Payment Protection Program (PPP) & The Continued Debate Over The Deductibility of Qualified Expenses

While the IRS has taken the position (IRS Notice 2020-32) that qualified expenses paid using PPP loan proceeds are not deductible for federal income tax purposes, the issue is far from resolved and the subject of continued debate. Click here for more information.

While the IRS has taken the position (IRS Notice 2020-32) that qualified expenses paid using PPP loan proceeds are not deductible for federal income tax purposes, the issue is far from resolved and the subject of continued debate.

In a letter to Congress on August 4, 2020, copy available here, https://www.ada.org/~/media/ADA/Advocacy/Files/200804_Main_Street_Loan_Forgiveness.pdf?la=en, a consortium of some 170 business interests and lobbying groups (ranging from the Air Conditioner Contractors of America to the American Dental Association, and including the American Institute of CPAs) demanded that any new COVID-19 relief legislation affirm the deductibility of these qualified expenses (i.e. wages and rents paid using PPP loan proceeds).

Why is this issue crucial to small business PPP borrowers? Because any PPP loan forgiveness may be effectively negated if qualified expenses paid with forgiven PPP loan proceeds are not tax deductible. As their letter notes as an example, “If a business has $100,000 of PPP loans forgiven and excluded from its income, but then is required to add back $100,000 of denied business expenses, the result is the same as if the loan forgiveness was fully taxable.”  Proposals have been introduced in Congress to “reverse” the IRS position. However, currently all COVID-19 relief efforts are stalled. A real practical concern raised by those concerned with this issue is that with the extension of the time to use PPP loan proceeds to 24 weeks, a small business using PPP loan proceeds for qualified expenses in 2020 may not obtain forgiveness until sometime well into 2021. Without that forgiveness in hand, can that business deduct the qualified expenses paid using loan proceeds in 2020?

In the absence of further relief or guidance on this issue, small business taxpayers and their tax advisors will have to decide whether to take an aggressive approach, in light of IRS Notice 2020-32, or comply with the IRS’s position and face losing most or all of the benefits of PPP loan forgiveness. We continue to monitor developments in this area, and will provide updates on these critical issues as they become available.

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