By Raffi Yousefian | Published 03/26/2020; Updated 07/06/2020 7:14:04 PM

There is free money issued by the government, but you must navigate through a maze to get to it. You have a short amount of time, and the maze changes each time you think you’ve figured it out. 

We feel your pain, which is why we’ve drafted this post. Key word, drafted. We have been updating it every evening since March 25th, a couple of days before the CARES Act was passed. We’re hoping this post will summarize everything you need to know about the Paycheck Protection Program (PPP) and its loan forgiveness component. It is meant to be timeless and updated as soon as new legislation is passed or even discussed. Keep an eye out for the time stamp above to know when the post was last updated. 

On March 27, 2020, the CARES Act was signed into law. This piece of legislation, contained a special gift for small businesses, known as the PPP. Through this program, the federal government would issue nearly $660 billion in collateral free loans to small business employers between February 15, 2020 and August 8, 2020. We’ll walk you through the components. 

The “Loan”

The loan application was posted on 4/2/20 and can be found here, along with additional resources for borrowers and lenders from the Treasury. A small business employer includes:

  • For profit business with less than 500 employees
  • 501(c)(3) and 501(c)(19) nonprofit organizations with less than 500 employees
  • Sole proprietors, self-employed individuals, and independent contractors with less than 500 employees

Restaurants, caterers, hotels, or other businesses operating under NAICS code 72, will be subject to the <500 employee limit by location. This is obviously very favorable for restaurant groups and hotel chains. 

The loan amount will be limited to the lesser of:

  •  The sum of:
    • average monthly payroll costs for 2019 or the 1-year period up to the date of the loan application times 2.5**, and;
    • any disaster loan that has been refinanced into a paycheck protection loan
  • $10 million.

It’s very important to understand the definition of payroll costs in this context. Payroll costs include:

  • For Employers:
    • Gross wages to employees
      • wages for employees in excess of $100k (annualized) must be excluded
      • wages for employees not living in US must be excluded
      • includes officer’s compensation 
    • Self-employment income (including guaranteed payments) of partners in a partnership or LLC taxed as partnership
    • Tips paid
    • Paid time off
    • Severance
    • Medical benefits
    • Retirement benefits
    • State and local taxes assessed on employee compensation (aka SUI)
  • For Sole Proprietors, Independent Contractors, and Self-Employed Individuals:
    • Self-employment earnings not more than $100,000 annualized, plus payroll costs from above if the individual has employees. Refer to Sch C, line 31 of your 1040 to understand the calculation.  

*Payroll taxes are not included in payroll costs. This doesn’t mean you back out employee tax withholding from gross payroll, it simply means you don’t add employer portion of Social Security and Medicare to the total of wages. 

**If you are seasonal, then average monthly payroll cost is the average amount you paid from February 15, 2019 to June 30,2019, or at your election March 1, 2019 to June 30, 2019. Under the interim final rule released on 4/28/20, seasonal employers may also elect to use any consecutive 12-week period between May 1, 2019 and September 15, 2019. 

The loans will be administered through the SBA’s 7(a) loan program and will have a maturity of 2 years (if made before June 5, 2020) or 5 years (if made after June 5, 2020 or made before June 5 but mutually agreed upon between lender and borrower) , an interest rate of 1%, and will allow for a deferral period of greater than 12 months (explained later). The “credit available elsewhere” test that is normally applicable to SBA loans will be waived. 60% of the loan proceeds must be used to cover payroll costs (as defined above), the remainder can be used to cover mortgage interest, rent, utilities, interest on any other debt that was incurred before Feb 15, 2020, and refinancing an SBA EIDL loan made between January 31, 2020 and April 3, 2020. 

To qualify, you must certify that (1) you were in operation during February 15, 2020; (2) the uncertainty of current economic conditions makes necessary the loan request to support ongoing operations; (3) acknowledge funds will be used to cover the expenses mentioned in the previous paragraph; (4) you can provide payroll tax documentation to support your payroll calculations; and (5) you do not have another substantially similar loan application pending during Feb 15-Dec 31; Businesses that are ordinarily not eligible for SBA loans, are also not eligible for payroll protection loans. This includes real estate investment firms, firms involved in speculative activities, firms involved in lending activities, pyramid sales plans, foreign businesses, gambling businesses, private clubs, and other passive investment companies.

If you received an SBA EIDL loan from January 31, 2020 through April 3, 2020, you can still apply for a PPP loan. If your EIDL loan was not used for payroll costs, it does not affect your eligibility for a PPP loan. If your EIDL loan was used for payroll costs, your PPP loan must be used to refinance your EIDL loan. 

