IRS – deducting expenses if PPP Loan Forgiveness not received by year-end.
In a Revenue Ruling, the IRS clarifies when a taxpayer that received a loan guaranteed under the Paycheck Protection Program may deduct otherwise deductible expenses if, at the end of the tax year, the taxpayer reasonably expects to receive forgiveness of the covered loan based on the otherwise deductible expenses. (Rev Rul 2020-27, 2020-50 IRB).
The upshot is if the taxpayer had reasonable basis to believe that they would receive PPP Loan forgiveness the expenses associated with forgiveness are not allowable in the year they were paid. That means if you believe, ie apply for or otherwise expect to receive loan forgiveness (even if you apply in 2021) the expenses which made you eligible for forgiveness are added back to your 2020 income. Boom!
Expenses paid in a year before loan forgiveness occurs
In Rev Rul 2020-27 the IRS addresses whether a taxpayer that received a PPP loan and that paid or incurred certain otherwise deductible expenses can deduct those expenses in the tax year in which the expenses were paid or incurred if, at the end of that tax year, the taxpayer reasonably expects to receive forgiveness of the covered loan based on the otherwise deductible expenses.
The revenue ruling discusses two situations in which a taxpayer receives a PPP loan in 2020 and pays expenses, including payroll, mortgage interest, and rent, that are eligible expenses under Section 1106(a) of the CARES Act. In one situation, the taxpayer applies for forgiveness of the PPP loan (and knew the amount of expenses that qualifies) in November 2020 but has not been informed by the lender at the end of 2020 whether the loan will be forgiven. In the second situation, the taxpayer has not applied for loan forgiveness by the end of 2020 but knew the amount of expenses that qualifies.
The IRS says in both situations, the taxpayer has a reasonable expectation of reimbursement (in the form of loan forgiveness) at the end of 2020; therefore, deduction of the expenses is inappropriate.
Expected loan forgiveness not received after December 31, 2020
Assuming a taxpayer follows the IRS ruling and does not deduct the expenses on their 2020 return, what happens if the taxpayer later finds that some or all of the loan is not going to be forgiven? Does the taxpayer now have to go back and amend the 2020 return?
In Rev. Proc. 2020-51, the IRS issued safe-harbor rules that allow a taxpayer to claim a deduction in the taxpayer’s 2020 tax year for certain otherwise deductible eligible 2020 expenses if the taxpayer received a PPP loan that the taxpayer expects to be forgiven after its 2020 tax year and in a later year the taxpayer is denied PPP loan forgiveness, in whole or in part, or the taxpayer decides not to request PPP loan forgiveness. In that situation, under the revenue procedure’s safe harbor, the taxpayer can deduct some or all of the expenses on (1) a timely filed (including extensions) original tax or information return for the 2020 tax year, (2) an amended 2020 return or administrative adjustment request, or (3) a timely filed original tax or information return for the subsequent tax year.
The CARES Act itself does not address whether deductions otherwise allowable under the Code for payments of eligible CARES Act Section 1106 expenses by a recipient of a covered loan are allowed if the covered loan is subsequently forgiven. The AICPA believes that the IRS’s interpretation denying deductions of expenses forgiven under the PPP program is contrary to Congress’s intent.
There is still a possibility that Congress will address the deductibility of these expenses in legislation in the next few months- we can only hope! One option that should be given to taxpayers is to extend the return to see if Congress does act to allow the deduction.
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