The coronavirus pandemic has impacted small businesses across the country, and many have turned to the Paycheck Protection Program (PPP) from the U.S. Small Business Administration to help them keep employees on their payroll as well as cover other costs.
The details of these small business loans include:
- Only 1% interest and no administrative fees
- Borrow up to 2.5 times your average monthly payroll, up to $10 million.
- No collateral or guarantees required
- Maturity rate of 2 years (for loans issued before June 5, 2020) or 5 years (for loans issued after June 5, 2020)
The program’s rollout was turbulent. Launching at the beginning of April 2020, the initial funding ran out in two weeks, forcing many businesses to wait several more critical weeks to apply while extra funding approval passed through congress.
Meanwhile, though the PPP Loan was designed specifically for independent small businesses, the loan was also controversially being offered to publicly-traded and privately-backed ventures. There was a large backlash against privately-backed companies who took advantage of PPP Loans, limiting the amount of capital available for independents. Some privately-backed tech startups, such as Glowforge and Lytics, were actually approved for PPP Loans but turned them down. Similarly, publicly-traded chains such as Ruth’s Chris Steakhouse and Shake Shack both returned their loans after public controversy.
Despite all these issues, the loans have been a literal lifeline for businesses, supporting 51 million jobs. Applications for the loan officially ended on August 8, 2020, but if you’re a recipient of one of the 4.9 million open loans, it’s important to be planning now on how to ensure your loan is fully forgiven.
The loan is designated to be used 75% for payroll and 25% on rent, utilities, and mortgage. It’s possible to earn full forgiveness of the loan if you adhere to these breakdowns strictly, but you can also be flexible in its use if required for partial forgiveness.
Which PPP Loan Uses Will Be Forgiven?
All recipients of the loan should have used 100% of their funds on eligible costs within the first eight weeks of receiving it. As long as your use of the loan stays strictly within the following breakdown, you will be able to gain full forgiveness on your loan – both the principal and interest.
Payroll Costs (75%)
Payroll encompasses all of the following:
- Salary, wage, commissions, or similar compensations
- Payment of cash tips or equivalent
- Payment for sick, vacation, parental, family, or medical leave
- Dismissal or separation allowance
- Payments for group health care benefits, including insurance premiums
- Payments for retirement benefits
- Payments of state or local tax on employee compensation
There are notable payroll costs that are exempted from this use, including:
- Pay for individual employees who make more than $100k annually
- Payroll taxes
- Railroad retirement taxes
- Income taxes
- Employees who live permanently outside of the United States
- COVID-19 sick or family leave (which is covered by the FFCRA)
As we’ll discuss below, you must also keep your employees on staff and not “materially reduce” their salary.
Rent, Utilities, and Mortgage Interest (25%)
You can spend up to 25% of your loan on covering your rent, utilities, and mortgage interest.
While you can also use this money to pay other debt obligations accrued before February 15, 2020, such as business credit card debt. However – this money would need to be repaid.
Situations in Which PPP Loan Forgiveness Can Be Reduced
If you spend more than 75% of the loan on payroll, and the remainder is still only spent on rent, utilities, and mortgage interest, you will also earn full forgiveness on the loan.
Here are situations in which the loan forgiveness amount will be reduced, and by how much.
Spending More Than 25% of the Loan on Non-Payroll Costs
In a pinch, you may have needed to use more than 25% of your loan on rent, utilities, or mortgage interest. To calculate how that affects your forgiveness, your maximum forgivable amount will be what you do spend on payroll costs, divided by 0.75.
For example, on a $100,000 PPP loan, spending just $60,000 on payroll in the following eight weeks means you can have $80,000 forgiven ($60,000 in payroll costs = 75%, $20,000 in non-payroll costs = 25%).
Laying Off Employees or Reducing Salary
If you lay off employees, your loan is still eligible for partial forgiveness. But that forgiveness will be reduced in proportion to the number of “full-time equivalent employees” you laid off.
“Full-time equivalent employees” per month is the average number of full-time equivalent employees for each pay period within a month. To calculate your loan forgiveness, you’ll divide the average number of full-time employees per month during the covered period.
In addition, if you reduce the total salary of any employee “materially”—meaning more than 25% below that employee’s typical compensation—your forgiveness will be decreased by the total amount of that reduced salary during the covered period.
Keep in mind: If you reduce salaries or lay off employees, but then undo the reduction or layoffs by the end of the covered period, your loan can be forgiven in full once again.
What About for Self-Employed Workers?
Self-employed workers, such as independent contractors, are also eligible for PPP loans and loan forgiveness.
A similar set of guidelines applies to these workers: A minimum of 75% of your loan proceeds must be used to replace your lost salary, capped at $100,000 annualized. This corresponds to eight weeks’ worth of your 2019 net profit.
The remainder of your loan must go toward the other eligible costs to receive full forgiveness. To spend money on these costs, you must have claimed (or been able to claim) a deduction for those expenses of your 2019 Form 1040 Schedule C.
How to Ensure Your PPP Loan Is Fully Forgiven
Once you apply for loan forgiveness, your lender is required to decide on your request within 60 days. Within that time frame, you should receive notice that your loan has been forgiven—either fully or partially. If you made expenses with your loan reducing your loan forgiveness, you’d repay the remaining principal plus 1% interest over the remainder of your loan term.
It was recently announced that those who have PPP Loans under $50k qualify for a simplified application process and more lenient terms on forgiveness. They are exempted from forgiveness reduction related to any reduction in full-time-equivalent employees and any reductions in salary/wages.
For others, even now, months after the launch of the loan, there’s still uncertainty related to the PPP Loan forgiveness process and if other PPP-related expenses may be exempted.
Forgiven PPP Loans are not taxable income, but the IRS has declared that no tax deduction is allowed for an expense that is otherwise deductible if the payment of the expense results in forgiveness of a PPP-covered loan. Currently, organizations are urging Congress to allow for full deductions of all PPP-related expenses.
The PPP loan forgiveness process can also be arduous and time-intensive, and many are also lobbying for a simplified forgiveness process for loans under $150k – but whether or not that will become a reality is still up in the air. For now, businesses need to ensure they are adhering to two primary best practices to ensure the loan will be fully forgiven with no hurdles.
1. Document All Loan Expenses
In order to prove you adhered to the percentage breakdown required by the loan, you’ll need documents showing your breakdown of loan expenses. Rent, utility, and mortgage payment statements are a must.
For payroll, you’ll need documents that verify the number of employees on the payroll as well as their salaries and wages. You can use IRS Form 941; payroll reports from a payroll provider like Gusto, Zenefits, or QuickBooks; income/payroll/unemployment insurance filings from your state; and documents that verify retirement and health insurance contributions.
For your other costs, you’ll need documents that show payments of those costs, which could be canceled checks, payment receipts, or account statements.
Keep these documents handy and prepare to present them to your lender when it’s time to apply for loan forgiveness.
Independent contractors, sole proprietors, and other self-employed workers can have eight weeks of their loan proceeds forgiven as salary replacement; the remainder (utility payments, etc.) requires the same sort of documents as any other business.
2. Follow Your Lender’s Guidelines
The lender that provided you the loan is the entity that forgives your loan, not the SBA. You will also make payments to that lender if your loan is not fully forgiven.
For this reason, it’s worth noting that there is no standardized PPP loan forgiveness process that every lender follows. Your lender may ask for specific documents or forms from you in order to qualify for forgiveness, so stay informed of their exact guidelines throughout your loan application, disbursement, and forgiveness process.