Treatment of Business Expenses Paid with PPP Loan Funds

In December 2020, Congress passed the Consolidated Appropriations Act, 2021. The Act includes the COVID-related Tax Relief Act of 2020, which provides for the full deductibility of business expenses paid with PPP loan funds.

A Refresher: What are PPP Loans?

As a reminder, the Paycheck Protection Program (PPP) is a Small Business Association (SBA)-backed loan to help businesses retain employees during the Coronavirus (COVID-19) pandemic. It was enacted under the Coronavirus Aid, Relief, and Economic Security (CARES) Act in March 2020. Funds from PPP loans can be used for payroll, benefits, and some non-payroll-related expenses like mortgage interest, rent, utilities, etc.

To Deduct or Not to Deduct? This is the Question About Business Expenses

The CARES Act addressed forgiveness of PPP loans used for payroll and other eligible expenses. The Act also stated that a forgiven PPP loan was not taxable income. However, the Act did not specify whether business expenses paid with a PPP loan were deductible.

One month after millions of PPP loan dollars were distributed, the Internal Revenue Service (IRS) published Notice 2020-32, offering guidance regarding the deductibility of PPP loan-funded business expenses. The IRS stipulated that business expenses that were normally deductible would not be deductible if those expenses were paid for with forgiven (or forgivable) PPP loan funds.

According to section 265 of the Internal Revenue Code, PPP loan-funded-expenses were paid from what is considered tax-exempt income in the form of the forgiven PPP loan. Making PPP loan-funded business expenses deductible was considered “double-dipping” by the Treasury and was not permitted. However, the Treasury’s stance ran counter to Congress’s original intent of the PPP loans (helping small businesses weather the pandemic’s mounting storm).

The IRS further released guidance on the topic in November 2020 that reaffirmed their position that business expenses paid with a forgiven (or forgivable) PPP loan were not deductible.

Congress Steps In

In early December 2020, the Office of Advocacy held a roundtable discussion about PPP loan issues. It was determined at that meeting that the IRS decision about the deductibility of business expenses paid with PPP loans fell short for businesses. Congress stepped in and clearly stated that business expenses paid with forgiven PPP loans are deductible, as are business expenses paid with emergency Economic Injury Disaster Loan (EIDL) funds and targeted EIDL advances.

The intervention of Congress in this matter makes PPP loans function as they were intended – as a lifeline for small businesses struggling from pandemic-related issues.

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To learn more about PPP loans and tax-deductible business expenses, contact your trusted accountant, CPA, or tax preparer.