Who’s On First?
For those of you not familiar with the classic Abbott and Costello routine, we suggest you look it up on You tube. What else do you have to do anyway?
The routine reminds us of the PPP Loan Application, Funding and Qualification of Expenses process.
We have spent the last week aiding our clients in their application process sometimes numerous times for the same request to various banks and financial institutions. While I wish we could say we have enjoyed 100% success, the rate of acceptance and funding is, thankfully, high.
Now comes the hard part. The next 8 weeks after funding are critical as to your ability to have a portion, if not all, of the loan forgiven. We have been asked so many questions about the calculation and nuances as to what counts as payroll costs and what does not. The SBA is supposed to provide regulations as to the details of how this will work, but as of now, this communication has not appeared. We are left with the original scant details and a lot of guesswork. Every conversation we have begins with the disclaimer “you know there are supposed to be regulations for all this stuff and when they finally appear all that we are saying may change”. In the meantime we have attached the latest iteration of FAQ’s put out by the Treasury Department and SBA on May 3rd. A significant number of the questions will not apply to any of you. In fact many of them are responses to Lender questions because they are as confused as we all are. However we suggest you do read through it as some of questions do pertain to you and may be helpful.
What do we know:
- If you received a PPP loan exceeding $2m you can expect to be audited. When and by whom is unknown.
- Anyone receiving the funds is now required to attest that they need the money and anyone who had previously received the funds and has determined that they do not need the money can give it back no questions asked by May 7th.
- The expenses which the PPP loan pays are not tax-deductible. A loan in and of itself is not income, and therefore it would make sense that this would be so. More on this later.
We have attached our calculator again. Since our last correspondence, we are not aware of any changes to it so it is still relevant.
Let’s go through the details. Once you receive the loan funds it immediately triggers the 8-week coverage period used for determining how much of the loan will be forgiven. The regulations include those expenditures paid within the eight week coverage period that qualify to be forgiven. If you have already received the loan amount, or are about to, then you should already be planning to maximize the loan forgiveness.
- Payroll costs, including salaries, wages and commissions (not to exceed $100,000 per employee) and certain other non-cash benefits (e.g,. group health care benefits, including insurance premiums), retirement benefits and state and local taxes assessed on employee compensation);
- Paid sick, medical or family leave where no tax credits were taken;
- Mortgage interest payments (but not mortgage prepayments or principal payments);
- Rent payments;
- Utilities payments; and
- Interest payments on any other debt obligations that were incurred before Feb. 15.
Conditions for Forgiveness
Based on guidance from the CARES Act and the SBA interim final rule, there are currently three factors that may impact loan forgiveness:
- The 75/25 Rule—At least 75% of the loan must be used for payroll costs. The other 25% could be paid for the other qualifying expenditures stated above.
- Reduction in salary/wages—A major objective of the PPP loan program was to keep employees working. As a result, the CARES Act provides that the amount of loan forgiveness will be reduced by the amount of any reduction in total salary or wages of any employee that exceeds 25% of such employee’s total salary or wages during the most recent full quarter during which the employee was employed before the eight-week covered period. This reduction rule applies to employees who did not receive, during any single pay period during 2019, wages or salary at an annualized rate of pay in an amount more than $100,000.
Reduction in FTEs—The amount of the forgivable portion of the loan will be reduced for a decrease in the number of FTEs over the covered period. FTEs for the purposes of this calculation do not include employees who earn more than $100,000 annually. What is an FTE you ask? Good question – “Full time Equivalent”. Thus far there is no guidelines as to how you would determine an FTE. Based upon our understanding, we are using the definition under IRC Sec 4980H which states that any employee that works more than 30 hours per week is considered a full time employee. A full-time equivalent employee is determined by adding the hours of part-time employees on a monthly basis and dividing by 120. Are we correct in our interpretation? Not sure but this is the most conservative measure that is available.
The required documents that a borrower will need to collect and provide with its PPP forgiveness application at the end of the eight-week period will vary by lender. However, it is likely that most lenders will require, at minimum, the following information to apply for forgives:
- A detailed explanation of how the loan proceeds were used;
- Payroll reports and payroll tax filings;
- Bank statements from the account where the funds were deposited through the time of application for forgiveness (we strongly suggest a separate account);
- Copies of all statements of interest paid on debt obligations incurred prior to Feb. 15, indicating payment amounts and proof of payment for the eight-week coverage period;
- Copies of cancelled checks, statements or other evidence of rent and utilities paid during the eight-week coverage period; and
- A certification from an authorized representative of the borrower stating that the amount for which forgiveness is requested was used for appropriate purposes.
Lenders then will have 60 days to make a determination on the amount of loan forgiveness and notify the borrower.
How do I account for all this? Our advice is as follows. It may be important for you to maintain the integrity of your financial reporting, say for bank reporting or management reporting, so you want to reflect the correct expenses that are being incurred even if they are not deductible for tax purposes and have been offset by a government loan forgiveness. The following includes some brief journal entries based upon a $1,000 loan that would, we believe, maintain the integrity of the books and records and track the loan status:
DR Cash – loan proceeds from PPP (preferably in a separate account) [BS] $1,000
CR PPP – Loan Payable [BS] $1,000
DR Expense (qualifies for forgiveness) $800 [P&L]
DR Expenses (doesn’t qualify) $200 [P&L]
CR Cash (loan holding account) $1,000 [BS]
DR PPP – Loan Payable [BS] $800
CR Expense Contra Account – PPP forgiven Expenses $800 [P&L]
For those of you in Quickbooks land, use the class function to track the PPP expenses before making the entry for the contra account above.
We know this doesn’t answer all your questions as to what will be forgiven in the eight weeks after funding: bonuses, prepaying wages, prepaying rent etc etc. The list goes on and on. We are trying to find the answers to these questions too. As soon as we know we will let you know.
The Partners and Staff LHF