Joseph Most, J.D. and Shayna Byrne, J.D.
1.7.21 | Client Alert
On December 27, 2020, the President signed the Consolidated Appropriations Act, 2021 (CAA or the Act) into law. The CAA provides for, among numerous provisions, extensions of and modifications to the Paycheck Protection Program (PPP) as well as the deductibility of expenses included in loan forgiveness amounts. The CAA allocates roughly $285 billion of additional PPP funding, providing further relief to many small businesses.
The CAA offers certain small businesses and sole proprietors the opportunity to obtain a second PPP loan (Second Draw PPP) and to request an increase in an original PPP loan (Original PPP Increase). The CAA also allows companies who have not yet taken an original PPP loan to apply for one by March 31, 2021.1
Deductibility of PPP Expenses
During 2020, the IRS twice ruled that taxpayers could not deduct expenses relating to amounts that were forgiven (or reasonably expected to be forgiven as of December 31, 2020) under PPP forgiveness rules, despite indications by congressmen on both sides of the aisle that this was counter to the intent of the program. The CAA provides a legislative overruling of the IRS, allowing taxpayers to deduct expenses included in their PPP loan forgiveness as they normally would. The Act also confirms that a forgiven PPP loan amount is treated as tax-exempt income and, in the case of a partnership, must be allocated in the same manner as PPP expense deductions.
Berdon Observation: In many cases the PPP expense deductions and the tax-exempt income from loan forgiveness will not occur in the same tax year because many PPP borrowers will not have their loan forgiveness granted by the end of 2020. For partnership borrowers, a pre-forgiveness PPP loan should be treated as allocable partnership debt, thus obviating a tax basis issue for deducting PPP expenses. Some partners, however, may not be at-risk to take these deductions. Such affected partners should be able to free up and claim these at-risk suspended deductions in 2021 as a result of an increase in their at-risk basis from the tax-exempt income generated by the loan forgiveness. An S corporation shareholder’s ability to deduct PPP expenses may be suspended in 2020 to the extent the deduction reduces their stock basis below zero. Similar to partners, S corporation shareholders should be able to recognize suspended deductions in 2021 due to a basis increase in their shares from tax-exempt income.
Second Draw PPP Loans and Opportunity to Increase Amount of Original PPP Loans:
To qualify for the Second Draw PPP loan, an eligible business or sole proprietor must: (1) have received an earlier PPP loan (the CAA allows for companies who have not yet taken an original PPP loan to apply for one by March 31, 2021); (2) employ no more than 300 employees (affiliation rules are waived for certain businesses in the restaurant and hospitality industry); (3) have used or will use the full amount of the earlier loan proceeds on or before disbursement of the Second Draw PPP; and (4) have had gross receipts during the first, second, third, or, only with respect to an application submitted on or after January 1, 2021, fourth quarter in 2020 that demonstrate at least a 25% reduction in gross receipts during the corresponding quarter in 2019.
For most eligible businesses2, the maximum loan amount is capped at the lesser of:
- Average total monthly payroll costs incurred or paid during the 1-year period ending before the day on which the loan is made or for calendar year 2019, multiplied by 2.5; or
Borrowers in the accommodations, hospitality or restaurant industries are provided an additional benefit by being able to use a 3.5 month multiplier (still subject to a $2,000,000 cap) as opposed to 2.5. In addition, beneficial waiver of affiliation rules from the original PPP still apply to borrowers in these industries.
The CAA also incorporates four new allowable uses of PPP loan proceeds, which can also be included on a forgiveness application for an earlier PPP loan: (1) operations expenditures; (2) property damage costs: (3) supplier costs; and (4) worker protection expenditures. For a detailed explanation of the type of expenditures that may be included in each of the four new categories, see New Allowable Uses of PPP Funds below.
Before obtaining a second round PPP loan, or if now ineligible due to the increased employee and gross receipts restrictions, a recipient of an original PPP loan may be eligible to increase its original loan amount if the loan was not already forgiven by the date of enactment of the CAA. A borrower qualifies for an original PPP loan increase if it falls into one of two categories:
- Borrowers that returned all or part of their loan or who did not accept the full amount of the loan; or
- Borrowers who became eligible for an increase as a result of administrative clarifications of PPP rules by way of an interim final rule (IFR) including but not limited to the inclusion of partner compensation in loan proceeds. For more detail, see SBA Issues New FAQs and IFR to Provide More Clarity on PPP Loan Program.
