The Paycheck Protection Program (PPP) has been a critical lifeline keeping business afloat in the wake of the coronavirus pandemic’s economic devastation. A signature feature of the program — PPP loan forgiveness — is one reason why it was in such high demand. Essentially, if businesses follow the rules and use the loan for permitted purposes, the balance is forgiven, and the PPP loan becomes a grant.
If you’re like many of the business owners who received a PPP loan, you don’t want any surprises when it comes to applying for PPP forgiveness. We understand that concern and want to help by distilling the key details, so you know how they affect your forgiveness calculation and your bottom line.
From the forms you’ll need to tax filing implications of PPP loan forgiveness, we’ll cover the essentials you need to know. However, you should check with your lender concerning the facts and circumstances surrounding your specific business that may affect your forgiveness eligibility.
PPP loans: Rules that affect your forgiveness
Several factors can affect your loan forgiveness, so it’s important to keep track of the details and work with your lender. You’ll need to account for these on your PPP forgiveness application if they apply. Keep in mind, Congress created the program to help businesses keep employees on the job and receiving a paycheck. That said, many of the rules around PPP forgiveness were designed to ensure that happens.
Payroll as primary use: In addition to payroll costs, businesses can use some of the funds to cover other expenses on a commercial property, such as rent, utilities, and mortgage interest. In order to receive forgiveness for the entire PPP loan, however, the payroll portion must be at least 60% of the loan. If your payroll costs account for less than the threshold, you may receive partial forgiveness for your PPP loan.
Maintaining salary and wages: Keeping pay consistent while you’re experiencing a dramatic downturn in business can be a struggle. With that in mind, room for some flexibility with wages has been built in and a safe harbor may be available. Here’s what that means: The PPP rules state that your forgiveness may be reduced if you have more than a 25% drop in payroll for employees earning less than $100,000 unless the wage reduction safe harbor applies.
What about employees that you had to let go and later declined an offer to be rehired? If that’s your situation, there’s still a way for you to exclude a reduction of full-time employees into your PPP forgiveness calculation.
According to the guidance from the Treasury and Small Business Association (SBA), you can do this if you are able to:
document in good faith the following: (1) an inability to rehire individuals who were employees of the borrower on February 15, 2020 and (2) an inability to hire similarly qualified individuals for unfilled positions on or before December 31, 2020.
You must also inform your state’s unemployment insurance office within 30 days if your former employee rejects a rehire offer. You’ll need to keep written documentation of your rehire offer, the employee’s rejection and records of your effort to hire a similarly qualified person.
Accounting for other relief: If you received an Economic Injury Disaster Loan (EIDL) advance, the SBA will reduce your PPP loan forgiveness amount by the amount of the EIDL advance.
PPP Forgiveness FAQs
When can I apply for PPP forgiveness?
You can apply for forgiveness on or before your loan’s maturity date. You can also submit your application before the end of your covered period (whether it’s eight or 24 weeks), but there’s a good reason you may not want to do so. If you apply for forgiveness before the covered period is up and have reduced any salary in excess of 25%, you’ll forfeit any potential use of the wage reduction safe harbor and will need to account for the excess salary reduction for the full covered period.
Keep in mind, although the forgiveness application isn’t due until your loan matures, you’ll have to start making payments 10 months after the covered period if you haven’t yet applied for forgiveness.
How long does the process take?
After you submit your application with the lender, they will have up to 60 days to review your application. After your lender approves it, the SBA has another 90 days to review your application and make a forgiveness determination.
Do I need to make principal and interest payments while I wait for the decision?
You won’t need to pay principal or interest as long as:
you submit your forgiveness application within 10 months of the end of your covered period and
your loan is fully forgiven
Which form should I use to apply for PPP forgiveness?
There are two forms and which one you use depends on your situation. You’ll generally use:
Form 3508EZ if you don’t have any employees. This includes sole proprietors, independent contractors or self-employed individuals. Or, if you have employees, but didn’t reduce salaries by more than 25% and did not reduce full-time employees (FTEs) — or only reduced FTEs as a result of COVID-19 health directives.
Form 3508 if you have employees and had a reduction to wages or FTEs as described above. This form is more involved as it has additional sections to factor in those adjustments related to reductions in the number of full-time employees or in wages.
What counts as employee compensation for PPP forgiveness?
When you calculate payroll expenses, you can include amounts incurred or paid during the covered period or the alternative payroll covered period if it applies. For employers with payroll periods that are biweekly or more frequent, the alternative payroll covered can begin on the date of the first pay period following the PPP loan disbursement, rather than on that disbursement date. Additionally, you should use the gross pay before taxes and other deductions.
In a recently issued FAQ, the SBA clarified that payroll costs include tips, commissions, bonuses, and hazard pay. Additionally, the guidance stated that forgivable cash compensation per employee is limited to $100,000 on an annualized basis.
For group health care and retirement planning benefits, only the portions you paid as the employer count toward forgiveness. Any contributions made by your employees do not count.
What counts as non-payroll expenses for PPP forgiveness?
In contrast to payroll expenses, you can only include nonpayroll expenses incurred or paid during the standard covered period (not the alternative covered period). Allowable expenses include rent, utilities, mortgages and interest on loans for commercial real estate or personal property. Take note, however, interest on unsecured credit is not eligible for loan forgiveness.
Paycheck Protection Program Forgiveness and Taxes
Having your PPP loan forgiven comes with its own set of tax considerations and questions. Is the forgiven loan considered taxable income? Do deductions apply to the expenses paid from the loan?
In Notice 2020-32, the IRS clarified these questions and outlined that any forgiven PPP loan debt is a “class of exempt income” under the regulations and not included in your business’s gross income. Because this income is considered exempt, expenses that are paid from your forgiven PPP loan are not tax deductible.
What if you only receive partial forgiveness on your PPP loan? We can outline that situation in an example:
Anya owns a small retail interior decorating store. With a $100,000 PPP loan, she was able to continue paying her employees and cover other expenses that she would normally deduct, such as rent and utilities. A little over half of the loan proceeds were spent on payroll costs. After applying for PPP loan forgiveness, the SBA determined that $75,000 would be forgiven and the remaining $25,000 must be repaid.
In Anya’s case, $25,000 of business expenses paid with the loan are deductible. The $75,000 forgiven debt is not taxable.
Tax help for your small business
Keeping on top of all the changes in today’s world is enough for any small business owner. However, your business and tax accounting needs shouldn’t be a cause of stress. We’re here to help if you need tax and accounting solutions for your small business.
Find out about GT Tax & Accounting small business tax services.