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Paycheck Protection Program loans may increase tax burden

grejak/Getty Images Tax day is circled on a July 2020 calendar
TAX PREP: If you’ve taken a Paycheck Protection Program loan, it’s good to know the potential effects on your taxes. Remember, Tax Day is July 15 this year.
Tax Tips: The PPP loan program is designed to help small business owners keep people on the payroll.

Businesses participating in the Paycheck Protection Program have experienced ups and downs over the past few weeks, even though the program has been replenished by the government.

But a recent IRS notice states that expenses paid with the forgivable loan are not tax deductible. 

So, let’s go through a scenario:

Suppose you, as a farmer, receive a $100,000 PPP loan that is ultimately forgiven. For a taxpayer in a 30% marginal tax bracket, the loss of a $100,000 deduction would increase tax by $30,000. The IRS rationale, which is based on historical tax concepts of avoiding “double dipping,” is that someone shouldn’t be able to deduct a dollar of expense with a dollar of tax-free money.

The good news is that there are members of Congress on both sides of the aisle who are looking to make these expenses deductible through subsequent legislation. Chuck Grassley, R-Iowa, chairman of the Senate Finance Committee, and Richard E. Neal, D-Mass., chairman of the House Ways and Means Committee, are in support of this remedy.

Interestingly, without a remedy by Congress, it looks as if farmers who are sole proprietors would be in a better tax situation because the portion of their compensation that is forgiven under the rules does not require a direct expense — i.e. their net Schedule F profit. Essentially, sole-proprietor farmers would be eligible to have eight weeks’ worth — a little more than 15% — of their 2019 Schedule F profit to determine their forgivable amount.

Other PPP developments

The Small Business Administration (SBA) continues to provide guidance on the PPP. Here are some notable developments:

Housing allowance. The cost of a housing allowance or stipend is a permitted payroll cost.

In order to determine if an employee’s principal place of residence is in the U.S., and thus counts toward the loan calculation, taxpayers are directed to regulations that consider the following factors: the property that the taxpayer uses a majority of the year; the taxpayer’s place of employment; the main residence of the taxpayer’s family; the address listed on important government documents such as tax returns, driver’s license, automobile registration and voter registration; the taxpayer’s mailing address; and the location of the taxpayer’s bank, place of worship and recreational clubs.

Laid off employees. PPP loan forgiveness will not be reduced if the borrower laid off an employee and offered to rehire that same employee, but the employee declined the offer. Specifically, “SBA and Treasury intend to issue an interim final rule excluding laid-off employees whom the borrower offered to rehire (for the same salary or wages and the same number of hours) from the CARES Act’s loan forgiveness reduction calculation.”

Seasonal employers. For seasonal employers, the Department of the Treasury has updated guidance to permit the use of any consecutive 12-week period between May, 1 2019, and Sept. 15, 2019, in calculating the maximum loan amount.

Employee retention credit

The Employee Retention Credit, part of the Coronavirus Aid, Relief and Economic Security Act, is a refundable credit worth 50% of wages paid by employers — for the first $10,000 of compensation, including health benefits per employee — who have had operations interrupted (fully or partially suspended) due to COVID-19, or had a decline of more than 50% in gross receipts compared to the same quarter the prior year.

Until now, there have been several questions regarding what constitutes an operation that has been fully or partially suspended. IRS has released the following guidance on its website on this topic:

  • Essential businesses are not eligible for the credit despite the government order requiring nonessential businesses to suspend operations.
  • A government order causing suppliers to an essential business to suspend their operations may qualify for the credit if that essential business cannot function as a result.
  • An essential business will not qualify for the credit simply because its customers are required to stay at home.
  • A business is not considered to have suspended operations if the workplace is closed but the business is continuing operations by requiring employees to telework.
  • A business is eligible if the workplace is shut down for certain purposes but permitted to be open for other purposes. For example, a winery closes its establishment but is using curbside pickup and delivery services.
  • A business is eligible if they are required to reduce operating hours.
  • A business with multiple locations in which some locations are shut down and some are not is eligible.
  • If an aggregated group of businesses has one member that is shut down, the business will qualify for the credit.
  • If the government lifts the order to fully or partially suspend operations, that business is still eligible for the calendar quarters where the operations were suspended, but the qualifying wages only go through the date the suspension was in place.

Arezzo is a senior tax consultant with Farm Credit East.

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