Updated: May 5, 2020
Loans, Tax Credits, & Tax Implications: Coronavirus Aid, Relief, and Economic Security Act (CARES Act), Public Law 116-136, 134 Stat. 281, 286-93 (March 27, 2020)
Enacted on March 27, 2020 the Coronavirus Aid, Relief & Economic Security Act (“CARES Act”) contains several important tax provisions (and potentially forgivable) loan benefits for businesses and individuals to expand business access to capital.
In general, as stimulus support during COVID-19, borrowers may apply for different types of Small Business Administration (SBA) loans, either administered directly through the SBA or through permitted third-party lenders. Although limited funds are available, there are several limitations with claiming the Paycheck Protection Program (PPP) loans and other tax benefits available under the CARES Act.
For example, by combining the [refundable against payroll taxes] Employee Retention Credit with the Payroll Tax Deferral under the CARES Act, employers may reduce (or receive a cash refund) their 2020’s Social Security tax and defer the remaining balance due to 2021 and 2022, subject to further guidance by the IRS and/or U.S. Treasury Department. Although the payroll deferral under the CARES Act is essentially an interest free loan, the amount payroll taxes incurred will still need to be paid in the near future.
However, employers must decide which relief program they qualify (e.g. PPP loan forgiveness v. Employee Retention refundable payroll tax credits) and intend to use because utilization of loan forgiveness options under the CARES Act may then disqualify the use of the both the Payroll Deferral and Employee Retention Programs to that specific taxpayer seeking financial support.
Regardless of whether your business pursues PPP loan forgiveness or Employee Retention Credits, taxpayers should also strongly consider whether their business is eligible (e.g. less than $5M in gross receipts) for up to $250,000 per year in R&D tax credit payroll offset opportunities as an immediate and supplemental cash saving opportunity in addition to claiming either the CARES Act PPP or Employee Retention Credit stimulus support. Taxpayers and recently formed businesses across all industries may qualify for the R&D credit.
Subject to further guidance by the IRS and/or U.S. Treasury, if your business does qualify for the R&D tax credit payroll offset, one potential tax strategy to maximize your cash flow in the short-term may include (1) maximizing and claiming R&D tax credits (non-refundable) against your business payroll taxes, then (2) applying the Employee Retention Credits (up to $5,000 refundable per employee) to eliminate any remaining payroll liability (which may even turn into a cash refund) to maximize both R&D and Employee Retention credits simultaneously.
Contact AndreTaxCo to learn more about the R&D tax credit, timing requirements for payroll offset election on original returns only, credit utilization, and other tax incentives to help you and your business in addition to the stimulus options under the CARES Act.
Another consideration to note, the IRS recently published Notice 2020-32 which clarifies the following regarding the tax impact to loan recipients under the CARES Act:
(1) No deduction is allowed under the Internal Revenue Code (Code) for an expense that is otherwise deductible if the payment of the expense results in forgiveness of a covered loan pursuant to section 1106(b) of the Coronavirus Aid, Relief, and Economic Security Act (CARES Act), Public Law 116-136, 134 Stat. 281, 286-93 (March 27, 2020). See also IRC § 265(a)(1); Treas. Reg. § 1.265-1 (prevents a double tax benefit regarding a “class of exempt income”); and
(2) Income associated with the forgiveness is excluded from gross income for purposes of the Code pursuant to section 1106(i) of the CARES Act. Forgiven amounts will not constitute cancellation of indebtedness income for federal tax purposes.
As further background, here are some of the key provisions (see summary list & specific subsections below) for individuals & businesses, summary benefits, and criteria for qualification provided or expanded under the CARES Act. However, be aware that additional rules and restrictions may apply.
