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New Guidance Clarifies PPP Loan Forgiveness Criteria and Calculations

(Parker Tax Publishing June 2020)

On the heels of releasing the much anticipated application and related instructions for Paycheck Protection Program (PPP) loan forgiveness (PFTB , the Small Business Administration (SBA) updated its interim final rules to provide additional guidance on requirements governing the forgiveness of PPP loans. Among the more welcome additions is the inclusion in payroll costs of hazard pay and bonuses, a clarification of how the headcount reduction penalty is calculated, and a rule under which a borrower that restores reductions made to employee salaries and wages or full-time equivalent employees by no later than June 30, 2020, can avoid a reduction in its loan forgiveness amount. The updated rules also clarify limits on the compensation of owner-employees and self-employed individuals that can be included payroll costs. SBA-2020-0032; SBA-2020-0033.


On March 27, 2020, President Trump signed the Coronavirus Aid, Relief, and Economic Security Act (the CARES Act) (Pub. L. 116-136) to provide emergency assistance and health care response for individuals, families, and businesses affected by the coronavirus pandemic (COVID-19). The Small Business Administration (SBA) received funding and authority through the CARES Act to modify existing loan programs and establish a new loan program to assist small businesses nationwide adversely impacted by the COVID-19 emergency. Section 1102 of the CARES Act temporarily permits SBA to guarantee 100 percent of 7(a) loans under the Paycheck Protection Program (PPP).

Observation: While funds allocated through the PPP were initially depleted within days of being released, some of those amounts were subsequently returned to the program. As a result, funds are still available and interested businesses should consult with their local lenders to see if the lender is participating in the program.

Section 1106 of the CARES Act provides for forgiveness of up to the full principal amount of qualifying loans guaranteed under PPP, and requires the SBA to issue guidance and regulations implementing Section 1106. PPP loans can be forgiven up to an amount equal to the sum of certain costs incurred and payments made during the eight-week period beginning on the loan origination date (i.e., the covered period or the alternate covered period). Borrowers that don't qualify for forgiveness generally must repay the loans over a two-year period. On April 24, 2020, the President signed the Paycheck Protection Program and Health Care Enhancement Act (Pub. L. 116-139), which provided additional funding and authority for the PPP.

Observation: There is a bill in the House of Representatives, H.R. 6886, which would give businesses 24 weeks, instead of eight weeks, to spend the PPP loan proceeds and would increase the length of time a borrower has to repay the loan from two years to five to ten years.

On April 2, 2020, the SBA posted an interim final rule (SBA-2020-0015) announcing the implementation of the CARES Act and the PPP. The SBA posted additional interim final rules in the Federal Register in April, May, and June (SBA-2020-0023, SBA-2020-0024, SBA-2020-0026, SBA-2020-0029, SBA-2020-0030, and SBA-2020-0031, SBA-2020-0032, and SBA-2020-0033).

The SBA has also posted Frequently Asked Questions (FAQs) relating to loan forgiveness and has periodically updated those FAQs (link: PPP FAQs document).

On May 18, the SBA released the PPP Loan Forgiveness Application, along with detailed instructions for the application (discussed in PFTB 2020-05-20). In conjunction with the issuance of this application, the SBA also expanded the FAQs (PPP FAQs document) to provide that an employer that repaid its PPP loan by the safe harbor deadline of May 18, 2020, is eligible for the employee retention tax credit enacted under the CARES Act.

On June 1, 2020, the SBA issued SBA-2020-0032 and SBA-2020-0033. SBA-2020-0032 provides additional guidance for preparing and submitting loan forgiveness applications. SBA-2020-0033 supplements prior guidance in order to inform borrowers and lenders of SBA's process for reviewing loan applications and loan forgiveness applications.

General Rules for Loan Forgiveness

The guidance in SBA-2020-0032 is focused on helping PPP borrowers prepare and submit loan forgiveness applications, helping PPP lenders who will be making the loan forgiveness decisions, and informing borrowers and lenders of the SBA's process for reviewing PPP loan applications and loan forgiveness applications.

PPP borrowers are eligible for forgiveness of their PPP loan in an amount equal to the sum of the following costs incurred and payments made during the covered period:

(1) payroll costs;

(2) interest payments on any business mortgage obligation on real or personal property that was incurred before February 15, 2020 (but not any prepayment or payment of principal);

(3) payments on business rent obligations on real or personal property under a lease agreement in force before February 15, 2020; and

(4) business utility payments for the distribution of electricity, gas, water, transportation, telephone, or internet access for which service began before February 15, 2020.

