COVID-19: Paycheck Protection Program Loan Forgiveness

The Coronavirus Aid, Relief, and Economic Security (“CARES”) Act addresses economic impacts of, and otherwise responds to, the COVID-19 outbreak. The rescue plan includes the Payroll Protection Program (PPP), a loan program for small businesses to keep workers paid and employed. Read more about the program itself here. In this blog, we specifically discuss how a portion or all of the loan received can be forgiven. Note that Congress is currently considering a number of changes to the PPP forgiveness rules, but nothing has been enacted. In this blog, we only discuss current rules that apply to borrowers.

The Small Business Association (SBA) published a forgiveness application form as well as an Interim Final Rule on Loan Forgiveness. All borrowers (not just those who received loans in excess of $2 million) should complete and submit this form to their lenders if they wish to have their PPP loans forgiven. In short, the amount of loan forgiveness can be up to the full principal amount of the loan as well as any accrued interest if the borrower uses all of the loan proceeds for forgivable purposes and employee and compensation levels are maintained. The form provides a step-by-step guide to calculate a borrower’s forgiveness amount. First, the borrower should determine the maximum amount of possible loan forgiveness based on the borrower’s expenditures during the covered period; second, the borrower should determine the amount, if any, by which the maximum loan forgiveness will be reduced because of reduced employment or reduced salaries and wages; and last, the borrower should apply the 75% rule that requires that at least 75% of eligible loan forgiveness expenses go towards payroll costs.

Step 1: Determine the Maximum Amount of Forgiveness

To determine the maximum amount of possible loan forgiveness, consider payroll and non-payroll costs incurred or paid during the covered period.

Payroll Costs

  • Employees:
    • Include in payroll costs:
      • Compensation (not exceeding $15,385 per employee for the covered period) in the form of:
        • gross salary, gross wages, gross commissions, and gross tips,
        • bonuses and hazard pay (Interim Final Rule: “if an employee’s total compensation does not exceed $100,000 on an annualized basis, the employee’s hazard pay and bonuses are eligible for loan forgiveness because they constitute a supplement to salary or wages, and are thus a similar form of compensation.”)
        • vacation, parental, family, medical, or sick leave (other than leave for which the employer was reimbursed under the Families First Coronavirus Response Act), and
        • allowance for separation or dismissal;
      • Employer contribution for employee group health care coverage;
      • Employer contribution for employee retirement plans; and
      • Payment of state and local taxes assessed on compensation of employees.
      • Note: employees do not need to work in order to receive a salary or wages. The purpose of the PPP loan is to enable borrowers to continue paying their employees even if those employees are not able to perform their day-to-day duties, whether due to lack of economic demand or public health considerations. Such payments are eligible for forgiveness.
    • Exclude from payroll costs:
      • Any compensation of an employee whose principal place of residence is outside of the United States;
      • The compensation of an individual employee in excess of an annual salary of $100,000, prorated as necessary;
      • Federal employment taxes imposed or withheld between February 15, 2020 and June 30, 2020, including the employee’s and employer’s share of FICA (Federal Insurance Contributions Act) and Railroad Retirement Act taxes, and income taxes required to be withheld from employees; and
      • Qualified sick and family leave wages for which a credit is allowed under sections 7001 and 7003 of the Families First Coronavirus Relief Act.
  • Owner-employees:
    • Include in payroll costs:
      • Wages, commissions, income, or net earnings from self-employment, or similar compensation. This may include hazard pay or bonuses; however, the amount of loan forgiveness requested for owner-employees 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.
      • Employer retirement and health care contributions made on owner-employees’ behalf.
    • Exclude from payroll costs:
      • Any compensation of an owner-employee whose principal place of residence is outside of the United States;
      • The compensation of an individual owner-employee in excess of an annual salary of $100,000, prorated as necessary;
      • Federal employment taxes imposed or withheld between February 15, 2020 and June 30, 2020, including the employee’s and employer’s share of FICA (Federal Insurance Contributions Act) and Railroad Retirement Act taxes, and income taxes required to be withheld from employees; and
      • Qualified sick and family leave wages for which a credit is allowed under sections 7001 and 7003 of the Families First Coronavirus Relief Act.
  • Self-employed individuals’ payroll compensation
    • Include in payroll costs: 
      • Wages, commissions, income, or net earnings from self-employment, or similar compensation. This may include hazard pay or bonuses; however, the amount of loan forgiveness requested 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:
        • 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 section 179 expense deduction, un-reimbursed partnership expenses, and depletion from oil and gas properties) multiplied by 0.9235.
    • Exclude from payroll costs:
      • The compensation in excess of an annual salary of $100,000, prorated as necessary;
      • Federal employment taxes imposed or withheld between February 15, 2020 and June 30, 2020; and
      • Qualified sick and family leave wages for which a credit is allowed under sections 7001 and 7003 of the Families First Coronavirus Relief Act.
      • Retirement and health insurance contributions for self-employed individuals, including Schedule C filers and general partners. Such expenses are paid out of their net self-employment income.

