by Francisca Pretorius

COVID-19: Paycheck Protection Program Loan Forgiveness

Last updated: October 14, 2020. 

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.

In June, the Paycheck Protection Program Flexibility Act (Flexibility Act) was signed into law. This Act provides businesses with greater flexibility and more time to maximize forgiveness of loans. An Interim Final Rule on Loan Forgiveness was published and updated and three forgiveness applications (the EZ application or “Short Form” and instructions, the normal application or “Long Form” and instructions; and the 3508S application for loans less than $50,000 plus instructions) were published. Treasury published a further Rule in August and updated detailed FAQs on Loan Forgiveness in October.

Loan Forgiveness Application

All borrowers (not just those who received loans greater than $2 million) should complete and submit a forgiveness application form to their lenders if they wish to have their PPP loans forgiven. 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.

All three applications come with step-by-step instructions to calculate a borrower’s forgiveness amount. In short, the borrower should determine the maximum amount of possible loan forgiveness based on the borrower’s expenditures during the covered period; then, 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 60% rule (that is, at least 60% of eligible loan forgiveness expenses must go towards payroll costs).

Step 1: Choose your ‘Covered Period’

Covered Period

The covered period is either:

  1. the 24-week (168-day) period beginning on the date that the borrower received the PPP loan proceeds from the lender; or
  2. if the borrower received its PPP loan before June 5, 2020, the borrower may elect to use an eight-week (56-day) covered period.

For example, if the borrower is using a 24-week covered period and received its PPP loan proceeds on Monday, April 20, the first day of the covered period is April 20 and the last day of the covered period is Sunday, October 4.

Alternative Covered Period

For administrative convenience, borrowers with a biweekly or more frequent payroll schedule may elect to calculate eligible payroll costs using the 24-week (168-day) period or for loans received before June 5, 2020 at the election of the borrower, the eight-week (56-day) period that begins on the first day of their first pay period following their PPP loan disbursement date.

For example, if the borrower is using a 24-week alternative payroll covered period and received its PPP loan proceeds on Monday, April 20, and the first day of its first pay period following its PPP loan disbursement is Sunday, April 26, the first day of the alternative covered period is April 26 and the last day of the alternative covered period is Saturday, October 10.

Note: if you choose this alternative covered period, apply these dates wherever there is a reference in the application to “the Covered Period or the Alternative Payroll Covered Period,” but apply the covered period (not the alternative covered period) wherever there is a reference in to “the Covered Period” only.

In no event may the covered period or alternative covered period extend beyond December 31, 2020.

Step 2: 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

  • If the business has employees, include in payroll costs:
    • Employee compensation 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.”)
      • paid leave (vacation, family, medical or sick leave, not including leave covered by the Families First Coronavirus Response Act), and
      • allowance for separation or dismissal during the covered period or the alternative payroll covered period.
      • Note: The total amount of cash compensation for each employee may not exceed an annual salary of $100,000, as prorated for the covered period. (For an 8-week covered period, that total is $15,385. For a 24-week covered period, that total is $46,154.)
      • 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.
    • Employee benefits: The total amount paid by the borrower for:
      • Employer contributions for employee health insurance, including employer contributions to a self-insured, employer-sponsored group health plan, but excluding any pre-tax or after-tax contributions by employees.
      • Employer contributions to employee retirement plans, excluding any pre-tax or after-tax contributions by employees.
      • Employer state and local taxes paid by the borrower and assessed on employee compensation (e.g., state unemployment insurance tax), excluding any taxes withheld from employee earnings.
    • See the PPP Loan Forgiveness FAQs, specifically the Payroll Costs section, for more details.
  • Owner-employees, self-employed individuals, general partners:
    • Include in payroll costs any amounts paid to owners. For a 24-week covered period, this amount is capped at $20,833 (the 2.5-month equivalent of $100,000 per year) for each individual or the 2.5-month equivalent of their applicable compensation in 2019, whichever is lower. For an 8-week covered period, this amount is capped at 8/52 of 2019 compensation (up to $15,385).
    • Owner-employees with less than 5 percent stake in ownership are not subject to the cap on the amount of loan forgiveness for payroll compensation attributable to an owner-employee. See this Rule for more information.
  • Exclude from all of the above:
    • 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, 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.
    • Qualified sick and family leave wages for which a credit is allowed in terms of the Families First Coronavirus Response Act.

