PPP Loan Forgiveness
IMPORTANT NOTE: The SBA and the Treasury Department have released the eagerly awaited Paycheck Protection Program (PPP) loan forgiveness application and detailed instructions. The Application and Instructions do not answer all key questions, but a number of calculations and substantive questions are resolved. CLICK HERE FOR A DETAILED LOOK AT UPDATED GUIDANCE.
The PPP program is now replenished for round two. We encourage all eligible small businesses to apply now through their financial institution or through an online lender as the funds will quickly run out. While the EIDL program also received funding, the SBA is not accepting new applications due to the large back log of applications already received which will continue to be reviewed on a first come, first served basis.
The first round of funding for the Paycheck Protection Program is committed. While Congress debates additional funding, if you are one of the fortunate business owners who did secure a PPP loan, the questions now turn to loan forgiveness. Just as the PPP application process was rife with challenges, the loan forgiveness process also has many unanswered questions. The Treasury and SBA have indicated that loan forgiveness guidance is coming, but it has not been released yet.
Here’s what we know now for setting yourself up for loan forgiveness.
The conditions of the Paycheck Protection Program
Once a borrower receives the funds, the amount spent over the next 8 weeks on payroll, mortgage interest, rent and utilities is eligible to be completely forgiven. Even better, while a cancellation of a borrower’s debt typically creates taxable income under Section 61(a)(11) of the Internal Revenue Code, the CARES Act provides that forgiveness of a PPP loan is completely tax free.
The funds from the PPP can be used for the following purposes:
- Payroll costs;
- Any payment of interest on any mortgage obligation (not including any prepayment of or payment of principal on a mortgage obligation) that was incurred before February 15, 2020,
- Any payment of rent under a leasing agreement in force before February 15, 2020,
- Any utility payment, including payment for the distribution of electricity, gas, water, transportation, telephone, or internet access for which service began before February 15, 2020.
All expenses that fall under those categories are eligible for forgiveness.
What is included in Payroll Costs?
As PPP borrowers learned the hard way during the application process, the critical term “payroll costs” is poorly defined in the CARES Act. This term will also apply when determining loan forgiveness.
For a business with employees, payroll costs are equal to the sum of:
- Salary, wage, commission, or similar compensation; for a partnership, recent guidance from the SBA explains that payroll costs include not only guaranteed payments to a partner, but also any partner’s share of income of the partnership subject to self-employment income. As discussed below, these amounts are subject to a per-employee or per-partner cap of $100,000.
- Payment of cash tip or equivalent;
- Payment for vacation, parental, family, medical, or sick leave;
- Allowance for dismissal or separation;
- Payment required for the provisions of group health care benefits, including insurance premiums;
- Payment of any retirement benefit; or
- Payment of State or local tax assessed on the compensation of employees.
Payroll costs do NOT include:
- The compensation of an individual employee — or the self-employment income of a partner in a partnership – in excess of $100,000, as prorated for the covered period;
- Taxes imposed or withheld under chapters 21, 22, or 24 of the Internal Revenue Code during the covered period. These taxes include federal income tax withholding on employee wages as well as the employer’s and employees’ share of Social Security and Medicare taxes;
- Any compensation of an employee whose principal place of residence is outside of the United States;
- Qualified sick leave wages for which a credit is allowed under section 7001 of the Families First Coronavirus Response Act; or
- Qualified family leave wages for which a credit is allowed under section 7003 of that same Act.
- Payments to independent contractors.
A recent SBA FAQ clarified several points of confusion surrounding the items that are excluded from payroll costs, and this clarification should apply equally when determining the costs eligible for forgiveness. First, the $100,000 per-employee limit applies only to cash compensation, salary or wages. Additional payroll costs allocable to the employee, including employer contributions to defined-benefit or defined-contribution retirement plans, payment for the provision of employee benefits consisting of group health care coverage, including insurance premiums, and payment of state and local taxes assessed on compensation of the employee may be added to the $100,000 of maximum salary in computing payroll costs.
Putting it all together, a business has eight weeks to spend PPP loan proceeds on payroll cost, mortgage interest, rent and utilities. That amount will be eligible for forgiveness.
The following PPP loan forgiveness conditions will also apply:
- Eight weeks of coverage
Eligible expenses are those that are incurred over eight weeks, starting from the day the first payment was made by your lender. This is not necessarily the date on which you signed your loan agreement.
