Congratulations, you have secured a PPP loan and entered the 8-week period leading up to loan forgiveness. The SBA released guidelines Friday 5/15 on how to apply for loan forgiveness, and this article is designed for the CEO to know how to navigate that process. (Stay tuned for Part 2: The Financial Details of Loan Forgiveness.)
How a Small Business Should Prepare for PPP Loan Forgiveness
To save yourself headaches and avoid challenges when preparing for forgiveness, follow these three best practices.
Don’t bother creating a new bank account.
Despite the rumors, forgiveness does not require a new and separate bank account, so you do not need to go to that level of complexity. At most, create separate liability and asset GL’s to track the funds. If you have already created a new bank account, that is ok, there is no harm in managing the cash through there. But no need create more complexity.
Build a PPP forgiveness forecast.
Be proactive so you can maximize your chance of 100% forgiveness. Start with back-of-the-napkin math to determine how close (or far) you are from 100% forgiveness. In general, if you have increased staffing or have given pay raises, you have a good chance of being fully forgiven. If not, take the time to determine how close you are and make some tactical shifts to maximize your PPP loan forgiveness. Smart moves include:
- Converting 1099 contractors to W2 employees
- Increasing hours for part-time employees
- Rehiring laid-off workers
Keep good documentation.
This is a best practice all the time but will be critical to having your forgiveness application approved. In addition to standard accounting records, remember to keep written documentation of offers to rehire employees who subsequently refuse to come back to work.
How to Apply for PPP Loan Forgiveness
Apply for PPP loan forgiveness through the bank that issued your PPP loan. They will most likely have their own online portal, or they may use the standard SBA form. No matter the format, the requirements will be the same. You will need to complete the form and provide the following support:
- Payroll reports
- Payroll tax filings (form 941 and your state unemployment filing)
- Bank statements
- Invoice, receipt, and/or account statements for utilities, lease payments, health insurance premiums, and retirement plan contributions
- Mortgage and lease contracts
- Detailed calculations showing:
- Payroll costs
- Non-cash payroll costs
- Non-payroll forgivable expenses
- FTE reduction quotient (more on this later)
- Salary/wage reduction calculations (more on this later)
- Any and all supporting documentation for the above 5 items
There are many special terms in the application that are important to understand, so review the SBA’s instructions for details.
New Opportunities for PPP Loan Forgiveness
In clarifying the forgivable expenses, the SBA opened two potentially valuable opportunities:
- Leases for Personal Property. We had previously been guided that lease expense for rent would count towards forgiveness, but never had it been implied that leases for personal property (machinery, equipment, etc.) might count. Now the loan forgiveness application clearly states these are eligible expenses. This change is especially valuable for construction and manufacturing companies.
- Transportation Utilities. The SBA has defined forgivable utility expenses to include electricity, gas, water, telephone, internet, and transportation. What is a transportation utility? The definition is not given, so keep an eye on out for the SBA to provide further guidance. Best case scenario this may include vehicle costs, public transportation costs, or even airfare.
Common Errors When Applying for PPP Loan Forgiveness
There are dozens of potential errors and pitfalls when applying for forgiveness. Top issues include:
Selecting the correct Covered Period or Alternative Covered Period (CP/ACP.)
The CP/ACP is the time period used for calculating payroll costs and other qualifying expenses. Only businesses with bi-weekly or weekly payroll can elect to use the ACP. Note that bi-weekly payroll is not the same as semi-monthly payroll.
Calculating an incorrect FTE reduction quotient.
The FTE reduction quotient is punishment for having a lower headcount during Covid-19. There are two Safe Harbor provisions that allow you to face no reduction. If your business doesn’t meet either of these tests you will need to perform a complex FTE reduction quotient calculation.
Forgetting to cap forgivable wages at $15,385/person.
This is the maximum amount of forgivable wages for any individual (referred to as an annualized $100,000 salary.)
Misclassifying employees between Schedule A Table 1 and Table 2.
The application requires separate treatment for employees who earned over $100k annualized on any one pay period. That means an employee who earned less than $100k in aggregate but had irregular pay amounts (e.g. sales) may qualify as being part of the “Table 2” group. This is advantageous because Table 2 employees do not count towards the salary/wage reduction penalty. To properly evaluate this, you must review every paycheck for every employee in 2019, not just the full-year compensation.
Miscalculating the salary/wage reduction.
The salary/wage reduction formula is extremely complex, with up to three different checks on two different safe harbor provisions. None of these checks use similar date ranges and all of them require converting salary to hourly to 8-week equivalents, so there is quite a bit of computation. Moreover, it must be calculated on a per-employee basis, so be prepared to build some Excel automation if you have many employees.
Counting too much owner’s compensation.
Distributions to sole proprietors and partnerships are forgivable up to a maximum of $15,385/person or 8 / 52 * 2019 net income per Schedule C, whichever is lower. This is only loosely referenced in the Schedule A instructions, so make sure your accountant or finance manager is aware of the restriction. Also, if you haven’t completed your 2019 taxes yet, get moving because you can’t apply for loan forgiveness until that is done.
Use Your Resources
This is just a summary of major issues. The full scope of loan forgiveness is complex, so be sure you entrust it to someone on your team who is detail oriented and good with numbers. If you are unsure, consult with your financial advisor or accountant. And remember, government stimulus is no substitute for business financial strategy. Stay focused on your business fundamentals while working on your loan forgiveness.
Lastly, this article is accurate based on guidance released 5/15/2020. The PPP program has been notorious for updating rules and clarifying details, so stay tuned for potential changes.