Clarifying the CARES Act: Key Considerations for PPP Loan Forgiveness

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Your Paycheck Protection Program (“PPP”) funds have hit the bank- now what? A prime advantage of the PPP loans is that your loan may be fully or partially forgiven if loan proceeds are used for designated business expenses and purposes. We believe most borrowers intend to operate their business over the next few months with the goal of loan forgiveness. It is expected that the Small Business (“SBA”) will release additional guidance on the forgiveness program, so currently there are aspects subject to interpretation.  Below we are discussing several key forgiveness considerations and insights to keep in mind as you start to spend your PPP loan money.

1. Unforgiveable? Stay Mindful of the Ways That Your Loan May Not Be Forgiven.

Here are a few ways that all or a portion of your PPP loan may not be forgiven:

  • Breach, Default, or Misrepresentation. All or a portion of your PPP funds may be deemed unforgivable due to a breach or default under the SBA promissory note or a misrepresentation in respect to your PPP loan application or any of the related materials, including as to eligibility.
  • Use of Proceeds. If you use the loan proceeds for anything other than payroll costs and qualified mortgage interest, rent, and utilities payments, then the amount used for the other allowable use, such as to pay interest on other qualified debt, may not be forgiven.  Also to the extent your PPP funds are used for any non-permitted use, then they will need to repaid immediately, such as payment of excess compensation, principal debt balances, federal withholding taxes, foreign compensation, or using loans funds for certain qualified sick and family leave wages for which credit is allowed under the Families First Coronavirus Response Act.
  • Reduction in FTEEs. If your average number of full time equivalent employees (“FTEE”) reduce from the baseline, your PPP forgiveness amount is reduced in proportion to such reduction
  • Employee Wage Cuts.  Remember that the amount forgiven will be reduced by the amount of any reduction during the eight week period of greater than 25% in total salary or wages of any employee that made less than $100,000 annualized in 2019.

If a portion of your loan was properly used but not eligible to be forgiven, then it will become an unsecured loan if not returned. Such unsecured loan will accrue interest at 1%, and payments will be deferred for six months, after which there typically will be eighteen substantially equal monthly payments of principal and interest.

2. Understand the Key Difference – Permissible Proceed Uses vs. Forgivable Uses

It is important to note a distinction between two types uses for the PPP loan proceeds- forgivable uses and unforgivable but allowable uses. Summarized below are the key differences:

  • Forgivable Use. The uses that qualify as to forgiveness are (a) payroll costs and to the extent qualified (i.e. the underlying agreement is for the borrower and was in place before February 15, 2020), (b) mortgage interest, (c) rent obligations and (d) utility payments
  • Allowable Use, yet Unforgivable. The allowed use that is not subject to forgiveness is interest on any debt obligations incurred before February 15, 2020 (aside from eligible mortgage interest as noted above).  Such amounts will not be forgiven and thus will result in the unsecured loan. 
  • Additional Interpretative Insight. Also, the CARES Act references forgiveness of the sum of both payments made during the period, as well as costs incurred, so this could potentially be interpreted such that a company may be able to use the loan proceeds to pay amounts incurred prior to the eight week period, as well as prepayment of qualified expenses that are to be incurred after eight week period.  We will follow whether the SBA releases additional guidance to clarify this. 

3. Stay Prepared for the Loan Forgiveness Request Process

You will need to submit a forgiveness request to your lender that includes a certification during, the submission period which is expected to be July 1 through August 15, 2020.  The request will include the amount requested to be forgiven, as well as information relating to amount of payroll costs and other forgivable uses, the average number of FTEEs for the baseline period, the FTEEs at certain dates on and after February 15, 2020, and salary and wage information.  The lender and SBA may also request documentation verifying payroll tax filings reported to the IRS and state income, payroll, and unemployment insurance filings; cancelled checks, payment receipts, transcripts of accounts, or other documents verifying payments on forgivable uses. Your lender should respond to your request within sixty days from receipt. It is recommended that you refer to your PPP promissory note which will provide what information is specifically required for your PPP loan.

4. Key Considerations and Best Practices When Using and Managing PPP Loan Proceeds.

  • Track FTEEs.
    • Determine FTEEs for Purposes of CARES Act Forgiveness. While the CARES Act does not define full time equivalent employees we believe based on the use of ‘equivalents’ it is likely to include all full time employees (those in excess of 30 hours per week) as well as part-time employees that can be aggregated to exceed 30 hours per week (i.e. if you have two part-time employees working 15 hours per week then they would be aggregated to count as 1 FTEE).
    • Choose Your Baseline Test Period. You need to determine your FTEE baseline by first counting your FTEEs for the applicable baseline test period.  A company can pick baseline test periods between either (a) February 15, 2019 through June 30, 2019 or (b) January 1, 2020 through February 29, 2020. Seasonal employees should use the 2019 period.   
    • Examine FTEE Count. After determining your baseline test period, review your current FTEE count to determine if you need to rehire to maximize PPP loan forgiveness, for example by ensuring the eight week average FTEE figure equals or exceeds that of the baseline.  Note you can rehire and pay employees, even if they are not working.
  • Carefully Calculate Salary Reductions.
    • As to the salary reduction provision, you need to determine the total base salary or wages of each employee for the last full quarter before the date you receive your loan. This will allow you to properly track the impact of the 25% reduction limitation.
    • Remember this only applies with respect to employees who did not receive (during any single pay period) more than $100,000 in annualized salary or wages in 2019.
    • To the extent your business already reduced wages as a result of COVID-19, you will remain eligible for loan forgiveness if you wages back to pre-crisis levels before June 30, 2020.
  • Record and Monitor Use of Loan Proceeds.
    • Place the PPP loan proceeds in a separate payroll or other deposit account to ensure you can properly track the use of proceeds.
    • Coordinate with any third parties that process payroll (such as payroll processing company or leasing company) to ensure that the PPP loan proceeds are utilized to make the payments.
    • To the extent possible, maintain documentation for each time you use money from the loan to prove the use is allowable and if applicable, forgivable.  Additionally, monitor the usage of your loan proceeds to ensure that proceeds are not used impermissibly.  For example, proceeds should not be used for certain qualified sick and family leave wages for which credit is allowed under the Families First Coronavirus Response Act.
  • Consider Other Ways to Maximize Forgiveness.
    • Use the PPP loan proceeds to pay for forgivable uses first, and then use the remainder (if any) towards other allowed operating uses.
    • Prioritize payroll, as at least 75% of loan proceeds must be used for payroll expenses in order to be eligible for full forgiveness.
    • If possible, time the receipt of the loan proceeds to maximize the number of payroll periods included in the eight week timeframe. To the extent you cannot time receipt of funding exactly with a payroll period be sure to document the exact amount of prorated PPP proceeds used to partially fund any payrolls during the 8 week period.
    • Track constantly your monthly FTEE average during the eight week period, as well as any salary or wage changes.
    • Monitor regularly the SBA’s website for developments and updates on loan forgiveness, including interim rules, as well as maintaining communication with your PPP lender as to the forgiveness procedures.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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