Your Paycheck Protection Program (PPP) loan forgiveness is taxable if it was forgiven in error.
The Internal Revenue Service (IRS) would like you to know that your PPP loan forgiveness is taxable under certain conditions. This includes situations where your PPP loan was forgiven because you misrepresented your situation.
Your PPP loan is also taxable if you are not eligible for the loan.
Misrepresentations: Your PPP loan is taxable if you made one or more representations to your bank that you satisfied the conditions for forgiveness of a PPP loan. You do not in reality satisfy the conditions for qualifying forgiveness. And as a result, your bank forgave your PPP loan improperly.
Organizations that are not eligible for the PPP loan forgiveness
You may not be eligible for the PPP loan forgiveness for several reasons:
- You either misrepresented and withheld information on your business, or
- You did not qualify to receive a PPP loan or
- You misused the loan proceeds.
Eligibility
If you meet these three requirements, your bank should approve in all or in part your PPP loan forgiveness application.
You were eligible to receive the PPP loan
You’re eligible to receive the PPP loan if you are any one of the following:
- A small business concern.
- An independent contractor.
- An eligible self-employed individual.
- A sole proprietor, business concern, or a certain type of tax-exempt entity.
You were in existence and were employing staff
You were in business on or before February 15, 2020 and meet one of the following requirements:
- You had employees, or
- You worked with independent contractors who were paid for their services, or
- You were a self-employed individual, sole proprietor, or independent contractor.
You used the loan proceeds to pay eligible expenses: payroll costs, rent, interest on covered business mortgage obligations, covered operations expenditures, covered property damage costs, covered supplier costs, covered worker protection expenditures, and utilities.
You must have used at least 60% of your PPP loan amount on payroll to receive qualifying forgiveness. You may use the other 40% of the PPP loan amount for rent, utilities, Covid-19 protective equipment, etc.
PPP loan forgiveness application
You must apply for the loan forgiveness. The loan forgiveness application requires you to:
- Submit documentation,
- Attest to eligibility,
- Verify certain financial information, and
- Meet other legal qualifications.
If you meet the three conditions above, then under the PPP loan program the forgiven portion is excluded from income. If you don’t meet the three conditions above, then the forgiven portion is taxable.
Case study: you applied for and received $250,000 of first draw PPP loan in 2020. You didn’t use the loan proceeds for payroll costs, rent and other eligible expenses.
In 2020, you applied for the loan forgiveness as if you met the requirements and were entitled to a qualifying forgiveness. In the loan application that you submitted to your bank, you didn’t include all relevant facts that would indicate that you were not eligible for a qualifying forgiveness of the PPP loan. Your bank forgave the loan based on the omissions and misrepresentations on your loan forgiveness application.
Because the forgiveness of your business loan was based on omissions and misrepresentations, it doesn’t constitute a qualifying forgiveness and may not be excluded from your gross income.
PPP loans are bank loans that the U.S. Small Business Administration (SBA) guarantees, made available to eligible small businesses to keep their employees on payroll during the Covid-19 outbreak.
First round: the CARES Act. The PPP loan program was initially established by the Coronavirus Aid, Relief and Economic Security Act (CARES Act). In passing the Act, Congress intends to assist small US businesses that were adversely affected by the COVID-19 pandemic in paying certain expenses.
Second round: the “Economic Aid to Hard-Hit Small Businesses, Nonprofits, and Venues”. The PPP loan program was further extended by the Economic Aid to Hard-Hit Small Businesses, Nonprofits and Venues Act.
Under the terms of the PPP loan program, your bank can forgive the full amount of the loan if you meet three conditions.
The SBA approved about 12 million first and second draw PPP loan applications for a total net amount of about $800 billion. The loans predominantly went to businesses located in California, New York, Texas, and Florida.