On December 27, 2020, following an unexpected delay, President Donald Trump signed stimulus legislation that legislatively overruled the IRS’s position that expenses funded with forgiven Paycheck Protection Program (“PPP”) loans were not deductible. The new legislation, known simply as the Consolidated Appropriations Act, 2021 (the “Act”), also expands the scope of the PPP program and enhances other benefits created in the original Coronavirus Aid, Relief, and Economic Security Act (the “CARES Act”) or the Families First Coronavirus Response Act (the “FFCRA”). This client advisory describes some of the potential tax benefits expanded or enhanced under the new legislation.
Deductibility of PPP-Funded Expenses
Under the PPP, businesses have been able to obtain loans to fund payroll costs and the payment of certain other vital expenses. Under the original PPP, if the proceeds of a PPP loan were used to fund payroll costs, interest on certain mortgage obligations, certain rent payments, and certain utility payments, all or a portion of the loan could be forgiven. The lion’s share of PPP loan proceeds was expected to go to employees. While forgiveness of a non-PPP loan is generally taxable to a borrower, Section 1106(i) of the CARES Act provided that the forgiveness of a PPP loan under Section 1106(b) of the CARES Act was to be excluded from gross income.
On April 30, 2020, in Notice 2020-32, the IRS declared that expenses, including payroll expenses, would not be deductible for federal income tax purposes if funded with forgiven PPP loans. The reasoning behind Notice 2020-32 was that the allowance of a deduction for expenses funded with a forgiven PPP loan could confer an improper double tax benefit that is prohibited under Section 265(a)(1) of the Internal Revenue Code. Notice 2020-32 was an unwelcome surprise, as there was some indication that Congress had intended that expenses funded with forgiven PPP loans should be deductible.
The Act effectively overrides Notice 2020-32, providing that “no deduction shall be denied, no tax attribute shall be reduced, and no basis increase shall be denied, by reason of the exclusion from gross income provided” in Section 1106(i) of the CARES Act. Thus, Congress has confirmed that taxpayers may indeed obtain a double tax benefit from forgiven PPP loans.1
Expansion of Employee Retention Credit
The CARES Act provided a potentially refundable tax credit to certain employers for up to 50% of wages that the employer continued to pay to certain employees in the face of a government-mandated COVID-19 shutdown or a loss of revenue that exceeded certain thresholds. The credit was allowed against certain employment taxes, including the employer’s share of Old-Age, Survivors, and Disability Insurance (i.e., Social Security) taxes and a portion of Railroad Retirement Tax Act taxes.
The Act expands the availability of the credit by, among other things:
Full Expensing of Certain Business Meals for 2021 and 2022
- Increasing the amount of the credit from 50% of qualified wages to 70% of qualified wages;
- Increasing the maximum amount of qualified wages taken into account in calculating the credit from $10,000 per employee in the aggregate to $10,000 per employee for each calendar quarter;
- Extending the availability of the credit from December 31, 2020 to June 30, 2021; and
- Reducing from 50% to 20% the reduction in gross receipts (compared to the same calendar quarter in the prior year) that potentially triggers the availability of the credit for certain employers.
The Act creates a new exception to the 50% limit under Internal Revenue Code Section 274(n)(1) on business meal expenses that may be deducted. For the period beginning on January 1, 2021 and ending on December 31, 2022, the limit is increased from 50% to 100% “for food or beverages provided by a restaurant.”
Expansion of Deferral of Certain Payroll Tax Obligations
On August 8, 2020, President Donald Trump issued a memorandum directing the U.S. Treasury Department to defer the withholding, deposit, and payment of certain employment taxes. On August 28, 2020, the IRS issued Notice 2020-65, which was intended to provide guidance to employers on how to implement the memorandum. The memorandum and notice deferred the collection of the employee’s share of Social Security taxes (imposed at a rate of 6.2%) and an equivalent amount of an employee’s Railroad Retirement taxes, in each case for wages paid from September 1, 2020 through December 31, 2020, and only for employees whose wages (or compensation) payable during any bi-weekly pay period generally was less than $4,000. Notice 2020-65 addressed the need to ultimately pay the deferred employee Social Security taxes by requiring employers to withhold and pay deferred employee Social Security taxes ratably from wages and compensation paid between January 1, 2021 and April 30, 2021.
The Act extends the end of the payment period to December 31, 2021.
Extension of FFCRA Paid Leave Tax Credits
The FFCRA mandated that certain employers with fewer than 500 employees provide paid sick leave and paid family leave to qualifying employees until December 31, 2020. The FFCRA made available to employers a tax credit equal to the sick leave and family leave wages that employers were required to pay under the mandate.
The Act provides that the tax credit will now be available for qualifying sick leave wages and qualifying family leave wages paid until March 31, 2021. The Act does not, however, appear to extend the period during which such wages are required to be paid. Thus, certain employers may be able to take advantage of tax credits for sick leave wages and family leave wages that are voluntarily paid between January 1, 2021 and March 31, 2021 and that meet certain other requirements.
While the Act does not impose limits on the deductibility of expenses funded with forgiven PPP loans, there remains the possibility that other rules could limit deductions for such expenses.