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Paycheck Protection Program

President Signs COVID-19 Relief Act

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The President signed the COVID-19 Relief Act Sunday night. Echoing a previous post, a lot of uncertainty has been resolved. However, all may not be good in Mudville.

The deductibility of Paycheck Protection Program (PPP) loan expenses is generally seen as a positive result.  However, there is one catch.

If you are a shareholder in an S-Corporation or a member or partner in an LLC or partnership and you do not have basis (i.e., amounts at risk), the loss may not be deductible. Why? Because your PPP loan has not been forgiven in 2020, but will most likely be forgiven in 2021, which creates a mismatch of positive and negative basis adjustments.

The end result will be non-deductibility of your loss, which will be carried forward to 2021 when your loan is actually forgiven.  If you have enough basis, this will not be an issue for you and you can rest easy.

C-Corporations have no issue as it will create a Net Operating Loss (NOL) for future or carryback use.

Magone & Company clients who are concerned about deductibility should call us at (973) 301-2300 to discuss.

PPP News: Stimulus Package Approved by Congress

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On December 20, 2020, Congress agreed on a $900 billion stimulus package. The President is expected to sign this legislation into law before Christmas.

What does this mean for you?
The uncertainty has finally been resolved! Businesses that received a Paycheck Protection Program (PPP) loan and had it forgiven would now be entitled to a tax deduction for costs covered by the loan. The COVID-19 relief bill clarifies that “no deduction shall be denied, no tax attribute shall be reduced, and no basis increase shall be denied, by reason of the exclusion from gross income provided” by Section 1106 of the CARES Act (which has been redesignated as Section 7A of the Small Business Act). This provision applies to loans under both the original PPP and subsequent PPP loans.

The COVID-19 relief bill creates a simplified forgiveness application process for loans of $150,000 or less.  Specifically, borrowers who received less than $150K would now be eligible to submit a simplified, one-page forgiveness application.

There will also be a new round of PPP loans available to businesses that are determined to be “eligible entities.” Businesses would need to demonstrate that the loan would be “necessary to support the on-going operations of the business.”

It appears that an “eligible entity” would be one with fewer than 300 employees that experienced at least a 25% reduction in revenue compared with the prior year or compared with the first quarter of 2020 for new businesses.

Stay tuned…

 

PPP Loans: Forgiveness, Guidance and Disclosure

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In the wake of the coronavirus (COVID-19) pandemic emerged the Coronavirus Aid, Relief and Economic Security (CARES) Act, which included the Paycheck Protection Program (PPP) administered by the Small Business Administration (SBA). The SBA incentivized banks to extend PPP loans to those small businesses that qualified by paying a percentage to the banks for the lenders’ fees for processing the PPP loans.

Over 5.2 million loans were approved, totaling more than $525 billion. The deadline to apply for a PPP loan has passed and companies are beginning to apply to their lenders for forgiveness. Financial reporting periods for business are here and the PPP loan must be presented and disclosed properly. There are issues affecting both banks and businesses, regarding the compliance of loan covenants.

Loan forgiveness
Banks that receive PPP loan forgiveness applications must determine if the company has met the proper requirements for forgiveness within 60 days of submission. If the bank approves the forgiveness, they must then submit to the SBA for approval of the forgiveness, which could take up to 90 days. If the SBA approves the forgiveness, then the SBA will pay the bank back for the loan and the company will be relieved of their debt to the bank. If the bank and/or the SBA does not approve the forgiveness, then the company will still owe all or a portion of the loan based on the terms of the loan.

Forgiveness of a PPP loan all depends on if the company complied with the covenants of the loan to ensure the funds were used in accordance with what was intended. Covenants include using 60% of the loan on payroll costs over an 8- or 24-week covered period ending prior to December 31, 2020, among others.

Uncertainty in guidance
There has been uncertainty surrounding presentation and disclosure requirements for financial statements for both for-profit companies and not-for-profit organizations that received a PPP loan. This is affecting many entities with reporting periods that have passed and are coming in the near future.

The question is whether the PPP loan should be recognized as a liability or as revenue at year-end, given the timing of whether the PPP loan has been forgiven. Due to a lack of specific guidance in the Financial Accounting Standards Board (FASB) Accounting Standards Codification (ASC) for a program as unique as the PPP, the AICPA developed the Technical Questions and Answer (TQA) 3200.18. The TQA provides multiple models in which to account for the PPP loan in the financial statements.

Presentation and disclosure
The most conservative option to present and disclose the PPP loan in the financial statements is FASB ASC 470, Debt, in which the PPP loan would be presented on the balance sheet as a liability and disclosed as a loan in the footnotes with the proper terms. The loan will not be recognized as revenue until it is forgiven by the SBA. Interest would also be accrued in accordance with the interest method under FASB ASC 835-30.

