PPP Loans – Disallowance of Expense Deductions: Withum is getting a lot of questions regarding the denial of tax deductions relating to PPP loan forgiveness. As you may recall, cancellation of debt relating to the PPP loan is not taxable income. While that is the case for the loan itself, the amount forgiven actually ends up being fully taxable because the IRS issued Notice 2020-32 to disallow the tax deductions (expenses) that gave rise to the loan forgiveness. Here is a link to a Withum article on the Taxation of PPP Loans and Loan Forgiveness. Thus, taxpayers should expect more taxable income as they will have less deductible expenses in 2020 than are reflected on their internal books and records.
This also has caused some fiscal year-end borrowers to consider whether they can choose which deductions to disallow so they can defer the taxation of the loan forgiveness amount until a later tax year.
Consider this example: a borrower obtained a PPP loan 8 weeks before the end of its 2020 FYE. If it obtains loan forgiveness based on the first 8 weeks of covered expenses, then those expenses would be disallowed and the loan forgiveness amount would be taxable in 2020. If, however, the borrower can disregard the first 8 weeks of expenses and rely only on the last 16 weeks of covered expenses paid or incurred during the covered period, then it could defer the expense disallowance, and therefore the taxation of the loan forgiveness amount until 2021. There is no guidance on this issue from the IRS or from the SBA, and while there are reasonable arguments to be made both ways, we cannot recommend borrowers take this position because eligibility for loan forgiveness is based on “the sum of” the covered expenses paid and incurred during the covered period, according to section 1106(b) of the CARES Act.
Could Deductibility of PPP Expenses Change? Many have speculated that denying tax deductions for PPP loan recipients was not the intent of the program. Several members of Congress have indicated that they intend to pursue legislation that would allow for all PPP related expenses to be deductible in order to avoid having small businesses deal with an unexpected tax bill after such a difficult year. Even though at least one bill to restore the deductions has been proposed, at this point no agreement has been reached, so taxpayers need to proceed assuming that no change is coming. That said, it is possible that we could see this addressed in an upcoming stimulus bill ….stay tuned.
Reminder Section: (what should I be doing):
- Talk to your lender to find out when its PPP loan forgiveness application portal will be ready.
- Talk to your payroll company about claiming the employer payroll tax deferral and employee retention credits (ERC) that were made available in the CARES Act.
- Talk to your payroll company about claiming the qualified sick/family leave refundable tax credits (from FFCRA, passed prior to the CARES Act).