Are Eligible PPP Expenses Deductible? IRS vs. Congress?
The CARES Act was enacted in March 2020 for purposes including providing financial assistance to eligible borrowers under the Paycheck Protection Program, well known as PPP, and more than $500 billion of forgivable loans have been made under this program. Section 1106(i) of the CARES Act provides:
“(i) Taxability. --- For purposes of the Internal Revenue Code of 1986, any amount which (but for this subsection) would be includible in gross income of the eligible recipient by reason of forgiveness described in sub section (b) shall be excluded from gross income.”
On November 18, 2020, the IRS released Revenue Ruling 2020-27 and Revenue Procedure 2020-51, which denied each PPP borrower an income tax deduction for the payment of the expenses that were required to support PPP loan forgiveness. The IRS had initially put forth this concept on May 2, 2020 in Notice 2020-32, but on September 22, 2020 the IRS released Announcement 2020-12 advising lenders not to issue Form 1099-C, which is the form issued if there is cancellation of indebtedness income. At that point in time, it thus appeared that the IRS was recognizing that PPP forgiveness did not give rise to taxable income, as expressed in the CARES Act.
Revenue Ruling 2020-27 reflects the IRS view that the CARES Act exempts PPP forgiveness from being treated as cancellation of indebtedness income or income “otherwise includible in gross income under section 61 of the Code.” The IRS, however, approaches this issue from the other side of the coin—the deductibility of the expenses paid with PPP borrowings. The IRS rules that these expenses are nondeductible under Code Section 265, because the expenses are “allocable to items of income wholly exempt from taxation.”
The consequence of denying deductions for the payment of eligible PPP expenses yields the same result as the inclusion of forgiven loans in income. This is expressly contrary to the CARES Act.
On November 20, 2020, the Senate Finance Committee disagreed with the IRS’s decision to treat the loan proceeds as taxable income. Chairman Chuck Grassley (R-Iowa) and Ranking Member Ron Wyden (D-Ore.) released the following joint statement:
“Since the CARES Act, we’re stressed that our intent was for small businesses receiving Paycheck Protection Program loans to receive the benefit of their deductions for ordinary and necessary business expenses. We explicitly included language in the CARES Act to ensure that PPP loan recipients whose loans are forgiven are not required to treat the loan proceeds as taxable income. As we’ve stated previously, Treasury’s approach in Notice 2020-32 effectively renders that provision meaningless . . . Regrettably, Treasury has now doubled down on its position . . . . We encourage Treasury to reconsider its position.”
It does indeed appear that the U.S. Treasury Department has doubled down on its position. Ultimately, whether or not these deductions are allowed may be decided by the court or may be clarified by Congress, and we suggest you write to your Congressional delegation and ask them to pass clarifying legislation as soon as possible. If you would like to join in that effort, a form of letter is available by clicking here.