PPP expense deductibility and forgiveness raises basis, other issues

By Alex Scott, J.D., LL.M.
Updated: 

The Consolidated Appropriations Act, 2021 (CAA 2021), H.R. 133, Division N, Section 276, provides that deductions are allowed for otherwise deductible expenses paid with the proceeds of a Paycheck Protection Program (PPP) loan that is forgiven and that the tax basis and other attributes of the borrower’s assets will not be reduced as a result of the loan forgiveness. CAA 2021 passed both houses of Congress on Dec. 21, and President Donald Trump signed the bill into law on Dec. 27.

However, the potential for the deductibility of PPP-funded expenses raises some practice questions, and traps for the unwary lurk in the details. AICPA members should be aware of these potential issues, which raise questions both to think about and to discuss with clients. And many more questions will likely be raised.

The AICPA is working through this complex package and is awaiting further guidance from both Treasury and the IRS. Because these questions may affect end-of-year planning, practitioners should consider these issues while still understanding the bill has yet to be signed into law. No specific advice on planning or answers are being provided here, and the AICPA has not developed a position on the provisions of the bill. The AICPA continues to analyze the issues and welcomes comments from members.

Owners may face unexpected basis or at-risk limits if the loan is not deemed forgiven at year end

The deduction for expenses paid or incurred from PPP proceeds may be limited due to inadequate tax basis or amounts at risk. If the PPP loan is not forgiven or deemed forgiven in the same year, unexpected results may occur due to timing differences between 2020 and 2021.

These limitations can be tricky to work through, and discussions with clients may be productive for planning and explanation purposes if a suspended loss occurs as a result of the inability to take a deduction due to inadequate basis or amounts at risk. When a loan is deemed forgiven also requires certain analysis.

Implications for buyers or sellers

Timing issues may also arise in the case of sale or purchase of a partnership or S corporation interest if the forgiveness has not yet occurred. On the seller’s side, forgiveness may have been incorporated into the sale price, but the basis will not have been allocated to the seller until the forgiveness occurs, increasing taxable gain (or decreasing loss) for the seller and resulting in a permanent difference. The inverse is true for a buyer of S corporation stock.

The purchase of a partnership interest should be separately evaluated, noting that the partner has tax basis in its partnership interest based upon the assumption of debt. These timing mismatches could serve as traps for the unwary if a client is involved in a year-end sale or purchase and could warrant further discussion. If a deal has already occurred, there may be unexpected consequences due to these basis implications. Similar issues and questions arise for new partners or shareholders contributing assets.

Amended returns may be required

The PPP provisions of CAA 2021 are retroactive and apply to tax years ending after the date of enactment of the Coronavirus Aid, Relief, and Economic Security (CARES) Act, P.L. 116-136, March 27, 2020. Therefore, these rules apply to all taxpayers, even taxpayers who have already applied for or received forgiveness, as well as those who have already filed tax returns reporting expenditures as nondeductible. Practitioners should analyze the impact of amending returns to claim deductions and discuss with clients as needed.

S corporations with C corporation accumulated earnings and profits

The treatment of PPP loan forgiveness likely increases the S corporation’s other adjustments account (OAA), limiting the amount of distributions to the shareholders that may be a tax-free return of basis in the stock (which is restricted by the amount of the accumulated adjustment account (AAA)).

—Alex Scott is a senior manager–Tax Policy & Advocacy with the AICPA in Washington, D.C. To comment on this article or to suggest an idea for another article, contact Alistair M. Nevius, J.D., (Alistair.Nevius@aicpa-cima.org) the JofA’s editor-in-chief, tax.

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