SBA-2020-0032 uses the term ''nonpayroll costs'' to refer to the payments described in (2), (3), and (4), above. As set forth in the First Interim Final Rule (SBA-2020-0015 (4/2/20)), eligible nonpayroll costs cannot exceed 25 percent of the loan forgiveness amount.

Payroll Costs

The CARES Act originally provided that, to be forgiven, payroll costs had to be incurred and paid within the covered period. This changed, however, in the Loan Forgiveness Application Instructions. In those instructions, borrowers were told that payroll costs "incurred or paid" during the covered period or the alternative payroll covered period are eligible for forgiveness. SBA-2020-0032 follows with the same language and provides that, in general, payroll costs paid or incurred during the eight consecutive week (56 days) covered period are eligible for forgiveness. Borrowers may seek forgiveness for payroll costs for the eight weeks beginning on either (i) the date of disbursement of the borrower's PPP loan proceeds from the lender (i.e., the start of the "covered period"); or (ii) the first day of the first payroll cycle in the covered period (the ''alternative payroll covered period''). Payroll costs are considered paid on the day that paychecks are distributed or the borrower originates an ACH credit transaction. Payroll costs incurred during the borrower's last pay period of the covered period or the alternative payroll covered period are eligible for forgiveness if paid on or before the next regular payroll date; otherwise, payroll costs must be paid during the covered period (or alternative payroll covered period) to be eligible for forgiveness.

Payroll costs are generally incurred on the day the employee's pay is earned (i.e., on the day the employee worked). For employees who are not performing work but are still on the borrower's payroll, payroll costs are incurred based on the schedule established by the borrower (typically, each day that the employee would have performed work).

SBA-2020-032 clarifies that the following payroll costs are eligible for loan forgiveness:

(1) salary, wages, or commission payments to furloughed employees;

(2) bonuses; and

(3) hazard pay during the covered period.

Caps on Compensation of Owner-Employees and Self-Employed Individuals

The guidance states that loan forgiveness requested for owner-employees and self-employed individuals' payroll compensation can be no more than the lesser of 8/52 of 2019 compensation (i.e., approximately 15.38 percent of 2019 compensation) or $15,385 per individual in total across all businesses. In particular, owner-employees are capped by the amount of their 2019 employee cash compensation and employer retirement and health care contributions made on their behalf.

Schedule C filers are capped by the amount of their owner compensation replacement, calculated based on 2019 net profit. General partners are capped by the amount of their 2019 net earnings from self-employment (reduced by claimed Code Sec. 179 expense deductions, unreimbursed partnership expenses, and depletion from oil and gas properties) multiplied by 0.9235. No additional forgiveness is provided for retirement or health insurance contributions for self-employed individuals, including Schedule C filers and general partners, as such expenses are paid out of their net self-employment income.

Nonpayroll Costs Eligible for Loan Forgiveness

SBA-2020-0032 provides that a nonpayroll cost is eligible for forgiveness if it was:

(1) paid during the covered period; or

(2) incurred during the covered period and paid on or before the next regular billing date, even if the billing date is after the covered period.

Example: A borrower's covered period begins on June 1 and ends on July 26. The borrower pays its May and June electricity bill during the covered period and pays its July electricity bill on August 10, which is the next regular billing date. The borrower may seek loan forgiveness for its May and June electricity bills, because they were paid during the covered period. In addition, the borrower may seek loan forgiveness for the portion of its July electricity bill through July 26 (the end of the covered period), because it was incurred during the covered period and paid on the next regular billing date.

Observation: There had been some uncertainty as to whether nonpayroll costs could be forgiven if they were paid outside of the covered period because the CARES Act provided for forgiveness of "costs incurred and payments made." The language in SBA-2020-0032 clarifies that nonpayroll costs can be paid outside of the covered period if they were incurred within the covered period. According to the SBA, this interpretation provides an appropriate degree of flexibility and the 25 percent cap on nonpayroll costs will avoid excessive inclusion of nonpayroll costs.

