UPDATE:

The long-awaited Coronavirus relief legislation to
provide needed funding to individuals and businesses has passed the US Congress
and was finally signed by the President on December 27.  An important
provision in the new law confirms the legislative intent in the first CARES Act
regarding the deductibility of expenses paid with proceeds from Paycheck
Protection Program (PPP) loans.

As the cascading effects of the COVID-19 pandemic
threatened to devastate small businesses across the country, the quickly
enacted CARES Act became law on March 27 this year.  The $2 Trillion
appropriation allowed relief checks to be sent to millions of American workers
and authorized the Small Business Administration to grant forgivable loans
through their network of participating banks and lenders.

Soon thereafter, the IRS issued a ruling that diminished
the benefits of the forgivable loan.  They said that since Congress
explicitly excluded the forgivable loans from income but was silent about the
tax treatment of expenses paid from proceeds of the loan, there would be no
deduction allowed for those expenses.  The new law makes clear what
Congress originally intended.  Expenses paid from forgivable PPP loan
proceeds are now deductible.

If it sounds too good to be true, it probably is.

Well, such is the case with the forgivable loans under the Paycheck Protection Program (PPP). To many business owners, these loans appeared to be free money. When the PPP was announced under the newly enacted Coronavirus Aid, Relief, and Economic Security (CARES) Act, lenders were overwhelmed with requests for these loans. Only after many of the loans were granted did the Internal Revenue Service announce that expenses paid with proceeds from these loans are NOT deductible.

While some in Congress intended the loan program to be free, on April 30 and again on November 20, the IRS issued notices that deny “deductions for otherwise deductible expenses of businesses that received qualifying business loans under the Paycheck Protection Program to the extent that such loans are later forgiven as permitted under certain circumstances pursuant to the program.”

CARES Act 

Congress quickly enacted the $2 trillion CARES Act in the early days of the COVID-19 public health crisis as a lifeline to workers and small business. The Paycheck Protection Program was established by the CARES Act to offer low-cost forgivable loans to qualifying business. Other provisions of the Act provided benefits directly to workers, health care organizations, and state and local government.

Forgivable Loans 

Since the purpose of CARES Act was to keep workers employed and help businesses remain open, the forgivable loans to businesses were approved for payroll, healthcare benefits, rent or mortgage payments and utility expenses. If used for these purposes in accordance with the program guidelines administered by the Small Business Administration, the applicant may apply for loan forgiveness.

Additionally, the CARES Act explicitly excluded loan proceeds as income to the business. However, what was unclear at the time of adoption is the tax treatment of expenses paid from the forgivable loan. The IRS notices clarify the tax treatment and will stand unless Congress changes the law. In the opinion of the IRS, the loan program confers a double tax benefit to the borrower that was not the expressed intention of the Act. Bipartisan support for legislation to reverse the IRS decision has been introduced and is under consideration by Congress.

The loss of some business deductions obviously reduces the benefit of a forgivable loan. In some situations, it may be better for a business to repay the loan. Business owners should evaluate their individual circumstances and the tax implications of each option in consultation with their tax advisors when making a decision.