Non-payroll costs

The following non-payroll costs qualify for forgiveness:

  1. payments of mortgage interest (not including any prepayment or payment of principal) on any business mortgage obligation on real or personal property incurred before February 15, 2020.
  2. business rent or lease payments pursuant to lease agreements for real or personal property in force before February 15, 2020.
  3. business payments for a service for the distribution of electricity, gas, water, telephone, transportation, or internet access for which service began before February 15, 2020.
  • See the PPP Loan Forgiveness FAQs, specifically the Non-Payroll Costs section, for more details.
  • If your business pays rent to a related party, if your business has sub-tenants, or if your business is home-based with household expenses, see this Rule for more information on forgiveness of those amounts.
    • Example 1: A borrower rents an office building for $10,000 per month and subleases out a portion of the space to other businesses for $2,500 per month. Only $7,500 per month is eligible for loan forgiveness.
    • Example 2: A borrower has a mortgage on an office building it operates out of, and it leases out a portion of the space to other businesses. The portion of mortgage interest that is eligible for loan forgiveness is limited to the percent share of the fair market value of the space that is not leased out to other businesses. As an illustration, if the leased space represents 25% of the fair
      market value of the office building, then the borrower may only claim forgiveness on 75% of the mortgage interest.
    • Example 3: A borrower shares a rented space with another business. When determining the amount that is eligible for loan forgiveness, the borrower must prorate rent and utility payments in the same manner as on the borrower’s 2019 tax filings, or if a new business, the borrower’s expected 2020 tax filings.
    • Example 4: A borrower works out of his or her home. When determining the amount of non-payroll costs that are eligible for loan forgiveness, the borrower may include only the share of covered expenses that were deductible on the borrower’s 2019 tax filings, or if a new business, the borrower’s expected 2020 tax filings.

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. Otherwise, payroll costs must be paid during the covered period (or alternative covered period). Count payroll costs that were both paid and incurred only once.
  • 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. Count nonpayroll costs that were both paid and incurred only once.
    • 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 3: Determine if a Reduction in Salary, Wages, or FTE will Reduce Forgiveness Amount (note – this step is not applicable for loans less than $50,000)

Note: if any of the following three situations apply, the borrower can skip this step:

  1. The borrower is a self-employed individual, independent contractor, or sole proprietor who had no employees at the time of the PPP loan application and did not include any employee salaries in the computation of average monthly payroll in the borrower application form. OR
  2. The borrower did not reduce annual salary or hourly wages of any employee by more than 25% during the covered period or the alternative payroll covered period compared to the period between January 1, 2020 and March 31, 2020 (“employees” are only those employees that did not receive wages or salary at an annualized rate of pay in an amount more than $100,000); AND the borrower did not reduce the number of employees or the average paid hours of employees between January 1, 2020 and the end of the covered period. Borrowers can ignore reductions that arose from an inability to rehire individuals who were employees on February 15, 2020 if the borrower was unable to hire similarly qualified employees for unfilled positions on or before December 31, 2020. Also ignore reductions in an employee’s hours that the borrower offered to restore and the employee refused. OR
  3. The borrower did not reduce annual salary or hourly wages of any employee by more than 25% during the covered period or the alternative payroll covered period  compared to the period between January 1, 2020 and March 31, 2020 AND the borrower was unable to operate during the covered period at the same level of business activity as before February 15, 2020, due to compliance with requirements established or guidance issued by the Secretary of Health and Human Services (HHS), the Director of the Centers for Disease Control and Prevention (CDC), or the Occupational Safety and Health Administration (OSHA) during the period beginning on March 1, 2020, and ending December 31, 2020, related to the maintenance of standards for sanitation, social distancing, or any other worker or customer safety requirement related to COVID–19. Close attention should be paid to the applicable guidelines, because state and local laws that have shut down many businesses are not considered in this exception.

FTE Reduction

The CARES Act determines that the amount of loan forgiveness shall be reduced if the “average number of full-time equivalent employees” is reduced during the covered period.

For each employee, calculate the average number of hours paid per week, divide by 40, and round the total to the nearest tenth. The maximum for each employee is capped at 1.0. A simplified method that assigns a 1.0 for employees who work 40 hours or more per week and 0.5 for employees who work fewer hours may be used at the election of the borrower. Borrowers may select only one of these two methods and must apply that method consistently to all their part-time employees for the covered period or the alternative covered period and the selected reference period.

A reduction in FTE employees during the covered period or the alternative covered period reduces the loan forgiveness amount by the same percentage as the percentage reduction in FTE employees.

The borrower must select a reference period:

  • February 15, 2019 through June 30, 2019;
  • January 1, 2020 through February 29, 2020; or
  • 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.

The borrower must provide the aggregate total of FTE employees for both the selected reference period and the covered period or the alternative covered period, by adding together all of
the employee-level FTE employee calculations. The actual loan forgiveness amount that the borrower will receive may be reduced if the borrower’s average weekly FTE employees during the covered period or the alternative covered period was less than during the borrower’s chosen reference period.

The borrower is exempt from such a reduction if either of the FTE Reduction Safe Harbors applies or if one of the exceptions applies.

