Five Things Every Paycheck Protection Program Borrower Should Do After Receiving a Loan
The Paycheck Protection Program (“PPP”) is the crown jewel of the Coronavirus Aid, Relief and Economic Security Act (the “CARES Act”). The CARES Act allocates $ 349 billion to the PPP loan initiative with the aim of stabilizing small businesses during the COVID-19 epidemic and enabling them to retain their workforce while weathering the coronavirus storm. But while $ 349 billion is a staggering figure, it is unlikely to be enough to meet the demand for capital. The funds allocated will flow quickly and this is a first come, first served program. Indeed, reports already indicate that Treasury Secretary Mnuchin is seeking an additional $ 250 billion for the PPP loan program.
PPP loan applications were available for submission on April 3. Processing began this week for small businesses and sole proprietorships. The United States Small Business Administration (the “SBA”) opens applications for independent contractors and self-employed workers from April 10. The PPP gold rush is on and there is a lot of confusion and chaos that goes with it. With many PPP borrowers having received their loan proceeds, or receiving it soon, what should borrowers do after receiving their loan? Here are five things that should be on this list.
1) Ensure that PPP funds are used only for authorized uses
The CARES Act requires that a beneficiary of a PPP loan certify that the funds will be used for purposes permitted under the law. In the rush to claim PPP funds, beneficiaries should not lose sight of the legal restrictions on the use of such funds.
Indeed, the SBA has issued a Provisional final rule April 2, 2020 which requires PPP applicants to certify that “[t]The funds will be used to retain workers and maintain the payroll or make mortgage interest payments, lease payments and utility payments. And with that requirement comes a caveat: knowingly using funds for unauthorized purposes may result in charges of fraud. In fact, there are a host of potential federal crimes that could apply for embezzlement or misrepresenting the intended use of funds.
There are also other considerations. If a PPP loan is used for unauthorized purposes, the loan can be converted into a recourse liability. That is, the SBA may be able to sue the loan recipient or its shareholders, members or partners for an unpaid loan if they use the PPP funds for unauthorized purposes. In addition, the beneficiary will not be eligible for the loan forgiveness provisions.
2) Work closely with tax professionals to maximize the amount to be remitted
The total PPP loan balance may be written off if the loan proceeds are used for a discrete group of costs during the 8 week period following the loan. Loan recipients should work closely with their tax professionals to ensure that they are maximizing the loan repayable amount. This requires proper documentation of the use and allocation of funds. As part of this effort, borrowers may want to segregate funds and take steps to ensure that appropriate accounting mechanisms are in place.
The PPP loan can be canceled as long as it is used on the following cost categories during the 8 week period:
- Salary costs;
- Interest on mortgage bonds contracted before February 15, 2020;
- Rent payments on leases prior to February 15, 2020; and
- Utility payments under service agreements dated before February 15, 2020
Borrowers should keep abreast of the Treasury Department (“Treasury”) and the SBA advice on these issues. For example, the SBA, in its decision of April 2, 2020 Provisional rule, announced that a maximum of 25% of the amount of the loan cancellation can be attributed to non-wage costs. While this requirement does not appear in the CARES Act itself, the SBA and the Treasury have imposed this requirement to align the limited resources available to fund the PPP loan program with the overriding intention of Congress to keep workers paid and employed. Borrowers will need to work closely with their tax professionals to ensure that they are spending the funds in the appropriate categories and, just as important, that they are able to document and demonstrate this in the future, especially if the PPP funds are mixed with other operating funds.
In addition, borrowers should ensure that they do not violate any of the limitation provisions of the CARES Act that reduce the cancellation of PPP loans. This includes ensuring that they do not unnecessarily trigger limitations based on reductions in the number of employees or reductions in an employee’s salary or wages. Borrowers may be able to avoid these limitations through careful planning. Borrowers may also be able to correct layoffs or pre-loan leaves to avoid reduced eligibility for forgiveness provisions. Again, this may require careful and quick planning.
3) Maintain appropriate documentation to justify costs.
Document, document, document. Did I mention, document? Borrowers should keep documentation on the use of their PPP funds. The CARES Act expressly requires that the borrower be able to properly document the use of funds in order to obtain the rebate.
Borrowers will ultimately be required to submit a loan forgiveness request to the lender who manages the loan. The request will need to include a number of items, such as documents to verify the number of full-time employees and their rates of pay, as well as documents to prove expenses related to qualifying mortgages, leases and utility obligations. . This documentation may include canceled checks, payment receipts, account statements, and other documents. If history teaches us anything, it’s that regulators tend to focus more on documentation requirements once the smoke clears and the underlying emergency has subsided. Borrowers should not overlook the need to document and justify. Keep copies of these payroll records, invoices, and utility bills.
4) Look for additional tax savings under the CARES Act.
In the rush to get their foot in the door for PPP loans, many borrowers have yet to consider whether they qualify for further tax breaks under the CARES Act. Borrowers should take the time to consider how these potential tax breaks could increase their P3 loans. Better yet, borrowers should consult a tax professional to ensure they are maximizing the tax relief available under the Act.
The CARES Act offers businesses a number of potential tax breaks. For example, the CARES Act retroactively amended the Tax Cuts & Jobs Act of 2017 (“TCJA”) to remove some not-so-useful restrictions. The CARES Act specifically increased the ability to deduct net operating losses, often referred to as “NOL”. Under the TCJA, NOLs related to 2018 and later years generally could not be carried over to previous years. The CARES Act changed that. It allows taxpayers to carry over the 2018, 2019 and 2020 NOLs over the previous five years. The idea is to allow taxpayers to file amended returns and get cash refunds now, when they need them most.
The CARES Act also removed restrictions that applied to unincorporated taxpayers on so-called excess loss deductions. Taxpayers who suffered significant losses in 2018 or 2019 may have unused excess losses. Thanks to the CARES law, they will now be able to use these losses more quickly.
The CARES Act relaxed the rules that limit the deduction of business interest. The Act essentially allows certain taxpayers to deduct additional business interest charges. Under the TCJA, some taxpayers could only deduct business interest expense up to a limit calculated by adding (i) business interest income, (ii) 30% of “adjusted taxable income” (essentially l ‘EBIDTA for tax years beginning before 2022), and (iii) “Floor plan financing interest”. The CARES Act increases the limit from 30% to 50% for tax years beginning in 2019 and 2020. The increase in interest charges can lower a company’s tax bill and can even create a NOL. This can be particularly useful as NOLs can now be carried over to tax years prior to the TCJA and used to offset income subject to a higher tax rate.
Finally, the CARES law accelerates the ability of companies to use alternative minimum tax credits (AMT). Under the new provisions, businesses can apply for AMT credits as early as tax year 2018. This provides yet another mechanism for getting cash quickly during the COVID-19 outbreak.
5) File a request with the bank after the 8 week period to request the surrender of the loan amounts.
Finally, PPP borrowers will need to apply to their bank after the 8 week period. At that point, if they’ve followed the tips above, it should be a relatively easy process. Banks are required to render the remission decision within 60 days of filing the request.
Keep in mind that a representative of the company will need to submit an attestation indicating, among other things, that the amount for which the rebate is requested was used for the appropriate purposes.
And, to end on a positive note, remember: Loans that are canceled under the P3 are not subject to federal tax as debt relief income. The CARES law specifically excludes them from gross income.