The federal paycheck protection program has been, according to most accounts, essential in helping provide money to many small businesses during the pandemic. According to Small business management, the program – which ended Aug. 8 – has provided more than five million forgivable loans to small businesses, totaling $ 525 billion. The loans were used not only to help keep their employees on the payroll, but also for other operating expenses such as rent and utilities.
Last week, the Senate failed to pass a bill that would have offered another round of P3 funding. But it was not Washington’s only failure. Neither the Senate nor the House addressed a time bomb in the program: a potentially huge tax bill for beneficiaries.
Let me explain.
Perhaps your business, like many, has struggled this year. But you still survive. You haven’t experienced devastating losses like some in the food service industry, travel, fitness, retail, or other consumer-oriented industries. You haven’t grown up, of course. But maybe you’ve sold more online, or you are a core business. Or maybe you just worked hard to continue serving your business customers even while most of your employees were working from home.
Let’s say your income is close to last year’s levels. You have continued to make your estimated tax payments this year based on last year’s results. Does this sound familiar to you? Many of my clients are in this situation.
And like many of my clients, you may have received a PPP loan to help cover your costs in these uncertain times and have requested or are considering requesting a rebate. So here’s the problem: Even though you won’t be taxed for forgiveness of the loan, you also cannot deduct the expenses applied to obtain forgiveness of that loan. Because of this, you could face a potentially significant tax problem.
Why? Let’s say your income and profit this year is close to last year and you received a $ 100,000 P3 loan, which you will be looking to have canceled along with $ 100,000 in payroll and other qualifying expenses. That’s great, except that $ 100,000 of expenses will not be deductible. Which means that you will have an additional income of $ 100,000 this year that you did not have last year. And if you haven’t increased your tax payments, you could be paying a lot less than you owe.
Many financial advisers fear that businesses will ignore this problem and inadvertently face a huge tax bill. “As cash flow was the top priority for many of our clients, they weren’t as focused on whether the expenses would be deductible as the PPP loan portion was waived,” said Jim Revels CPA, a Philadelphia-based partner in KPMG’s Private Enterprise Group.
Will Congress address this situation? Perhaps. Industry groups, including the American Institute of Certified Public Accountants, have been pushing for a solution. But as of this writing, no formal legislation is on the horizon, and as the year drags on, relief becomes less and less likely.
Pennsylvania senators disagree on the need for action.
Bob Casey, the Democrat, said in a statement he was “deeply disappointed” that the Republican majority in the Senate did not support legislation allowing businesses to deduct expenses from their taxes.
But Pat Toomey, the Republican, thinks it doesn’t make sense. In a statement, his Senate office noted that people still had to pay taxes on canceled loans.
“Under the PPP program, however, as long as the loan is used for qualifying expenses, its remittance is not treated as taxable income,” the statement said. “So an expense paid with a PPP loan costs a business nothing – the loan covers the expenses and there is no tax on the loan forgiveness. It would make no sense for businesses to be able to deduct expenses that they did not incur.
Adrienne Straccione CPA, partner at Horsham-based accounting firm Wouch Maloney, says it remains difficult to predict what Congress might do.
“If no action is taken, many business owners will be disappointed,” she says. “The decisions were made, in part, on the basis of Congress’ statement that the loan cancellation would not be included in income. Businesses may be forced to take out loans or find other sources of liquidity to pay the tax liability. “
KPMG’s Revels agrees. He also fears that it is too late for Congress to act. “Inaction, however, could potentially prevent a wave of small and even medium-sized businesses from paying their tax bills, their other expense bills, declaring bankruptcy, closing their doors or – in the worst case scenario – all of them. above, ”he said.
In the meantime, it is essential that you meet with your accountant to determine the extent, if any, of this tax liability. And, if necessary, make a few movements.
Mitchell Gerstein CPA, tax advisor at Isdaner & Co. in Bala Cynwyd, advises affected clients to seek strategic investments that can reduce taxable income, such as hiring more talent, making capital investments that take advantage of the rules accelerated depreciation or deferral of income and acceleration of spending.
Hopefully Congress will act before the end of the year and make these expenses deductible. But I wouldn’t count on it.