Alerts and Updates

CARES Act 2.0 Update on Hot Topics – Need Certifications, Forgiveness, Audits, Tax Deductions, Seasonal Business Loan Applications and Nonprofit Hospital Loan Eligibility

May 4, 2020

These developments have prompted some applicants to reconsider their need for the PPP loan and whether to return PPP loan proceeds.

Note: This Alert has been updated to include new guidance from the Small Business Administration published on May 4, 2020, regarding the status of the Economic Injury Disaster Loan program.

The Paycheck Protection Program and Health Care Enhancement Act (CARES Act 2.0) was signed into law on April 24, 2020, providing additional funding for the Small Business Administration’s (SBA) Paycheck Protection Program (PPP) and Economic Injury Disaster Loans (EIDL) program. Subsequent guidance issued since the passage of the CARES Act 2.0, as well as heightened public scrutiny of the PPP loan program, has resulted in further restrictions regarding the types of businesses that are eligible for PPP loans and further scrutiny regarding the business need for the loans. These developments have prompted some applicants to reconsider their need for the PPP loan and whether to return PPP loan proceeds. Additional guidance has been issued on loan forgiveness, addressing audits, how rejected offers of reemployment impact the forgiveness calculation, and whether nonprofit hospitals are eligible for relief under the Coronavirus Aid, Relief and Economic Security Act (CARES Act) as ”nonprofit organizations.” Separately, the Internal Revenue Service (IRS) has issued guidance limiting the ability of borrowers to take certain business deductions if such expenses were incurred using PPP loan funds that result in loan forgiveness. Finally, the SBA announced on May 4, 2020, that it was accepting EIDL applications on a limited basis from eligible agricultural businesses.

This Alert summarizes the key considerations from the guidance issued as of May 3, 2020, and additional updates.

Private Company PPP Loan Eligibility

Although the CARES Act removed the requirement that the applicant demonstrate an inability to obtain “credit elsewhere,”[1] the Treasury Department recently called this requirement into question by issuing FAQ 31 (and subsequently 37 and 39), which requires borrowers to take into account their ability to access other sources of liquidity to support their ongoing business operations. Question 31, discussed in a previous Alert, clarified that intended PPP loan recipients are companies that are able to certify in good faith that the loan is necessary to support ongoing operations given the current economic uncertainty.

In light of this new guidance, borrowers (both public and private) who have applied for a PPP loan should reexamine the certification regarding the need for the loan to support ongoing operations, “taking into account their current business activity and their ability to access other sources of liquidity sufficient to support their ongoing operations in a manner that is not significantly detrimental to the business.” Many borrowers are reexamining their certifications of need for the PPP loan against their access to other sources of liquidity.

After reviewing this new guidance, if a borrower that has received a PPP loan determines that it is no longer eligible for a loan and elects to return the funds by May 7, 2020, that borrower will be deemed by the SBA to have made the applicable certification in good faith.

The answer to FAQ 31 also noted that a public company with substantial market value and access to capital markets is unlikely to be able to make this certification. Some applicants questioned if this was a message intended only to public companies. However, Question 37 of the FAQs confirms that the scope of PPP loan recipients, via Question 31, applies to both private and public companies. As a reminder, and as discussed in the previous Alert, hedge funds and private equity firms are categorically excluded from PPP loan eligibility.

PPP Loan Forgiveness Audits

In light of Treasury Secretary Steven Mnuchin’s comments regarding future audits of PPP borrowers, as well as media reports, the Treasury Department released Question 39 of the FAQs, which confirms Secretary Mnuchin’s comments. The guidance states that borrowers receiving a PPP loan in excess of $2 million will be subject to an SBA audit before any amount will be forgiven. Secretary Mnuchin has made it clear in his public statements that PPP loans were intended to support “small business.” Borrowers applying for loan forgiveness should be prepared to respond to audits from the SBA with relevant supporting documentation and other evidence of the borrower’s need for the PPP loan. The SBA noted that additional guidance on these audits is forthcoming.

