(By James Waite and Brian McQuinn)
Question: I’ve been hearing a lot about the CARES Act stimulus package. I’ve applied for my Payroll Protection Program loan, but what should I expect next? How much will be forgiven, and what steps do I need to take? Are there any other opportunities I should be looking into?
Answer: The Coronavirus Aid, Relief and Economic Security (CARES) Act continues to evolve on a daily basis. Consequently, potential borrowers have been quick to submit loan applications in order to preserve their place in line for the funds allocated to the Payroll Protection Program (“PPP”) despite the fact that they are not yet certain what the exact terms of any loan or grant, or associated requirements for forgiveness of such loans, will ultimately prove to be.
According to a survey released by the National Federation of Independent Businesses (NFIB) on April 10, 2020, approximately 70 percent of small businesses already have applied for a PPP loan/grant.
The CARES Act initially provided $349 billion of federal funding for PPP loans/grants to small businesses — generally, those with 500 or fewer employees and some others if they qualify as “small business concerns” for U.S. Small Business Administration (SBA) purposes — as well as certain qualified nonprofit organizations, veterans’ organizations and tribal business concerns.
You should consult with your banker, accountant and tax specialist for further information.
The program, however, ran out of money on April 16 and when this article was written, negotiations were ongoing related to the passage of additional PPP funding. Consequently, small businesses with a need for funding should apply for these loans as quickly as possible, as the Treasury Department and the SBA have indicated the loans will be approved on a first-come, first-served basis. However, make sure you only apply for one loan. Applying for multiple loans on the same basis with different institutions, even if accidentally, could be deemed fraud. Keep in mind that applying for these loans does not obligate you to accept them later if the loan proves not to be a good fit for your business.
Notably, self-employed individuals and independent contractors were not eligible to apply for PPP loans/grants until April 10. Four days later, the SBA issued a new interim final rule supplementing previously issued PPP guidance and providing specific information regarding calculation of maximum loan amounts for individuals with self-employment income who file a Form 1040, Schedule C, and requiring provision of the borrower’s 2019 Form 1040 Schedule C with its PPP loan application. The SBA, which has been struggling to keep up with the deluge of applications, is trying to dig out. Additional guidance should, therefore, be expected. Regardless, the keys for borrowers are understanding as much about the process as possible as quickly as possible, and applying that knowledge to maximize both loan and forgiveness amounts.
PPP loan terms. Beyond the obvious need to understand which loan(s) to apply for and when, knowing which loans are eligible for forgiveness and how to satisfy the forgiveness requirements is crucial. The SBA, the Treasury and banks throughout the country have been largely focused on processing and funding these loans up to now. As a result, they have not yet created a uniform mechanism for tracking eligibility, which suggests that much of the burden may ultimately fall on borrowers. This makes it imperative that borrowers understand which uses of PPP loan proceeds qualify for forgiveness, and then track and document the actual uses made of those funds.
Some of the highlights are as follows:
Eligibility. Small businesses — generally those with 500 or fewer employees — and nonprofit entities, sole proprietors, independent contractors and self-employed individuals who regularly carry on a trade or business are eligible if they provide a good faith certification that the uncertainty of current economic conditions make the loan request necessary for ongoing operations, and that the borrower will use loan proceeds to retain workers, maintain payroll, or make mortgage, lease, and/or utility payments.
Loan amounts. Eligible borrowers may apply for PPP loans worth up to 250 percent of their average monthly payrolls for the preceding year — with alternate timeframes for businesses which were not operational in 2019, as well as seasonal employers — up to a maximum loan amount of $10 million.
Payroll Costs. Payroll costs are calculated by totaling included payroll costs and subtracting excluded payroll costs:
Included payroll costs for employers:
- Salaries, wages, commissions and other similar forms of compensation, including paid sick leave.
- Payments of cash tips or equivalent(s).
- Payments for vacation, parental, family, medical or sick leave.
- Allowances for dismissals or separations.
- Payments required for the provision of group health care benefits, including insurance premiums.
- Payments of retirement benefits.
- Payments of state or local taxes assessed on the compensation of employees.
Included payroll costs for sole proprietors, independent contractors and self-employed individuals:
The SBA’s Interim Final Rule provides only limited information about payroll calculations for these parties. It does make it clear that they should be prepared to provide banks “documentation as is necessary to establish eligibility such as payroll processor records, payroll tax filings, Form 1099-MISC, or income and expenses from a sole proprietorship.”
Excluded payroll costs include:
- Compensation of an individual employee or owner in excess of an annual salary of $100,000, excluding benefits such as health care, 401(k) and state and local taxes, as prorated for the period from Feb. 15, to June 30, 2020.
- The employer’s share of federal payroll taxes, not including the amounts imposed on an employee and required to be withheld by the employer, railroad retirement taxes and income taxes.
- Any compensation of an employee whose principal place of residence is outside of the U.S.
- Compensation to employees outside the U.S.
- Compensation to 1099 independent contractors.
- Qualified sick leave or family leave wages for which a credit is allowed under Sections 7001 or 7003 of the Families First Coronavirus Response Act (FFCRA).
- The net must be divided by 12 to determine monthly obligations, then multiplied by 2.5 to determine the total eligible loan amount.
