2020 Expense Deductions for PPP Loans Forgiven in 2021 Disallowed by IRS

PPP loans have been helpful for businesses during the coronavirus pandemic. Eligible businesses have been able to keep employees on payroll, cover approved expenses, and apply for full or partial forgiveness. Many small businesses applied for PPP support because not only were they allowed within the approved time frame but because the future of their business was a mystery.

While PPP loans won’t be taxable, any funds used for expenses will be. You can learn more about loan forgiveness and the impact this will have on business taxes.

Apply for the latest round of PPP funding

Actions taken regarding PPP loan forgiveness and business taxes

Recently, more than 500 national, regional, and state trade associations signed a letter asking congressional leaders to act on the second round of PPP funding.

They asked House Speaker Nancy Pelosi, Senate Majority Leader Mitch McConnell, and others to bring a “spirit of urgency and cooperation before the end of this session to prevent an avoidable catastrophe for millions of small businesses.”

What you need to know about PPP and taxes

More than 5 million small businesses received PPP loans, and many business owners might not know about the new requirements awaiting them during the 2020 tax season.

When will information be available regarding PPP and taxes?

The IRS is expected to release direction soon on whether the PPP loan amount forgiven will be taxable.

The guidance from the U.S. Treasury Department and Internal Revenue Service (IRS) clarifies how expenses will be taxes when a Paycheck Protection Program (PPP) loan has not been forgiven by the end of the year the loan was received.

Expense deductions payed for with PPP funding

The IRS has confirmed that taxpayers with a reasonable expectation of PPP loan forgiveness may not deduct expenses paid with those funds, even if the forgiveness has not been granted prior to the end of the taxable year.

It does not matter if your loan is forgiven in 2020 or 2021. You will not be able deduct 2020 expense deductions paid for by a PPP loan that was forgiven in 2020 or will be forgiven in 2021.

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Why was this decision made?

The IRS guidance states that because taxpayers calculate their forgiveness based on eligible expenses paid with PPP funds, the forgiveness of the loan amounts used for those expenses is reasonably expected to occur, and under IRC §265 taking the deductions would be “inappropriate”.

What if I don’t have my PPP loan forgiven?

The IRS supplemented this guidance by stating that taxpayers who do not apply for forgiveness, or whose forgiveness requests are reduced or denied, may take deductions for expenses paid with the amounts that are not forgiven under the revenue procedure’s safe harbor.

How do I qualify for the safe harbor stipulation?

To qualify for the safe harbor, taxpayers must attach a statement to their return titled “Revenue Procedure 2020-51 Statement” that contains:

  • The taxpayer’s name, address, and Social Security number or employer identification number (EIN)
  • A statement specifying whether the taxpayer is an eligible taxpayer under either Section 3.01 of the revenue procedure, for a taxpayer who applied for loan forgiveness in 2020 (or as of the end of the 2020 tax year intended to apply for loan forgiveness in a subsequent tax year) and the application was denied in whole or part, or under Section 3.02, for a taxpayer who applied for loan forgiveness in 2020 (or as of the end of the 2020 tax year intended to apply for loan forgiveness in a subsequent tax year) but in a later tax year decides to irrevocably withdraw its request for forgiveness
  • A statement that the taxpayer is applying the safe harbor in Section 4.01 of the revenue procedure for expenses claimed in 2020 or Section 4.02 for expenses claimed in a later year
  • The amount and date of disbursement of the taxpayer’s loan
  • The total amount of covered loan forgiveness that the taxpayer was denied or decided to no longer seek
  • The date the taxpayer was denied or decided to no longer seek covered loan forgiveness and the total amount of eligible expenses and non-deducted eligible expenses that are reported on the return.

Bottom line

It’s a best practice to check with your tax preparer about how a PPP loan will affect filing. Consider cash flow and revenue and your ability to make the payments. A financial professional can also help you decide what amount of PPP funding will be most helpful during the economic crisis.

The SmartBiz Small Business Blog has a wealth of up-to-date information about the PPP program, available grants, and other funding like SBA 7(a) loans. Review these articles and check back soon for new information:

* WHAT YOU NEED TO KNOW: The SmartBiz® Small Business Blog and other related communications from SmartBiz Loans® are intended to provide general information on relevant topics for managing small businesses. Be aware that this is not a comprehensive analysis of the subject matter covered and is not intended to provide specific recommendations to you or your business with respect to the matters addressed. Please consult legal and financial professionals, and the applicable SBA rules, for further information. The availability of PPP loans remains subject to Congressional and SBA approval, including the amount of funding available to banks and the quantity of eligible applicants considered on a first-come, first-served basis. The information provided is based on laws, rules, regulations, and related guidance with respect to the Paycheck Protection Program (PPP), including guidance issued by the U.S. Small Business Administration (SBA). In the event of any discrepancies between the information on this site and the SBA’s site, please follow official SBA guidance.

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