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PPP Loans: IRS Receives Pushback on Decision to Limit Deductions

In a move that quickly encountered criticism, the IRS on April 30th issued Notice 2020-32, stating that no deduction will be allowed for expenses paid using Paycheck Protection Program (PPP) funds to the extent loan amounts are forgiven. Normally, the covered expenses–payroll, mortgage interest, rent, and utilities–are deductible business expenses. The IRS’s position is that, because loan forgiveness amounts are not included in income under the CARES Act, allowing related deductions would result in a “double tax benefit.”

The IRS notice has come under criticism from bipartisan members of Congress and from professional organizations, such as the AICPA. While the CARES Act specifically says forgiven loans are not income to the recipients, it does not address the related deductions. So, the issue is whether or not Congress intended this result. Key members of Congress say it did not. Pending legislation introduced in the Senate on May 6th, S. 3612, would overrule the notice.

Congress, AICPA Object

Senate Finance Committee Chairman Chuck Grassley (R-Iowa), Ranking Member Ron Wyden (D-Ore.) and House Ways & Means Committee Chairman Richard E. Neal (D-Mass.) have written a letter to Treasury Secretary Mnuchin urging the department to change its “flawed interpretation” of the CARES Act. “We believe the position taken in the Notice ignores the overarching intent of the PPP, as well as the specific intent of Congress to allow deductions in the case of PPP loan recipients,” the letter states. The letter goes on to note that the IRS interpretation reverses the benefit Congress specifically granted by exempting PPP loan forgiveness from income.

The AICPA announced it would challenge the IRS’s determination and that it “intends to seek legislative clarification.” The group’s position is that the IRS incorrectly interpreted the intent of the Act, and barring deductions gives the income exclusion provision of the CARES Act no meaning.

“The intent of the law was to keep people employed, and the PPP loans were specifically in place to help small businesses retain their staff during a medical and financial crisis,” noted Frazier & Deeter Tax Partner Matthew Foster. “If the goal is for small businesses to keep their staff, then it doesn’t seem completely logical to eliminate standard tax deductions that those same small businesses have built into their business models.”

Treasury Digs In

So far, Treasury Secretary Mnuchin has defended the IRS notice. In an interview on Mornings with Maria on the Fox Business Network, Mnuchin said, “The money coming in the PPP is not taxable. So, if the money that’s coming is not taxable, you can’t double dip,” Mnuchin said. “You can’t say you’re going to get deductions for workers that you didn’t pay for.”

In absence of action by Congress, PPP loan recipients will lose an important tax benefit. The tax cost could be 21% of the disallowed deductions for corporations and up to 37% for passthrough business owners.

Considering the strong objections to the IRS notice coming from Congress and the AICPA, it is likely that Congress will act soon to reverse the Treasury decision by passing S. 3612 or incorporating the change into a new coronavirus bill. Until then, businesses with PPPs must factor the tax cost of the lost deductions into their financial projections over the next year.

Other PPP Issues

The AICPA is lobbying to change the start of the 8-week measurement period for PPP loan expenditures. Given the staggered and highly variable status of shut down orders around the country, the AICPA believes that the 8 weeks should not automatically start with the funding of the loan but should allow for alternate start dates based on individual situations. Until further guidance is issued, the measurement period and other issues relating to loan forgiveness remain unclear.

Given the number of topics that are still being debated Frazier & Deeter has published a Frequently Asked Questions document to help PPP loan recipients understand the current status on different topics.

Your Frazier & Deeter team will continue to monitor the evolving situation. If you need help understanding or navigating the PPP loan process, please visit our CARES ACT Program .

 

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