Yet another set of PPP rules has been issued by the Small Business Administration (SBA). This time establishing a nominal ownership percentage that won’t be subject to a loan forgiveness limit and on non-payroll costs eligible for forgiveness. The clarification on owner employees is a welcome change to the earlier rule that all owner employees would be subject to a cap on compensation forgiveness, regardless of their ownership percentage.
The June 2020 rules provided that self-employed individuals and owner-employees would be subject to a loan forgiveness cap equal to the lower of $15,385 or 8/52 of 2019 compensation for an 8-week covered period. For a 24-week covered period, the calculation is 2.5/12 x 2019 compensation up to a max of $20,833. These limits apply across all businesses. (See earlier coverage.) The 24-week limit is stricter than for non-owner-employees. For non-owners, the payroll costs that can be forgiven for a 24-week period is a maximum of $46,154 per individual.
Nominal Owners Exempt
The new rules exempt owner employees holding less than a 5% interest in a C or S Corporation from these stricter limitations on loan forgiveness. The SBA explained that this exemption is intended to cover owner-employees who have no meaningful ability to influence decisions over how loan proceeds are allocated. Thus, they will not be subject to the owner-employee cap.
Non-payroll Costs, Rent and Home Offices
Rental payments and mortgage interest for leases in force prior to February 15, 2020, are eligible for loan forgiveness. The new rules clarify this rule stating that non-payroll costs eligible for forgiveness do not include any amount attributable to the business operation of a tenant or sub-tenant of the PPP borrower.
Example 1: A borrower rents an office building for $10,000 per month and subleases out a portion of the space to other businesses for $2,500 per month. Only $7,500 per month is eligible for loan forgiveness.
Example 2: A borrower has a mortgage on an office building it operates out of, and it leases out a portion of the space to other businesses. The portion of mortgage interest eligible for loan forgiveness is limited to the percent share of the fair market value (FMV) of the space that is not leased out to other businesses. For example, if the leased space represents 25% of the FMV of the office building, the borrower may only claim forgiveness on 75% of the mortgage interest.
Example 3: A borrower shares a rented space with another business. When determining the amount that is eligible for loan forgiveness, the borrower must prorate rent and utility payments in the same manner as on the borrower’s 2019 tax filings, or, if a new business, the borrower’s expected 2020 tax filings.
The rules also address the proportion of home office expenses that are eligible for forgiveness for home-based businesses.
Example: A borrower works out of his or her home. When determining the amount of non-payroll costs that are eligible for loan forgiveness, the borrower may include only the share of covered expenses that were deductible on the borrower’s 2019 tax filings, or, if a new business, the borrower’s expected 2020 tax filings.
The new rules also include more detail on the treatment of rent paid to related parties. Any ownership in common between the business and the property owner is a related party for purposes of these rules.
Rent or lease payments to related parties are eligible for loan forgiveness if: (1) the amount of loan forgiveness requested is no more than the amount of mortgage interest owed on the property during the covered period that is attributable to the space being rented by the business, and (2) the lease and the mortgage were entered into before February 15, 2020. The borrower must provide its lender with mortgage interest documentation to substantiate these payments.
Unlike rent, mortgage interest payments to a related party are not eligible for forgiveness. The SBA explains the reason for this rule as follows. “PPP loans are intended to help businesses cover certain non-payroll obligations that are owed to third parties, not payments to a business’s owner that occur because of how the business is structured.” SBA observes that this distinction will maintain equitable treatment between a business owner that holds the property in a separate entity and one that holds the property in the same entity as its business operations.
The forgiveness rules continue to be a challenge. Let Frazier & Deeter’s PPP team assist with your calculations.