FTE Reduction Safe Harbor 1:

The borrower is exempt from the reduction in loan forgiveness based on a reduction in FTE employees if the borrower, in good faith, is able to document that it was unable to operate between February 15, 2020, and the end of the covered period at the same level of business activity as before February 15, 2020, due to compliance with requirements established or guidance issued between March 1, 2020 and December 31, 2020, by HHS, CDC, or OSHA.

FTE Reduction Safe Harbor 2:

The borrower is exempt from the reduction in loan forgiveness based on a reduction in FTE employees if both of the following conditions are met:

  1. the borrower reduced its FTE employee levels in the period beginning February 15, 2020, and ending April 26, 2020; AND
  2. the borrower then restored its FTE employee levels by not later than December 31, 2020 to its FTE employee levels in the borrower’s pay period that included February 15, 2020.

FTE Reduction Exceptions:

If any of the following circumstances apply to the borrower, it can be disregarded when filling in the application form and will not reduce the borrower’s loan forgiveness:

  1. Any positions for which the borrower made a good-faith, written offer to rehire an individual who was an employee on February 15, 2020 and the borrower was unable to hire similarly qualified employees for unfilled positions on or before December 31, 2020. Update: Borrowers are required to inform the applicable state unemployment insurance office of any employee’s rejected rehire offer within 30 days of the employee’s rejection of the offer. The documents that borrowers should maintain to show compliance with this exemption include the written offer to rehire an individual, a written record of the offer’s rejection, and a written record of efforts to hire a similarly qualified individual. See PPP Loan Forgiveness FAQs for more details.
  2. Any positions for which the borrower made a good-faith, written offer to restore any reduction in hours, at the same salary or wages, during the covered period or the alternative covered period and the employee rejected the offer, and
  3. Any employees who during the covered period or the alternative covered period (a) were fired for cause, (b) voluntarily resigned, or (c) voluntarily requested and received a reduction of their hours.

Salary/Hourly Wage Reduction 

The CARES Act provides that 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% 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 is in excess of the 25% of base salary or wages between January 1, 2020, and March 31, 2020 (the reference period – note that unlike with the FTE calculation, the borrower cannot choose a reference period.

The Long Form and the corresponding instructions offer a step-by-step calculation, to be completed for each employee.

Step 4: Apply the 60% Rule

To be eligible for forgiveness, a minimum of 60% (not 75%) of the PPP funds received must be used for payroll costs. This means the maximum eligible loan forgiveness is payroll expenses divided by 0.6. This is a proportional limit on nonpayroll costs (40%) as a share of the borrower’s loan forgiveness amount, rather than as a threshold for receiving any loan forgiveness.

Example 1: If your payroll expenses for the covered period or alternative covered period equal $60,000, your loan forgiveness cannot exceed $100,000. ($60,000 / 0.6 = $100,000). Thus, a borrower may only qualify for forgiveness of non-payroll costs up to $40,000.

Example 2: If a borrower receives a $100,000 PPP loan, and during the covered period the borrower spends $54,000 (or 54 percent) of its loan on payroll costs; then, because the borrower used less than 60 percent of its loan on payroll costs, the maximum amount of loan forgiveness the borrower may receive is $90,000 ($54,000 / 0.6 = $90,00, with $54,000 in payroll costs constituting 60 percent of the forgiveness amount and $36,000 in non-payroll costs constituting 40 percent of the forgiveness amount).

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 40% of it for rent, that is allowed, but won’t all be forgiven. Then the general loan terms will apply.

Note: It seems that the forgiveness application forms treat the 60% as maximum limit for payroll costs; this is not in line with the Flexibility Act and we expect that the form will be updated.

How to Request Forgiveness

  1. Determine which form to submit:
    1. Short Form. Submit this if:
      • The borrower is a self-employed individual, independent contractor, or sole proprietor who had no employees at the time of the PPP loan application and did not include any employee salaries in the computation of average monthly payroll in the borrower application form. OR
      • The borrower did not reduce annual salary or hourly wages of any employee by more than 25% during the covered period or the alternative payroll covered period (as defined below) compared to the period between January 1, 2020 and March 31, 2020 (“employees” are only those employees that did not receive wages or salary at an annualized rate of pay in an amount more than $100,000); AND the borrower did not reduce the number of employees or the average paid hours of employees between January 1, 2020 and the end of the covered period. Borrowers can ignore reductions that arose from an inability to rehire individuals who were employees on February 15, 2020 if the borrower was unable to hire similarly qualified employees for unfilled positions on or before December 31, 2020. Also ignore reductions in an employee’s hours that the Borrower offered to restore and the employee refused. OR
      • The borrower did not reduce annual salary or hourly wages of any employee by more than 25% during the covered period or the alternative payroll covered period  compared to the period between January 1, 2020 and March 31, 2020 AND the borrower was unable to operate during the covered period at the same level of business activity as before February 15, 2020, adhering to federal laws or guidelines issued by the CDC, HHS, or OSHA.
    2. Long Form: all circumstances that do not fall within the above 3 exceptions.
    3. 3508 Form: submit this if you received $50,000 or less.
    4. Note that borrowers must submit a loan forgiveness application within 10 months of the end of their chosen covered period.
  2. Submit Required Documentation

