New guidance released by the U.S. SBA clarifies the rules around PPP loan forgiveness. Here's what you need to know to have your loan forgiven.
The U.S. Small Business Administration has released new guidance on how to apply for and receive forgiveness for loans secured through the Paycheck Protection Program. Small business owners who received a PPP loan may be entitled to full loan forgiveness.
SBA guidance on PPP loan forgiveness
The new guidance, released on June 17, includes a simplified application process that can be used by borrowers who meet the following criteria:
- Are self-employed with no workers
- Did not cut wages and salaries by more than 25%
- Did not reduce the number of hours their employees worked
- Experienced reductions in revenue as a result of public policy related to the novel coronavirus pandemic and did not reduce wages and salaries by more than 25%
"I wouldn't say there are necessarily any new clarifications to forgiveness rules; however, the new guidance looks to simplify the process for borrowers," said Chris Hurn, founder and CEO of non-bank SBA lender Fountainhead. "Overall, the borrower application is simpler, but the calculations have not been simplified much for borrower or lender."
The SBA still requires extensive documentation on the borrower's financials and how they spent the PPP loan funds. For small business owners interested in the streamlined application, Hurn recommends checking their eligibility first, then gathering all the necessary payroll and non-payroll documentation to have at the ready.
"If they qualify, it will be a lot easier on them to complete the 3508EZ form than the longer version," Hurn said.
The guidance released by the SBA is only the beginning of the forgiveness process, though. To begin processing certifications, lenders need more information from the agency, according to Hurn.
"The guidance is just the start of it," he said. "As lenders, we still don't know exactly what to submit, to whom and through what means, so this is the cause of some frustration right now, even for the most flexible lenders."
What is the Paycheck Protection Flexibility Act?
The Paycheck Protection Flexibility Act, signed into law by President Donald Trump on June 5, changed certain measures governing the PPP loan program. For example, the requirement that 75% of PPP loan funds be spent on payroll was reduced to 60%, freeing up businesses to use more of the money on rent, mortgage payments and utilities. It also extended the covered period for borrowers from June 30 to Dec. 31, increasing the time to spend PPP funds from eight weeks to 24 weeks.
Measures that could further change the PPP loan program are pending legislation. The Health and Economic Recovery Omnibus Emergency Solutions (HEROES) Act, passed by the House of Representatives in May, is currently awaiting a hearing in the Senate. If adopted as written, it would set aside a portion of PPP loan funding for businesses with 10 or fewer employees.
Confusion around early guidance on how to spend loans from Paycheck Protection Program
"There was quite a bit of economic uncertainty at the beginning of the COVID-19 pandemic, and many business owners who applied for the PPP were unsure of how their organizations would be impacted in the long term," said Eytan Bensoussan, co-founder and CEO of NorthOne. "Different owners interpreted the SBA's vague guidelines differently, causing many to take out loans without completely understanding the terms or provisions."
As more guidance has emerged, it has become increasingly clear: About 75% of the funds should be spent on wages and salaries, while the remaining 25% could be used for rent, mortgage payments and utilities. However, Bensoussan noted that many small business owners preemptively applied for funding before these requirements were clear. Moreover, some business owners found themselves in situations where meeting those obligations was unrealistic.
"The guidance around spending the loan is clear but doesn't account for the reality several businesses are facing," Bensoussan said. "Lockdowns and large unemployment benefits affect many businesses' ability to spend 75% of their loan on payroll. Many owners are choosing to not use their loan at all to ensure they'll be able to pay it back."
For the portion of a Paycheck Protection Program loan that is not forgivable, small business owners will be left with a principal balance that must be repaid within two years at an interest rate of 1%. Those payments would be deferred for the first six months. While this represents a relatively inexpensive loan, many small businesses were not looking to add debt to their books in the middle of a global public health crisis.
"It's likely that many owners will have to pay back a portion of the loan, so it's critical that they create a financial contingency plan for weathering slow business once they're allowed to reopen," Bensoussan said. "The best way to figure this out is to talk to an accountant to get personalized guidance."
