The IRS originally released Notice 2020-32 on April 30, 2020, providing that taxpayers who received a PPP Loan may not deduct normally allowable business expenses if those expenses were paid from proceeds of a forgiven PPP Loan. The reasoning is that, generally, under the Internal Revenue Code, taxpayers are not allowed deductions for expenses paid from tax-exempt income. Because PPP Loans are to be forgiven on a tax-free basis, expenses paid out of their proceeds are not deductible.
On November 18, 2020, the IRS doubled down on this position with the new Revenue Ruling 2020-27. This ruling states that a taxpayer may not deduct eligible expenses paid from the proceeds of a PPP Loan if, at the end of the applicable taxable year, such taxpayer reasonably expects to have their PPP Loans forgiven. This applies whether or not the taxpayer has submitted an application for forgiveness by the end of such taxable year.
This Revenue Ruling is consistent with the Notice published April 30, 2020, but provides additional clarification for taxpayers who have not applied for or received confirmation of loan forgiveness before the end of this year. In conjunction with the new Revenue Ruling, the IRS also published Revenue Procedure 2020-51, which provides a safe harbor allowing taxpayers to later claim deductions for eligible expenses if their applications are denied, or where they later decide to forego seeking forgiveness.
To qualify under the safe harbor, a taxpayer must have (A) paid or incurred eligible expenses in the 2020 tax year for which no deduction is allowed because the taxpayer reasonably expects to receive forgiveness; (B) submitted an application for forgiveness in the 2020 tax year, or at the end of the 2020 tax year intends to submit an application in a subsequent year; and (C) in such subsequent tax year: (1) had their application for forgiveness denied (in whole or in part); or (2) irrevocably decided not to seek forgiveness for some or all of the PPP Loan. If these requirements are met, a taxpayer may be able to deduct some or all of the eligible expenses on the taxpayer’s timely filed original 2020 return (including extensions), an amended 2020 return or administrative adjustment request, or the taxpayer’s timely filed return for the subsequent tax year (including extensions).
While forgiveness is likely still the best outcome for many taxpayers, if you have questions or concerns about how the new Revenue Ruling and the safe harbor provided under the new Revenue Procedure affect your PPP Loan, contact our office today.