IRS Confirms the Non-Deductibility of PPP Loan Related Expenses
In April, the Internal Revenue Service (IRS) released Notice 2020-32 to address the deductibility of certain expenses relating to the Paycheck Protection Program (PPP). Ordinarily, expenses for payroll, mortgage interest, rent and utilities are generally deductible business expenses for federal income tax purposes. However, the Notice indicated that such business expenses that were paid with PPP loan proceeds are not deductible if the PPP loan is subsequently forgiven. Despite facing widespread criticism, the IRS has maintained this position and now they have released new guidance to address how these business expenses would be treated when the PPP loan is not forgiven by the end of 2020 but might be in the future.
Rev. Rul. 2020-27: No Deduction if Taxpayer Reasonably Expects PPP Loan Forgiveness
The IRS released Rev. Rul. 2020-27 to clarify that a taxpayer may not deduct eligible business expenses that were paid with PPP loan proceeds in 2020 if the taxpayer reasonably expects to receive forgiveness of its PPP loan. The revenue ruling discusses two situations.
In situation 1, Taxpayer A received a PPP loan, used the loan proceeds for eligible business expenses such as qualified payroll, utility, and rent expenses. In November 2020, Taxpayer A applied for PPP loan forgiveness based on the eligible expenses it paid during the applicable covered period. At that time, Taxpayer A satisfied the requirements under the CARES Act for forgiveness of the PPP loan.
In situation 2, the facts are the same as situation 1, except that Taxpayer B did not apply for PPP loan forgiveness before the end of 2020 but expected to apply for loan forgiveness in 2021.
In both situations, the IRS determined that the taxpayer reasonably expected to receive forgiveness of its PPP loan and therefore, neither taxpayer may deduct the eligible business expenses that were paid with the PPP loan proceeds in 2020.
Rev. Proc. 2020-51: Safe Harbor to Claim Tax Deduction if Loan is Not Forgiven
The IRS also released Rev. Proc. 2020-51, which provides a safe harbor for taxpayers to claim deductions for eligible expenses funded by a PPP loan. The eligible expenses will be deducted if:
- The eligible expenses are paid or incurred during the taxpayer’s 2020 taxable year,
- The taxpayer received a PPP loan and at the end of the year the taxpayer expects the loan forgiven in a taxable year after 2020, and
- In that subsequent taxable year, the taxpayer’s request for forgiveness is denied in full or in part, or the taxpayer never requests forgiveness.
In such case, the taxpayer would be permitted to take a tax deduction for those otherwise eligible expenses on an original return, an amended return, or an administrative adjustment request. To take advantage of this safe harbor, a taxpayer must file a statement with its return on which it is deducting the previously non-deducted expenses.
These rulings provide much-needed guidance to taxpayers that were considering delaying the filing of forgiveness applications in order to secure deductions in a current-year tax return or taxpayers that had filed a forgiveness application but were uncertain about how to file their tax returns.
However, it is important to note that Congress could pass legislation in the near future that reverses the IRS’s position since many feel the intent of the CARES Act was to provide that any forgivable portion of the PPP loan would not be taxable and that any expenses attributable to the forgivable portion of the PPP loan would continue to be deductible. Not allowing for a deduction of such expenses essentially makes the forgivable portion of the PPP loan taxable, which again, many feel that was not the intention of the CARES Act. Until such legislation passes, if it ever passes, the PPP loan expenses attributable to the forgivable portion of a PPP loan will not be deductible.
If you need assistance in evaluating the PPP loan forgiveness, please contact us.