On November 18, 2020, the IRS and the Treasury Department released Decision on revenues 2020-27 (the tax ruling) stating that, if a taxpayer has received a PPP loan (defined below) and has paid or incurred qualifying expenses (defined below), the taxpayer cannot deduct those expenses in the year paid or incurred if, at the end of the year, the taxpayer can reasonably expect the PPP loan to be canceled on the basis of those qualifying expenses. Income procedure 2020-51 (the tax procedure), published the same day, describes a safe harbor that would allow a taxpayer to deduct qualifying expenses if the taxpayer is notified that their PPP loan cancellation request has been denied, or if the taxpayer decides to not request the cancellation of its PPP Loan, with regard to these Eligible Expenses.
The Paycheque Protection Program (PPP) was enacted at the start of the COVID-19 pandemic as part of the Coronavirus Aid, Relief and Economic Security Act (CARES Act). PPP allows the Small Business Administration (SBA) to guarantee certain loans to small businesses and independent entrepreneurs (PPP loans), and provides that the principal amount of PPP loans can be forgiven up to the amount of labor costs, interest on covered mortgage bonds, covered rent obligation payments and covered utility expenses, in each case, paid or incurred by the borrower between February 15, 2020 and December 31, 2020 (eligible expenses) . The amount of the PPP loan cancellation is not recognized as taxable income by the borrower.
The CARES Act does not deal with the deductibility of eligible expenses. Earlier this year, however, in Notice 2020-32 (Notice), the IRS and the Treasury Department announced that taxpayers are not allowed to deduct qualifying expenses related to the cancellation of the PPP loan. The notice was intended to prevent taxpayers from claiming a deduction for expenses reimbursed through a non-taxable PPP loan forgiveness and thereby receiving a double taxation benefit under the CARES Act.
Refusal of the deduction for eligible expenses
Revenue Ruling provides that a taxpayer who has received a PPP loan cannot deduct qualifying expenses in the tax year in which those expenses were paid or incurred if, at the end of the year tax, the borrower reasonably expects all or part of the PPP Loan to be canceled on the basis of such qualifying expenses.
According to the tax ruling, a taxpayer who received a PPP loan and paid or incurred qualifying expenses in 2020 has a reasonable expectation of reimbursement of those expenses in the form of a PPP loan forgiveness at the end of 2020, whether the taxpayer has or has not completed a PPP loan forgiveness request or intends to request a forgiveness in 2021. In both cases, a reasonable expectation of repayment exists because, according to the tax ruling, the CARES Act and the procedures published by The SBA provide taxpayers with clear and easily accessible directions to apply for and receive a PPP loan remission. Accordingly, a deduction for such qualifying expenses would be inappropriate under the relevant judicial authorities or Section 265 (a) (1) of the Internal Revenue Code (relating to the non-deductibility of expenses related to exempt income. ‘tax).
Safe Harbor to claim deductions for qualifying expenses if the PPP loan is not forgiven
The tax process provides a safe harbor for a taxpayer to claim a deduction for qualifying expenses if (1) those qualifying expenses are paid or incurred in the taxpayer’s 2020 tax year, (2) the taxpayer has obtained a PPE loan which, at the end of the taxpayer’s 2020 tax year, the taxpayer expects to be written off in a subsequent tax year, and (3) in the course of in a subsequent tax year, the taxpayer’s PPP loan exemption request is refused, in whole or in part, or the taxpayer decides never to request cancellation of the PPP loan (the safe harbor).
If a taxpayer qualifies for the Safe Harbor, the taxpayer can deduct the relevant qualifying expenses on the U.S. federal income tax return or the timely filed information return by the taxpayer for the 2020 tax year or on a return. amended or an administrative adjustment request for the 2020 tax year. This taxpayer can also deduct the relevant qualifying expenses on a U.S. federal income tax return or timely filed information return for a subsequent tax year. A taxpayer notified by his PPP loan lender in a subsequent tax year that delivery of all or part of the PPP loan has been refused may, but is not required to, rely on the safe harbor because these eligible expenses would be deductible from the taxes of the principles.
To apply the safe harbor, a taxpayer must attach to the tax return a declaration from which he deducts the eligible expenses concerned. The declaration should be titled “Declaration of Income Procedure 2020-51” and should include, among other elements, a declaration of the taxpayer’s safe harbor eligibility, the amount of the PPP loan for which the remission was denied. or will not be requested, and the amount of eligible expenses deducted from the deposit.
The tax procedure is effective for taxable years starting or ending in 2020.