The lender must make a one-time, full disbursement of the PPP loan within ten calendar days of loan approval; for the purposes of this rule, a loan is considered approved when the loan is assigned a loan number by SBA. You will not have to make any payments towards principal or interest following the date of the disbursement of the loan until forgiveness is determined (explained later) or 10 months after the 24 week period following the loan (whichever is later). There will be no prepayment penalties, guarantee fees, or yearly fees. 

On May 13, 2020 the SBA clarified a few ambiguities. First, if a partnership received a PPP loan that only covered employee payroll costs and eligible operating expenses, and NOT partner compensation, the lender may increase the PPP loan amount to include appropriate partner compensation even if the loan has already been disbursed, assuming form 1502 has not been submitted to the SBA. Second, they extended the safe harbor repayment date (the date you can give the loan back if you decide you shouldn’t have taken it) from 5/14 to 5/18. Third, any borrower+affiliates receiving PPP loans with $2m or less in principal will be deemed to have made the required certification of loan necessity in good faith.

Now, that’s all great, 100% federal guaranteed loans at a very reasonable interest rate with an extended payment deferral period. 

But wait, it gets better!

Loan Forgiveness

These loans will be forgiven, thus classifying it as a grant, to the extent that payments from the proceeds of the loan are expended on the following, during an 24-week period beginning on the date of the disbursement of the loan through December 31, 2020:

  • Payroll costs (must account for 60% of the amount forgiven) 
  • Mortgage interest on mortgage obligations incurred before 2/15/20
  • Rent on leases dated before 2/15/20
  • Utility payments under service agreements dated before 2/15/20

The 60/40 spending ratio requirement is a proportional limit on nonpayroll costs as a share of the borrower’s loan forgiveness amount, rather than as a threshold for receiving any loan forgiveness.Alternatively, the 24 -week period (related to payroll expenses only) can begin on the first day of the first weekly or biweekly pay period after the loan has been disbursed. This is referred to as the Alternative Payroll Covered Period and is meant to simplify the calculation of eligible payroll costs.

Costs Paid or Incurred

To qualify for forgiveness, expenses must be paid or incurred during the 24-week period. Incurred means accrued, and paid means payment is issued. For example, if a payroll period covers 5/18 – 5/24, and payment is issued to employees on 5/27, then the expenses for this payroll are incurred between 5/18 and 5/24, and paid on 5/27. 

For expenses to be eligible for forgiveness, they must be either:

(1) paid during the 24-week period; or

(2) incurred during the 24-week period and be paid by its next regular due date (for non-payroll costs) or by the next regular pay date (for payroll costs).

For example, if you issued payment to employees during the 24-week period for work performed before the 24-week period, then presumably this payment would qualify for forgiveness. However, payroll costs incurred in the 24-week period but paid outside of the 24-week period must be paid on or before the next regular pay date. This also means you could potentially prepay or pay overdue amounts for qualified nonpayroll costs and have the amounts forgiven. However, Treasury has clarified that advance payments of interest on mortgage obligations are not eligible for forgiveness.

What will impact the amount that is forgiven?

  • If you reduce your workforce during the 24 week period
    • This is calculated by comparing the number of average full-time equivalent (FTE) employees for each pay period during the 24-week period to the average number of FTE employees between either January 1, 2020 – February 29, 2020, or February 15, 2019 – June 30, 2019. Seasonal employers can choose either of those two date ranges, or any 12-week period between 5/1/2019 and 9/15/2019. 
    • The reduction in loan forgiveness for reducing your workforce will not apply if the borrower:
      1. Eliminates the reduction in full-time equivalent employees by December 31, 2020; or 
      2. In good faith is able to document an inability to rehire individuals who were employees of the eligible recipient on February 15, 2020, and an inability to hire similarly qualified employees for unfilled positions on or before December 31, 2020; or 
        • the offer must have been for the same salary or wages and same number of hours as earned by such employee in the last pay period prior to the separation or reduction in hours;
        • the offer was rejected by such employee; 
        • the borrower has maintained records documenting the offer and its rejection; and
        • the borrower must inform the applicable state unemployment insurance office of such employee’s rejected offer of reemployment within 30 days of the employee’s rejection of the offer
      3. In good faith is able to document an inability to return to the same level of business activity as such business was operating at before February 15, 2020, due to compliance with requirements established or guidance issued by the Secretary of Health and Human Services, the Director of the Centers for Disease Control and Prevention, or the Occupational Safety and Health Administration during the period beginning on March 1, 2020, and ending December 31, 2020, related to the maintenance of standards for sanitation, social distancing, or any other worker or customer safety requirement related to COVID–19.
        • borrowers that can certify that they have documented in good faith that their reduction in business activity during the covered period stems directly or indirectly from compliance with such COVID Requirements or Guidance are exempt from any reduction in their forgiveness amount stemming from a reduction in FTE employees during the covered period. Such documentation must include copies of applicable COVID Requirements or Guidance for each business location and relevant borrower financial records.
  • If you reduce the salaries/wages to employees making less than $100k annually by more than 25% during the 24 week period.
    • The forgivable amount is reduced dollar for dollar for any wage reduction greater than 25%. The reduction for hourly wages is based on an hourly basis not on total wages paid, so as long as you maintain the same hourly wage rate then you shouldn’t have any reduction for that employee. 
    • The reduction in loan forgiveness for reducing your employee’s wages beyond 25% will not apply if you reduced the wages between February 15, 2020 and April 26, 2020 (30 days after the enactment of the CARES act), then eliminated the reduction in wages at any point before December 31, 2020.

