Small Business Advisory: Paycheck Protection Program

Congress created the Paycheck Protection Program (PPP) under the Coronavirus Aid, Relief, and Economic Security (CARES) Act which was signed into law on March 27, 2020. The PPP provided small business loans backed by the U.S. Small Business Administration (SBA).

Loan proceeds are meant to pay employee wages, although a certain portion of the funds may be used for other eligible business expenses. If the funds are used as intended, the entire loan can be forgiven by the federal government.

The PPP ended on May 31, 2021, but existing borrowers may be eligible to apply for loan forgiveness. 

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How Can I Use the Proceeds from My PPP Loan?

Proceeds from PPP loans are designed to be used primarily for payroll costs, including employee salaries, commissions, cash tips or similar compensations as well as costs related to the continuation of group health care benefits during periods of paid sick, medical, or family leave, and insurance premiums. Specifically, payroll costs include the following for employees (excluding independent contractors) with a principal place of residence in the U.S.:

  • (i) salary, wages, commissions, or similar compensation;
  • (ii) cash tips or equivalents;
  • (iii) payment for vacation, parental, family, medical, or sick leave;
  • (iv) allowance for dismissal or separation;
  • (v) payment required for the provision of group health care benefits, including insurance premiums;
  • (vi) payment of any retirement benefit; and
  • (vii) payment of state or local taxes assessed on employee compensation.

Compensation costs for any given employee (exclusive of non-cash benefits) are capped at an annualized salary of $100,000.

Loan proceeds can also be used for payments of interest on any mortgage (but not prepayment of interest or payment of principal), rent, utilities, and interest on certain other debt obligations. These other uses are restricted to contracts or indebtedness that existed prior to February 15, 2020. Thus, if you want to use the loan to pay for mortgage interest, you need to have taken out that mortgage before February 15th. Similarly, if you want to use the loan to pay utility bills, you need to have started utility service for your business before February 15th.

How Does Loan Forgiveness Work?

Many businesses plan to seek forgiveness of their PPP loans. If you do, you will want  to apply for forgiveness within 10 months after your covered period ends (i.e., before the loans deferral period ends and you have to start making loan payments). Once you apply, you will need to show that you have used the loan proceeds for forgivable purposes, and that at least 60% of the loan forgiveness amount was spent on payroll costs that are eligible for loan forgiveness. In addition, your forgiveness amount may be reduced in certain circumstances if you are paying employees less, or have fewer employees, than you did before the pandemic. If you qualify, the SBA will forgive the loan, or part of the loan, and your bank will discharge the forgiven debt. Additional information about PPP loan forgiveness, including the application process, is available here

If I Don’t Qualify for Loan Forgiveness, What Are My Terms?

If a PPP loan is not forgiven, or only partially forgiven, you will need to pay interest on the unforgiven part of the loan at a rate of 1%. You don’t need to make these payments if you are going to apply for forgiveness, but the interest will accrue during that grace period (remember, you will want to apply for forgiveness within 10 months after your covered period ends, otherwise you must start making loan payments). In any event, you must fully pay off your loan within five years. If you received a loan prior to June 5, 2020, you must pay off the loan within two years. However, nothing prevents borrowers with existing loans from mutually agreeing with their lender to extend the loan maturity date to five years. While the key items of interest rate, time to repay, etc., will be the same for any loan under the PPP, other terms may vary between lenders. It's important to check your promissory note, and you can ask your bank how it alters the standard SBA promissory note, so you understand any terms unique to your loan.

What Are the Biggest Pitfalls I’ll Face in Getting My Loan Forgiven?

This will vary borrower by borrower. The certifications on the application are very important. In addition, the SBA has published interim rules for loan forgiveness (though there may be additional guidance issued in the future). However, some key things are clear. Most importantly, to receive loan forgiveness, borrowers are required to use at least 60% of the loan forgiveness amount for payroll costs paid or incurred during the relevant “covered period” (and not more than 40% for non-payroll costs). Under the most recent law passed by Congress, a borrower’s covered period begins on the loan disbursement date and ends on any date that occurs between 8 weeks and 24 weeks after the disbursement date.

