On May 1, 2020 the Internal Revenue Service published Notice 2020-32 to provide guidance regarding the deductibility of expenses incurred and paid for with Paycheck Protection Program (PPP) loan proceeds. The notice clarifies that no deduction is allowed under the Internal Revenue Code for an expense that is otherwise deductible if the payment of such expense results in forgiveness of a PPP loan.

The Paycheck Protection Program was established by section 1102 of the CARES Act and allowed businesses to borrow 2.5 times their monthly average costs up to $10 million, to pay for covered expenses: payroll costs, employee benefits, rent, utilities, and interest on existing obligations. Under section 1106(b) of the CARES Act, a recipient of such covered loan can receive forgiveness of the loan amount equal to the sum of payments made for covered expenses during an 8-week period beginning on the loan origination date, subject to reduction for decrease in workforce or workforce compensation. Additionally, no more than 25% of the amount forgiven can be attributed to nonpayroll costs.

Under Section 1106(i) of the CARES Act, the loan forgiveness amount would be excluded from gross income for federal income tax purposes. Notice 2020-32 clarifies that while ordinary and necessary expenses incurred in the course of business are generally deductible from taxable income, no deduction is allowed for such expenses if allocable to a class of income wholly exempt from taxes. The purpose of this rule is to prevent a double tax benefit. To the extent part or all of the PPP loan amount is forgiven and excluded from gross income, any eligible covered expenses up to the amount forgiven, will be disallowed as deductions from taxable income.

As the IRS continues to issue guidance, we are committed to helping clients understand how it may affect their tax position. Your HLB Gross Collins, P.C. tax advisor can assist you with any questions you may have regarding this new guidance as it relates to your overall tax strategy.