IRS Issues Additional Guidance on Taxability of Paycheck Protection Program Loan Forgiveness

We previously reported back in May that the IRS issued Notice 2020-32, stating that expenses related to forgiven Paycheck Protection Program (PPP) loans would not be deductible. This created much uncertainty as to how those rules would apply under a myriad of circumstances. On November 18, the IRS issued two significant pieces of guidance in Revenue Ruling 2020-27 (RevRule 2020-27)and Revenue Procedure 2020-51 (RevProc 2020-51) which offer some direction in the midst of year-end planning.

Background

When the CARES Act was passed to provide $2 trillion in economic aid to individuals and businesses impacted by the coronavirus public health emergency, it indicated that loan forgiveness amounts would not be included in income. A significant reason for this was to avoid shifting the stimulus burden onto the shoulders of business owners by virtue of the tax liability on the stimulus payments. After all, much of the PPP loan funding was to get stimulus dollars in the hands of workers quickly by keeping them employed and off unemployment rolls. IRS Notice 2020-32 takes the position that loan forgiveness equates to “tax-exempt income” and therefore, the related expenses are not deductible.

When to Deduct

As revisions to the PPP loan program continued throughout the year, a big question emerged: What happens if loan forgiveness isn’t applied for or approved until 2021? In response, RevRule 2020-27 indicates that a taxpayer, “may not deduct those expenses in the taxable year in which the expenses were paid or incurred if, at the end of such taxable year, the taxpayer reasonably expects to receive forgiveness of the covered loan…” This means that in 2020, for calendar year taxpayers, there will be no deduction for PPP loan forgiveness related expenses.

The ruling doesn’t specifically address fiscal year taxpayers; however, based on the premises of the ruling, it appears that when qualifying PPP expenses straddle two tax years, the expenses are non-deductible in the year in which they were incurred. With recently added flexibility in expanding PPP loan covered periods and qualifying expenses, it may be advantageous to strategically and specifically identify qualifying expenses related to requested forgiveness in situations where the potentially qualifying expenses are greater than the loan amount.

To illustrate the application of this guidance, RevRule 2020-27 uses two examples: 1. in which a taxpayer applies for PPP loan forgiveness during 2020 but does not receive final approval by year-end, and 2. another in which a taxpayer does not submit their forgiveness application until 2021. In both instances, because they “reasonably expect to receive forgiveness” the expenses related to the forgiveness are not deductible.

No Forgiveness

Let’s now turn to what happens if PPP loan forgiveness is denied or a taxpayer decides not to apply for forgiveness. RevProc 2020-51 offers a safe harbor allowing taxpayer deductions for the PPP qualifying expenses under these circumstances. While this might seem redundant, it adds clarity to avoid some potentially adverse results under certain technical interpretations of the law. This procedure also allows the expenses to either be deducted in the year incurred or a subsequent tax year.

To claim a deduction for the expenses, a safe harbor statement must be attached to the taxpayer’s timely filed return, including extensions or amended return. The statement must be titled “Revenue Procedure 2020-51 Statement.” The statement should include the following items.

• the amount of the loan
• the amount of loan denied or amount no longer seeking to be forgiven
• the date denied
• the amount of eligible expenses and non-deducted eligible expenses reported on the return

We likely haven’t seen the last of the guidance on this topic. The IRS’ position in Notice 2020-32 is contrary to Congressional intent and there is still bipartisan support in Washington for a legislative correction to allow expenses related to forgiven PPP loans to be deductible. However, in the wake of the November elections, we are still left with considerable uncertainty as to the nature and timing of any stimulus-related legislation.

We will keep you updated on any continuing developments. Your BMF Advisor stands ready to help you navigate your tax deductions under loan forgiveness or any other tax planning needs.

Check out all our Paycheck Protection Program articles and visit our COVID-19 Resource Center for information and additional resources for you and your business.