Updates to PPP Loan Forgiveness for Year-End Planning
Adams Brown Hosts November 4, 2020 Webinar
On November 4, 2020, Adams Brown hosted a webinar to help clients and small businesses better understand how to approach Paycheck Protection Program (PPP) loans at year-end. Senior Managers Austin Coyan and James Bailey covered legislative updates, tax impacts, new forms and documentation requirements, and Small Business Administration (SBA) updates. This information is current as of this writing but it can change, so be sure to check with your Adams Brown advisor for the latest information.
Recent Legislative Updates: Austin Coyan, CPA, CFE
Austin introduced four main updates and recent changes.
- A new loan forgiveness form for loans under $50,000
- The possibility of automatic forgiveness for loans under $150,000
- Prorating caps for wage income
- Guidance for PPP borrowers that sell their business
A detailed description of the form updates is in the next section. However, Austin did point out that the so-called ‘due date’ or ‘expiration date’ of October 31 printed on the new loan forgiveness form can be disregarded. He explained that the SBA isn’t actually putting a deadline on loan forgiveness applications. Loan forgiveness applications can be submitted up to ten months after the end of the covered period.
Austin further explained that while the SBA has the authority to issue automatic forgiveness for loans under the $50,000 threshold, Congressional action is required to automatically forgive loans above that amount. We believe this is likely to happen but at this point, this piece of legislation has not passed the House or Senate or been signed into law.
Regarding prorating the caps on wage income, recall that PPP loans can only be used to cover wages up to a certain amount. The threshold for an eight-week covered period is $15,385, or up to $100,000 in annual wages. PPP borrowers that elected the 24-week covered period have a different wage or income limitation. In that scenario, owner-employees’ wage limitation is increased to $20,833, and employees’ wage limitation is $46,154. **
The question of prorating the wage cap concerns borrowers who submit the loan forgiveness application after all the PPP funds are used, whether it’s the full 24-week period or not. In those cases, Austin said the guidance states that borrowers must prorate the cap rate. For example, if a business only uses a 10-week covered period, divide $100,000 (the annual wage cap limitation) by 52 weeks times 10 (the number of weeks in the actual covered period, in this example) for a prorated wage cap of $19,230.
While guidance on prorating the wage cap has been helpful for borrowers, what remains unclear is how to prorate the full-time equivalent (FTE) calculation. Austin pointed out that currently we are still abiding by the existing regulations, which state:
- one FTE is equal to a 40-hour workweek and one-half FTE is equal to less than 40 hours per week, and
- a PPP borrower’s FTE count must be restored by December 31, 2020, unless certain safe harbors are met.
One aspect of the loan forgiveness process that has stayed consistent is that if a business submits an application for loan forgiveness and it is approved, there is no need to resubmit another application even if the rules change later. Adams Brown has been advising and working with clients to get their loan forgiveness application in well before the ten months are up so there’s no question as to whether payments will be due. One option is for PPP borrowers to also reach out to their banks, especially if they had to complete an amendment for their PPP loan.
Yet another big update from the SBA is what to do with a business that has accepted PPP funds and is later bought or sold. To the SBA, the language isn’t as simple as ‘buy’ or ‘sell.’ They refer to it as a change of ownership or change of control, which could mean one of three scenarios:
- Sale or purchase of more than 20 percent of equity
- Sale or purchase of at least 50 percent of the fair market value of the assets
- Merging the entity into another entity
Any of those three transactions qualify as a change in control. If any entity involved in one of those transactions carries any outstanding PPP loan, the SBA may need to be notified.
Other SBA Clarifications
In addition to legislative updates, Austin said that there is now clarification on related party rent. One of the qualifying expenses is rent payments; if PPP borrowers make a rent payment to a related party, only the company with the PPP loan may deduct the rent expense. Austin’s example was if one person owned two companies, Company XYZ and Company ABC. The PPP loan was taken out under Company XYZ but Company ABC owns the building that the business is in. XYZ makes rent payments to ABC.
In this example, XYZ cannot deduct rent payments as a qualified expense under PPP because it does not actually make the mortgage payments. Company ABC is the one making the mortgage payments and paying the interest, even though both companies are owned by the same person or entity.
The SBA’s clarified guidance stated that PPP borrowers cannot deduct related party rent unless there’s interest paid on the mortgage for that building. Even then, borrowers are limited to the interest on the mortgage.
Another SBA clarification concerns self-employed individuals or PPP borrowers with a Schedule C or a Schedule F. These borrowers do not need to show transfers of cash between bank accounts. Instead, simply provide the SBA with either the Schedule C or F, just like the loan application, and that should be enough to generate forgiveness for those payments. It’s a very simple process.
