPP loans will be forgiven if you adhere to strict guidelines.
Business owners that received the Paycheck Protection Program loan need to be aware of the specific criteria you need to meet to get the loan forgiven. You may end up owing some of this money back!
As an experienced CPA firm with multiple locations throughout the US, we have assembled the facts you need to know to ensure you meet the PPP forgiveness requirements. The criteria for forgiveness can be hard to achieve in certain circumstances, so in these cases, be prepared to repay a portion of the funds.
PPP Forgiveness: What You Need to Know
Accountants have noticed over the previous few months that different banks are requesting different information for forgiveness of funds dispersed as a PPP loan. We suggest getting a document from your lender that tells the exact documentation they require to grant forgiveness at the end of the 8-week coverage period—although read further under “Other Considerations.”
1. Expenses available for forgiveness
Criteria for PPP loan forgiveness states that at least 75% of the loan should be dedicated to payroll costs. These payroll costs include:
- Salaries
- Wages
- Commissions
- Tips
- Employer Paid Health Insurance
- Employer Paid Retirement Contributions
- Rent
- Mortgage Interest on Business Property
- Utilities
- State and Local Payroll Tax
- State Unemployment Tax
The amount of forgiveness of a PPP loan depends on the borrower’s payroll costs over eight weeks, from the time when the lender makes the funds available to you.
Employers need to pay close attention to payroll expenses and when they were paid, as this can adversely affect your loan forgiveness. This expense tracking is especially important as you get closer to the end of the 8-week period. Because the 8-week payroll calculation might fall between your established pay periods, you may want to consider paying payroll weekly versus biweekly.
2. You cannot decrease your employee count by more than 25%
You need to know your average employee count for the period of 2/15/19 to 6/30/19 and then for 1/1/20 to 2/29/20. You will use the lower number as your base. Do not drop below 25% of this employee count, or a portion of the loan may be unforgiven.
3. You cannot decrease an employee’s pay by more than 25%
Even though you used your 2019 payroll to calculate the loan, the forgiveness is based on the annualized amount using the first quarter of 2020. What does this mean? Here are your calculations:
- For each employee, calculate the employee’s pay for Q1.
- Divide by 13 weeks, then multiply by 52 weeks.
- The result should give you the annualized payroll for each employee.
4. The employee’s wage cannot decrease by more than 25%
Just as with headcount and salaries, if during the covered period wages decrease by more than 25% from the historical baseline period, the total amount forgiven will be reduced. Wages are defined under the PPP guidelines as the wages earned during the most recent full quarter period.
Practical and Strategy Information
Document Expenses
Documentation will be vital to ensuring your PPP loan is forgiven. Therefore, we recommend that business owners start a file folder, and every time you pay an eligible expense, put a copy of that invoice/bill in the folder and record the eligible expense on a spreadsheet. This process will help you track the qualified expenses and minimize any repayment of the PPP Loan. When you do a payroll cost calculation over the 8 weeks following the PPP loan approval, record the information from that payroll on the spreadsheet you’ve created.
Strategy and Taxation Concerns – Conflicts in the Tax Law
The original intent of the PPP was to ensure small businesses had the liquidity and help needed to survive the COVID-19 pandemic, but it has drawn much criticism for shutting out smaller businesses and awarding loads to larger companies. As such, there are several concerns and conflicts surrounding PPP and tax implications.
Firstly, the PPP program says that any forgiven funds will NOT be taxable. However, there is a catch that has not been addressed, and we hope it will be resolved soon.
IRC Section 265 says that expenses paid with tax-free income are NOT deductible. Consequently, this means that all of the expenses paid to receive loan forgiveness will not be deductible, which results in the same condition – taxes are, in actuality, going to be paid on the amount of the PPP loan that is forgiven.
The Internal Revenue Service (IRS) issued a notice at the beginning of May 2020, informing small businesses that they cannot deduct these expenses. The notice indicates that no tax deduction is allowed for an expense that is otherwise deductible if the payment of the expense results in forgiveness of a PPP-covered loan. This runs in contrary to the intent of the CARES Act, and Congress is currently working on legislation that will essentially nullify this notice from the IRS. We hope this will be addressed in the coming weeks and resolved to the benefit of the taxpayers.
Paying non-mortgage interest: The original CARES Act, Section 1102 allowed for the use of funds to “pay interest on any other obligations that were incurred before the covered period”—and was NOT only limited to mortgage interest. However, in section 1106 of the CARES ACT, which discusses forgiveness, there is NO reference to non-mortgage interest. This lack of information is either something for which a technical correction needs to be made, or it means that only the mortgage interest will be included in the forgiveness.
There may be other “Gotcha’s” – this discussion is just the beginning until the SBA speaks up with additional guidance.
Other PPP Forgiveness Considerations
One matter of concern is that banks have a natural conflict of interest if they are allowed to compute the loan forgiveness. So, it is to your advantage to compute the loan forgiveness or have Lawhorn CPA Group, LLC calculate the loan forgiveness rather than defer this task to the bankers.
Another matter to consider: avoid the word “BONUS” when rewarding employees since “bonuses” as such are not allowed to increase your wage and salary base for comparative purposes in the loan forgiveness calculation. Instead, utilize “special performance pay” or something of that nature when employees are being paid for working above and beyond the call of duty related to the COVID-19 conditions, such as cleaning, sanitizing, or keeping the doors open to interact with the public in general.
Excess compensation for such performance can skirt the appearance of purposeful inflation of payroll through “bonuses” that would raise your loan forgiveness.
PPP Accounting Assistance
Just like the implementation of the Tax Cuts and Jobs Act of 2017, the Paycheck Protection Program loan forgiveness can be confusing to navigate and leaves many open questions. As a Certified Public Accounting firm, we are proactively seeking answers to these questions on behalf of our clients and communicating them promptly. As a business owner who has taken a PPP loan or is planning on applying for one, you need to be aware of these rules to ensure that you factor them into your company’s financial planning and avoid costly business mistakes.
If you need assistance in applying for a PPP loan or other SBA loan, calculating historic headcounts, wages, and salaries, or have questions about the implications of taking out a business loan, contact Lawhorn CPA Group, LLC right away. While the current business environment seems like an unstable place, Lawhorn CPA Group, LLC, has 40 years of experience helping clients get the answers they need during times of crisis or impactful change. Contact us via our website contact form, by emailing infocpa@lawhorncpa.com, or by calling (865) 212-4867 to get the expert advice you need today.