If you’re one of the tens of thousands of businesses with new funding either in hand or on its way, you’ll now want to turn your focus to the most important aspect of the PPP loan - forgiveness.
PPP Loan Forgiveness Rule #1: Use the loan appropriately
Broadly speaking loan proceeds should be used for payroll, benefits, taxes on compensation, mortgage interest, rent, and utilities. Under the terms of the loan, you must be able to demonstrate that at least 75% of the funds were used towards “payroll” costs.
In the case of the self-employed/independent contractor the PPP loan can be used to give yourself a salary, including wages, commissions and tips.
Let’s get specific though. Payroll costs (under the CARES Act) according to guidance by SBA includes: salary, wages, cash tips or equivalents, payment for regular leaves of absence - like parental, vacation, medical or family, dismissal or separation compensation, group health insurance payments, retirement benefits payments and some state/local payroll taxes that would be assessed on compensation.
The remaining 25% can be used to pay rent, utilities or interest on existing debt. Keep in mind, when it comes to rent and interest on existing debt - those obligations will need to have been in place before February 15, 2020. So if you signed a new lease after February 15, it is inadvisable to use your PPP funding to cover that rent if you want to ensure maximum PPP loan forgiveness.
With all of this in mind, it will be incredibly important to be sure you are accurately tracking closely all of the allocations you make to ensure maximum loan forgiveness. Which leads us to the next PPP loan forgiveness guideline.
PPP Loan Forgiveness Rule #2: Document and keep track of everything
When your loan comes due, you’ll need to demonstrate to your lender that you have both fully accounted for your PPP loan and, if you’re aiming for maximum loan forgiveness, that you have appropriately used the funds as stipulated by the SBA. Your lender will supply you with instructions on how to apply for loan forgiveness when the time comes.
PPP loans have specific time bound stipulations, so it is very important that you make note of a few key dates in the process:
- The day your lender transmitted the first funds to your business. This starts the clock on your loan period - more on this in Rule #3.
- The day you submitted your loan forgiveness documentation to your lender. Your lender is required by law to provide you with a response on the status of your loan forgiveness within 60 days.
In order to apply for PPP loan forgiveness, you will need to supply the required documentation listed below. Please note, your lending institution may stipulate additional documentation. You may want to request that information from them up front.
- Documentation verifying the number of employees on payroll and pay rates including: IRS payroll tax filings and State income, and payroll and unemployment insurance filings
- Documentation verifying payments on covered mortgage obligations, lease obligations, and utilities.
- Certification from a representative of your business or organization that is authorized to certify that the documentation provided is true and that the amount that is being forgiven was used in accordance with the program’s guidelines for use.
To set yourself up for success, it would be wise to organize your bookkeeping before you begin utilizing your PPP loan. Your lender will likely require digital copies of all of your documentation so take the time to scan any hard copy records. Also try to keep multiple copies of documents in different locations to ensure you do not lose important pieces in a computer malfunction or other unforeseen circumstances.
PPP Loan Forgiveness Rule #3: Know your loan coverage period
With a PPP loan, you’ll receive eight weeks of coverage. That means that you can use your PPP funds for any eligible expense incurred over eight weeks, starting on the day you receive your first payment from your lender. Depending on your payroll schedule you may want to consider amending when you pay employees to ensure that the maximum number of pay periods fall under your eight week coverage. This will help ensure that as much of your PPP loan as possible goes to payroll - remember, you’ll need at least 75% of it to cover payroll if you want to receive maximum loan forgiveness.
The other critical component of your eight weeks of coverage is that under this period of time you shouldn’t make any cuts to your team. This takes us to our fourth PPP loan forgiveness guideline.
PPP Loan Forgiveness Rule #4: Keep your headcount the same
Once your eight week coverage period kicks in, you will need to ensure you maintain your full-time employee headcount. After all, this loan is known as the Paycheck Protection Program - at its core, it is designed to reduce the number of unemployed Americans.
While this seems pretty straightforward, the math to be able to ensure you meet this requirement for forgiveness is a little messy.
First, you’ll need to determine a few numbers:
- The average number of full-time employees you had from the time you received your initial loan funding
- The average number of full-time employees you had from February 15, 2019 to June, 30 2019
- The average number of full-time employees you had from January 1, 2020 to February 29, 2020
Now take the number you calculated in step 1 and divide it by the number you calculated in step 2 (we’ll call this A). Do this again, but divide step 1 by the number you calculated in step 3 (and this one is called B). To determine if you met this requirement, use the larger of A or B - if your number is greater than or equal to 1, then you’ve successfully met this requirement for PPP loan forgiveness (nice work!). If your number is less than one, you did not meet the requirement to receive 100% forgiveness.
You’ll also want to make sure you maintain salaries (increases are fine) - you’ll be penalized if you cut any salaries/wages for employees (making less than $100,000) by more than 25% during your eight week coverage period.
Let’s take an example to show what this forgiveness calculation might look like for Joe’s Toy store (a hypothetical business). Joe employed 10 full time employees but on February 15, Joe had the unfortunate task of letting go 8 of those 10 employees due to the impacts COVID19 had on his business. The average salary at Joe’s Toy store before the layoffs was $50,000 and the remaining 2 employees' salaries stayed constant after the reduction in workforce. Using the calculations required by the PPP loan application process, the average monthly salary for Joe’s Toy business was calculated to be $41,667 (10 x $50,000 / 12). Joe’s Toy store qualified for a loan amount of $104,167 (2.5 x $41,667).
Let’s assume that Joe received his $104,167 loan on April 1 from his lender. That same day, Joe rehired 4 of his employees, for a total of 6 employees - all at their same salaries. The spend on those 8 employees over the next 8 weeks would count towards the loan forgiveness amount and would equal $46,154 (6 x $50,000 / 52 x 8).
Unfortunately for Joe, the amount spent on labor over his eight week coverage period will still be lower than required by PPP loan forgiveness rules. In this scenario, Joe would need to spend $61,539 on payroll expenses to account for at least 75% of his total PPP loan.
The good news for Joe? He has until June 30, 2020 to rehire employees and have those payrolls costs included in his loan forgiveness. If Joe is unable to rehire employees, he might also consider employee bonuses or salary increases that would cover the difference between his calculated payroll costs ($41,154) and the total amount he needs to spend on payroll ($61,539). If Joe opts not to increase salaries or provide bonuses to employees or Joe’s Toy store, he will not achieve total PPP loan forgiveness, and will have an outstanding loan balance of $42,628.
Under SBA PPP loan guidelines, Joe’s outstanding loan balance will accrue interest at 1% for two years, with a 6 month payment deferral period.
PPP Loan Forgiveness Rule #5: Self-Employed/Independent Contractor Must-Knows
As an independent contractor your eligible loan amount should have equated to 2.5x your average monthly earnings. PPP loan forgiveness looks relatively the same for this business type - but be mindful you can only cover eight weeks worth of your 2019 average monthly earnings. Additionally, you’ll need to be sure that any non-payroll related expenses are ones you will be able to demonstrate having claimed before February 15, 2020.
For example, if you worked primarily outside your home in 2019 and did not (or cannot, if you’re yet to file) claim any home mortgage related expenses as a result, then mortgage related expenses are not eligible for forgiveness under your PPP loan. That’s true even if you find yourself currently working from home.
As a reminder, you’ll likely need documentation related to your 2019 tax filings to help show eligible expenses - so despite the extended deadline it may be wise to file your taxes now.
Still have questions about PPP loan forgiveness rules? The Goal Financial team is hard at work on a free tool to help you manage your loan and ensure maximum forgiveness. Sign up below to join our waitlist.