PPP Loan Forgiveness and Declined Offers of Employee Rehire

According to Question 40 of the FAQs, if a borrower makes a good faith, written offer of rehire to an employee who was laid off, and that offer is for the same salary/wages and the same number of hours, the borrower will not be penalized in the forgiveness calculation if the employee does not accept the offer. In order to qualify for this exception, the employee’s rejection of the employment offer must be documented by the borrower. Of note, employees who reject reemployment offers of this sort may forfeit continued unemployment compensation eligibility. Additional guidance is forthcoming in an interim final rule to be subsequently published.

Seasonal Employer Certifications on PPP Application

Question 41 of the FAQs provides certain clarifications for seasonal businesses that have applied, or will apply, for PPP loans. The PPP application form requires applicants to certify that “The Applicant is eligible to receive a loan under the rules in effect at the time this application is submitted that have been issued by the Small business Administration implementing the Paycheck Protection Program.” The interim final rule issued on April 27, 2020, allows seasonal borrowers to elect to use the payroll numbers for any consecutive 12-week period between May 1, 2019, and September 15, 2019, for purposes of determining the maximum PPP loan amount they can apply for. Additionally, the rule provides that even if the seasonal borrower was not in operation on February 15, 2020, it can still be eligible for a PPP loan if it was in operation for any eight-week period between May 1, 2019, and September 2019.

In short, seasonal business borrowers may elect to use the time period in the April 27, 2020, interim final rule instead of following the instructions on page 3 of the PPP application form.

Nonprofit Hospitals and Eligibility for Relief Under Section 1102 of the CARES Act

Question 42 of the FAQs confirms that hospitals exempt from taxation under Section 115 of the Internal Revenue Code meet the definition of “nonprofit organization” under Section 1102 of the CARES Act. Accordingly, nonprofit hospitals are able to take advantage of PPP loans. Note, however, that nonprofit hospitals should review other eligibility criteria, including the interim final rule released on April 28, 2020, which discusses limitations on ownership of such hospitals by state or local governments.

Deductibility of Expenses Using PPP Loan Proceeds

The IRS released Notice 2020-32, which clarifies the IRS’s position as to a borrower’s ability to deduct wages and other expenses paid for with a PPP loan and later forgiven. More specifically, the CARES Act provides that a PPP loan that is forgiven will not be taxed as income to the borrower. On April 30, 2020, the IRS announced in Notice 2020-32 that companies which qualify for loan forgiveness of their PPP loan will not be able to deduct the wages and expenses the companies paid for with the loan proceeds as a business expense if that payment results in forgiveness of the loan. The IRS found that this treatment prevents a potential double tax benefit for borrowers. For example, if a borrower receives a PPP loan for an amount of $100,000 and that loan is forgiven, the forgiveness of indebtedness will not be taxed as income (which is typically the case); however, a borrower is not then permitted to use the wages and other expenses it paid with the forgiven amount as a deduction against income in computing its taxes.

SBA Accepting New EIDL Loan Applications from Eligible Agricultural Businesses

As of May 4, 2020, the SBA indicated that it was accepting new applications for EIDL loans on a limited basis from eligible agricultural businesses with 500 or fewer employees. No other businesses may apply for EIDL loans.

About Duane Morris

Duane Morris has created a COVID-19 Strategy Team to help organizations plan, respond to and address this fast-moving situation. Contact your Duane Morris attorney for more information. Prior Alerts on the topic are available on the team’s webpage.  

For More Information

If you have any questions about this Alert, please contact Nanette C. Heide, Sandra G. Stoneman, Stephen Morrissey, Mark Zhuang, any member of the COVID-19 Strategy Team or the attorney in the firm with whom you are regularly in contact.

Notes

[1] This need to show inability to obtain credit elsewhere is a requirement applicable to traditional SBA loans.

Disclaimer: This Alert has been prepared and published for informational purposes only and is not offered, nor should be construed, as legal advice. For more information, please see the firm's full disclaimer.