Non-payroll costs

The following non-payroll costs qualify for forgiveness:

  • Business mortgage interest payments (prepayments and payments of principal excluded) on real or personal property that was incurred before February 15, 2020
  • Rent payments on leases in force prior to February 15, 2020
  • Utility payments (payments for a service for the distribution of electricity, gas, water, transportation, telephone, or internet access) for which the service began prior to February 15, 2020.

Note: For an independent contractor or sole proprietor, you must have claimed or be entitled to claim a deduction for these expenses on your 2019 Form 1040 Schedule C in order to claim them as expenses eligible for PPP loan forgiveness in 2020.

Choose the Covered Period

  • “Covered Period” is defined as the 8-week or 56 calendar day period starting on the loan disbursement date.
  • For administrative convenience, the SBA recently added an “alternative payroll covered period” for borrowers with a bi-weekly or more frequent payroll schedule. These borrowers may calculate eligible payroll costs using the 8 week period starting on their first pay period following their loan disbursement date.

Understand Costs Incurred vs Costs Paid

  • Payroll Costs “Paid” vs “Incurred”:
    • Payroll costs are considered “paid” on the day that paychecks are distributed or the borrower originates an ACH credit transaction.
    • Payroll costs are considered “incurred” on the day that 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).
    • Payroll costs incurred but not paid during the borrower’s last pay period of the covered period (or alternative payroll covered period) are eligible for forgiveness if paid on or before the next regular payroll date.
  • Non-payroll Costs “Paid” vs “Incurred”
    • An eligible non-payroll cost must be paid during the covered period or 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.

Step 2: Determine if a Reduction in Salary, Wages, or FTE will Reduce Forgiveness Amount

The amount of loan forgiveness shall be reduced based on the reduction in average number of employees, and/or a reduction in salary or wages based on the most recent full quarter. There are however certain exceptions.

Salary/Hourly Wage Reduction 

The CARES Act provides that the the amount of loan forgiveness shall also be reduced by the amount of any reduction in total salary or wages of any employee that is in excess of 25 percent of the total salary or wages of the employee during the most recent full quarter during which the employee was employed before the covered period. This reduction calculation is performed on a per employee basis, not in the aggregate.

For each new employee in 2020 and each existing employee who was not paid more than the annualized equivalent of $100k 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 the 25 percent of base salary or wages between January 1, 2020, and March 31, 2020 (the reference period), subject to the safe harbor exception below. Example: A borrower reduced a full-time employee’s weekly salary from $1,200 per week during the reference period to $800 per week during the covered period, but the employee continued to work on a full-time basis during the covered period with an FTE of 1.0. To apply the rule, 25% is exempted from the reduction; in this case $300. The borrower would list $100 x 8 weeks = $800 as the salary/hourly wage reduction for that employee.

The SBA’s forgiveness application form offers a step-by-step calculation, to be completed for each employee.

FTE Reduction

FTE Reduction Relief: In calculating the loan forgiveness amount, a borrower may exclude any reduction in full-time equivalent employee headcount that is attributable to an individual employee if:

  • 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; 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; the offer was rejected by such employee; the borrower has maintained records documenting the offer and its rejection; and 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.
  • an employee’s employment was terminated for cause.
  • an employee voluntarily resigned.
  • an employee voluntarily requested and received a reduction of their hours.

The borrower may count such employees at the same full-time equivalency level before the FTE reduction event when calculating the FTE employee reduction penalty.

FTE Reduction vs Salary/Hourly Wage Reduction 

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. 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.

Reduction Relief (“Safe Harbor”)

If a borrower restores reductions made to employee salaries or wages or to FTE employees reduced between February 15, 2020 and April 26, 2020 by no later than June 30, 2020, or earlier, the borrower can avoid a reduction in its loan forgiveness amount.

Step 3: Apply the 75% Rule

To be eligible for forgiveness, a minimum of 75% of the PPP funds received must be used for payroll costs. This means the maximum eligible loan forgiveness is payroll expenses divided by 0.75.

For example: If your payroll expenses for the covered period or alternative covered period equal $60,000, your loan forgiveness cannot exceed $80,000. ($60,000 / 0.75 = $80,000). Thus, a borrower may only qualify for forgiveness of non-payroll costs up to $20,000.

