The CARES Act, passed in the early days of the COVID-19 pandemic, established the Paycheck Protection Program (PPP) to help employers cover their payrolls during the resulting economic downturn. Since originally passing in March 2020, PPP has undergone several modifications: first in June 2020 through the Paycheck Protection Program Flexibility Act of 2020, and yet again in December 2020 by the Consolidated Appropriations Act (CAA).

In addition, the U.S. Treasury and the U.S. Small Business Administration (SBA) have also released interim guidance throughout 2020. The multiple rounds of reform are intended to offer greater relief to business owners and have generally enhanced the program. However, the changes have also introduced questions around the tax treatment of PPP loans and their forgiveness under the PPP.

PPP Eligible Expenditures

PPP allows borrowers to receive loan forgiveness if the loan is spent on specific categories during the covered period. Eligible PPP expenses now include certain operating expenses (e.g., software and cloud computing expenses), property damage incurred during public disturbances in 2020 that insurance did not cover, certain supplier costs and certain worker protection expenditures incurred to comply with COVID-19 health guidelines.

expenditure categories

Eligible expenditure categories include:

Payroll

• Gross employee wages limited to $100,000 annualized, including tips, commissions, bonuses and hazard pay
• Employer payroll taxes
• Employer paid group insurance payments for vision, dental, disability and life insurance
• Employer contributions for retirement benefits

Non-Payroll Costs

• Business mortgage interest
• Utilities
• Business rent or lease costs
• Software and cloud computing expenses
• Property damage incurred during public disturbances in 2020 that insurance did not cover;
• Certain supplier costs
• Certain worker protection expenditures incurred to comply with COVID-19 health guidelines.

To be eligible, expenses must occur during the covered period; typically the eight to 24-week timeframe beginning when the PPP loan was funded. If a business has chosen an Alternative Payroll Covered Period (APCP), then the APCP only applies to payroll costs. Also, if a business is a Schedule C filer (owner employee, partner or self-employed), it will have more onerous restrictions around owner employee wage expenditures.

One important note: Even though the types of eligible non-payroll costs have been expanded, borrowers must still use at least 60% of the loan proceeds for payroll costs to be eligible for full forgiveness of the loan.

Tax Impacts of PPP Loans

Tax filing season is underway and if you are the recipient of PPP loan there are few notable changes that should be on business owners’ radar.

Taxpayers are now allowed an income tax deduction for expenses paid with the PPP loan proceeds. The CAA, passed in December 2020, along with Revenue Ruling 2021-02, posted in January 2021, reverse previous guidance and allows borrowers to deduct, for federal income tax purposes, ordinary business expenses paid with PPP loan proceeds. This change applies to expenses paid with proceeds from an original PPP loan as well as a second draw PPP loan.

The construction industry has received more than $64 billion in PPP loans leaving many business owners to question if these funds would be taxed once the loan was forgiven. The Cares Act answers that question and provides that the PPP loan forgiveness is not taxable. Meaning that borrowers can “double dip” their PPP funds by deducting expenditures purchased using PPP funds and excluding the forgiven PPP loans from income.

Although many states are following federal treatment of the taxability around PPP, some states are treating the PPP loan forgiveness as taxable. Make sure to verify the regulations and compliance requirements for the states where contractors do business.

PPP and Employee Retention Credit

Employee Retention Credits (ERC) allow eligible entities to receive a refundable payroll tax credit on qualified wages. The CAA reversed the CARES Act and now allows PPP borrowers to take the ERC if they otherwise qualify.

The refundable payroll tax credit received through ERC is based on qualified wages paid after March 12, 2020, and before July 1, 2021. A PPP borrower cannot apply the same wages to the PPP and the ERC. PPP borrowers that qualify for full forgiveness of their PPP loan using only payroll costs should consider maximizing the use of non-payroll costs for PPP loan forgiveness (subject to the 60-40 payroll requirement) to reserve wages for the ERC.