COVID-19 – 05-04-20 BULLETIN RELEASE – PPP Loan – IRS Guidance

Just when we thought things were settling down a bit, bad news from IRS Chief Counsel’s office hits at the end of last week in Notice 2020-32.  This Notice details the IRS position on “covered expenses” paid which qualify for PPP loan forgiveness, and whether those covered expenses are deductible business expenses.

The IRS has taken the position that the covered expenses such as gross wages, employee benefits, rent, utilities, and business loan interest that are paid as part of the PPP loan forgiveness will NOT be deductible by the business under the current Tax Code because the PPP loan forgiveness funds are tax-exempt income and expenses paid with tax-exempt income are not deductible.  This comes as a HUGE surprise to everyone as most believe this was not the intent of the CARES Act legislation.  This new wrinkle now most likely becomes be a game-changer with respect to the “best use” of PPP loan proceeds and the advice and strategies already laid out by many folks over the past two weeks.

Since Friday, there has been talk coming from various groups including some legislators who oppose this IRS position as it is believed it is NOT what was intended by the CARES Act legislation.  The CARES Act specifically included a tax-favorable position for the PPP loan forgiveness stating that the loan forgiveness funds will NOT be taxable income to the taxpayer.  Most believe this clearly established the intent that there was to be special tax treatment for any PPP loan forgiveness received based on the fact that loan forgiveness is generally a taxable event with a few exceptions.  Now here comes the IRS looking at it in connection with the tax code, not from the loan forgiveness side but from the expenses paid side of the conversation.  The CARES Act was silent on how PPP loan covered business expenses would be treated leaving most to believe the expenses would continue to be tax-deductible as “ordinary & necessary” business expenses as they have always been.  If the covered expenses are not deductible, then the result is as if the loan forgiveness is taxable income.  This IRS position basically negates the benefit of the loan forgiveness being non-taxable.  It also provides another whole host of inconsistencies between sole-proprietors and independent contractors vs S Corps which we will not get into, however, it further suggests the results of the IRS position contradict the intent of the CARES act.

The intention of the CARES Act was to provide a lifeline to small businesses and their employees in surviving this crisis and to lessen the damage to the economy as well as to get employees off state unemployment.  Understanding this underscores, the belief that the IRS position, while it may fit within certain current tax code provisions, is not within the intent of the Act.  If this IRS position sticks making these covered expenses non-deductible, then we believe there’s absolutely no reason for an employer to take on the burden of employee wages while the employer is not fully open for business and in need of those employee’s services.  Leave the employees on the State unemployment rolls understanding that the Federal $600 weekly unemployment supplement runs until July 30.

The American Institute of CPAs (AICPA) is one group that has already been communicating with both the IRS and legislators advocating for changes in connection with the IRS position and we’re positive other groups will be doing the same.  We’ve also read that some legislators have spoken out publicly that this IRS position goes against the intent of the CARES Act and they expect there to be a push for additional legislation to correct this result.

In light of this news, we urge you to re-evaluate the use of your PPP loan and the determination of when to bring your employees back onto payroll.  While bringing them back onto payroll at the same time your PPP loan was funded was a common strategy irrespective of whether your practice was fully open, now we find that if those wages are non-deductible, then there’s no benefit to bringing employees back BEFORE you open for business.

Consult with your advisor if you need to modify your strategy in light of this information.  In the meantime, let us know if you have any questions.

Never a dull moment….

Stay your distance, stay social, and stay safe!