Under prior law, repayment of PPP loan proceeds that do not qualify for forgiveness may be deferred for the earlier of 10 months after the last day of the covered period or the date the SBA determines the loan is ineligible for forgiveness. The CAA extends the deferment period to up to 1 year and permits lenders to offer borrowers who provide sufficient documentation an additional deferment period. Further administrative guidance may provide the maximum deferment period.
Limitations on Eligibility for Second Draw PPP
Businesses ineligible to participate in the Second Draw PPP loan include companies:
- That are primarily engaged in political or lobbying activities;
- That are passive businesses under prior SBA rulemaking, including the owners of rental real estate properties;
- That are an at least 20% Chinese owned entity, or who have a Chinese board member;
- That are a tribal business concern; or
- That receive a Shuttered Venue Operator Grant
Berdon Observation: Most businesses that were ineligible for the original PPP loan will be ineligible for the Second Draw PPP loan. However, housing cooperatives are now eligible to obtain a PPP loan, a change from the original PPP contained in the CARES Act.
New Allowable Uses of PPP Funds to Qualify for Forgiveness
The CAA provides four new categories of allowable uses of PPP loan proceeds, which can also be included on a forgiveness application for an earlier PPP loan to the extent paid or incurred in the applicable covered period. These new categories are eligible expenses for both original and second draw PPP loans.
- Operations expenditures
- A payment for any business software or cloud computing service that facilitates business operations, product or service delivery, the processing, payment or tracking of payroll expenses, human resources, sales and billing functions, or accounting or tracking of supplies, inventory, records and expenses
- Property damage costs
- Cost related to property damage and vandalism or looting due to public disturbances that occurred during 2020 that was not covered by insurance or other compensation
- Supplier costs
- An expenditure made by an entity to a supplier of goods for the supply of goods that:
- Are essential to the operations of the entity at the time at which the expenditure is made; and
- Is made pursuant to a contract order or purchase order that is:
- In effect at any time before the covered period with respect to the applicable covered loan; or
- With respect to perishable goods, in effect before or at any time during the covered period with respect to the applicable covered loan
- An expenditure made by an entity to a supplier of goods for the supply of goods that:
- Worker protection expenditures
- Which include but are not limited to the purchase, maintenance, or renovation of assets that create or expand a physical barrier such as a sneeze guard, a drive-through window facility, an indoor, outdoor, or combined air or air pressure ventilation or filtration system, or an expansion of additional indoor, outdoor, or combined business space as well as personal protective equipment.
In calculating forgiveness, payroll costs may not include qualified wages taken into account in determining the Employer Retention Tax Credit.
Interaction Between PPP and EIDL
The CAA repeals the provision in the CARES Act which requires recipients of an Economic Injury Disaster Loan (EIDL) advance to exclude the amount of the advance from PPP loan forgiveness. The Act also provides that the SBA shall issue further administrative guidance for borrowers who have already submitted their PPP loan forgiveness application and deducted the amount of their EIDL advance.
Modifications of Loan Forgiveness Covered Period
Originally, PPP borrowers were given an 8 week “covered period” where eligible expenses paid or incurred during that time frame could be included in loan forgiveness calculations. This period was extended, at the borrower’s option, to 24 weeks in the Paycheck Protection Program Flexibility Act. The CAA provides further flexibility allowing all PPP borrowers to choose their covered period so long as it is at least 8 weeks and no longer than 24 weeks.
Simplified Forgiveness Application for Small Loans
The CAA also provides for a simplified, one-page application to request forgiveness for loans under $150,000. The SBA will issue a one-page application that will require the eligible recipient to provide the number of employees retained due to the loan, the estimated amount of the covered loan amount spent by the recipient on payroll costs, and the total loan value.
For more information on this topic or any other matter related to the COVID-19 pandemic, please contact your Berdon advisor and visit Berdon’s COVID-19 Information Center.
1 Please see PPP Roundup and a Simplified Borrowers’ Guide to PPP Updates for a refresher on key aspects of the original PPP loan.
2 Special rules apply to companies formed during 2019, the beginning of 2020 or who have seasonal employees.