Short Form:

    1. Payroll: Documentation verifying the eligible cash compensation and non-cash benefit payments from the covered period or the alternative covered period consisting of:
      1. Bank account statements or third-party payroll service provider reports documenting the amount of cash compensation paid to employees.
      2. Tax forms for the periods that overlap with the covered period or the alternative covered period: i. Payroll tax filings reported, or that will be reported, to the IRS (typically, Form 941); and ii. 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.
      4. If option 2 for the short form explained above is applicable, the average number of full-time equivalent employees on payroll employed by the Borrower on January 1, 2020 and at the end of the covered period.
    2. Nonpayroll: Documentation verifying existence of the obligations/services prior to February 15, 2020 and eligible payments from the covered period.
      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.

Long Form: In addition to the documents above, those who submit the Long Form should provide documentation showing (at the election of the borrower):

  1. the average number of FTE employees on payroll per week employed by the Borrower between February 15, 2019 and June 30, 2019;
  2. the average number of FTE employees on payroll per week 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 week employed by the borrower between February 15, 2019 and June 30, 2019; between January 1, 2020 and February 29, 2020; or any consecutive 12-week period between May 1, 2019 and September 15, 2019.

3508 Form:

  1. Payroll: same as short form, except number 4 is not required.
  2. Nonpayroll: same as short form.

Documents may include payroll tax filings reported, or that will be reported, to the IRS (typically, Form 941) and state quarterly business and individual employee wage reporting and unemployment insurance tax filings reported, or that will be reported, to the relevant state. Documents submitted may cover periods longer than the specific time period.

Once submitted, the lender will review the application and make a decision regarding loan forgiveness. The SBA may then review the decision of the lender.

Maintain Certain Documents for 6 Years After Forgiveness

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:

  1. Short Form Applicants
    1. Documentation supporting the certification that annual salaries or hourly wages were not reduced by more than 25%, as required by the application. This documentation must include payroll records that separately list each employee and show the amounts paid to each employee during the period between January 1, 2020 and March 31, 2020, and the amounts paid to each employee during the covered period or alternative payroll covered period.
    2. Documentation regarding any employee job offers and refusals, refusals to accept restoration of reductions in hours, firings for cause, voluntary resignations, written requests by any employee for reductions in work schedule, and any inability to hire similarly qualified employees for unfilled positions on or before December 31, 2020.
    3. Documentation supporting the certification, if applicable, that the borrower did not reduce the number of employees or the average paid hours of employees between January 1, 2020 and the end of the covered period (other than any reductions that arose from an inability to rehire individuals who were employees on February 15, 2020, if the borrower was unable to hire similarly qualified employees for unfilled positions on or before December 31, 2020). This documentation must include payroll records that separately list each employee and show the amounts paid to each employee between January 1, 2020 and the end of the covered period.
    4. Documentation supporting the certification, if applicable, that the borrower was unable to operate between February 15, 2020 and the end of the covered period at the same level of business activity as before February 15, 2020 due to compliance with requirements established or guidance issued regarding COVID-19. This documentation must include copies of the applicable requirements for each borrower location and relevant borrower financial records.
    5. All records relating to the Borrower’s PPP loan, including documentation submitted with its PPP loan application, documentation supporting the borrower’s certifications as to the necessity of the loan request and its eligibility for a PPP loan, documentation necessary to support the Borrower’s loan forgiveness application, and documentation demonstrating the Borrower’s material compliance with PPP requirements.
  2. Long Form Applicants
    1. PPP Schedule A Worksheet or its equivalent.
    2. Documentation supporting the listing of each individual employee in PPP Schedule A Worksheet Table 1, including the “Salary/Hourly Wage Reduction” calculation, if necessary.
    3. 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.
    4. Documentation regarding any employee job offers and refusals, refusals to accept restoration of reductions in hours, firings for cause, voluntary resignations, written requests by any employee for reductions in work schedule, and any inability to hire similarly qualified employees for unfilled positions on or before December 31, 2020.
    5. Documentation supporting the certification, if applicable, that the borrower was unable to operate between February 15, 2020, and the end of the covered period at the same level of business activity as before February 15, 2020 due to compliance with requirements established or guidance issued related to COVID-19. This documentation must include copies of the applicable requirements for each borrower location and relevant borrower financial records.
    6. Documentation supporting the PPP Schedule A Worksheet “FTE Reduction Safe Harbor 2.”

Disclaimer: This blog is for informational and educational purposes only. It is based on current legislation, rules, and 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.