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What to do with remaining Paycheck Protection Program funds
If you are still holding Paycheck Protection Program funding and aren't sure how to spend it, Bensoussan said it is important to revisit the guidance released by the SBA.
"The PPP loan was meant to support the necessary ongoing operations of a business, so business owners shouldn't get creative," he said. "They should use the loan for payroll (hence the name Paycheck Protection Program), rent, and utilities, and keep meticulous records that they did so. These will be critical when the time comes to ask the government for loan forgiveness."
If you did not return your PPP funding, be prepared to withstand an audit and demonstrate to an inspector general that you applied for the funding in good faith. You'll need to demonstrate both the economic uncertainty your business faced when applying and the necessity of those funds to sustain your business's operations.
Document your financials prior to application. You need to demonstrate the business's financial health and stability before the COVID-19 pandemic and your application for PPP funding to give a clear picture of the circumstances leading up to the loan application.
Keep minutes of meetings prior to and during the application process. If you have any notes from board meetings or company officers' meetings before and after the loan application, those could be helpful to demonstrate the thinking of company leadership at the time.
Detail how you used the funding once your business received it. You should provide a detailed accounting of how any PPP funding was spent.
- Keep a record of your financial performance over the past two months. A detailed accounting of your business financials (cash flow, revenues and expenses) can demonstrate the impact COVID-19 had on your business and why the funding was necessary to your operations.
"We're advising it as a good business practice … to refresh recollection and document going back to when you applied, the circumstance and situation," said Daryn McBeth, attorney at Lathrop GPM. "That's going back several weeks ago now, and a lot of people have forgotten due to COVID-19 and business things they're dealing with."
What is a good faith certification?
When businesses applied for a loan through the Paycheck Protection Program, they were required to certify that "current economic uncertainty makes this loan request necessary to support the ongoing operations of the [business]."
According to McBeth, two major elements constitute a "good faith" application for PPP funding: economic uncertainty and necessity.
"[Economic uncertainty means] when you applied, what were the financial and workforce conditions you were facing?" he said. "We can easily check the economic uncertainty box; that's a pretty low bar."
The more difficult element to demonstrate is that the funding was necessary to continue operations, McBeth said. This could be a particular challenge to businesses with significant cash reserves that they chose not to use in favor of applying for a PPP loan.
Demonstrating good faith certification
Just because your business had significant cash reserves does not necessarily mean you didn't apply for a Paycheck Protection Program loan in good faith. You might have had operational reasons not to spend that cash, or perhaps you needed that money for other critical purposes.
You should find and organize your specific financial documentation, dating back to before your PPP application, to withstand scrutiny from the SBA and explain why your application for funding was indeed necessary.
According to McBeth, you should be able to answer specific questions about your business's financial situation at the time you decided to apply for the loan. "Why did they have that cash? Did they just go through a sale? What did they need and use the cash for? Some of that can be explained away by the burn rate on cash and obligations that any particular business might have."
When you demonstrate that you applied for PPP funding in good faith, your business will remain eligible for total loan forgiveness if you used the funding for the approved expenses, which include wages and salaries, rent and mortgage payments, and utility bills.
What is the Paycheck Protection Program?
The Paycheck Protection Program provides government-backed, forgivable loans to businesses with 500 employees or fewer. If your business needs short-term funding to cover payroll and facilities costs, the Paycheck Protection Program is designed to provide fast, low-cost financing with the potential for full loan forgiveness.
Under the CARES Act, small businesses could qualify for loans up to 2.5 times their normal monthly payroll costs, with a cap of $10 million per loan. In addition, PPP loans include the following terms:
- No application fees
- No personal guarantees or collateral requirements
- Fixed 1% annual percentage rate
- Deferment on the first six months of loan payments
- Partial or full loan forgiveness opportunities
You can provide documentation of your use of the funds to your lender, who then forwards it to the SBA. If the government approves your usage of the funds, you are eligible for partial or full loan forgiveness.
According to provisions under the CARES Act, the forgiven amount of the loan does not translate to taxable income. The qualified expenses that you use the forgiven amount to cover can be written off as a tax deduction.
For more information on the coronavirus pandemic and resources to help your business navigate these difficult times, visit business.com's COVID-19 small business resource page.