There are multiple other options that can be used in which a company can recognize revenue prior to the loan being forgiven. Their options include: FASB ASC 958-605, Not-for-Profit Entities: Revenue Recognition, FASB ASC 450-30, Contingencies: Gain Contingencies Model, and International Accounting Standards (IAS) 20, Accounting for Government Grants and Disclosure of Government Assistance.  The preferred method for not-for profit entities is FASB ASC 470 and FASB ASC 958-605. The entity must decide which method best fits its specific situation.

The Payroll Protection Program has been a savior for many businesses during this trying time, however it is not without flaws. Constant changes and lack of authoritative guidance have created uncertainty for banks and companies alike. The PPP loans were originally designed to be forgiven by the banks and the SBA if the covenants were complied with; however, this has become a long process. It also appears that those entities who received larger loans have a more scrutinized process of loan forgiveness as opposed to those that receive a smaller loan amount.

There is no right or wrong answer as to what guidance must be used in order to present and disclose the PPP loan in an entity’s financial statements; it is based on the specific entity’s situation and professional judgment should be used. These issues are of the utmost importance pertaining to how banks handle loan forgiveness and covenants, as well as how companies comply with financial statement presentation and disclosure.

Need help navigating PPP forgiveness? Reach out to Magone & Company or call (973) 301-2300.

Paycheck Protection Program Forgiveness: Is it Taxable Even if Not Forgiven? An Analysis of Current Guidance

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The only certainty in 2020 seems to be whatever you think you know about the Paycheck Protection Program (PPP) changes like the wind.

Established by the CARES Act (signed into law in March 2020), the PPP provided loans to eligible small businesses. If the borrower used the loan proceeds to pay certain eligible expenses, an amount of the loan up to such eligible expenses would be forgiven under the law, and such forgiveness would not be treated as taxable income to the borrower.

In April 2020, the IRS issued Notice 2020-32 explaining a deduction is not allowed for expenses where proceeds are effectively tax exempt, as is the case with the loan forgiveness. This would mean the loan proceeds received by businesses will be taxable since the expenses paid with those proceeds would be disallowed in determining taxable income.

This is a consistent position of the IRS, as expenses associated with tax-exempt investment income are not deductible.

Alternatively, the other argument in Notice 2020-32 is that the expenses are not tax deductible, because prior case law and published rulings essentially deny deductions for otherwise deductible expenses for which “the taxpayer receives a reimbursement.”

A second issue relates to economic performance. Economic performance states that a taxpayer is able to deduct expenses associated with a liability such as a loan, whereby the amount of the liability is unconditionally fixed. Upon review of the PPP loan document language, one finds the note to include language such as “The Note is subject to partial or full forgiveness, the terms of which are dictated by the SBA, Interim Final Rule RIN 3245-AH34, subsequent SBA guidance, the Code of Federal Regulations, the PPP, and all related rules, laws, regulations, and guidance, as may be amended from time to time (the “Forgiveness”).”

The fact the loan is subject to partial or full forgiveness is enough to question whether or not it is unconditionally fixed. It is our belief it is not unconditionally fixed and therefore, the expenses will be disallowed based on Notice 2020-32.

Finally, there is possible reliance on the Bliss Dairy case, which for the sake of brevity draws the following conclusion, “until a taxpayer obtains forgiveness there is no tax exempt income” and IRS Notice 2020-32 does not apply until there is tax-exempt income. The problem with this court case is the American Institute of Certified Public Accountants (AICPA) made an inquiry in regard to forgiveness occurring after year-end and the impact on the expenses paid with PPP monies. According to Mr. Edward S. Karl of the AICPA, “Treasury officials generally stated that if a borrower has a reasonable expectation of loan forgiveness, the expenses can’t be deducted to the extent paid by the loan. That’s true regardless of when the loan is forgiven.”

So what’s a business to do? Here are the options:

  1. Pay the tax on the disallowed expense (not optimal).
  2. Defer the tax on the basis of the Bliss Dairy case (not certain it will withstand an audit challenge).
  3. Place your business tax return on extension and await more guidance.

Congress may act on this issue with the relief being granted retroactively, as bills have been proposed by chairs of both tax committees and have bipartisan support. If this occurs, the entire discussion above for most businesses is moot.

Given the environment in Washington, we are not hopeful there will be a bill in time for the filing of most business tax returns. If Congress does not act, many businesses may find the relief of the PPP funding will be met by the possible nightmare of having to find the funds to pay the taxes.

Need help navigating Paycheck Protection Program loan forgiveness? Call us at (973) 301-2300 or reach out — we’re here to help.

Breaking News: Senate Passes House PPP Update

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The U.S. Senate passed the House version of Paycheck Protection Program (PPP).  The President is expected to sign the legislation.

