Coronavirus Aid, Relief, and Economic Security Act (CARES Act): Paycheck Protection Program Summary

Shearman & Sterling LLPOn March 31, 2020, the U.S. Department of the Treasury and the U.S. Small Business Administration (SBA) released a summary of the Paycheck Protection Program (PPP), which was enacted into law as part of the CARES Act. On April 2, 2020, the SBA released an interim final rule on the implementation of the PPP. On April 3, 2020, the SBA released an interim final rule on the application of the affiliation rules to the PPP and a summary of the SBA’s affiliation rules relating to the PPP. Below is a summary of the key provisions in the CARES Act and related PPP guidance.

The CARES Act allocated $349 billion for the SBA to guarantee loans to small businesses under the PPP. The loans will be distributed using the existing framework of the SBA’s 7(a) loan program, which is a partnership between private financial lenders, which issue the loans, and the SBA, which guarantees them.

  • Eligibility:
    • Business Size Requirement:
      • Has fewer than 500 employees (or higher “size standard” employee requirements for the applicable NAICS code[1]),
      • Businesses with an NAICS classification that begins with 72 (Accommodation and Food Services) with more than one physical location and which employ no more than 500 employees per physical location, or
      • Otherwise qualify as a “small business concern” under prior SBA rules.
    • To determine the number of employees, the SBA counts full-time, part-time and on other basis (but excludes independent contractors) based on the average number of employees for each pay period in the preceding 12 calendar months.
    • The size of the business is aggregated with its “affiliates.” See Affiliation Rules below.
    • Sole proprietorships, independent contractors and eligible self-employed individuals (as defined in the Families First Coronavirus Response Act, or “Families First Act”) can apply.
    • The business must be in operation on 2/15/20 and had employees for whom the borrower paid salaries and payroll taxes or paid independent contractors.
  • Affiliation Rules:
    • The SBA has issued affiliation rules under the Small Business Act (13 CFR 121.103 and 13 CFR 121.301), which rules generally require aggregation of employees of businesses under common “control,” to determine whether a company meets the applicable size qualifications.
    • There are four tests to determine whether affiliation exists for purposes of the PPP[2]:
      • Affiliation Based on Ownership: Affiliation based on ownership arises where a shareholder owns or has the power to control more than 50% of an entity’s voting equity. Affiliation based on ownership also exists in circumstances where a shareholder with less than 50% ownership can block board or shareholder action or otherwise has negative controls or consent rights to actions that the SBA views as relating to day-to-day operating decisions; consent rights to extraordinary actions are viewed as permissible investment protections that do not give rise to an inference of affiliation.
      • Affiliation Arising Under Stock Options, Convertible Securities, and Agreements to Merge: For purposes of affiliation tests, the SBA treats all options, convertible securities and agreements as if such rights have been exercised such that if an entity has the right to acquire voting control of another entity, the two entities will be deemed to be affiliated.
      • Affiliation Based on Management: Affiliation based on management exists where the CEO, President or other control person of an entity also controls (or has the power to control) the management of one or more other entities.
      • Affiliation Based on Identity Of Interest. For purposes of the PPP, the SBA will aggregate interests held by “close relatives” (a spouse, a parent; or a child or sibling, or the spouse of any such person) for purposes of measuring ownership and will treat similar businesses held by close relatives as affiliates.
    • The CARES Act waived the SBA’s affiliation rules for:
      • Businesses in the Accommodation and Food Services industry (assigned NAICS codes beginning with 72).
      • Businesses operating as a franchise that is assigned a franchise identifier code by the SBA.
      • Businesses receiving financial assistance from a Small Business Investment Company (SBIC). SBA guidance suggests that this waiver will be broadly interpreted, such that if an entity has received a loan, an equity investment or a guaranty from an SBIC, all affiliation rules will be waived for such entity.
  • Loan Size:
    • Maximum loan amount is the lesser of:
      • 2.5 times the average total monthly payments for payroll costs (as described below) incurred during the 1-year period (with exceptions for seasonal employers) before the loan disbursement date (note that the CARES Act, Interim Final Rule and the SBA application are inconsistent as to whether payroll information for the “last twelve months” or calendar year 2019 should be used).
      • If the applicant was not in business during 2/15/19 to 6/30/19, then 2.5 times the average total monthly payments for payroll costs incurred during 1/1/20 to 2/29/20, or
      • $10 million.
  • Allowable Use of Proceeds:
    • Payroll costs (at least 75% of the loan proceeds must be used for payroll costs).
      • Includes: (i) salary, wage, commissions, cash tips, (ii) paid leave, (iii) severance payments, (iv) payment for group health care benefits, including insurance premiums, (v) retirement benefits, (vi) state and local payroll taxes and (vii) for an independent contractor or sole proprietor, wage, commissions, income, or net earnings from self-employment or similar compensation.
        • Note: Based on guidance issued, it appears that compensation paid to independent contractors does not count in a borrower’s “payroll cost”, unless the borrower is the independent contractor. However, this issue is open to different interpretations.
        • Note: Based on guidance issued, payroll costs appear to be capped at $100,000 per employee, inclusive of salary and any other costs or benefits. However, the guidance can also be read as the $100,000 per employee cap only applying to salaries (and not other costs or benefits).
      • Excludes: (i) individual employee, independent contractor or sole proprietor compensation above $100,000 in 1 year, prorated for the covered period, (ii) the employer’s and employee’s share of certain federal taxes (Code chapters 21, 22 or 24) such as FICA and required federal income tax withholdings, (iii) compensation of employees with principal places of residence outside the U.S., and (iv) sick and family leave wages for which credit is allowed under the Families First Act.
    • Payments of interest on any mortgage obligations (excluding prepayment or payment of principal).
    • Rent/lease agreement payments.
    • Utilities.
    • Interest payments on any other debt obligations that were incurred before February 15, 2020.
  • Certification Requirement:
    • On the application, applicants must make a certification of certain matters, including the following:
      • The applicant is eligible to receive a loan under the rules in effect at the time the application is submitted,
      • A good faith certification that current economic uncertainty makes this loan request necessary to support the ongoing operations of the applicant,
      • A good faith certification that the funds will be used to retain workers and maintain payroll or make mortgage interest payments, lease payments and utility payments and that the government may hold the applicant liable if the proceeds are used for an unauthorized purpose,
      • A good faith certification that loan forgiveness will be provided for the sum of documented payroll costs, covered mortgage interest payments, covered rent payments, and covered utilities, and not more than 25% of the forgiven amount may be for non-payroll costs,
      • A good faith certification that during the period from 2/15/20 to 12/31/20, the applicant has not received duplicative amounts under the PPP program.
  • Loan Terms:
    • The CARES Act waives the SBA’s personal guarantee and collateral requirements with respect to the PPP.
    • The CARES Act waives the “credit elsewhere” test such that an application does not have to provide proof that it is unable to obtain credit elsewhere to participate in the PPP.
    • It is uncertain whether PPP loans will be senior or subordinate to existing credit facilities.
    • 1.00% fixed rate and 2 years maturity.
    • Principal, interest and fees deferred for 6 months; however, interest will continue to accrue over this period.
    • Prepayment penalties are waived.
  • Application Process: Apply directly with any existing SBA lender or any federally insured depository institution, federally insured credit union, and Farm Credit System institution that is participating. A list of participating lenders is set forth on the SBA’s website located at
  • Tax Treatment of Paycheck Protection Program Loans: Loans under the PPP will be treated as indebtedness for U.S. federal income tax purposes, and any interest paid or accrued on such loans will be deductible by the borrower. Furthermore, the forgiveness of all or a portion of a loan received under the PPP will be excluded from the gross income of the borrower.
  • Interaction with Payroll Tax Credit and Delayed Payroll Tax Payment Provisions: If a company receives a loan under the PPP, it is not eligible for the payroll tax credit under the CARES Act. In addition, if a company takes a loan under the PPP and the loan is forgiven, the company is not eligible for the delayed payment of payroll taxes under the CARES Act.
  • Loan Forgiveness:
    • Covered period for purposes of forgiveness: 8-week period beginning on the loan origination date.
    • Amount Forgiven: Eligible for forgiveness in the amount equal to the sum of the following costs incurred during the covered period (not to exceed principal):
      • Payroll costs,
      • Interest payment on mortgages incurred before 2/15/20,
      • Rent payment under any lease in force before 2/15/20, and
      • Utility payment for which service began before 2/15/20.
    • Not more than 25% of the forgiven amount may be for non-payroll costs.
    • Reduction of Amounts Forgiven:
      • The loan forgiveness amount will be reduced for any employee cuts or reductions in wages.
        • Reduction based on the employee cuts:

Reduced Amount =

Loan Forgiveness Amount x

Average number of full-time equivalent employees (FTEEs)* per month employed during the covered period

Average number of FTEEs* per month employed during either** (at borrower’s election) (i) from 2/15/19 to 6/30/19 or (ii) from 1/1/20 to 2/29/20

*Average number of FTEEs is the average number of FTEEs for each pay period falling within a month.

**For seasonal employer, from 2/15/19 to 6/30/19.

  • Reduction based on reduction in wages:

Reduced Amount =

Loan Forgiveness Amount –

Amount of reduction in total salary or wages that is in excess of 25% of the employee’s* prior total salary or wages during the most recent full quarter before the covered period

*“Employee” is limited to any employee who did not receive, during any single pay period during 2019, wages or salary at an annualized rate of pay over $100,000 (in other words, employees making over $100,000 during 2019 do not factor into the 25% reduction).

  • Exemption from reduction in forgiveness amount for employers who rehire employees or make up for wage reductions by 6/30/20:
    • The forgiveness reduction rules will not apply between 2/15/20 and the date 30 days following enactment of the CARES Act, if during such period:
      • The employer reduces the number of FTEEs as compared to 2/15/20, and such reduction is eliminated by 6/30/20, or
      • There is a salary or wage reduction of 1 or more employees as compared to 2/15/20, and such reduction is eliminated by 6/30/20.
  • The amount of the loan that is forgiven is not included in the gross income of the borrower for U.S. federal income tax purposes.
  • Application process for forgiveness
    • The borrower must submit to their lender:
      • Documentation verifying the number of FTEEs on payroll and their pay rates,
      • Documentation of covered costs/payments (e.g., docs verifying mortgage, rent and utility payments),
      • Certification from a business representative that the documentation submitted is true and correct and that forgiveness amounts requested were used to retain employees and make other forgiveness-eligible payments, and
      • Any other documentation the SBA may require.
    • Decision on loan forgiveness is made within 60 days.
    • The SBA will issue additional guidance on loan forgiveness.


[2] •The CARES Act rescinded February 2020 amendments to the SBA’s affiliation rules that had created “common investment” and “economic dependence” rules. Thus, the relevant affiliation rules are the 2019 version of 13 CFR 301(f) which is available at

[View source.]

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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