Okay, let’s get straight to the point: You want to explore a paycheck protection program loan if your small business has been or will be beat up by the COVID-19 crisis.
In this blog post, therefore, I’m going to give you a really quick overview. I hope you can read this in two to three minutes. That’ll give you the nudge to explore further this option.
Then, at the end of the post, I describe how you start the loan application process. Which you want to begin immediately. Like after you finish reading this…
How a Paycheck Protection Program Loan Works
The paycheck protection program (or PPP) loan provides you with money to pay employee payroll and related costs, your rent, your utilities and a handful of other business expenses over two months, or eight weeks.
The loan amount? Basically 2.5 times the average monthly payroll costs your small business incurs over the twelve months that precede you getting the loan.
Example: You pay $10,000 a month on average for wages, health insurance, and state payroll taxes. You therefore qualify potentially for a $25,000 loan.
Example: You pay $1,000,000 a month on average for wages, health insurance, and state payroll taxes. You therefore potentially qualify for a $2,500,000 loan.
Payroll costs include the business income earned by a sole proprietor, as shown on the business owner’s 2019 individual tax return on Schedule C.
Example: A sole proprietorship generates $48,000 for its owner, and that amount appears on the business owner’s tax return on Schedule C. The $48,000 counts as a payroll cost, and $4,000 counts as the average monthly payroll cost.
Two other points to mention here, too. First, though the statute doesn’t reference partnerships, the Treasury’s guidance on PPP loans explicitly indicates partnerships, too, get these loans. Partnerships treat self-employment earnings as a legitimate “payroll cost,” too (See here for the Treasury document that provides this guidance.)
Further, while the actual law does say you look at the preceding 12 months of payroll, the Treasury’s guidance says you’ll typically just look back at 2019’s payroll. (That’ll be convenient since tax forms and payroll reports you’ve already prepared will become the documentation you need for the loan application process.)
Loan Limitations and Restrictions
The law limits the loan amount to firms with fewer than 500 employees (for all practical purposes).
The maximum loan amount equals $10,000,000.
Further, you can only count payroll costs up to $100,000 per employee per year.
Example: A firm with ten employees each making $100,000 annually qualifies for same size loan as a firm with ten employees each making $200,000 a year.
Eligibility for a Paycheck Protection Program Loan
Your small business is eligible for a loan if you can self-certify that you need the loan.
The actual language from the statute says you must provide, “a good faith certification… that the uncertainty of current economic conditions makes necessary the loan request to support the ongoing operations of the eligible recipient…”
You also need to indicate that you will use the funds, “to retain workers and maintain payroll or make mortgage payments, lease payments, and utility payments.”
What this language means isn’t precisely clear… but I think you read it to say (a) you believe your firm needs this extra financial support to continue operating as usual and (b) you absolutely must use the money for payroll, the rent, loan payments, and utilities.
One other thing to mention about eligibility, too. The Small Business Administration disqualifies a handful of people from this opportunity: Folks who’ve defaulted on an SBA loan in the past, felons, folks the target of a criminal investigation, and so forth. (The application someone fills out asks about this stuff. In detail. So you don’t need more information from me. Just pay attention when you apply if any of these sorts of issues might possibly apply to one of the owners of a business.)
How the Paycheck Protection Program Loan Becomes “Free Money”
If you use the loan proceeds for an “approved” expense (payroll costs, rent, mortgage interest or utility expenses) and then you can also document that, the lender forgives the loan after two months.
Example: You borrow $100,000. Over the next eight weeks, you then use the $100,000 for employee payroll (an approved expense.) You don’t have to pay back the $100,000 loan. Really.
A handful of wrinkles related to this forgiveness formula, you want to really understand and pay attention to.
First, less than 25% of the money you spend can go for non-payroll costs if you want full forgiveness.
Second, if you reduce the average number of full-time employees in your firm after receiving the loan, that headcount reduction also reduces the loan forgiveness.
Example: You reduce firm employees from ten to eight workers, a 20 percent reduction. You only receive forgiveness for 80 percent of the loan because you only retained 80 percent of your workforce.