Reductions to Loan Forgiveness Based on Full-Time Equivalent Employees

A number of questions have arisen with respect to the requirement in the CARES Act that certain reductions apply to a borrower's loan forgiveness amount based on reductions in full-time equivalent (FTE) employees or in employee salary and wages during the covered period, subject to an important statutory exemption for borrowers who have rehired employees and restored salary and wage levels by June 30, 2020 (with limitations). In addition, the SBA said that it and the Treasury Department are adopting a regulatory exemption to the reduction rules for borrowers who have offered to rehire employees or restore employee hours, even if the employees have not accepted. SBA-2020-0032 provides additional explanations as to how the statutory forgiveness reduction formulas work.

Under SBA-2020-0032, a borrower's loan forgiveness amount is not reduced if the borrower laid off or reduced the hours of an employee, then offered to rehire the same employee for the same salary and same number of hours, or restore the reduction in hours, but the employee declined the offer. Employees whom the borrower offered to rehire are generally exempt from the CARES Act's loan forgiveness reduction calculation. This exemption is also available if a borrower previously reduced the hours of an employee and offered to restore the employee's hours at the same salary or wages. Specifically, in calculating the loan forgiveness amount, a borrower may exclude any reduction in FTE employee headcount that is attributable to an individual employee if:

(1) The borrower made a good faith, written offer to rehire such employee or, if applicable, restore the reduced hours of such employee) during the covered period or the alternative payroll covered period;

(2) the offer was for the same salary or wages and same number of hours as earned by such employee in the last pay period prior to the separation or reduction in hours;

(3) the offer was rejected by such employee;

(4) the borrower has maintained records documenting the offer and its rejection; and

(5) the borrower informed the applicable state unemployment insurance office of such employee's rejected offer of reemployment within 30 days of the employee's rejection of the offer.

Observation: According to the SBA, the above exemption is an appropriate exercise of its rulemaking authority under the CARES Act to grant de minimis exemptions. The CARES Act reduces the amount of the PPP loan that may be forgiven if the borrower reduces FTE employees during the covered period as compared to a base period selected by the borrower. However, the CARES Act waives this reduction in the forgiveness amount if the borrower eliminates the reduction in FTE employees occurring during a different statutory reference period by not later than June 30, 2020. The SBA said that the additional exemption set forth above is consistent with the purposes of the CARES Act and provides borrowers appropriate flexibility in the current economic climate.

The SBA also addressed the effect that a reduction in a borrower's number of FTE employees have on the loan forgiveness amount. A reduction in FTE employees during the covered period or the alternative payroll covered period reduces the loan forgiveness amount by the same percentage as the percentage reduction in FTE employees. The borrower must first select a reference period: (i) February 15, 2019, through June 30, 2019; (ii) January 1, 2020, through February 29, 2020; or (iii) in the case of a seasonal employer, either of the two preceding methods or a consecutive 12-week period between May 1, 2019, and September 15, 2019. If the average number of FTE employees during the covered period or the alternative payroll covered period is less than during the reference period, the total eligible expenses available for forgiveness is reduced proportionally by the percentage reduction in FTE employees.

Example: If a borrower had 10.0 FTE employees during the reference period and this declined to 8.0 FTE employees during the covered period, the percentage of FTE employees declined by 20 percent and thus only 80 percent of otherwise eligible expenses are available for forgiveness.

While the CARES Act does not define the term ''full-time equivalent employee,'' the SBA determined that full-time equivalent is best understood to mean 40 hours or more of work each week because, the SBA said, that is the standard used for a vast majority of American workers.

SBA-2020-0032 also addresses the effect that a borrower's reduction in employees' salary or wages has on the loan forgiveness amount by noting that, under the CARES Act, a reduction in an employee's salary or wages in excess of 25 percent will generally result in a reduction in the loan forgiveness amount, unless an exception applies. Specifically, for each new employee in 2020 and each existing employee who was not paid more than the annualized equivalent of $100,000 in any pay period in 2019, the borrower must reduce the total forgiveness amount by the total dollar amount of the salary or wage reductions that are in excess of 25 percent of base salary or wages between January 1, 2020 and March 31, 2020 (the reference period), subject to exceptions for borrowers who restore reduced wages or salaries. This reduction calculation is performed on a per employee basis, not in the aggregate.

Example: A borrower reduced a full-time employee's weekly salary from $1,000 per week during the reference period to $700 per week during the covered period. The employee continued to work on a full-time basis during the covered period with an FTE of 1.0. In this case, the first $250 (25 percent of $1,000) is exempted from the reduction. Borrowers seeking forgiveness would list $400 as the salary/hourly wage reduction for that employee (the extra $50 weekly reduction multiplied by eight weeks).

