Help may be on the way! A bipartisan group of congressional policymakers recently released two compromise relief bills to address the COVID-19 pandemic, totaling about $908 billion: The Emergency Coronavirus Relief Act and the Bipartisan State and Local Support and Small Business Protection Act.
The Emergency Coronavirus Relief Act would allow business expenses paid for by PPP proceeds to be tax deductible. Until The Emergency Coronavirus Relief Act passes, the IRS ruling remains that the business expenses paid from forgiven PPP loan funds are not deductible.
Under the Paycheck Protection Program, PPP loan forgiveness is tax free. However, according to an IRS ruling, “since businesses are not taxed on the proceeds of a forgiven PPP loan, the expenses are not deductible.” The ruling goes on to state that, “If a business reasonably believes that a PPP loan will be forgiven in the future, expenses related to the loan are not deductible, whether the business has filed for forgiveness or not.” For example, Melody, a restaurant owner, received a $1 million PPP loan in 2020, that she used to retain employees and pay $1 million in payroll and related expenses. Melody expects the loan to be forgiven in 2021. The business had net income of $200,000 in 2020. According to the IRS, Melody must add back the $1 million in expenses resulting in 2020 taxable income of $1.2M. Melody has a combined federal and California marginal income tax rate of 50%. Under the IRS ruling, Melody must pay $500,000 in additional taxes, even though she spent the entire PPP loan to retain employees and keep her business afloat.
Under the current law, there may be a position that the PPP loan expenses should be deductible regardless of the IRS guidelines. Also, some policymakers in Congress have argued that it was Congress’ intent to provide for the deductibility of PPP loan related expenses.
We will keep you informed as we continue to monitor these developments. Feel free to contact us with any questions.