The year 2020 will never be forgotten, not in the least due to the significant challenges – both professional and personal – brought on by COVID-19. In March, the Coronavirus Aid, Relief, and Economic Security (CARES) Act granted small U.S. businesses the ability to apply for forgivable Paycheck Protection Program (PPP ) loans to help cover certain “eligible expenses,” including payroll, rent, utilities, and mortgage interest.
Although the forgiven debt is excludable from taxable income, the expenses covered by the funds from the debt are not deductible. The IRS has recently issued Rev. Rul. 2020-27 which clarifies the tax year in which such expenses are not deductible.
The revenue ruling assumes the following:
- The tax year is a calendar year.
- The taxpayer obtains a PPP loan with the intent of applying for loan forgiveness.
- The loan funds are used to pay for “covered (or eligible) expenses” during the 2020 year.
Two Potential Situations
In situation one, the taxpayer files the loan forgiveness application in 2020 but does not receive notice of forgiveness before the end of the year. In situation two, the taxpayer does not file the loan forgiveness application until 2021.
In both situations, the ruling denies the deduction for the expenses for the 2020 tax return because the taxpayer in each has a reasonable expectation of reimbursement at the end of that year. Therefore, a deduction for the covered expenses which were incurred during the year is not permitted, whether or not the application for forgiveness was submitted by the end of the same taxable year.
A Safe Harbor Option
What happens in 2021 if the forgiveness application is denied or if the taxpayer decides not to ask for debt forgiveness? Rev. Proc. 2020-51 provides the following “safe harbor” remedies for eligible expenses:
- Deduct the expenses on the original tax return;
- Deduct the expenses on an amended return or through an AAR (administrative adjustment request); or
- Deduct the expenses in the subsequent taxable year.
Our COVID-19 team will gladly assist and discuss your options when navigating this update by the IRS. Talk to one of our COVID-19 team members so we can assist you with your forgiveness application and tax reporting. We’re here to help.