Depending on your payroll schedule, you may want to adjust the timing of your payroll date to accommodate as many payroll cycles as possible.
For example, if your PPP loan gets deposited in your bank account on April 15, you could only use the funds on expenses incurred during the eight weeks following April 15.
- The 75/25 rule
At least 75% of your loan must be used for payroll costs. Payments to independent contractors cannot be included in the payroll costs.
- Staffing requirements
You must maintain the number of employees on your payroll.
Here is the calculation you can use to determine if you’ve met this requirement:
First, determine the average number of full-time equivalent employees you had for:
- The 8-week period following your initial loan disbursement, (A)
- February 15, 2019 to June 30, 2019, (B1)
- and January 1, 2020 to February 29, 2020. (B2)
Take A and divide that by B1. Do the same with B2. Take the largest number you obtain. If you’re a seasonal employer, you must divide by B1.
- If you get a number equal to or larger than 1, you successfully maintained your headcount and meet this requirement.
- If you get a number smaller than 1, you did not maintain your headcount and your forgivable expenses will be reduced proportionately.
- Pay requirements
You must maintain at least 75% of total salary.
This requirement will be individually assessed for every employee that did not receive more than $100,000 in annualized pay in 2019.
If the employee’s pay over the 8 weeks is less than 75% of the pay they received during the most recent quarter in which they were employed, the eligible amount for forgiveness will be reduced by the difference between their current pay and 75% of the original pay.
- Rehiring grace period
You can rehire any staff that were laid off or put on furlough and reinstate any pay that was decreased by more than 25% to meet the requirements for forgiveness. You have until June 30th to do so.
Forgiveness for self-employed individuals
You are entitled to use the PPP loan to replace lost compensation due to the impacts of COVID-19. However, you are not entitled to use the full amount to replace pay. Eight weeks worth of your 2019 net profit will be eligible for forgiveness.
If you have mortgage interest, rent, or utilities expenses, you must have claimed or be entitled to claim a deduction for those expenses on your 2019 Form 1040 Schedule C in order to claim them for forgiveness.
For example, if you worked in an office space in 2019 and did not have a home office, you could not have claimed a deduction on your home mortgage interest. Even if you are currently working at home now, you are not eligible to claim home mortgage interest payments for forgiveness.
After the eight weeks: applying for loan forgiveness
Applications for loan forgiveness will be processed by your lender. They’ll provide you with instructions on where to apply
After you submit your application for forgiveness, your lender is required by law to provide you with a response within 60 days.
Recordkeeping and required documents for forgiveness
Good recordkeeping and accounting will be critical for getting your loan forgiven—you’ll need to keep track of eligible expenses and their accompanying documentation over the eight weeks. Your lender will likely require these documents in digital format, so take the time to scan any paper documents and keep backups of your digital records.
IMPORTANT NOTE: As a best practice, We strongly recommend that you set-up a separate bank account for PPP loan proceeds and ONLY pay PPP related expenses from this account. If you also received an EIDL Loan, those funds should also be maintained in a SEPARATE account. Remember, EIDL and PPP proceeds must be used for different expenses.
These are the required documents you will need to collect to provide with your PPP forgiveness application. Your lender may have additional requirements.
- Documents verifying the number of full-time equivalent employees on payroll and their pay rates, for the periods used to verify you met the staffing and pay requirements:
- Payroll reports from your payroll provider
- Payroll tax filings (Form 941)
- Income, payroll, and unemployment insurance filings from your state
- Documents verifying any retirement and health insurance contributions
- Documents verifying your eligible interest, rent, and utility payments (canceled checks, payment receipts, account statements)
If you’re a sole proprietor, you can have eight weeks of the loan forgiven as a replacement for lost profit. But you’ll need to provide documentation for the remaining two weeks worth of cash flow, proving you spent it on mortgage interest, rent, lease, and utility payments.
What happens if I’m not approved for forgiveness?
Your lender may allow you to provide additional documentation so they can reevaluate your request.
Of course, any portion of a PPP loan that isn’t forgiven must be repaid over two years – after a six-month deferral period – at an interest rate of 1%. There are no prepayment penalties, so you can pay off the balance at any time.
Many Questions Remain to be Addressed
As guidance is released by the Treasury and SBA, we will compile a list of Frequently Asked Questions and Answers. We encourage you to reach out to your W&D advisor with your concerns and for help at (847) 267-9600 or firstname.lastname@example.org.
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