Taxpayers who did not take deductions in 2020 because of the IRS’s earlier position on forgiven PPP loans may be able to take the deductions in 2021, according to new IRS guidance.
In the early days of the PPP program, the IRS took the position that businesses could not take deductions for expenses attributable to PPP loan forgiveness. In response, Congress changed the rule late in 2020 in the Tax Relief Act of 2020, specifically allowing normal business deductions, such as payroll, mortgage interest, rent, and utilities, even if the expenses were part of PPP forgiveness. The IRS then issued a revenue procedure stating that no deduction will be denied, no tax attribute will be reduced, and no basis increase will be denied to PPP loan recipients due to the exclusion from gross income of a forgiven PPP loan, as of taxable years ending after March 27, 2020. This sequence of events caused a timing problem for some taxpayers.
New Safe Harbor
The IRS’s new safe harbor procedure allows taxpayers another option for taking earlier deductions that were missed. Taxpayers that did not deduct any of the original eligible expenses because they relied on prior IRS guidance can now make an election to take the deductions for the first taxable year following the taxpayer’s 2020 taxable year. Taxpayers do not have to amend their 2020 returns or submit an administrative adjustment request for the 2020 tax year, but instead can take the deductions and attach a statement to the federal income tax return for the next tax year, 2021.
Eligible taxpayers must have:
- obtained a PPP loan;
- filed a Federal income tax return or information return on or before December 27, 2020, for the taxpayer’s 2020 taxable year;
- incurred eligible expenses in 2020; and
- not deducted expenses because of loan forgiveness or expected loan forgiveness.
The safe harbor deductions do not include the expanded list of expenses allowed by the Consolidated Appropriations Act, including expenses to cover operations expenditures such as business software or cloud computing services, property damage costs due to public disturbances, supplier costs, and COVID-19 worker and customer protection expenditures.
The safe harbor procedure also does not apply to expenses forgiven under second draw PPP loans.
The IRS notes that it still may examine any issues relating to the claimed deductions for original eligible expenses, including determining whether a taxpayer is eligible, the amount of the deduction and whether the taxpayer has substantiated the deduction claim. It also may request additional information or documentation verifying any amounts described in the required statement.
The IRS safe harbor should make it easier and less costly to go back and take deductions that a business may not have taken because of confusion over the rules. Taking the deductions on a 2021 return is likely a better option and should be considered by each eligible PPP recipient