By Jennifer Hart and Kevin O’Connor
The SBA issued an additional Interim Final Rule that supplemented the initial interim final rule issued by the SBA on April 2, 2020. The Rule provides guidance on eligibility for the Paycheck Protection Program for self-employed individuals and partnerships. Here are the key takeaways from the new Interim Final Rule.
Partners Are Not Considered Self-Employed Individuals
The new rule significantly changes the expected treatment of payments to partners under the PPP, stating that payment to partners need to be included in the payroll costs of the partnership. Partnerships that already applied for a PPP loan should immediately contact their lender to see what steps they should take to include payments to partners. This is the first official guidance on how to treat the income of partners and comes nearly a week and a half after applications for partnerships were first accepted by the SBA.
The requirements to qualify for a PPP loan as a self employed individual are:
- you were in operation on Feb. 15, 2020;
- you are an individual with self-employment income (such as an independent contractor or a sole proprietor);
- your principal place of residence is in the United States; and
- you filed or will file a Form 1040 Schedule C for 2019
Preliminary Guidance on What Amounts Are Forgivable
The Rule reiterated the mandate from the initial rule that at least 75 percent of the PPP loan proceeds must be used for payroll costs and that the amount of any refinanced EIDL will be included in determining the use of proceeds. The rule also makes clear that the amount of loan forgiveness can be up to the full principal amount of the loan plus accrued interest. Forgivable uses include:
- payroll costs including salary, wages and tips, up to $100,000 of annualized pay per employee (for eight weeks, a maximum of $15,385 per individual)
- covered benefits for employees (but not owners), including health care expenses, retirement contributions and state taxes imposed on employee payroll paid by the employer (such as unemployment insurance premiums)
- owner compensation replacement, with forgiveness of such amounts limited to eight weeks’ worth (8/52) of 2019 net profit, but excluding any qualified sick leave equivalent amount for which a credit is claimed under section 7002 of the Families First Coronavirus Response Act (FFCRA) or qualified family leave equivalent amount for which a credit is claimed under section 7004 of FFCRA
- payments of interest on mortgage obligations on real or personal property incurred before Feb. 15, 2020, to the extent they are deductible on Form 1040 Schedule C (business mortgage interest payments)
- rent payments on lease agreements in force before Feb. 15, 2020, to the extent they are deductible on Form 1040 Schedule C (business rent payments)
- utility payments under service agreements dated before Feb. 15, 2020 to the extent they are deductible on Form 1040 Schedule C (business utility payments)
The forgivable uses only references those expenses on Schedule C. It is not clear if there will be additional guidance for businesses that do not file a 1040 Schedule C.
Additionally, the use of a $15,385 cap for those making more than $100,000 indicates that payroll costs will be limited to 8/52 of payroll. The CARES Act, which created the PPP, was not clear about how forgiveness would differ for businesses that had bi-monthly v. bi-weekly payroll. The Rule does not offer any additional guidance as to the differing treatment for bi-weekly v. bi-monthly pay periods.
How to Calculate Your Loan Amount
The updated interim rule includes step-by-step directions on how to calculate the available loan amount for both self-employed individuals and employers.
For self-employed individuals (e.g. no employees), here are the steps outlined in the Rule:
- Find your 2019 IRS Form 1040 Schedule C line 31 net profit amount (if you have not yet filed a 2019 return, fill it out and compute the value). If this amount is over $100,000, reduce it to $100,000. If this amount is zero or less, you are not eligible for a PPP.
- Calculate the average monthly net profit amount (divide the amount from Step 1 by 12).
- Multiply the average monthly net profit amount from Step 2 by 2.5.
- Add the outstanding amount of any Economic Injury Disaster Loan (EIDL) made between Jan. 31, 2020 and April 3, 2020 that you seek to refinance, less the amount of any advance under an EIDL COVID-19 loan (because it does not have to be repaid).
For businesses with employees, the SBA sets forth the following:
- Compute 2019 payroll by adding the following:
- Your 2019 Form 1040 Schedule C line 31 net profit amount (if you have not yet filed a 2019 return, fill it out and compute the value), up to $100,000 annualized,* if this amount is over $100,000, reduce it to $100,000, if this amount is less than zero, set this amount at zero;
- 2019 gross wages and tips paid to your employees whose principal place of residence is in the United States computed using 2019 IRS Form 941 Taxable Medicare wages & tips (line 5c- column 1) from each quarter plus any pre-tax employee contributions for health insurance or other fringe benefits excluded from Taxable Medicare wages & tips; subtract any amounts paid to any individual employee in excess of $100,000 annualized and any amounts paid to any employee whose principal place of residence is outside the United States; and
- 2019 employer health insurance contributions (health insurance component of Form 1040 Schedule C line 14), retirement contributions (Form 1040 Schedule C line 19), and state and local taxes assessed on employee compensation (primarily under state laws commonly referred to as the State Unemployment Tax Act or SUTA from state quarterly wage reporting forms).
- Calculate the average monthly amount (divide the amount from Step 1 by 12).
- Multiply the average monthly amount from Step 2 by 2.5.
- Add the outstanding amount of any EIDL made between Jan. 31, 2020 and April 3, 2020 that you seek to refinance, less the amount of any advance under an EIDL COVID-19 loan (because it does not have to be repaid)
It is not clear if this is the net profits of the entire enterprise or per partner or owner.
For self-employed individuals and independent contractors, you will need the following to substantiate the applied-for PPP loan amount and your eligibility:
- 2019 Form 1040 Schedule C (whether 2019 tax returns have been filed)
- 2019 IRS Form 1099-MISC detailing nonemployee compensation received (box 7)
- An invoice, bank statement, or book of record that establishes you are self-employed.
- A 2020 invoice, bank statement, or book of record to establish you were in operation on or around Feb. 15, 2020
Employers will need to provide the following:
- 2019 Form 1040 Schedule C, Form 941 (or other tax forms or equivalent payroll processor records containing similar information)
- State quarterly wage unemployment insurance tax reporting forms from each quarter in 2019 or equivalent payroll processor records
- Evidence of any retirement and health insurance contributions, if applicable.
- A payroll statement or similar documentation from the pay period that covered Feb. 15, 2020 must be provided to establish you were in operation on Feb. 15, 2020.
KJK will continue to monitor all developments with the PPP and will update this article with any additional guidance issued by the SBA. If you have any questions on the PPP regulations, contact Kevin O’Connor at firstname.lastname@example.org or 216.736.7213 or Jennifer Hart at email@example.com or 216.736.7208 or contact one of our Banking & Finance professionals.