Governmental Funding & Relief include the following:
Paycheck Protection Program (PPP) ~ up to $10M forgivable;
Economic Injury Disaster Loan (EIDL) Emergency Advance ~ $10K forgivable;
Small Business Administration (SBA) Express Bridge Loans ~ up to $25,000 for disaster-related purposes;
SBA Debt Relief ~ SBA will pay 6 months of principal, interest, and associated fees for specified borrowers (excluding PPP or EIDL borrowers); and
Additional Debt Relief ~ SBA Serviced Disaster (Home and Business) Loans automatic deferments through December 31, 2020
Notable Business Tax Provisions include the following creations and/or modifications:
[New] Employee Retention Credit ~ up to $5,000 in refundable payroll credits per eligible employee;
Delayed Payment of Certain Employer Payroll Taxes;
Increase in the Section 163(j) Interest Expense Limitation ~ deduction increased from 30% to 50%;
Modifications to the Net Operating Loss Rules ~ temporary 5 year carryback & 80% limitation pause until 2021; and
Modifications to the 2017 Tax Cuts and Jobs Act (TCJA) - e.g. allow businesses to immediately expense certain qualified improved property (QIP).
For Individuals, the CARES Act also creates the following:
Economic Impact Payments (e.g. $1,200 advance rebate) for 2020;
Expands the Charitable Deduction;
Relaxes Certain Rules Relating to Retirement Accounts; and
Exclusion for Certain Employer Payments of Student Loans.
Governmental Funding & Relief Options
In addition to traditional SBA funding programs, the CARES Act established several new temporary programs to address the COVID-19 outbreak as further outlined below.
*SBA Notice: PPP Resumed April 27, 2020
Note, the SBA has publicly announced resumed accepting Paycheck Protection Program applications from participating lenders on Monday, April 27, 2020 at 10:30am EDT. However, due to the limitation of funds available, and prior applications in the queue, it may be difficult for any new applications to receive funding approval.
The Paycheck Protection Program was established by Sec. 1102 of the CARES Act. The PPP was initially administrated as a $349 billion loan program (and since recently infused with additional stimulus) by the Small Business Administration (SBA) intended to help U.S. employers keep workers on their payrolls.
Pursuant to Sec. 1102 under the CARES Act, the PPP generally applies to taxpayers who have fewer than 500 employees (full or part-time) regarding potential qualification.
However, taxpayers with “small business concerns” (as defined in section 3 of the Small Business Act, 15 U.S.C. 632) can be eligible borrowers even if they have more than 500 employees, as long as they satisfy the existing statutory and regulatory definition of a “small business concern” under section 3 of the Small Business Act, 15 U.S.C. 632. A business can qualify if it meets the SBA employee-based or revenue-based size standard corresponding to its primary industry. See www.sba.gov/size for the industry size standards. See also U.S. Treasury “PAYCHECK PROTECTION PROGRAM LOANS Frequently Asked Questions (FAQs)” (April 29, 2020).
PPP loans can be as large as $10 million. However, most organizations will receive smaller amounts (e.g. generally a maximum of 2.5 times their average monthly payroll costs).
In general, eligible entities for the PPP may include the following:
Businesses and entities that were in operation on February 15, 2020
Small businesses, 501(c)(3) nonprofit organizations, 501(c)(19) veterans organization, or Tribal businesses that have fewer than 500 employees, or the applicable size standard in number of employees for the North American Industry Classification System (NAICS) industry as provided by SBA, if higher
Individuals who operate a sole proprietorship or as an independent contractor and eligible self-employed individuals
Any business concern that employs not more than 500 employees per physical location of the business concern and that is assigned a NAICS code beginning with 72 (Hotels and Restaurants), for which the affiliation rules are waived
Affiliation rules are also waived for any business concern operating as a franchise that is assigned a franchise identifier code by the Administration, and company that receives funding through a Small Business Investment Company
PPP loans may be forgiven, so long as you follow the specified rules. Under section 1106(b) of the CARES Act, a recipient of a covered loan may receive forgiveness of indebtedness on the loan regarding payments made for the following expenses during the 8-week “covered period” beginning on the covered loan’s origination date:
(1) Payroll Costs;
Compensation (salary, wage, commission, or similar compensation, payment of cash tip or equivalent); Payment for vacation, parental, family, medical, or sick leave; Allowance for dismissal or separation; Group health care benefits, including insurance premiums; Retirement benefits; State or local tax assessed on the compensation of employees.
