On April 2, 2020, the Small Business Administration (“SBA”) issued its First PPP Interim Final Rule, which provided additional guidance on many of the provisions in the CARES Act relating to the Paycheck Protection Program (“PPP”). On April 14, 2020, the SBA issued an additional interim final rule (“Second PPP Interim Final Rule”), which supplements the First PPP Interim Final Rule with guidance for self-employed individuals who file Schedule C, Profit or Loss from Business (Sole Proprietorship).[1] A summary of the Second PPP Interim Final Rule and its applicability to Schedule C filers follows.
Are Schedule C Filers Eligible for PPP Loans?
The Second PPP Interim Final Rule provides that Schedule C filers are eligible for PPP loans, provided they: (1) were in operation on February 15, 2020; (2) were an individual with self-employment income, including an independent contractor or sole proprietor; (3) have a principal place of residence in the United States; and (4) filed or will file an IRS Form 1040, U.S. Individual Income Tax Return, for 2019.
Are Partners with Self-Employment Income Eligible for PPP Loans?
Partners with self-employment income from partnerships are not eligible to submit PPP loan applications as self-employed individuals. Rather, the self-employment income of general active partners may be reported as a payroll cost for the partnership up to $100,000 annualized. Thus, the partnership, rather than the partner, may take advantage of the partner’s self-employment income for purposes of computing the maximum loan amount and any forgivable amount.
What about Schedule C Filers Who Were not in Business in 2019 but were in Business on February 15, 2020?
The SBA has indicated that it intends to issue additional guidance for those individuals with self-employment income who: (1) were not in operation in 2019 but who were in operation on February 15, 2020; and (2) will file a Form 1040 Schedule C for 2020.
How do Schedule C Filers Calculate the Maximum PPP Loan Amount?
If the Schedule C filer has no employees, he or she should compute the maximum PPP loan amount as follows:
Step 1: If the Schedule C filer has filed a 2019 Schedule C (i.e., a Form 1040), the Schedule C filer should review Line 31, Net profit or (loss). If this amount is over $100,000, the amount is reduced to $100,000. If the amount is zero or negative, the Schedule C filer is not eligible for a PPP loan.
Step 2: Divide the amount in Step 1 by 12.
Step 3: Multiply the amount in Step 2 (i.e., the average monthly net profit) by 2.5.
Step 4: Add any outstanding Economic Injury Disaster Loan (EIDL) made between January 31, 2020, and April 3, 2020, that will be refinanced, less the amount of any advance under an EIDL COVID-19 loan.
Example: Travis filed his Form 1040 with attached Schedule C on March 15, 2020. His Schedule C business has no employees. On Line 31, Net profit or (loss), Travis’s Schedule C business reported $60,000. For purposes of the PPP loan application, Travis’s average monthly net profit is $5,000. Accordingly, Travis would qualify for a maximum PPP loan amount of $12,500, assuming Travis did not apply for an EIDL.
The Second PPP Interim Final Rule indicates that Schedule C filers who have not yet filed a Schedule C for 2019 with the IRS may still file a PPP application, but the Schedule C filer must provide a completed 2019 Form 1040 Schedule C with the PPP loan application in addition to a 2019 Form 1099-MISC, Miscellaneous Income, detailing nonemployee compensation in box 7. In addition, the Schedule C filer must provide an invoice, bank statement, or book of record that establishes self-employment in 2019 as well as a 2020 invoice, bank statement, or book of record to establish self-employment operations on or around February 15, 2020.
If the Schedule C filer has employees, he or she should compute the maximum PPP loan amount as follows:
Step 1: If the Schedule C filer has filed a 2019 Schedule C, the Schedule C filer should review Line 31, Net profit (or loss). If this amount is over $100,000, the amount is reduced to $100,000. If the amount is zero or negative, set the amount at zero.
PLUS
Review IRS Forms 941, Employer’s QUARTERLY Federal Tax Return, for each quarter of 2019. Add up Line 5c, Column 1 (Taxable Medicare Wages & tips) for each quarter for those employees whose principal place of residence is in the United States. Include any pre-tax employee contributions for health insurance or other fringe benefits that are otherwise excluded from Taxable Medicare wages & tips and subtract any amounts paid to any individual employee in excess of $100,000 annualized.
PLUS
Review and add 2019 Schedule C Line 14, Employee Benefit Programs, for 2019 employer health insurance contributions, and Line 19, Pension and Profit-Sharing Plans, for 2019 retirement contributions. Also add state and local taxes assessed on employee compensation.
Step 2: Divide the total from Step 1 by 12.
Step 3: Multiply the amount in Step 2 (i.e., the average monthly amount) by 2.5.
