Late on Friday, May 22, 2020, the Small Business Administration (SBA) issued a long-overdue interim final rule providing guidance on how forgiveness will work for Paycheck Protection Program (PPP) loans. We will publish a comprehensive review of the new rule shortly but below is a high-level summary of how the new rule addresses (or, in some cases, does not address) the most frequently asked questions from borrowers about how the forgiveness process will work. These questions cover four main areas:
- The forgiveness application process
- What payroll costs are eligible for forgiveness
- How to determine if nonpayroll costs are eligible for forgiveness
- What documentation will need to be submitted to lenders
Forgiveness Application Process
How will forgiveness applications work?
Forgiveness applications will go through each borrower’s lender or loan servicer. The application will either be on SBA Form 3508 or the lender’s equivalent application, and each lender has 60 days from receipt of the application to report to the SBA its determination as to whether, and how much of, the loan will be forgiven. If any amount is to be forgiven, the lender will request payment from the SBA at the time it reports its determination. The lender will notify each borrower of its forgiveness amount. The rule also states that additional guidance will be issued in a separate interim final rule on “SBA Loan Review Procedures and Related Borrower and Lender Responsibilities,” in which the SBA will describe its procedures for reviewing forgiveness applications.
When will forgiveness applications be submitted?
While the general application procedure is described, the rule does not indicate precisely when borrowers will be required to submit applications. However, the rule contains language indicating that a borrower may receive a determination regarding the forgiven amount after the borrower already has made “scheduled payments on the loan after the initial [6-month] deferment period,” which suggests that the application timeframe may be well after the covered period ends.
Will the SBA review applications?
The rule indicates that some loans will be reviewed, although it’s not clear which ones (but we can reasonably expect that, at a minimum, loans with principal amounts exceeding $2 million will be). Per the rule, SBA must remit the appropriate forgiveness amount to the lender, plus any interest accrued through the date of payment, within 90 days after the lender issues its decision to SBA, “subject to any SBA review of the loan or loan application.” The rule also indicates that, for loans that are subject to SBA review, the SBA has the power to invalidate forgiveness based on a determination that the borrower was ineligible for the loan under “provisions of the CARES Act, SBA rules or guidance available at the time of the borrower’s loan application, or the terms of the borrower’s PPP loan application.”
Payroll Costs Eligible for Loan Forgiveness
Are payments of compensation to furloughed employees, bonuses and/or hazard pay eligible for forgiveness?
The answer to this question is a clear “yes,” so long as those payments do not exceed an annual salary of $100,000, as prorated for the covered period. The rule reflects the SBA’s desire to enable borrowers “to continue paying their employees even if those employees are not able to perform their day-to-day duties, whether due to lack of economic demand or public health considerations.
Are payments made for employees not reporting to work eligible for forgiveness?
Yes. The rule explicitly permits this and states that payroll costs are considered incurred based on the schedule established by the borrower (typically, each day that the employee would have performed work).
Are payments made, or expenses incurred, for payroll costs outside the “covered period” forgivable?
In general, payroll costs paid or incurred during the “covered period” (or “alternative payroll covered period”; more detail on that is available in this alert) are eligible for forgiveness. Payroll costs are considered paid on the day paychecks are distributed or the borrower originates an ACH credit transaction. Payroll costs incurred during the borrower’s last pay period of the covered period or the alternative payroll covered period are eligible for forgiveness if paid on or before the next regular payroll date; otherwise, payroll costs must be paid during the covered period (or alternative payroll covered period) to be forgiven. Payroll costs are generally incurred on the day the employee’s pay is earned (i.e., on the day the employee worked).
Nonpayroll Costs Eligible for Loan Forgiveness
Are payments made, or expenses incurred, for nonpayroll costs outside the “covered period” forgivable?
A nonpayroll cost is eligible for forgiveness if it was paid during the covered period or incurred during the covered period and paid on or before the next regular billing date, even if the billing date is after the covered period. It explicitly permits, as an example, a utility bill incurred in May but paid in June, during the hypothetical covered period, to be eligible for forgiveness. The SBA intended to provide flexibility to borrowers but also notes that “the 25 percent cap on nonpayroll costs will avoid excessive inclusion of nonpayroll costs.”
Do we know precisely which “transportation” expenses will be forgiven?
No, the rule does not provide additional clarity on what this includes.
Can I prepay mortgage interest?
No, the rule explicitly states that prepayments of mortgage interest will not be eligible for forgiveness.
How do I maximize loan forgiveness?
To maximize loan forgiveness, borrowers are encouraged to retain their full-time employees and avoid reducing their employee’s wages during the 8-week covered period. Subsequent guidance from the SBA/Treasury has provided that as long as employees are rehired or wages fully restored prior to June 30, 2020, then no reduction in loan forgiveness will occur.
As previously discussed, a borrower may use the PPP loan for permissible purposes but can only receive forgiveness for eligible forgiveness purposes. In addition, subsequent SBA/Treasury guidance provided that in order to be eligible for forgiveness a borrower must not use more than 25% of the loan proceeds on nonpayroll costs.
What happens if my employees won’t come back to work? Will my loan forgiveness be reduced?
A borrower will not have their loan forgiveness reduced if they take certain steps related to an employee who refuses to return to work. Specifically, a borrower must take the following steps:
- Make a good-faith, written offer to rehire the employee or restore their reduced hours, during the covered period;
- Provide the same salary or wages and the same number of hours that the employee worked in the last pay period before the separation or reduction in hours;
- Receive a rejection of the written offer by the employee;
- Document the rejection and retain such documentation; and
- Report the rejection of the offer to the applicable state unemployment insurance office within 30 days of the employee’s rejection.
If a borrower takes these steps, then a borrower may exclude any reduction in full-time equivalent employee headcount that is attributable to that individual employee.
What if I cannot bring back all my full-time employee? How much is my PPP loan forgiveness reduced?
Under the CARES Act, any reduction in the number of full-time employees during the covered period or alternative covered period reduces the loan forgiveness by the same ratio as the reduction in full-time employees. Therefore, based upon the reference period utilized, if a borrower reduces their full-time employee count by 20% then the otherwise forgivable amount will also be reduced by 20%.
How do I calculate the number of full-time employees for purposes of loan forgiveness?
Originally, it was suggested that for purposes of the PPP loan, a full-time employee was an individual who worked more than 30 hours. However, for purposes of loan forgiveness under the updated guidance, a full-time employee is an employee who works for 40 or more hours per week.
For purposes of calculating the number of full-time employees, a borrower must treat each employee who works 40 hours or more as one employee. For each employee who works less than 40 hours, a borrower may either:
- divide the total number of hours of that employee over 40 (e.g. averaged 30 hours per week during the covered period equals .75 full-time employee equivalent), or
- count each part-time employee as .5 full-time employee equivalent.
A borrower must only use one of these methods and may not use a combination of the two methods. Once a borrower calculates the total number of full-time employee equivalents, then a borrower will divide the average number of full-time employees during the covered period (or alternative covered period) by the average number of full-time employees during the selected reference period.
What documentation do I need in order to support my loan forgiveness?
Borrowers are encouraged to provide to their lender the following documentation:
- Bank account statements or third-party payroll service provider reports documenting the amount of cash compensation paid to employees
- Tax forms or equivalent third-party payroll service provider reports for eight weeks after the loan was disbursed, including Form 941 or other payroll tax filings reported to the IRS and state quarterly business and individual employee wage reporting and unemployment insurance tax filings reported to the relevant state
- Payment receipts, canceled checks or account statements documenting the amount of any employer contributions to employee health insurance and retirement plans that for which the borrower requested forgiveness.