Breaking News: IRS Treats Expenses Paid With Forgiven PPP Loan Proceeds as Non-Deductible
By Ryan Vaughan
May 4, 2020
On April 30, 2020, the Internal Revenue Service (“IRS”) released Notice 2020-32 providing guidance regarding the deductibility for federal income tax purposes of expenses incurred in a taxpayer’s trade or business when the taxpayer receives a loan under the Paycheck Protection Program (“PPP”). The notice clarifies that NO DEDUCTION is allowed under the Internal Revenue Code (“IRC”) for an expense that is otherwise deductible if the payment of the expense results in forgiveness of a loan under the PPP and the income associated with the forgiveness is excluded from the taxpayer’s gross income.
Under the PPP, payments towards payroll, rent, utilities, and mortgage interest made in the eight week period following the date of the loan are eligible to be included in the loan forgiveness calculation of the PPP. The CARES Act exempts the amount of loan forgiveness under the PPP from inclusion in taxable income for taxpayers.
IRC Section 265(a)(1) and Section 1.265-11 of the Income Tax Regulations provides that no deduction is allowed to a taxpayer for any amount otherwise allowable as a deduction to such taxpayer that is allocable to one or more classes of income other than interest wholly exempt from the taxes imposed by subtitle A of the Code. The term “class of exempt income” means any class of income that is either wholly excluded from gross income under any provision of the Internal Revenue Code or wholly exempt from the taxes imposed by subtitle A of the Code under the provisions of any other law. The Notice concluded that the amount of the loan forgiven under the PPP results in a class of exempt income. Consequently, deductions such as the payroll, rent, utilities and mortgage interest that gave rise to the non-taxable loan forgiveness are not deductible.
Opposition to the IRS’s position has already surfaced. Senate Finance Committee Chair Chuck Grassley, R-Iowa, indicated “The intent was to maximize small businesses’ ability to maintain liquidity, retain their employees and recover from this health crisis as quickly as possible. This notice is contrary to that intent.” House Ways and Means Committee Chair Richard E. Neal, D-Mass spokesperson Erin Hatch stated “we are planning to fix this in the next response legislation.” The American Institute of CPAs also plans to seek legislative clarification.
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