No Deduction for Expenses Paid with Forgiven Loan Proceeds Under the Paycheck Protection Program
As many businesses that applied for loans under the Paycheck Protection Program (PPP) are now receiving funding, questions are arising as to whether business expenses paid with forgiven PPP loan proceeds would also be tax deductible. If so, the borrower would have no taxable income from receipt of the loan proceeds (nontaxable under general principles of tax law) or from loan forgiveness (via the CARES Act), and would also receive a tax deduction for the expenses paid with the loan proceeds.
Notice 2020-32, issued by the IRS on April 30, 2020, squarely addresses this issue. It definitively states that no deduction is allowed for an expense if the payment of the expense results in forgiveness of a covered loan pursuant to provisions of the CARES Act and the income associated with the forgiveness is excluded from gross income.
From a practical perspective, this means that a business operating as a C corporation with PPP loan forgiveness will owe more in 2020 income taxes than would otherwise be owed if amounts paid with PPP loan funds were tax deductible. For example, a C corporation with a $1,000,000 PPP loan which is forgiven for being used for otherwise deductible payroll costs will owe $210,000 ($1,000,000 x 21% federal income tax rate applicable to C corporations) more in 2020 income tax than would be owed if the payroll costs were tax deductible. The additional income taxes owed by owners of pass-through entities (sole proprietorships, partnerships, and S corporations) could be much greater since these entities are subject to 2020 federal income tax rates up to 37%.
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