Possible Tax Consequences of Paycheck Protection Program (PPP) Loans
- Learn how to qualify for a PPP loan and guidelines for how the funds must be used.
- Find out which requirements you must meet to have your loan forgiven.
- Learn whether or not PPP loan forgiveness might affect your COD.
- Find out if expenses paid with loan proceeds are deductible and how these rules may change.
- Discover which recipients of PPP loans should expect an audit.
Was your business lucky enough to get a Paycheck Protection Program (PPP) loan in connection with the COVID-19 crisis? Then, Fiducial has some information you may need to know about potential tax implications.
PPP basics
The Coronavirus Aid, Relief and Economic Security (CARES) Act, was enacted on March 27, 2020. Designed to provide financial help to Americans during the COVID-19 pandemic, the CARES Act authorized up to $349 billion in forgivable loans to small businesses. These loans supported job retention and covered certain other expenses through the PPP. In April, Congress authorized additional PPP funding and it’s possible more relief could be part of another stimulus law.
The PPP allows qualifying small businesses and other organizations to receive loans with an interest rate of 1%. Businesses must use PPP loan proceeds on certain eligible expenses. The PPP allows the interest and principal on the PPP loan to be entirely forgiven if the business spends the loan proceeds on these expense items within a designated period of time and uses a certain percentage of the PPP loan proceeds on payroll expenses.
An eligible recipient may have a PPP loan forgiven in an amount equal to the sum of the following costs incurred and payments made during the covered period:
- Payroll costs;
- Interest (not principal) payments on covered mortgage obligations (for mortgages in place before February 15, 2020);
- Payments for covered rent obligations (for leases that began before February 15, 2020); and
- Certain utility payments.
An eligible recipient seeking forgiveness of indebtedness on a covered loan must meet certain requirements. They must verify that the amount for which forgiveness is requested was used to retain employees, make interest payments on a covered mortgage, make payments on a covered lease or make eligible utility payments.
Cancellation of debt income
In general, the reduction or cancellation of non-PPP indebtedness results in cancellation of debt (COD) income to the debtor, which may affect a debtor’s tax bill. However, the forgiveness of PPP debt is excluded from gross income. Your tax attributes (net operating losses, credits, capital and passive activity loss carryovers, and basis) wouldn’t generally be reduced on account of this exclusion.
Expenses paid with loan proceeds
The IRS has stated that expenses paid with proceeds of PPP loans can’t be deducted, because the loans are forgiven without you having taxable COD income. Therefore, the proceeds are, in effect, tax-exempt income. Expenses allocable to tax-exempt income are nondeductible, because deducting the expenses would result in a double tax benefit.
However, the IRS’s position on this issue has been criticized and some members of Congress have argued that the denial of the deduction for these expenses is inconsistent with legislative intent. Congress may pass new legislation directing the IRS to allow deductions for expenses paid with PPP loan proceeds.
PPP Audits
Be aware that leaders at the U.S. Treasury and the Small Business Administration recently announced that recipients of Paycheck Protection Program loans of $2 million or more should expect an audit if they apply for loan forgiveness. This safe harbor will protect smaller borrowers from PPP audits based on good faith certifications. However, government leaders have stated that there may be audits of smaller PPP loans if they see possible misuse of funds.
Have questions about your PPP loan or the tax implications of loan forgiveness? Call Fiducial at 1-866-FIDUCIAL or make an appointment at one of our office locations. Ready to book an appointment now? Click here. Know someone who might need our services? We love referrals!
For more small business COVID-19 resources, visit Fiducial’s Coronavirus Update Center to find information on SBA loans, tax updates, the Paycheck Protection Program, paid sick and family leave, and more.