The average # of FTEs during the 24-week period and the other relevant time periods is calculated by dividing the total number of hours worked by each employee per week, by 40 hours. The max number per employee is 1.0 per week. Alternatively, you can use a simplified method which considers any employee with 40+ hours as 1 FTE, and any employee with less than 40 hours as .50 FTE.

The amount of loan forgiveness for owner employees, self-employed individuals, and managing partners is limited to the lesser of

  • (1) $20,833 ($100k annualized over 2.5 months) during the 24-week period or;
  • (2) 2.5/12 x 2019 compensation.

If you choose to use 8 weeks as your covered period, then this amount is limited to the lesser of

  • (1) $15,385 ($100k annualized over 8 weeks) or;
  • (2) 8/52 x 2019 compensation.

It has been clarified that the cap for Schedule C filers is based on their 2019 net profit. If your 2019 Schedule C was showing a loss then the amounts you pay yourself are not eligible for forgiveness. General partners or managing partners are capped by the amount of their 2019 net earnings from self-employment (reduced by claimed section 179 expense deduction, unreimbursed partnership expenses, and depletion from oil and gas properties) multiplied by 0.9235. No additional forgiveness is provided for retirement or health insurance contributions for owner employees, self-employed individuals, and managing partners.

Proceeds from any advance up to $10,000 on the EIDL loan will be deducted from the loan forgiveness amount on the PPP loan.

If you laid off or furloughed your staff, there’s nothing in the bill that states you’re required to rehire the same workforce or for the same purpose. You can hire employees who would be more suited for your current operations. For example, if you need delivery drivers instead of bartenders, then you could either hire delivery drivers or repurpose your bartenders as delivery drivers in order to meet forgiveness requirements.

Applying for Forgiveness

To qualify for forgiveness, the borrower must complete and submit the Loan Forgiveness Application (SBA Form 3508, 3508EZ, or lender equivalent) to its lender any time on or before the maturity date of the loan if the borrower has used all of the loan proceeds for which they’re requesting forgiveness. If the borrower does not apply for loan forgiveness within 10 months after the last day of the covered period, or if SBA determines that the loan is not eligible for forgiveness (in whole or in part), the PPP loan is no longer deferred and the borrower must begin paying principal and interest. If this occurs, the lender must notify the borrower of the date the first payment is due. 

The lender has 60 days after the application has been submitted to issue a decision and request for pay off of the debt to the SBA. SBA will, subject to any SBA review of the loan or loan application, remit the appropriate forgiveness amount to the lender, plus any interest accrued through the date of payment, not later than 90 days after the lender issues its decision to SBA. If the forgiveness is denied, the lender will notify the borrower. 

The loan forgiveness will trigger extinguishment of debt income, which will not be subject to income tax. The expenses attributable to the forgiveness amount will be deemed nondeductible so taxpayers are not receiving a double benefit.

The following documents need to be submitted to substantiate the request for loan forgiveness:

  • Documentation verifying the number of FTEs on payroll and pay rates for the following periods:
    • 8 week period after loan was disbursed
    • 2/15/2019 – 6/30/2019
    • 1/1/2020 – 2/29/2020
    • 2/15/2019 – 6/30/2019 (for a seasonal employer)
    • 2/15/2020 through 4/26/2020 
  • Quarterly Form 941 and state unemployment reports or payroll processing records will satisfy these requirements 
  • Evidence of any retirement and/or health insurance contributions such as cleared checks, payment confirmations, or bills for the 8-week period. 
  • Evidence of business rent, business mortgage interest payments on real or personal property, or utility payments for the 8-week period.

This post be updated with new developments. We suggest following our blog for daily updates on taxes and relief available for small businesses and nonprofits. We hope that this information has been helpful, please don’t hesitate to contact us if you have questions or need guidance.

Raffi Yousefian is a licensed CPA who advises small to enterprise level businesses on accounting and tax issues in his role as Managing Principal at RY CPAs.