Employee/owner compensation in excess of $100,000. However, the exclusion of compensation in excess of $100,000 annually applies only to cash compensation, not to non-cash benefits, including: (1) employer contributions to defined-benefit or defined-contribution retirement plans; (2) payment for the provision of employee benefits consisting of group health care (3) coverage, including insurance premiums; and (4) payment of state and local taxes assessed on compensation of employees.
Taxes imposed or withheld under chapters 21, 22, and 24 of the IRS code
Compensation of employees whose principal place of residence is outside of the U.S.
Qualified sick and family leave for which a credit is allowed under sections 7001 and 7003 of the Families First Coronavirus Response Act (Public Law 116–127).
(2) Interest on Mortgage (or other existing debt) Obligations (incurred before the "Covered Period");
E.g. payments of interest on any mortgage obligation but excluding any prepayments or payments of principal
(3) Rent (including rent under a lease agreement); and
However, section 1106(d) of the CARES Act provides that the amount of the covered loan forgiveness is reduced if, during the covered period:
(1) the average number of full-time equivalent employees of the recipient is reduced as compared to the number of full-time employees in a specified base period (period from either February 15, 2019, through June 30, 2019, or January 1, 2020, through February 29, 2020, as selected by the borrower), or
(2) the salary or wages for any individual making less than $100,000 per year is reduced by more than 25% as compared to against the most recent full quarter before the covered period. Reductions in the number of employees or compensation occurring between February 15, 2020, and 30 days after enactment of the CARES Act will generally be ignored to the extent that reductions are reversed by June 30, 2020.
In addition, pursuant to an interim final rule issued by the Small Business Administration, no more than 25% of the amount forgiven can be attributable to non-payroll costs. See Q&A 2.o. in Part III of the interim final rule, Business Loan Program Temporary Changes; Paycheck Protection Program, Docket No. SBA-2020-0015, 85 Fed. Reg. 20811, 20813-20814 (April 15, 2020).
*Notice: Lapse in Appropriations
As of May 1, 2020, the SBA COVID-19 website publication states the “SBA is unable to accept new applications at this time for the Economic Injury Disaster Loan (EIDL)-COVID-19 related assistance program (including EIDL Advances) based on available appropriations funding. However, applicants who have already submitted their applications will continue to be processed on a first-come, first-served basis."
The CARES Act contains provisions related to SBA’s existing Economic Injury Disaster Loan program. The program operates pursuant to Section 7(b) of the Small Business Act and provides low-interest (i.e. 3.75% for small businesses, 2.75% for nonprofits) long-term loans to small businesses located in areas that SBA has declared to be geographic disaster zones.
Small businesses can apply for up to $2 million in 7(b) Disaster Loans if they are located within the geographic disaster zones.
Although the maximum loan size is $2 million, applicants who apply for this loan may request an expedited advance (e.g. distributed within 3 days) of up to $10,000 from the SBA. This loan advance may be forgivable and provide up to $10,000 of economic relief to businesses that are currently experiencing temporary difficulties or temporary loss of revenue.
Small business owners in all U.S. states, Washington D.C., and territories are eligible to apply for an Economic Injury Disaster Loan in response to the COVID-19 pandemic.
In general, the EIDL loan may be used for financial obligations and operating expenses that could have been met had the disaster not occurred. For example, Section 7(b) Disaster Loans may be used to pay fixed debts, payroll, accounts payable and other costs, but are not intended to replace lost sales or profits and cannot be used for certain purposes, including to refinance debt, make payments on loans owed by another federal agency, to pay tax penalty obligations, repair physical damages, or to pay dividends to stockholders. These Disaster Loans also offer long-term repayments in order to keep payments affordable, up to a maximum of 30 years. Terms are determined on a case-by-case basis, based upon each borrower’s ability to repay.