Note: these limitations are only for purposes of forgiveness, not for eligibility of receiving a loan or using the loan received in general. If, for example, a borrower receives a loan and uses more than 25% of it for rent, that is allowed, but won’t all be forgiven. Then the general loan terms will apply.

How to Request Forgiveness

  1. Form: Complete SBA Form 3508, Paycheck Protection Program Loan Forgiveness Application to your lender. The application has four components:
    1. PPP Loan Forgiveness Calculation Form (submit to lender)
    2. PPP Schedule A (submit to lender)
    3. PPP Schedule A Worksheet (maintain internally); and
    4. PPP Borrower Demographic Information Form (optional to submit to lender).
  2. Payroll Documentation: Submit documentation verifying payroll costs, including the eligible cash compensation and non-cash benefit payments from the covered period or the alternative payroll covered period as follows:
    1. Bank account statements or third-party payroll service provider reports documenting the amount of cash compensation paid to employees.
    2. Tax forms (or equivalent third-party payroll service provider reports) for the periods that overlap with the covered period or the alternative payroll covered period: 1) payroll tax filings reported, or that will be reported, to the IRS (typically, Form 941); and 2) state quarterly business and individual employee wage reporting and unemployment insurance tax filings reported, or that will be reported, to the relevant state.
    3. Payment receipts, cancelled checks, or account statements documenting the amount of any employer contributions to employee health insurance and retirement plans that the borrower included in the forgiveness amount.
  3. Employee Documentation: Submit documentation the average number of employees during the covered period or alternative payroll covered period. The borrower can choose to submit documents showing:
    1. the average number of FTE employees on payroll per month employed by the Borrower between February 15, 2019 and June 30, 2019;
    2. the average number of FTE employees on payroll per month employed by the Borrower between January 1, 2020 and February 29, 2020; or
    3. in the case of a seasonal employer, the average number of FTE employees on payroll per month employed by the Borrower between February 15, 2019 and June 30, 2019; between January 1, 2020 and February 29, 2020; or any consecutive twelve-week period between May 1, 2019 and September 15, 2019.
  4. Non-payroll Documentation: Submit documents verifying the existence of obligations or services prior to Feb 15, 2020 and eligible payments for such non-payroll costs:
    1. Business mortgage interest payments: Copy of lender amortization schedule and receipts or cancelled checks verifying eligible payments from the Covered Period; or lender account statements from February 2020 and the months of the Covered Period through one month after the end of the Covered Period verifying interest amounts and eligible payments.
    2. Business rent or lease payments: Copy of current lease agreement and receipts or cancelled checks verifying eligible payments from the Covered Period; or lessor account statements from February 2020 and from the Covered Period through one month after the end of the Covered Period verifying eligible payments.
    3. Business utility payments: Copy of invoices from February 2020 and those paid during the Covered Period and receipts, cancelled checks, or account statements verifying those eligible payments.

Once submitted, the lender will review the application and make a decision regarding loan forgiveness. The lender has 60 days from receipt of a complete application to issue a decision to SBA. The SBA may then review the decision of the lender.

Important: Borrowers not only have to submit the documents above, but also maintain certain documents (without a need to submit it to its lender), for six years after the date of the loan forgiveness or repayment documents that support Schedule A Worksheet information:

    1. Documentation supporting the listing of each individual employee in PPP Schedule A Worksheet Table 1, including the “Salary/Hourly Wage Reduction” calculation, if necessary.
    2. Documentation supporting the listing of each individual employee in PPP Schedule A Worksheet Table 2; specifically, that each listed employee received during any single pay period in 2019 compensation at an annualized rate of more than $100,000.
    3. Documentation regarding any employee job offers and refusals, firings for cause, voluntary resignations, and written requests by any employee for reductions in work schedule.
    4. Documentation supporting the PPP Schedule A Worksheet “FTE Reduction Safe Harbor.”

Rule-making is a dynamic process and is informed by the public’s comments. Although the interim final rule is effective immediately, comments are solicited from interested members of the public on all aspects of this interim final rule. If you have any ideas or if you are uncertain about any rules and can’t find the answer, we encourage you to submit your thoughts to the Federal government on the eRulemaking Portal: http://www.regulations.gov. Note that the SBA also has a call center for questions: 833-572-0502.

Disclaimer: This blog is for information and educational purposes only. It is based on current guidance; the SBA may issue additional guidance related to PPP loan forgiveness.  If you require legal advice, feel free to reach out to Francisca Pretorius (francisca@jrwiener.com) or Jason Wiener (jason@jrwiener.com), or consult with your accountant or other professional advisor on your particular circumstances. 

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