When COVID-19 began to spread across the United States, many businesses were forced to close down or to greatly limit the way they provide goods and services. For business owners, the government’s Paycheck Protection Program may have been the only thing that stood between them and losing their business for good. With most PPP loans already spent and forgiveness applications under review, borrowers are beginning to notice a potential issue with those PPP loans: Those funds may mean you can’t deduct business expenses as you normally would. Keep reading to learn more about this issue and how your PPP loan can impact your business tax return for 2020.
Can You Deduct Business Expenses?
First, we want to make it clear that taking a PPP loan does not mean you can’t take any business deductions on your return. However, you can’t take a deduction for any expenses paid for with PPP funds. The language included in current tax code and the initial CARES Act that passed PPP loans prevents you from reducing taxable income for expenses that were purchased with income that was already tax-free (i.e., your PPP loan).
If this is frustrating to you, you’re not alone. Lenders and business advocacy groups alike have fought against this, stating that creating an additional tax burden on business owners negates the original purpose of the CARES Act. Even some politicians have stated that blocking tax deductions is contrary to what the PPP loans were for. And while a change to this legislation has been proposed, it’s currently stuck in the Senate, with no sign of it being pushed through by year’s end.
Waiting for Forgiveness or Taking Deductions?
In addition to seemingly working against the purpose of PPP loans, the inability to deduct business expenses purchased with those funds is currently creating a dilemma for taxpayers: The SBA has 90 days to review forgiveness applications (and other lenders have 60 days), which means many business owners won’t know what percentage of their PPP loans will be forgiven until early 2021 at the soonest. And with the expectation of backlogs on application reviews, it’s very likely that you won’t hear back on your forgiveness application until after the tax deadline.
So how do you know whether or not to take those tax deductions on your return? If the loan is forgiven, then the expenses you paid for with PPP funds can’t be deducted. But if it’s not forgiven, or only partially forgiven, your expenses could be deductible. Unfortunately, you really don’t know how many of those business expenses can be deducted until you find out how much of your loan has been forgiven.
Deciding What’s Right for Your Business
There’s no single answer that will be right for all businesses. It’s important to consult with your accountant or business tax professional to determine the best course of action based on your business’s finances and forgiveness application status. However, in general, the more conservative approach would be to assume that your loan will be fully forgiven. This would be not taking any deductions for expenses you paid for with PPP funding. If your loan is then only partially forgiven or not forgiven, you can amend your return to receive a refund.
On the other hand, if your business needs to hold onto upfront funds, or if you have reason to suspect that your loan won’t be forgiven, you can take all of your usual business deductions. Please note that if your loan is forgiven later on, you may be subject to late payment fees and interest for any amount that you might owe.
Tracking Your PPP Spending
As mentioned, you can still deduct business expenses that you paid for with taxable income. This means you must be able to show exactly where your PPP funds were spent so that you can still claim the tax deductions for which you’re eligible. The simplest way to do this is to use all PPP funds for payroll, if possible; this is easy to track and document, and allows you to deduct any eligible non-payroll expenses for your business tax return. If this isn’t an option for you, please ensure that you are carefully tracking how PPP funds are spent so that you can deduct all other eligible expenses.
If you have concerns or questions about your business’s tax return, what deductions you can take, or your PPP loan, give us a call to schedule an appointment with one of our business tax experts. We’ll review your business’s finances and discuss what your options are as you wait to hear back about your loan forgiveness application.
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