Rate and term: PPP loans are structured as private loans made by approved banks at a fixed rate of 1 percent with a maturity date two years from the origination date of the loan. Such loans are 100 percent guaranteed by the SBA.
Forgiveness. The full principal amount of each loan is eligible for forgiveness, provided that the borrower meets certain requirements. Under the current rules, if a PPP loan is forgiven, it will not later be taxed as income. It is unclear whether failure to comply with these obligations — for example, by using PPP loan proceeds for marketing — would constitute a default under the loan such that it might be accelerated and/or its interest rate increased, perhaps to the stated default rate. Consequently, the safest course of action is going to be to make certain the following requirements are fully complied with and that such compliance is thoroughly documented:
Reduction based on reduction in number of employees. An employer must maintain and return the same total number of full-time equivalent employees as that maintained by the employer prior to the outbreak. Note that this obligation does not require re-hiring the same employees in the same roles, only that the total headcount be restored. If not, the forgivable amount of the PPP loan will be reduced as follows:
Principal × (Avg FTEs Per Month During 8 Weeks Following Date of
Origination)/(Avg FTEs Per Month During Either: (a) Feb.15,2019 -June 30,2019,or
Reduction relating to salary and wages. During the eight weeks following the date of loan origination, if an employer reduces by more than 25 percent the salary or wages of any employee making less than $100,000 annually, the total amount of forgiveness will be reduced by the amount of the decrease which exceeds 25 percent. As of the date this article was written, it had not yet been made clear how this reduction might apply to terminated employees.
75 percent of loan proceeds must be used for payroll. In its Interim Final Rule, the SBA indicated that “not more than 25 percent of the loan forgiveness amount may be attributable to non-payroll costs.” The Interim Final Rule indicates that the SBA will issue more guidance regarding forgiveness, but it does not indicate whether violating this requirement might reduce the forgivable amount, bar forgiveness, constitute a default or something else.
Again, it is imperative that PPP borrowers track and document their compliance with these requirements so they can demonstrate eligibility once procedures for seeking forgiveness have been issued.
Additional relief. A number of other options are available to small businesses, including:
Loan payments for existing and new borrowers. Under the SBA debt relief program, the SBA will pay the principal, interest and fees of currently outstanding SBA 7(a) (business capital), 504 (commercial real estate), and microloans (small loans of up to $50,000) for six months. The SBA also will pay the principal, interest, and fees of new 7(a), 504, and microloans issued prior to Sept. 27, 2020 for six months.
Automatic deferrals. For current SBA serviced disaster home and business loans in regular servicing status on March 1, 2020, the SBA is providing automatic deferments through Dec. 31, 2020. Interest will continue to accrue on such loans during the deferment period.
Economic injury disaster loans (EIDLs). The CARES Act also created an EIDL program under the SBA’s existing Disaster Loan Assistance Program. Small businesses that have suffered substantial economic injury may apply for EIDL loans of up to $2 million. EIDL loans have a 30-year term and accrue interest at the rate of 3.75 percent for businesses and 2.75 percent for nonprofits. EIDL loans of more than $25,000 require granting a security interest in all business assets of the borrower as collateral. EIDL loans of more than $200,000 require a personal guarantee as well.
Economic injury loan advances. Small business owners in all states, Washington D.C., and U.S. territories also are eligible to apply for an EIDL advance of up to $10,000, which functions as a grant. Eligible business owners can apply directly on the SBA website. EIDL advance funds will be subtracted from the forgiveness amount under any PPP loan. As of the date this article was written, we were not aware of anyone having received an EIDL advance.
Express bridge loans. The Express Bridge Loan Pilot Program allows small businesses that maintain existing business relationships with SBA Express Lenders to access up to $25,000 with reduced paperwork. These can be term loans or bridge loans to cover the gap while applying for a direct SBA EIDL. Small businesses can find Express Bridge Loan lenders by contacting their local SBA district offices.
Expanded SBA 7(a) loan program. Additional funds for small businesses are expected to be made available through a vastly expanded SBA 7(a) loan program, which waives loan guaranty fees and reduces credit risk for lenders.
Tax impacts. The CARES Act also creates several tax credits and incentives, including:
Employee retention tax credit. Provision of a tax credit of up to 50 percent of wages paid during the crisis for businesses that are either fully or partially forced to suspend operations during the crisis or see gross receipts fall by 50 percent from the previous year. The credit is capped at $5,000 per employee per fiscal quarter. There are additional obligations to be eligible for the tax credit for employers with an average of more than 100 full time employees in 2019.
Deferral of employer Social Security payroll tax. Delayed payment deadlines for employers’ Social Security payroll tax payment obligations, requiring the first half to be paid by the end of 2021 and the second half to be paid by the end of 2022.
Restoration of net operating loss carry-back provisions. Allowing net operating losses for 2018, 2019 and 2020 to be carried back for five years, and removing the limitation originating from the 2017 Tax Reform Act that net operating losses can only be used to offset 80 percent of taxable income.
In the near term, rental operators with a need for additional financing should look for opportunities to access cash being made available through loans and grants, particularly PPP loans and expanded SBA lending programs as additional stimulus funds may yet be made available. Looking further down the road, the likely expansion of SBA loan programs and perhaps additional COVID-19-related stimulus funding should motivate rental operators to delve deeper into tax, borrowing and funds allocation strategies, as those funds likely are to be made available on more attractive terms than in the past.
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