Currently, if more convenient to align with a borrower’s payroll schedule, the borrower can choose an alternative covered period beginning on the first day of the borrower’s first pay period following the loan disbursement date.

Even applying your loan monies to payroll will not necessarily mean the whole loan will be forgiven. The SBA has put rules in place that will reduce loan forgiveness in certain circumstances. For instance, for any worker employed by the borrower during the relevant covered period, the loan forgiveness amount is reduced dollar-for-dollar by the amount of any salary cut over 25% from what the worker was paid on average during the most recent full quarter before the covered period. In addition, the loan forgiveness amount is reduced proportionally for reductions in the average number of full-time equivalent employees during the relevant covered period as compared to the average number of full-time equivalent employees during a reference period selected by the borrower.

There are certain exceptions to these reductions in the loan forgiveness amount, including where the borrower made a good-faith written offer to rehire an employee or restore reduced hours at the same salary or wages, which offer was rejected by the employee. Also, if an employer has re-raised salaries or increased their number of employees back to pre-COVID levels by December 31, 2020 (or, for a PPP loan made after December 27, 2020, before the last day of the covered period), this may also qualify the business for the full amount of forgiveness. Another way to get the full level of forgiveness even if you don’t have the same level of staffing is to show that your business cannot return to the same level of activity it was operating at before February 15, due to compliance with requirements or guidance issued by HHS, CDC, or OSHA. Further, loans of $50,000 or less are exempt from these reductions. 

There are many other details that impact whether the SBA will forgive your loan. Many will apply only to businesses in certain situations. Such details can be found here.

If My Loan Is Forgiven, How Do I Avoid a Big Tax Bill?

Debt forgiveness on PPP loans is not subject to federal income tax. At the same time (not surprisingly), the IRS has held that a borrower whose PPP loan is forgiven may not deduct the expenses that relate to the forgiven amount (i.e., the wages, employee benefits, interest, rent, and utilities that determined the forgiven amount) from gross income as a business expense. Massachusetts state taxes may be a bit more complicated. Under state law, your forgiven loan may count as income, depending on the structural form of your business (i.e., small businesses that are corporations may not pay tax on the forgiven loan but businesses that are taxed through the personal income tax may be responsible for it).

PPP borrowers may be eligible for the Employee Retention Tax Credit, but payroll costs that are qualified wages for the credit are not eligible for loan forgiveness if the employer elects to claim the credit for those amounts. You may want to consult your accountant about these issues before seeking loan forgiveness.

About What Else Should I Be Concerned?

The PPP program continues to refine its rules pertaining to forgiveness. The Attorney General’s Office led a group of 24 states in writing to Congress to seek further clarity in the program and we have submitted a variety of comments to the SBA on its interim program rules. Among other things, these include requests for:

  • fairer access for small businesses to PPP funds;
  • clearer guidance for less sophisticated borrowers and the unbanked;
  • better communication from the SBA to borrowers about loan status;
  • more flexibility on deadlines, acceptable usage of proceeds, and loan disbursement schedules;
  • longer repayment terms for businesses that do not qualify for loan forgiveness;
  • limitations on additional terms that banks can add to PPP loans;
  • better barriers to prevent hedge funds and large business entities from diverting PPP funds meant for small businesses;
  • more clarity on what happens if banks fail to disburse loans in a timely manner;
  • better notifications for small businesses before loans are cancelled;
  • stronger safeguards against pre-payment penalties;
  • more clarifications regarding funding limits;
  • better guidance on how the ‘necessity’ clause applies to borrowers;
  • clearer consequences for SBA program violations;
  • removal of traps for the unwary from SBA program rules; and
  • elimination of program structures that leave room for mischief by those set on abusing the program.

If you need assistance with the PPP forgiveness process, please fill out a Small Business Experience Form and let us know what questions you may have. Our Office can provide direct guidance and is also a member of the COVID Relief Coalition, a group of government agencies, non-profits, and law firms which offer help and information for small businesses during the pandemic. The Coalition also offers free legal advice for small businesses in need of assistance.