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How the Paycheck Protection Program Affects 2020 Taxes

This article is CPA Approved Group

Editor’s note: a second stimulus bill was finalized on December 20 which includes a ruling on the deductibility of PPP expenses: any expenses that were covered by a PPP loan will still be tax deductible. This article will be updated when more information on the second PPP loan is made available.

If you have received a paycheck protection program (PPP) loan, it may be time to start thinking about how this will impact your 2020 taxes.

The PPP is unique because if you use the funds in a certain way you can get the entire loan completely forgiven. To get your PPP loan forgiven you will have to apply for forgiveness through your PPP lender. For a refresher on the PPP forgiveness process you can check out our dedicated guide.

Unfortunately, the PPP forgiveness processing times are longer than expected. Many borrowers will not receive their forgiveness decision until 2021, and possibly not until after their 2020 tax deadline.

Read on to learn exactly how your PPP loan could impact your 2020 tax filing.

Will I be taxed on my PPP loan?

The CARES Act spells out that the PPP loan amount won’t be included in taxable income. That means you don’t pay taxes on the money that you receive. The aim of this loan is to provide businesses with the money to keep running and continue paying employees, not to create a tax burden for businesses receiving the funds.

But, there’s a catch. The IRS later released a notice which clarifies that although the PPP won’t be considered taxable income, you will not be able to claim any tax deductions on forgiven expenses. Any expenses that you do not receive forgiveness for, will be tax-deductible.

This sounds like a small detail, but it can have a big impact. Normally if a business has payroll, rent, mortgage interest, or utility expenses, these are deductible from taxable income. Without being able to claim these deductions you may end up owing the government more.

What about if I don’t get my PPP loan forgiven before 2020 ends?

As we approach the end of the year, it’s becoming clear that many PPP borrowers (if not most) will not receive their PPP forgiveness decision until 2021. This of course, will have an impact on your 2020 taxes.

On November 18th, 2020 the IRS and US Treasury released new guidance explaining exactly how PPP loans not forgiven in the year they were received will be treated.

This new guidance explains that “If a business reasonably believes that a PPP loan will be forgiven in the future, expenses related to the loan are not deductible, whether the business has filed for forgiveness or not.”

It goes on to say *“In the case where a PPP loan was expected to be forgiven, and it is not, businesses will be able to deduct those expenses.” *

To put it simply, you should assume that you will receive full PPP forgiveness and not claim any tax deductions on your PPP expenses unless advised by your CPA or tax preparer (like BenchTax).

What happens If I do not receive a PPP forgiveness decision until after my tax deadline?

Once you are able to apply for PPP forgiveness, you could be waiting up to 150 days (around 5 months) to receive your final decision from the SBA.

It’s possible that you won’t receive your final SBA PPP forgiveness decision until after your tax deadline—let alone before 2021. If you find yourself in this situation, you have a couple of options.

Further Reading: When Are Taxes Due? 2021 Filing & Extension Deadlines

Option 1: File your taxes on time without first receiving your SBA PPP forgiveness decision

Follow the rationale of the most recent IRS and US treasury guidance. If it appears that you will receive full PPP forgiveness, then you should not claim tax deductions for any of your PPP expenses on your tax filing.

Unfortunately, the new guidance does not specify what would constitute a reasonable belief that your PPP loan will not be entirely forgiven, and what to do in this situation.

There are some circumstances that will decrease your PPP forgiveness potential. For example, the SBA has made it clear that any PPP borrower who received an EIDL advance grant will have this grant amount deducted from their PPP forgiveness potential.

It is also important to note that if for any reason your PPP forgiveness decision ends up being less than you expected you can resolve this on your tax return by filing for an amended tax return. This will cost you, but it will allow you to claim any tax deductions you would have missed out on assuming you would receive full PPP forgiveness.

Taking full advantage of all tax deductions can have a significant impact on your tax bill.

Option 2: File for a tax extension

Another possible option is to file for a tax extension. Doing so is free and easy.

A benefit of filing for a tax extension is that it gives you much more time to receive your PPP forgiveness decision before you file your taxes. This could help you to file your taxes as accurately as possible, as well as help you avoid making a tax amendment.

Receiving a tax extension will also allow you to wait for any possible new guidance from the IRS and US treasury, which may give you more clarity. If you do receive a tax extension, you will still be required to pay your estimated taxes to the IRS by your original tax deadline.

Further reading: How to File for a Business Tax Extension (Federal)

Will my PPP claimed as owner compensation replacement be taxed?

The rules of the PPP have been a little bit different for sole props, partnerships, or independent contractors. They can claim their loan as owner compensation replacement (OCR). Exactly how PPP amounts claimed as OCR are taxed, may be a little different as well.

The CARES act clearly states that PPP loans will not be considered taxable income. However, it is unclear at this time whether or not this rule extends to PPP amounts claimed as OCR. As OCR allows you to use your PPP funds as personal income, instead of on businesses expenses, it is possible that the amount may need to be claimed as taxable personal income.

In any event, exactly how OCR amounts will be taxed at this time is unclear. To be safe, it is best to prepare for the possibility that you may end up having to pay some income tax on your PPP funds claimed as OCR.

Further reading: Owner Compensation Replacement and Full PPP Forgiveness

Additional resources

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This post is to be used for informational purposes only and does not constitute legal, business, or tax advice. Each person should consult his or her own attorney, business advisor, or tax advisor with respect to matters referenced in this post. Bench assumes no liability for actions taken in reliance upon the information contained herein.

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