PPP Loan Forgiveness Unknowns
One of the biggest unknowns at this point are the tax ramifications of loan forgiveness. Originally, PPP loan forgiveness was not supposed to be a taxable event. However, the IRS has interpreted the guidelines differently. They have now determined that loan forgiveness is not taxable, but borrowers must offset the expenses that have been applied against PPP funds. In a way, this does make PPP loan forgiveness taxable because borrowers are essentially reducing those expenses.
Both the Senate and the House have said this interpretation was not what was intended, but so far, nothing has happened. Fixing this was supposed to have been in the HEROES Act that the House passed, but the Senate did not. Until and if new guidelines are released, we must follow IRS rules that state that expenses used for PPP forgiveness must be offset.
When to Take Action?
Given this information, when should PPP borrowers file for forgiveness? They can either file now, in tax year 2020 or wait and file in tax year 2021. The difference could have an impact on adjusted gross income and other taxable factors, so it may make sense to wait to file for forgiveness.
Adams Brown’s interpretation is to offset those expenses when the loan is forgiven. When forgiveness is granted, in other words, treat it is as a cancelation of debt. This is up for debate among practitioners and we are all waiting for more guidance from the SBA, Congress, and the IRS.
Another piece of the loan forgiveness puzzle is the impact of Net Operating Losses (NOL). Thanks to the CARES Act, NOLs can be carried back up to five years or can be carried forward indefinitely. Taking PPP loan forgiveness in 2020 could impact the ability to carry back NOLs, and instead push them forward. It’s important as year-end approaches that PPP borrowers have a plan with how to treat loan forgiveness and when to apply; weigh the pros and cons with your tax advisor and make a decision based on what you know today.
PPP Loan Forgiveness Forms: James Bailey, CPA
PPP by the numbers: $660 billion was authorized to help struggling businesses pay their employees. About $138 billion is left over. Of the approximately 5.2 million PPP loans, the average came out to about $100,000. James went on to say that businesses in Kansas, Missouri, and Arkansas each got about $5 billion, $9.1 billion, and $3.3 billion, respectively. With all those different loans and billions of dollars in funding, there are just three forms to use for loan forgiveness.
Although using just three forms was meant to make the loan forgiveness process easier, James explained that the opposite has happened, and instead there is a significant amount of confusion regarding which form to use to file for forgiveness. The difference in forms really comes down to whether they require any calculations.
- Form 3508S: This form is only for PPP loans of $50,000 or less. This form will cover the roughly 3.57 million PPP loans that fall under the $50,000 threshold.
- Form 3508EZ: This form is a simplified version of the standard Form 3508 and can be used if PPP borrowers meet one of three possible requirements.
- Form 3508: This is the standard forgiveness form released in May 2020. It’s fairly complicated and requires several calculations.
Form 3508S is the simplest version of loan forgiveness applications. It is nearly calculation-free. It’s important to note that affiliate businesses with combined PPP loan amounts of more than $2 million cannot use the Form 3508S. Unlike larger loans, qualifying loans of $50,000 or less will not have forgiveness amounts reduced if the business also reduced employee hours, wages, or positions as a result of COVID-19.
Form 3508EZ can be used if the borrower meets at least one of the following criteria:
- The borrower is self-employed, independent contractor, or sole proprietor with no employees at the time of the PPP application and did not include employee salaries in computing average monthly payroll.
- The borrower did not reduce hourly wages or salaries by more than 25 percent during the covered period and did not reduce the number of FTEs, except for safe harbor rules.
- The borrower did not reduce annual salaries or wages by more than 25 percent during the covered period and was unable to operate at the same business level before February 15, 2020.
Form 3508EZ is only about three pages and its calculation page is basically just a listing of expenses.
The full Form 3508 is about five pages long and includes a calculation form, signature authorization, supplemental worksheet, and optional demographic information. This form is going to be used by PPP borrowers who did have to reduce FTEs and/or salaries or wages. It is more burdensome and was in part replaced by the 3508EZ for borrowers who met certain criteria. This change happened earlier this year as a result of the PPP Flexibility Act.
With any form, be prepared that the bank or SBA could request further documentation and require an audit at any time.
Regardless of which PPP loan forgiveness form is used, James cautioned that in any instance where EIDL grants were received, they will reduce the amount of PPP forgiveness. The EIDL funds don’t have to be repaid, but they will reduce the amount of forgiveness for PPP.
James explained that there will be certain information required with any PPP loan forgiveness application. This includes:
- Business legal name, DBA, or trade name
- Tax ID
- Phone Number
- Contact Email Address
- SBA Loan Number
- Lender PPP Number
- PPP Loan Amount
- Disbursement Day
- Number of employees at the time of disbursement (if any)
- Number of employees at the time of loan forgiveness application (if any)
- EIDL application number, if applicable
From there, PPP borrowers may have to break out payroll and other costs, depending on which form is used.
Despite these general guidelines, every situation is unique and may require a specialized approach to reach full benefits. Questions about PPP loan documentation and forgiveness can be directed to your Adams Brown advisor.