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IRS Updates Guidance on Deductibility of Expenses Paid With PPP Loan Proceeds

The IRS recently released additional guidance about the tax treatment of expenses paid with proceeds of Paycheck Protection Program loans. The PPP loans are a COVID relief program enacted as part of the CARES Act. If a borrower used the loan proceeds to continue to pay employees and pay other specified business-related expenses ("qualified expenses"), the loan could be forgiven in full or in part. 

In the usual situation, loan forgiveness constitutes income to the recipient of the loan, but the forgiveness of PPP loans was statutorily declared not to be treated as income for tax purposes. The deductibility of the expenses was not addressed in the CARES Act.

In May, the IRS announced that the expenses paid with proceeds of the PPP loan could not be deducted if the payment resulted in forgiveness of the loan.

Many borrowers expected to have a determination of the amount of their loan that would be forgiven during this year. But, the forgiveness determinations have not yet been made in most cases. Many PPP loan borrowers have disbursed the funds to pay qualified expenses, but do not have assurance of the amount of the PPP loan that will be forgiven. A borrower is placed in the unenviable position of not having certainty about the amount of the loan that will be forgiven and consequently not knowing how much of the expenditures made with the proceeds of the loan can be deducted. A deduction is allowable only in the year in which the expense is incurred.

Last week, the IRS issued guidance to resolve the dilemma. To the extent that a borrower has a reasonable expectation of the amount of the loan forgiveness that will be received eventually, the borrower cannot deduct that amount of expenses paid with the PPP loan proceeds. Determining whether a taxpayer has a reasonable expectation is a familiar tax law concept applicable, among other situations, to the issuance of tax-exempt bonds, production payments (in an oil and gas setting) the determination of whether economic performance has occurred for a deduction or the determination of whether a particular financial instrument should be characterized as debt or equity. Those sources help a borrower determine if it has reasonable expectations.

If the borrower overestimates the amount of the loan that will be forgiven, the borrower may have taken too few deductions for the year in which the expenses were incurred. To address that possibility, the IRS issued a procedure (described in Revenue Procedure 2020-51) to permit the deduction of those amounts in a subsequent year, in an amended return for the year of the expense or in the originally filed return for the year of the expense. The procedure does not address the situation where the borrower underestimates the amount of forgiveness and deducts too much in the current year even though the deduction was based on the taxpayer’s reasonable expectations.

Many commentators and leading politicians have complained about the position of the IRS that the expenses paid with the proceeds of the PPP loan that is or will be forgiven are not deductible. That conclusion seems to be inconsistent with the statutory directive that the forgiveness of the PPP loan was nontaxable. The usual rule is that loan forgiveness is treated as income but ordinary expenses paid with loan proceeds are deductible. Under the usual rule, a borrower ends up with the same result as under the IRS position. So, Congress would not need the statutory rule that the forgiveness of the PPP loan was not income. That being the case, it seems that Congress meant a different result (no taxable forgiveness but deductions still allowed). Even so, the recent IRS guidance shows that the Service is not changing its interpretation. 

© 2021 Miller, Canfield, Paddock and Stone PLC National Law Review, Volume X, Number 328

About this Author

Gary R. Glenn Attorney Corporate Lawyer Miller Canfield

With more than 30 years of experience in a wide variety of transactions, Gary brings a unique combination of pragmatism, insight and knowledge to bear on each client's particular needs. 

Developing strategies to meet the goals of both the parties to the transaction, as nearly as possible, is a particular focus of his approach to the practice of tax law. He represents publicly traded companies, family enterprises, developers, investors, manufacturers, distributors, inventors, colleges, foreign governments and individuals.


Maria B. Hiltunen Attorney Labor Lawyer Miller Canfield

Maria Hiltunen is a tax and benefits associate in the Corporate Group. 

Her practice includes federal taxation, state and local taxation, and employee benefits matters. She has broad experience counseling clients on different types of retirement and welfare plans, with particular proficiency working with the Internal Revenue Code.

Prior to joining the firm, Maria pursued an advanced degree in tax law, served as a law clerk at the Michigan Tax Tribunal and worked as a summer associate in private practice.  

Gregory A. Nowak Attorney Tax Lawyer Miller Canfield
Senior Counsel

Gregory Nowak is one of Michigan's leading experts on state and local tax issues. With more than 20 years experience, he focuses his practice on both structural tax planning and state tax controversy matters. 

Throughout his career, he has represented many major companies on multistate tax matters including clients in the manufacturing, retail, and transportation industries. Greg has litigated and negotiated issues involving all of Michigan's major taxes and has played an active advisory role in most of the significant Michigan tax controversies in recent years. He served as a...

Samuel Parks Attorney Tax Lawyer Miller Canfield

Samuel Parks is an associate in Miller Canfield's Corporate Group, with a focus on transactional and particularly tax work. He also has experience advising both public and private sector clients on employee benefit issues, including facilitating corrections of plan documentation and operational compliance failures, as well as drafting plan documentation and participant communications. A graduate of the University of Michigan Law School, he has previously worked at the Michigan Supreme Court and the Washtenaw Public Defender's Office. 

Ryan J. Riehl Attorney Tax Lawyer Miller Canfield

Ryan Riehl focuses his practice on federal and state of Michigan tax issues. He specializes in partnership taxation, like-kind exchanges and other real estate tax matters, corporate acquisitions, dispositions and reorganizations, research and development tax credits and international tax planning for both U.S. companies conducting business abroad and non-residents with U.S. business activities.

The following recent transactions evidence Ryan’s experience advising clients in various state and federal tax issues:

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