On April 30, 2020, the IRS released IRS Notice 20-32 which provided guidance that the expenses used to document and earn forgiveness for the Paycheck Protection Program (PPP) loan would be considered nondeductible for tax purposes, as discussed in our firm update from May 1, 2020.
On November 18, 2020, the IRS indicated they are holding strong on this position by issuing Revenue Ruling (Rev. Rul.) 2020-27 and Revenue Procedure (Rev. Proc.) 2020-51. While the AICPA believes that Congress intended for these expenses to be deductible, the IRS has stood firm in their position to make these expenses nondeductible.
Rev. Rul. 2020-27 states that the deduction of expenses used for PPP loan forgiveness is not appropriate if the taxpayer has a “reasonable expectation” of receiving loan forgiveness. This applies regardless of whether the taxpayer has applied for forgiveness or not, prior to their year-end. The IRS sites Sec. 265(a)(1), which disallows a deduction for expenses that are allocable to tax-exempt income. In this case, the tax-exempt income is the PPP loan forgiveness which makes eligible expenses under Section 1106(a) of the CARES Act, such as payroll, mortgage interest, rent, and utilities, that will be used in the loan forgiveness application disallowed as a deduction for tax purposes.
Rev. Proc. 2020-51 provides a safe harbor for taxpayers who appropriately exclude the expenses used for PPP loan forgiveness but are later denied forgiveness or decide not to request PPP loan forgiveness. The eligible expenses can be deducted, under this safe harbor, on a timely filed 2020 tax return, an amended 2020 return, or a timely filed return for the subsequent tax year. Taxpayers must attach a statement to their return when using the safe harbor which details their specific situation regarding PPP loan forgiveness.
Because of this position by the IRS, a taxpayer will have an amount of expenses equal to their PPP forgiveness amount be nondeductible, resulting in an increase in taxable income on their 2020 tax return filings. If you have any questions, please reach out to your personal Sciarabba Walker contact or email us at firstname.lastname@example.org.