Tax implications of the CARES Act: Your frequently asked questions

On April 1, we hosted our webinar, The tax implications of the CARES Act, with experts from our tax and strategy and operations practices. During the webinar, we discussed the tax implications of the $2.2 trillion Coronavirus Aid, Relief, and Economic Security (CARES) Act. The Act, intended to provide tax relief and incentives for individuals and businesses, included an employee retention credit and payroll tax deferral. It also aims to lessen limitations imposed on deductions, Small Business Administration (SBA) loans, and more. Our audience of more than 2,000 had numerous questions, including how businesses should apply for relief from the various programs, how provisions in the CARES Act interact with provisions from the Families First Coronavirus Response Act (FFCRA), and how to interpret eligibility rules for the Paycheck Protection Program (PPP).

We’ve compiled a list of the most frequently asked questions along with our answers below.

1. Is there any kind of preference order for someone seeking relief under these programs? Can a business apply for multiple types of relief at the same time?

Employers may receive any combination of the required sick leave credit, required family leave act credit, or the employee retention credit. All credits may be pursued simultaneously.

2. Can I claim employee retention credits while applying for SBA loans?

Employers who have received Paycheck Protection Program loan proceeds may not receive employee retention credits. Employers who claim and receive the credits before receiving PPP loan proceeds should expect to be required to repay the credits.

3. How do the employee retention payroll tax credits interact with the FFCRA leave credits?

The employer’s ability to claim each credit will be dictated by each employee’s circumstances. The FFCRA credits are based on leave wages paid to employees unable to work due either to COVID-19 in their families or COVID-19-related loss of childcare/school. Wages paid for leave under those programs aren’t eligible for consideration under the employee retention credit rules.

4. Are essential businesses that are still operating eligible for any relief under the CARES Act?

Multiple forms of relief are available under the CARES Act. The PPP is available to all businesses that are still operating. Businesses that don’t receive loan proceeds under the PPP may be eligible for the employee retention credit. Also, all businesses may defer payment of the employer’s portion of Social Security taxes (equal to 6.2% of wages) on wages paid to employees during the crisis.  The deferral applies to wages paid between March 27, 2020 and Dec. 31, 2020, and it amounts to an interest-free loan that employers have to repay on or before Dec. 31, 2021 (at least 50% of the deferral amount) and Dec. 31, 2022 (the remaining balance).

5. What rules apply when determining eligibility for the Paycheck Protection Program (PPP)?

At its core, the PPP is a modified version of the existing SBA 7(a) loan program. The basic rules that govern eligibility for the 7(a) program, such as size and affiliations, can be found in the Code of Federal Regulations (eCFR). Employers should carefully review these provisions with legal counsel to determine eligibility. In addition to the regular 7(a) rules, the SBA has published guidance on certain qualification standards that will apply for the PPP.

• Size standard: Number of employees
  • According to the SBA, businesses with 500 or fewer employees whose principal place of residence is in the United States, or businesses that meet the applicable SBA employee-based size standards for the assigned industry NAICS code may qualify.
• Size standard: Financial statements
  • A business can qualify if it stays within the following financial thresholds and meets both tests of SBA’s “alternative size standard” as of March 27, 2020:
    • Maximum tangible net worth is not more than $15 million
    • Average net income (excluding any carry-over losses) for the two full fiscal years before the date of the application is not more than $5 million

Comment: The expanded eligibility rules and additional standards beyond the basic 500-employee count create a significant potential for confusion in this area. Interested applicants need to understand the interaction between the existing SBA 7(a) loan program requirements and the multiple qualification standards in the PPP guidance, as well as the SBA’s affiliation rules, when determining eligibility.

6. How does a business determine if its affiliation with another business affects its eligibility for the PPP?

The SBA can determine that a business is affiliated with a larger entity based on:

• Ownership
• Stock options, convertible securities, and agreements to merge
• Management
• Identity of interest

The affiliation is based on the existence of a power to control; it does not matter whether control is exercised. These provisions should be carefully reviewed with legal counsel to determine if they affect a business’ eligibility.

The affiliation rules described above are waived for:

• Any business concern with not more than 500 employees that, as of the date on which the loan is disbursed, is assigned a North American Industry Classification System code beginning with 72.
• Any business operating as a franchise that is assigned a franchise identifier code by the SBA.
• Any business that receives financial assistance from a company licensed under Section 301 of the Small Business Investment Act of 1958 (15 U.S.C. 681).

Comment: The affiliation rules are complex and require a comprehensive review of organizational structure, by-laws, and other charter documents to identify eligibility, including the affiliations with private equity, venture capital, and foreign investors. In particular, the term “fewer employees whose principal place of residence” in the SBA guidance on the 500-employee standard has generated mixed interpretations from participating lenders. It is important that employers review this with legal counsel and lenders.

7. What rules apply when counting employees?

SBA rules state that the term “employee” includes “all individuals employed on a full-time, part-time, or other status and includes employees obtained from a temporary employee agency, professional employer organization or leasing concern... Volunteers (i.e., individuals who receive no compensation, including no in-kind compensation, for work performed) are not considered employees.”

The rules require that part-time and temporary employees are counted the same as full-time employees and that the average number of employees is based on the total for each of the pay periods for the preceding completed 12 calendar months. If a business has not been in normal operation for 12 months, the average number of employees is used for each of the pay periods during which it has been in business.

The total average number of employees for a PPP application is calculated by adding the average number of employees of the business concern with the average number of employees of each affiliate.

Comment: The expanded eligibility rules need to be reviewed in consideration with the SBA’s 7(a) loan program and SBA’s affiliation rules.

8. What are the tax implications of opting for forgiveness of the PPP loan?

The CARES Act states in 1106(i) that “any amount which (but for this subsection) would be includible in gross income of the eligible recipient by reason of forgiveness… shall be excluded from gross income.”

Comment: The CARES Act specifically states that forgiveness will not be included in gross income. However, it’s unclear if the expenses forgiven will disqualify the amounts from being included as taxable business expenses.

9. What alternatives to the PPP are available?

Main Street Lending Program

The Main Street Lending Program (MSLP) is available to businesses with fewer than 10,000 employees and revenue of less than $2.5 billion in 2019 revenue. Unlike the forgivable loans of the PPP programs, principal will amortize over the term of these loans.

Businesses seeking Main Street loans will apply through banks and other direct lenders participating in the loan program. Eligible banks may originate new Main Street loans or use Main Street funding to increase the size of existing loans they have with businesses.

Initial details released by the Federal Reserve on April 9, 2020 stated that the MSLP will contain two programs, the Main Street New Loan Facility (MSNLF) and the Main Street Expanded Loan Facility (MSELF). The MSNLF will issue unsecured term loans up to $25 million and the MSELF will allow lenders to upsize existing facilities in tranches up to $150 million.

Comment: Federal Reserve guidance states that businesses may be eligible for both the MSLP and PPP. It’s unclear how the programs will interact.

SBA Economic Injury Disaster Loan

The SBA’s Economic Injury Disaster Loan provides economic support to help businesses overcome a temporary loss of revenue resulting from the COVID-19 pandemic. The program is administered through the SBA and borrowers are to submit applications directly through SBA.gov. Unlike the forgivable loans of the PPP programs, principal will amortize over the term of these loans, which may extend up to 30 years.

Comment: Businesses that received funds under the EIDL prior to April 2020 that weren’t used for covered payroll expense can continue with the EIDL loan. Any outstanding EIDL balance at the time of a PPP application will be added to the amount of the new loan to “refinance” the EIDL debt. Businesses that access loans under the PPP are not eligible to seek relief underneath EIDL for the same purposes.