Here are the changes to the PPP:

  • Increases the time period for usage from 8 weeks to 24 weeks;
  • Reduces the amount to be spent on payroll from 75% to 60%. However, if a business does not use at least 60% of the funds on payroll, none of the loan will be forgiven. Currently, a borrower is required to reduce the amount eligible for forgiveness if less than 75% of eligible funds are used for payroll costs, but forgiveness isn’t eliminated if the 75% threshold isn’t met. Senators Marco Rubio and Susan Collins indicated that technical tweaks could be made to the bill to restore the sliding scale;
  • Allows recipients of PPP loans to also defer their payroll taxes;
  • Allows small businesses full loan forgiveness without regard to rehiring all full-time employees lost due to the pandemic, as long as the business can demonstrate an inability to operate at the same level it did prior to February 15, 2020;
  • Increases the time period to apply for a loan from June 30, 2020 to Dec 31, 2020; and
  • Increases the repayment timeframe from 2 years to 5 years with interest unchanged at 1%.

Forgiveness is a detail-oriented process to present to the lender, and will require a business to demonstrate how the money was spent via underlying supporting source documentation, such as payroll tax returns or registers, as well as invoices. Nothing in the proposed legislation changes this aspect of forgiveness.

There continues to be many unanswered questions, we encourage each of you to review your process and documentation. If you require assistance, please call us at (973) 301-2300, we’re here to help.

PPP Update: Here We Go Again

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The more things change…Well, the more they change. 

Late last week, the House passed revisions to the Paycheck Protection Program (PPP) and if passed by the Senate (looks as though that will happen), will be signed by the President.  Once passed, it will change my prior comments on forgiveness. Barring changes by the Senate, here is the proposal by the House:

  • Increase the time period for usage from 8 weeks to 24 weeks;
  • Reduce the amount to be spent on payroll from 75% to 60%;
  • Allow recipients of PPP loans to also defer their payroll taxes;
  • Allow small businesses full loan forgiveness without regard to rehiring all full-time employees lost due to the pandemic, as long as the business can demonstrate an inability to operate at the same level it did prior to February 15, 2020;
  • Increase the time period to apply for a loan from June 30, 2020 to December 31, 2020; and
  • Increase the repayment timeframe from 2 years to 5 years

What’s forgivable?
Eligible payroll costs
Eligible payroll costs include salaries, wages, bonus, commissions, etc. as well as others previously defined in the Interim Final Rules. However, the most recent guidance states for owner-employees, self-employed individuals and general partners the amounts paid to this group are capped at the lesser of 1) $15,385 ( the equivalent of 8 weeks of $100,000 annual salary) per individual; or 2) the 8 week equivalent of their applicable 2019 compensation. For owner-employees, it includes retirement plan and medical insurance payments to arrive at the $15,385.  For self-employed and general partners these are excluded in arriving at the $15,385.

Observations:  For owner-employees (typically those employed by corporations) the total is capped at $15,385, whereas for non-owner employees the amount included for forgiveness can be greater as it includes employer retirement plan contributions and employer-paid medical insurance in addition to the salary.

There is no defined percentage at this time as to who qualifies as an owner-employee.  More importantly, how will the Small Business Association (SBA) and Treasury apply owner-employee definition for employed family members? In other words, similar to the overall limit of $15,385 for owner-employees, self-employed individuals and general partners owning multiple businesses, will SBA and Treasury limit overall compensation for a family group under attribution rules? I expect there will be further guidance on both points.

Other covered costs
Costs such as mortgage, rent and utility obligations are eligible for forgiveness so long as they were in place or incurred before 2/15/20.  What’s clearer is mortgage and rent obligations include both real and personal property. Unlike payroll, these costs must be incurred or paid during the 8 week covered period of the loan.
The proportion of other covered costs eligible for forgiveness remains at 25% of the forgivable costs.

Timing for forgiveness
The forgiveness application defines two options for calculating covered payroll costs:

  • Covered Period: “…The eight-week (56-day) Covered Period of your PPP loan. The first day of the Covered Period must be the same as the PPP Loan Disbursement Date.
  • Alternative Payroll Covered Period: “Borrowers with a biweekly (or more frequent) payroll schedule may elect to calculate eligible payroll costs using the eight-week (56-day) period that begins on the first day of their first pay period following their PPP Loan Disbursement Date.”

The application states how payroll and non-payroll costs paid and incurred during the applicable period may be forgiven. For example, amounts eligible for forgiveness may include pay earned during a pay period, but paid after, or utilities and rent incurred prior to the 8-week period.  However, be sure not to count it twice.  In other words, if the cost is counted as incurred and subsequently paid it counts as an eligible expense once.

Forgiveness is a detail-oriented process to present to your lender, and will require a business to demonstrate how the money was spent via underlying supporting source documentation, such as payroll tax returns or registers, as well as invoices.  The more logical the underlying support the easier the process will go and the more likely all of your eligible costs will be forgiven. Although there continues to be many unanswered questions, we encourage each of you to review your process and documentation.  If you require assistance, please contact us — we’re here to help.