Steve Nelson on PPP Surprises
Channel: CPA Trendlines
Date: 2021-03-05

PPP Surprise #1: PPP Loan Accounting Requires More Precision.

New eBook: https://cpatrendlines.com/2020/08/10/new-e-book-maximizing-ppp-loan-forgiveness/

A first surprise? Lots of small businesses will find they need to show more precision than usual in their accounting. But let me explain.

For business income tax returns, you can sometimes be imprecise. You don’t always need to worry about small amounts–like capturing every last dollar of tax deduction.

If you report some deduction on the wrong line? It usually doesn’t matter.

Further, if you plop some deduction into the wrong accounting period (this year instead of next year) or you do make an error? Regularly, not a giant problem. Often you can fix the error, if you discover it, with an amended return. And sometimes you can fix a small error by just recording a correction in the current year.

PPP loan accounting, in comparison, requires way more precision.

You need to handle individual transactions correctly to get the right forgiveness amount. Like S corporation shareholder-employee insurance. Like partner self-employment earnings.

You need to do the independent-contractor-vs.-employee classification right.

You need to get transactions into the right accounting period — because you don’t get another chance next year when you file next year’s tax return.

Finally? Say you do make a $100 PPP accounting error. That $100 error means you either cheat yourself or cheat the government $100 of forgiveness. The “marginal rate” equals 100%.

And what if the error is $1,000 or $10,000?

The unforgiving nature of PPP accounting? The extra precision required? That’s going to surprise folks.

PPP Surprise #2: Substantially More Documentation Than We’re Used To.

Another surprise? How good a borrower’s documentation needs to be in order to substantiate the spending that leads to forgiveness.

Income tax returns work on an honor system in most cases. In nearly all cases, in fact.

You put down a number for some deduction. The IRS and state revenue agency almost always accept your amount. And that’s that.

In comparison, for PPP loan forgiveness, borrowers need to substantiate amounts with things like cancelled checks and substantiate timing using bank statements.

Further, for potentially forgivable costs like self-employed “owner compensation replacement,” mortgage interest, rent, and utilities, a borrower needs to prove the cost has been paid consistently or historically.

The PPP loan forgiveness a self-employed person receives for owner compensation, for example? That doesn’t just depend on the borrower’s spending during the covered period. It depends on the previous year’s tax returns.

The PPP loan forgiveness a borrower receives for mortgage interest, rent, and utilities spending? To get forgiveness, a borrower needed contracts in place before February 15, 2020.

Most borrowers won’t be accustomed to supplying this level of documentation — stacks, and stacks of paperwork. And some borrowers, frankly, lack the paperwork organization systems to do so.

Tax accountants often say stuff like, “Taxpayers lose on IRS audits when they can’t substantiate deductions.”

This PPP loan forgiveness process, in my opinion, will lead to similarly unhappy outcomes for similar reasons for many borrowers.

PPP Surprise #3: Some Borrowers Should Stop Worrying About Forgiveness.

A final surprise to mention.

As you probably know, a borrower loses forgiveness if it spends too little on payroll costs, reduces headcounts, or makes excessive salary or hourly wage cuts.

A company, for example, that cuts its workforce by a half might lose half its forgiveness.

This risk leads some borrowers to assume one should spend as much as possible on payroll… and then to avoid reductions in headcounts and pay rates.

But some borrowers need to stop worrying about forgiveness and instead focus on getting through the storm.

The Paycheck Protection Program Flexibility Act, signed into law in early June, lets a borrower consider the option of going into hibernation mode for 24 weeks. And that option may mean not only that a borrower survives the pandemic but that the loss of PPP loan forgiveness doesn’t matter anywhere near as much as one might guess.