Key changes to the EIDL from the CARES Act include:
Section 1110 of the CARES Act provides that SBA Disaster Loans will be available until December 31, 2020. (Note that the “covered period” for the Section 7(a) loans described above runs only until June 30, 2020.)
CARES Act similarly changes the definition of “small business,” for the purposes of a Disaster Loan, to include a company with no more than 500 employees, but does not waive the affiliation rules for Sector 72.
CARES Act also waives the personal guaranty requirement and the requirement for applicants to demonstrate that they are unable to obtain credit from other sources.
CARES Act provides for a $10,000 emergency advance (within three days of submitting an application) while an applicant’s loan application is pending, which SBA will not require to be repaid. However, the Act provides that an applicant may receive this advance while still applying for a Section 7(a) loan described above and that, if the applicant later receives a 7(a) loan, the amount of the advance will “be reduced from the loan forgiveness amount for a loan for payroll costs.”
(1) Any small business affected by COVID-19 with less than 500 employees
Including sole-proprietors, independent contractors and self-employed persons;
Cooperative with not more than 500 employees;
An Employee Stock Ownership Plan (ESOP), as defined in 15 U.S.C. 632, with not more than 500 employees;
A tribal small business concern, as described in 15 U.S.C. 657a(b)(2)(C), with not more than 500 employees;
501(c)(19) veterans organizations;
An agricultural cooperative, aquaculture enterprise, nursery, or producer cooperative, that is small under SBA Size Standards;
A private non-profit organization that is a non-governmental agency or entity that currently has an effective ruling letter from the IRS granting tax exemption under sections 501(c),(d), or (e) of the Internal Revenue Code of 1954, or satisfactory evidence from the State that the non-revenue producing organization or entity is a non-profit one organized or doing business under State law, or a faith-based organization
(2) Businesses in certain industries may have more than 500 employees if they meet the SBA’s size standards for those industries.
Affiliation rules may apply when the SBA is deciding whether a business’s affiliations preclude them from being considered “small.” Generally, affiliation exists when one business controls or has the power to control another or when a third party (or parties) controls or has the power to control both businesses.
Pursuant to its authority under the Small Business Act, the U.S. Small Business Administration (“SBA” or the “Agency”) provides direct loan assistance to small businesses located in communities impacted by Presidential-declared disasters and disasters declared by SBA under its own authority.
The EBL Pilot Program, announced by publication of a notice in the Federal Register on October 16, 2017 (82 FR 47958), is designed to supplement the Agency’s direct disaster loan capabilities. As originally announced, the EBL Pilot Program authorizes SBA Express Lenders to provide expedited SBA-guaranteed bridge loan financing on an emergency basis in amounts up to $25,000 for disaster-related purposes to small businesses located in communities affected by Presidential-declared disasters while those small businesses apply for and await long-term financing (including through SBA’s direct Disaster Loan Program, if eligible).
Effective March 25, 2020, SBA expanded program eligibility to include small businesses nationwide adversely impacted under the Coronavirus Disease (COVID-19) Emergency Declaration issued by President Trump on March 13, 2020 (“COVID-19 Emergency Declaration”). Because the COVID-19 Emergency Declaration covers all states, territories, and the District of Columbia, eligible small businesses under the EBL Pilot Program include small businesses located in any state, territory and the District of Columbia that have been adversely impacted by the COVID-19 emergency. This notice also stated that all references to disasters in the EBL Pilot Program requirements will include the COVID-19 emergency. In the same notice, SBA extended the term of the EBL Pilot Program through March 13, 2021.
EBL loans can only be made up to six months after the date of an applicable Presidential Disaster Declaration. For the COVID-19 Emergency Declaration, EBL loans can be approved through March 13, 2021.
In general, the SBA Express Bridge Loans enable small businesses who currently have a business relationship with an SBA Express Lender to access up to $25,000 quickly as support during the COVID-19 economic disaster. This pilot program allows SBA Express Lenders authority to deliver expedited SBA-guaranteed financing on an emergency basis for disaster-related purposes to eligible small businesses, while the small businesses apply for and await long-term financing (e.g.