To ensure that borrowers are not doubly penalized, the salary/wage reduction applies only to the portion of the decline in employee salary and wages that is not attributable to the FTE reduction.

The CARES Act does not address the intersection between the FTE employee reduction provision and the salary/wage reduction provision. Thus, SBA-2020-0032 provides that, to help ensure uniformity across all borrowers in applying the FTE reduction provision and the salary/wage reduction provision, the salary/wage reduction applies only to the portion of the decline in employee salary and wages that is not attributable to the FTE reduction. Under this approach, borrowers are not doubly penalized for reductions.

Example: An hourly wage employee had been working 40 hours per week during the borrower selected reference period (FTE employee of 1.0) and the borrower reduced the employee's hours to 20 hours per week during the covered period (FTE employee of 0.5). There was no change to the employee's hourly wage during the covered period. Because the hourly wage did not change, the reduction in the employee's total wages is entirely attributable to the FTE employee reduction and the borrower is not required to conduct a salary/wage reduction calculation for that employee.

SBA-2020-0032 also provides that:

(1) if a borrower restores reductions made to employee salaries and wages or FTE employees by not later than June 30, 2020, the borrower can avoid a reduction in its loan forgiveness amount; and

(2) a borrower's loan forgiveness amount will not be reduced if an employee is fired for cause, voluntarily resigns, or voluntarily requests a schedule reduction.

The SBA noted that, when an employee of the borrower is fired for cause, voluntarily resigns, or voluntarily requests a reduced schedule during the covered period or the alternative payroll covered period (FTE reduction event), the borrower may count such employee at the same full-time equivalency level before the FTE reduction event when calculating the FTE employee reduction penalty. The SBA said that such employees should be exempt from the calculation of the FTE reduction penalty and noted that the CARES Act is silent on how to account for employees who are fired for cause, voluntarily resign, or voluntarily request a reduced schedule. The SBA determined that a de minimis exemption was warranted because a limited number of borrowers will face an FTE reduction event during the covered period or the alternative payroll covered period and, also, borrowers should not be penalized for changes in employee headcount that are the result of employee actions and requests.

Compliance Tip: Borrowers that avail themselves of this de minimis exemption must maintain records demonstrating that each such employee was fired for cause, voluntarily resigned, or voluntarily requested a schedule reduction.

SBA Review of PPP Loans and the Loan Forgiveness Process for Lenders

New guidance in SBA-2020-0033 addresses SBA reviews of individual PPP loans, the loan forgiveness process for lenders, and lender fees.

With respect to the SBA reviews of individual PPP loans, SBA-2020-0033 provides the following:

(1) The SBA may review, at any time, any PPP loan in order to determine borrower eligibility, appropriateness of loan amounts and the use of the loan proceeds, and whether a borrower is entitled to loan forgiveness in the amount claimed on the loan forgiveness application.

(2) If loan documentation submitted to the SBA by the lender or any other information indicates that the borrower may be ineligible for a PPP loan or may be ineligible to receive the loan amount or loan forgiveness amount claimed by the borrower, the SBA will require the lender to contact the borrower in writing to request additional information.

(3) If the SBA determines that a borrower is ineligible for the PPP loan, the SBA will direct the lender to deny the loan forgiveness application. Further, if the SBA determines that the borrower is ineligible for the loan amount or loan forgiveness amount claimed by the borrower, SBA will direct the lender to deny the loan forgiveness application in whole or in part, as appropriate. SBA may also seek repayment of the outstanding PPP loan balance or pursue other available remedies.

(4) Borrowers may appeal an SBA determination that a borrower is ineligible for a PPP loan or ineligible for the loan amount or loan forgiveness. The SBA intends to issue a separate Interim Final Rule addressing the process.

With respect to the loan forgiveness process for lenders, SBA-2020-0033 provides the following:

(1) the items a lender must review and confirm they have received (e.g., borrower certifications and relevant documentation);

(2) a lender must issue a decision to the SBA on a loan forgiveness application no later than 60 days after receipt of a complete loan forgiveness application from the borrower; and

(3) the procedures a lender must follow if the lender receives notice that the SBA is reviewing a loan.

Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. The information contained herein is general in nature and based on authorities that are subject to change. Parker Tax Publishing guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. Parker Tax Publishing assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein.

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