IRS issues guidelines on PPP loans and tax credits for employee retention – Finance and Banking
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The Internal Revenue Service (IRS) has released several new guidelines for Paycheck Protection Program (PPP) loans, including two new FAQs addressing the interaction of PPP loans and employee retention tax credits (ERTC) in M&A transactions, a ruling that PPP loan-financed expenses that are expected to be written off in a subsequent tax year are not deductible, and a tax proceeding covering how to claim deductions if such a PPP loan is not subsequently canceled.
Interaction of PPP loans and ERTCs in mergers and acquisitions
The IRS guidelines The treatment of the interaction of PPP loans and ERTCs in M&A transactions indicates that acquisitions of companies that have received PPP loans will generally not jeopardize the ERTCs of acquirers and their subsidiaries. The advice has been provided in the form of FAQs, which cannot be relied on as legal authority, although they do provide insight into the IRS ‘current position. Several legislative proposals were also put forward to harmonize restrictions under PPP and ERTC loan programs in the context of mergers and acquisitions, which would provide additional certainty if enacted.
Congress established the PPP and ERTC under the Coronavirus Aid, Relief and Economic Security Act (CARES Act) to encourage employers to continue paying their employees during the pandemic. The PPP provides forgivable loans to employers who use the proceeds to maintain payrolls and pay other essential business expenses. The ERTC is a refundable tax credit available to certain employers affected by the pandemic who continue to pay employees.
Under the CARES Act, an employer is not eligible for ERTC if a member of its aggregate group has received a PPP loan, and previously claimed ERTCs are subject to clawback if a group member receives a PPP loan. The general aggregation rules of the CARES law (summarized in IRS FAQ 25) has created uncertainty in the circumstances where a business claiming ERTCs acquired a business that received a PPP loan, or vice versa. Thus, parties to M&A transactions should consider the possibility that the acquisition of a business with a PPP loan could jeopardize the ERTCs of the acquirer and its affiliates on both a prospective basis. and retroactive, even if the target’s PPP loan was repaid or canceled before closing. This has raised particular concerns for financial buyers because FAQ 80 had indicated that the receipt of a PPP loan by a holding company could compromise the ERTCs of other holding companies of a fund that were part of the same aggregate group.
Newly added IRS FAQs 81a and 81b cover structured merger and acquisition transactions such as the purchase of assets or shares (or other shares) of a company that has received a PPP loan, and addresses situations where the PPP loan is repaid or canceled before closing, as well as those where the PPP loan remains in abeyance. In general, assuming that the acquirer’s pre-transaction group does not have or obtain a PPP loan itself, the PPP loan of the target company will not affect the eligibility of the acquiring company. and its aggregate group members (other than the target company) to claim ERTCs, and any ERTCs previously claimed by them will not be clawed back. In addition, the target company may be eligible to claim ERTCs as an affiliate of the acquirer post-acquisition if its PPP loan is fully repaid or canceled before closing, or if it complies with Small Business procedures. Business Administration to submit a cancellation and escrow request. the PPP loan amount with the applicable lender before closing. Otherwise, the target company (but not the acquirer or other affiliates) continues to be ineligible to claim ERTCs as a result of the transaction.
The IRS guidelines also provide that an acquisition of assets from a company that has received a PPP loan will not affect the ERTC eligibility of the acquiring company and its aggregate group, unless the seller’s PPP loan obligations are not assumed. If the seller’s PPP loan obligations are resumed, the acquirer and its aggregate group remain eligible for ERTCs, but the “qualified salaries” used to calculate ERTCs will not include salaries paid to employees of the selling company after closing. . Whether or not the seller’s PPP loan obligations are assumed, the acquisition of the asset will not trigger the recovery of the ERTCs previously claimed by the acquiring company and its aggregate affiliates.
The IRS guidelines offer welcome relief to buyers who were concerned about the impact of target companies with PPP loans in M&A transactions, as it generally ensures that such acquisitions will not result in them- even the rejection of the ERTCs claimed by the buyer’s aggregate group.