Step 4: Add the outstanding amount of any EIDL made between January 31, 2020, and April 3, 2020, that will be refinanced, less the amount of any advance under an EIDL COVID-19 loan.
Example: Jill filed her Form 1040 with attached Schedule C on April 1, 2020. On Line 31, Net profit or (loss), Jill reported a net loss of ($20,000). However, Jill had two employees with 2019 Taxable Medicare Wages & tips of $60,000 reported on 2019 Forms 941. Jill did not pay any health insurance contributions or have a retirement plan for her employees in 2019. Thus, Jill’s average monthly amount is $5,000. Accordingly, Jill would qualify for a maximum PPP loan amount of $12,500, assuming Jill did not apply for an EIDL.
The Second PPP Interim Final Rule indicates that Schedule C filers with employees who have not yet filed a Schedule C for 2019 with the IRS may still file a PPP application, but the Schedule C filer must provide a completed 2019 Form 1040 Schedule C with the PPP loan application. In addition, the Schedule C filer must provide copies of Forms 941 (or other tax forms or equivalent payroll processor records containing similar information) and state quarterly wage unemployment insurance tax reporting forms for each quarter in 2019, along with evidence of any retirement and health insurance contributions, if applicable. Moreover, the Schedule C filer must provide a payroll statement or similar documentation from the pay period that covered February 15, 2020, to establish business operations as of February 15, 2020.
What can Schedule C Filers Use the PPP Loan Proceeds For?
The Schedule C filer may use the PPP loan proceeds for the following eligible costs:
- Owner compensation replacement, calculated based on 2019 net profit (as described above);
- Employee payroll costs (as defined in the First PPP Interim Final Rule) for employees whose principal place of residence is in the United States, if applicable.
- Mortgage interest payments on any business mortgage obligation on real or personal property, business rent payments, and business utility payments. However, the Schedule C filer must have claimed or be entitled to claim a deduction for such expenses on their 2019 Form 1040 Schedule C for those costs to qualify as eligible costs during the 8-week period following the first disbursement of the PPP loan proceeds.
- Interest payments on any other debt obligations incurred before February 15, 2020.
- Refinancing an SBA EIDL loan made between January 31, 2020, and April 3, 2020 (with the maturity to be reset to PPP’s maturity of 2 years).
The Second PPP Interim Final Rule indicates that the SBA, in conjunction with the Treasury Department, determined that it was appropriate to limit Schedule C filers’ use of loan proceeds to the types of allowable uses for which the borrower made expenditures in 2019, i.e., those reported on the 2019 Schedule C. In addition, because of verification concerns, the SBA, in conjunction with the Treasury Department, further determined that Schedule C filers will not be permitted to use comparable expenses incurred between January 1, 2020, and February 14, 2020, for these purposes.
What Amounts are Forgiven?
The actual amount of loan forgiveness will depend on the total amount spent over the 8-week period following disbursement of the PPP loan proceeds on the following:
- Payroll costs including salary, wages, and tips, up to $100,000 of annualized pay per employee as well as 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, calculated based on 2019 net profit as described above, 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 the FFCRA;
- Payments on interest mortgage obligations on real or personal property incurred before February 15, 2020, to the extent they are deductible on Form 1040 Schedule C;
- Rent payments on lease agreements in force before February 15, 2020, to the extent they are deductible on Form 1040 Schedule C; and
- Utility payments under service agreements dated before February 15, 2020, to the extent they are deductible on Form 1040 Schedule C.
In addition to the above, and similar to the requirement in the First PPP Interim Final Rule, 75% of the amount forgiven must be attributable to payroll costs. In the First PPP Interim Final Rule, “payroll costs” were defined to include salary, wages, commissions, or similar compensation; cash tips or the equivalent; payment for vacation, parental, family, medical, or sick leave; allowance for separation or dismissal; payment for the provision of employee benefits consisting of group health care coverage, including insurance premiums, and retirement; payment of state and local taxes assessed on compensation of employees; and for independent contractors and sole proprietors, wage, commissions, income, or net earnings from self-employment or similar compensation.
What Documentation Will Schedule C Filers be Required to Provide Lenders for Loan Forgiveness?
In addition to the borrower certifications required under the CARES Act, a Schedule C filer with employees will be required to submit copies of Forms 941 and state quarterly wage unemployment insurance tax reporting forms or equivalent payroll processor records that best correspond to the covered period. In addition, all Schedule C filers will be required to submit evidence of business rent, business mortgage interest payments on real or personal property, or business utility payments during the covered period if the Schedule C filer used PPP loan proceeds for those purposes.
[1] The Second PPP Interim Final Rule also addresses eligibility issues for certain business concerns and requirements for certain pledges of PPP loans.
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