Segregation of Expenses Helps Maximize PPP and ERTC Benefits

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Advantage of Being Proactive in 2021

By James Bailey, CPA

Businesses that have utilized both Paycheck Protection Program loans and the Employee Retention Tax Credit are in a unique position to maximize the benefits for 2020 and 2021. But the key to getting the most out of these two COVID-19 relief programs is careful segregation of expenses.

Payroll expenses that were documented in 2020 and used to support a PPP loan forgiveness application cannot also be used to support the ERTC. However, because PPP loans covered specific windows of time – eight weeks for some borrowers and 24 weeks for others – payroll expenses incurred outside of those timeframes in 2020 can be used to support use of the ERTC.

For business owners who expect to apply for a second-round PPP loan in 2021, as well as utilize the recently expanded ERTC for 2021, segregation of expenses will be even more important. But borrowers this year have the advantage of being proactive. A careful study of your business’s payroll and eligible costs can help segregate expenses in advance, making it easier to maximize the benefits of both programs.

New COVID-19 relief legislation enacted in December 2020 reversed earlier policy that prohibited businesses from utilizing both PPP loans and the ERTC in 2020, clarifying that they may utilize both programs as long as they don’t apply the benefits to the same payroll costs. The new policy applies to 2021, and retroactively to 2020.

Hence, the need for careful segregation of expenses.

Expense Segregation Study

For most businesses, an expense segregation study starts with giving priority to full forgiveness of a PPP loan, as that usually yields the largest benefit. But maximizing the benefits of both is the goal as a list of eligible expenses is evaluated.

Since the PPP requires that 60% of loan proceeds be used for payroll, that means other eligible expenses such as rent, utilities and the cost of personal protective equipment must be capped at 40%. But payroll expenses also are eligible for ERTC treatment, so some businesses may benefit from limiting the use of payroll expenses for PPP forgiveness to maximize the ERTC benefit.

Every company is different, so a study of eligible expenses is key to realizing the full benefits of these programs.

To do this, we study time period windows when a company was eligible for a PPP loan, and the time period for forgiveness, determining where it’s better to put PPP expenses first and allocate payroll expenses to ERTC. It’s a quarter-by-quarter decision.

Immediate Refunds for Eligible ERTC Expenses

To illustrate how segregation of expenses can be accomplished, consider the example of ABC Company. The company determined that it would apply for a PPP loan to help cover payroll costs and eligible expenses such as rent and utilities. Receiving the PPP loan, however, made the company ineligible to utilize the ERTC in 2020. Now that the company may apply the ERTC retroactively, it has determined that it will apply it against payroll costs incurred from March to June 2020, since its PPP loan proceeds were utilized after that period.

Because the ERTC allows businesses to realize the tax credit immediately by reducing the amount of payroll taxes paid on eligible wages, businesses that did not take the tax credit in 2020 may now file an amended Form 941 to recoup payroll taxes paid for specific quarters in which they wish to apply the ERTC retroactively.

Balancing the benefits of PPP loan forgiveness and the ERTC is complex, but the opportunity to be proactive in 2021 rather than reactive presents opportunities for many business owners.

If you would like to discuss an expense segregation study for your business, contact your Adams Brown advisor.