Deductibility of PPP expenses
The IRS has also issued guidelines on the deductibility of expenses paid or incurred in a tax year that are expected to be repaid by canceling a P3 loan after the end of the year. In Tax Decision 2020-27, the IRS found that a taxpayer cannot deduct such expenses if, at the end of the tax year, the taxpayer reasonably expects the loan to be forgiven. based on the expenses he has paid or accrued. The 2020-51 Tax Procedure provides a safe harbor to deduct such expenses when PPP loans that were reasonably expected to be ultimately canceled are not fully or partially canceled.
Under the CARES Act, a PPP loan can be canceled to the extent of payments made for qualifying expenses, including salary costs, mortgage interest, rent, and utility payments. Loan amounts that are canceled under the PPP are not included in the taxpayer’s gross income. To avoid a double taxation benefit, the IRS previously concluded in Notice 2020-32 that a deduction is not allowed for an otherwise deductible expense if payment of the expense results in the cancellation of a PPP loan. . This notice, however, did not address the tax treatment of qualifying expenditures funded by a PPP loan where the loan will not be canceled (if any) until in a subsequent taxable year.
Decision on revenues 2020-27 covers two common scenarios in which calendar year taxpayers received PPP loans in 2020 and paid some eligible expenses during the period covered. In Situation 1, a taxpayer requests a loan forgiveness in November 2020 and has met all the requirements of the CARES Act for the PPP loan forgiveness, but was not notified by the lender until the end of 2020 if the loan will be delivered. In Situation 2, the taxpayer has met all the requirements of the CARES Act for the PPP loan forgiveness, but does not request the loan forgiveness until the end of 2020. The taxpayer has a reasonable expectation of the PPP loan forgiveness. , and plans to seek remission in 2021.
Decision on revenues 2020-27 considers that the taxpayer in each of the two situations is not allowed to deduct the eligible expenses financed with his PPP loan during the tax year in which the expenses were paid or incurred if, at the end of the tax year in which the taxpayer receives the PPP loan, the taxpayer “reasonably expects” to receive a forgiveness of the PPP loan because of having paid or accrued these qualifying expenses. The withholding applies even if the taxpayer has not submitted a request for forgiveness of the loan at the end of the tax year in which the taxpayer incurred these expenses.
In its analysis, the IRS states that in both situations, the taxpayer had a reasonable expectation of repayment in the form of a loan forgiveness. The ruling explains that the provisions of the CARES Act and loan forgiveness application procedures published by the Small Business Administration provide loan recipients with “clear and easily accessible advice on how to apply for and receive a covered loan forgiveness.” As an alternative basis for its detention, the IRS relied on Section 265 (a) (1) of the Internal Revenue Code, which prohibits deductions for expenses otherwise eligible for the deduction if the expenses are attributable to tax-exempt income, such as a reasonably expected loan forgiveness. .
In Income procedure 2020-51, the IRS establishes a safe harbor allowing a taxpayer who initially expected their PPP loan to be canceled to claim deductions for qualifying expenses paid or incurred in the 2020 tax year when the loan is ultimately not canceled, in whole or in part. This could happen because the taxpayer’s request for forgiveness of the loan is wholly or partially rejected or because the taxpayer irrevocably decides not to request forgiveness of all or part of the loan, including when the taxpayer determines that he does not. is not eligible for a PPP loan remission based on Small Business Administration referral and withdraws his application.
Taxpayers can claim the Safe Harbor on an original or amended tax return or information return (or administrative adjustment request) for the 2020 tax year, or on a tax return or tax return. information for a subsequent tax year in which the taxpayer’s request for PPP Loan Cancellation is denied or the taxpayer irrevocably decides not to request loan cancellation. the taxpayer’s rebate request is denied in a subsequent year, the taxpayer can use the safe haven rule to deduct expenses in a subsequent year, but is not required to do so because the taxpayer may instead deduct expenses in the subsequent year under general tax principles.
To apply the Safe Harbor, the taxpayer must attach to the corresponding declaration a declaration entitled “Declaration of the 2020-51 tax procedure” which contains certain information about the taxpayer, including the total amount of the PPP loan forgiveness that has been refused or will not be requested. The taxpayer cannot deduct eligible expenses exceeding this amount. Additionally, the tax process states that it does not prevent the IRS from considering other matters relating to the deductions claimed or from requesting additional information or documents verifying the amounts described in the 2020 Tax Process Return. 51.
The content of this article is intended to provide a general guide on the subject. Specialist advice should be sought regarding your particular situation.