To determine whether you’ve reduced the number of full-time employees, the loan forgiveness formula compares the full-time employees during the eight weeks after you get the loan to the average number of full time employees you paid from February 15 to June 30 of 2019 or January 1 to February 29 of 2020. You choose, by the way, whether the comparison looks at 2019 or 2020.
Third, if you reduce the wages of workers earning less than $100,000 annually by more than 25%, the amount of the reduction in excess of 25% also reduces the amount of loan forgiveness.
Example: To economize, you reduce the salary of an employee who earns $10,000 every eight weeks, or $1250 a week. Specifically, you reduce his pay rate by $3,000, or 30 percent, after you receive your loan. If you had only reduced the employee’s pay by 25%, or $2,500, the pay cut doesn’t impact the loan forgiveness. However, you reduced the pay by $3,000, or 30%. That means you reduce the employee’s pay by $500 more than a 25% reduction in pay. In this case, you lose $500 of loan forgiveness.
One other thing to mention here–and something that only become clear on April 6th or 7th when the Treasury and the Small Business Administration published a PPP loan FAQ at the Treasury.gov website. An employee’s gross payroll amount is what counts as “payroll.” Not the net-of-taxes payroll.
Example: You have an employee who makes $1,000 a week for the eight weeks the forgiveness formula looks at. The employee’s weekly paycheck, however, equals $800. The $200 reduction occurs because of the Social Security, Medicare and federal income taxes imposed or withheld. But the entire $1,000 counts as payroll and results in forgiveness.
Further, the employer-paid state and local payroll taxes count as payroll costs, too. But not the federal payroll taxes the employer pays.
Example: That employee making $1,000 a week and described in the preceding example? The one who receives a $800 net payroll check due to payroll taxes and withholding? If the employer pays $100 in state and local payroll taxes, those count as payroll costs. But if the employer pays say $100 in federal payroll taxes, those don’t as payroll costs.
And Your Next Steps Are…
Four quick last points…
First, the statutes that create this package provide $349,000,000,000 in funding. That amount sounds like a lot of money. But it isn’t. Spread the amount over ten or twenty million small businesses, and you’re talking $20,000 to $30,000 (roughly) per firm.
Second, if you need this help, contact your bank immediately. Verify your bank will participate in the program. And, crucially, that your small business meets additional eligibility requirements the bank sets. Small businesses and sole proprietors can apply for loans starting April 3, 2020. Independent contractors and self-employed individuals can apply for loans starting April 10, 2020.
Third, you can grab the actual loan application for the paycheck protection loan here. Grab that. Fill it out. Do read its instructions. I would also strongly recommend you collect now the documentation you’ll need to accompany your loan application. Quarterly 941s. The W-2s and W-3. Your 1040 tax return including its Schedule C form if you’re a sole proprietor. Maybe the 1065 partnership return and its K-1s. Oh, and then the health insurance statements and state payroll tax returns for 2019.
A fourth and final point: Make sure you haven’t made some change to your payroll that sabotages the loan amount you might receive. Work through the numbers. Maybe with your accountant’s help. You can’t artificially fudge your payroll costs to inflate the loan amount. (Thank goodness.) But you probably can inadvertently reduce the loan amount you qualify for. (For example, by terminating employees. Or by reducing wages.)
Some Other Paycheck Protection Resources
Senator Marco Rubio, who spearheaded this bit of the CARES act, provides a good FAQ about how these paycheck protection loans work here.
You want to read all of the PDFs available at the Treasury’s COVID-19 loans web page here.
Note that if you can’t use the paycheck protection program, you may still qualify for an employee retention credit, something I describe here: The 50 percent Employee Retention Credit.
If you want to get up to speed on the other forms of tax-related assistance the Federal government provides, check out this blog post: COVID-19 Small Business Tax Relief.
As you work through your business plan for continuing operations over the next couple of months, you might find this useful (or at least encouraging): Small Business Survival Guide to the Corona Virus Crisis.
Also, if you have a question, do skim through the hundreds of questions and answers below. Almost surely your question has already been asked and answered several times in several different ways.