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PPP Loans: What Does it Mean for Your Taxes?

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PPP Loans: What Does it Mean for Your Taxes?

Updated: May 7th, 2021

PPP Loans: What Does it Mean for Your Taxes?

The government relaunched the Paycheck Protection Program (PPP) earlier this year, allocating an additional $284.5 billion to businesses in need. With the March 31 application deadline fast approaching and tax season halfway through, small businesses are starting to wonder how these loans will impact their taxes.

Thanks to recent amendments and the passing of the second stimulus bill on December 27, 2020, the government has passed some significant tax advantages for businesses. They’ve spelled out explanations regarding taxable income, tax deductions, and tax credits—and everything is looking like a win-win for small businesses.

Below, we’ll cover everything you need to know about PPP tax implications. First, let’s do a quick recap on how the PPP loans work.

How the PPP Loan Works

Congress has provided additional PPP funding to both first-time and second-time loan drawers. This means that those who received a PPP loan last year and those who didn’t both qualify for financing in 2021, as long as they meet the qualifications:

First-Time Borrower Qualifications

  • Your business must have been in operation since at least February 15, 2020
  • Your business must still be open and operating
  • You need to have 500 or fewer employees (if your business has multiple locations, you’ll need 500 or fewer employees per location)
  • Proof that PPP funding will be necessary to sustain your business through current economic issues

Second-Time Borrower Qualifications

  • You’ve used (or have plans to use) the entirety of your first PPP loan or returned the remainder
  • Your business can show a 25% or greater reduction in gross receipts in the first, second, or third quarter of 2020 relative to the same 2019 quarter.
    • Additional applicable timelines for businesses that were not in operation in Q1, Q2, Q3, and Q4 of 2019 are available. Applications submitted on or after January 1, 2021 are eligible to utilize the gross receipts from the fourth quarter of 2020.
  • Your business must have been operational since at least February 15, 2020
  • Your business must still be open and operating
  • Your business needs to have less than 300 employees (if your business has multiple locations, you’ll need 300 or fewer employees per location)

The government doesn’t do the lending—they just provide a guarantee on a large percentage of the loan to reduce the risk for lenders. SBA-approved lenders are the ones footing the actual cash, and then the SBA provides small businesses with a check equal to the forgivable amount they qualify for.

Businesses can qualify for PPP loans up to 2.5 times their average monthly payroll costs. Business applying for their second draw PPP loan in the food services or accommodations can qualify for PPP loans up to 3.5 times their monthly average payroll costs. If the business spends their PPP funds on eligible expenses, then the government will convert these loans into tax-free grants—which is essentially free money for your business.

In addition to spending funds on the right expenses, businesses must also follow other rules:

  • 8- to 24-Week Coverage Period: Your business must spend PPP money during an elected 8- to 24-week coverage window that you agree to in your loan terms to be eligible for full forgiveness.
  • 60/40 Rule: Your business must spend at least 60% of your PPP loan on payroll-related costs—the remaining 40% can be spent on other qualifying expenses.
  • Staffing Maintenance: Your business must retain the same headcount that it had before the COVID-19 pandemic. If you’ve let employees go, you’ll need to rehire them (or attempt to rehire them) before applying for forgiveness.
  • Pay Maintenance: You must maintain at least 75% of your employee’s hours, wages, or salary. If you’ve reduced these, you’ll need to raise them before the end of your covered period.

Apply now to discover if you qualify for a second round of PPP loan funding.

Is the PPP Loan Taxable?

Traditionally, all government grants are viewed as business income—thus, making them taxable.

“Historically and forever, if you have a business loan and it is forgiven, that automatically is taxable income. It’s been in the internal revenue code forever,” says Keith Hall, president and CEO of the National Association for the Self-Employed.

However, updated guidance clarifies that forgiven PPP loan amounts are an exception and are not considered taxable income. This applies even if your PPP loan is only partially forgiven. Any forgiven amount is not considered taxable income.

“If it is forgiven, it will not be taxable income. Period,” says Hall.

This means you don’t need to plan on paying any taxes for the PPP loan funds you receive. The government intended PPP loans to be a lifeline for struggling businesses, and it realized a tax burden would be counterintuitive to the purposes of the program.

Can I Deduct My PPP Expenses?

Previously, all PPP expenses were considered non-tax-deductible, but the December update has reversed that decision and made all eligible PPP expenses tax-deductible.

The 2021 Appropriations Act states, “no deduction shall be denied, no tax attribute shall be reduced, and no ‎basis increase shall be denied, by reason of the exclusion from gross income provided.”

Can I Still Claim the Employee Retention Tax Credit (ERTC)?

Yes, you can. As of December 2020, your business can now take out a PPP loan and obtain the ERTC for both 2020 and 2021.

However, there’s an important caveat. You can’t claim the ERTC for any wages paid with forgiven PPP funding. You can claim the credit for any wages paid above and beyond the amount forgiven or outside of your 8- or 24-week covered period.

The ERTC has also expanded to help business owners through the first half of 2021. The credit allows employers to claim a maximum of $5,000 per employee for all of 2020, and it now allows for a maximum of $14,000 per employee through June 30, 2021.

The stimulus bill also expands eligibility to allow more businesses to qualify for the credit.

Can I Use PPP Funds to Pay Business Taxes?

No. The recent update to the PPP loan expanded the list of eligible expenses, but taxes are not included.

Originally, PPP loans could only be spent on payroll costs, rent, mortgage payments, and utility payments. Updated guidance has expanded that list to cover operations expenditures, worker protection expenditures, property damage costs, and supplier costs.

If you use your PPP loan to cover existing business taxes, that portion will not be forgivable.

What About State Taxes?

Good question. While the IRS has classified PPP forgiven funds as non-taxable income and tax-deductible, certain states have announced their tax laws. Here’s a list of the 19 states (as of February 26, 2021) that have decided to either tax forgiven loans or disallowed PPP loan expense deductions:

  • Washington
  • Idaho
  • Nevada
  • California
  • Utah
  • Arizona
  • Texas
  • Arkansas
  • Minnesota
  • Ohio
  • Kentucky
  • Florida
  • Virginia
  • North Carolina
  • Maine
  • Vermont
  • New Hampshire
  • Massachusetts
  • Hawaii

State laws are changing rapidly, so check for your state’s updated PPP rules before filing your taxes.

Maintain Your Records

You’ll need meticulous records to apply and qualify for loan forgiveness. Plus, you’ll need these records come tax season when you claim your business tax deductions.

Keep track of exactly how you use your PPP funds to not run into any hiccups when applying for forgiveness and deductions.

For more on how PPP works check out our end-to end guide.


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