June 17, 2020
By Joe Price
If you have been keeping up with the Paycheck Protection Program or (PPP) you know that on June 3, the Paycheck Protection Program Flexibility Act of 2020 (PPPFA) made some significant changes to the program. In general, the changes have been applauded by PPP critics because they give borrowers more time to spend their loan proceeds and more avenues to qualify for loan forgiveness. However, those same changes may be lulling you into a decision (or a non-decision) that will work to your detriment later.
Changes Made by the PPPFA
Let’s review those PPPFA changes and then describe why the decision that looks so attractive now may be the wrong one for you. We will also discuss how you should go about making your decision.
The major changes the PPPFA made that you need to factor into your decision are:
- It extended the “covered period” (the time frame in which you may spend your loan proceeds) from eight weeks to 24 weeks.
- It increased the portion of your loan proceeds that may be spent on nonpayroll items from 25% to 40%.
- It extended the time period for you to hire, rehire and/or restore the compensation of employees from June 30, 2020, to December 31, 2020.
- It gave you some additional opportunities to obtain loan forgiveness even if you don’t hire or rehire employees you previously terminated or furloughed.
How Could a Shorter Covered Period Possibly Be Better For You?
Given all of the above, how could it be possible for a covered period of eight weeks to work better for you than one of 24 weeks? It seems counterintuitive because a longer time period should give you more opportunity to spend the loan proceeds on qualifying expenses (payroll, mortgage interest, rent and utilities). Stated simply, your business might get worse between June 30 and December 31, and you may not be able to afford to have as many full-time equivalent (FTE) employees on December 31 as you have on June 30.
For instructions on how to compute the number of FTE employees, see Important Changes Made to the Paycheck Protection Program.
The lower number of FTE employees on December 31 may cause you to forfeit more of your loan forgiveness than you would gain by increasing your qualifying expenses with an additional 16 weeks to incur them.
Qualifying Expenses and a Forfeiture Fraction
In other words, the PPP’s loan forgiveness formula is made up of two components. The first is qualifying expenses made during the covered period; the second is a forfeiture fraction based on the average number of FTE employees you have during the covered period compared to the pre-pandemic period. The 24-week covered period will certainly allow you to spend more of your loan proceeds on qualifying expenses. However, if you wind up with fewer FTE employees on December 31 than you had on June 30, your actual loan forgiveness is likely to be less than if you had selected the eight-week covered period and based your forfeiture fraction on June 30 numbers.
How to Decide
How do you decide which covered period to choose? First, you should review the numbers and figure out if you have already spent all of your loan proceeds or if you are able to spend all of your loan proceeds before your eight-week covered period ends. For instructions on how to maximize your qualifying expenses that are forgivable during that eight-week period, see Important Changes Made to the Paycheck Protection Program.
Second, you should compute your average number of FTE employees during the eight-week covered period and compare that to the average number during the comparison period. As mentioned in the earlier article, the Small Business Administration (SBA) gives you a choice of two comparison periods. The first is the 4 ½-month period from February 15 through June 30, 2019. The second is the two-month period from January 1 through February 29, 2020. The forfeiture fraction that is applicable will look like this:
average # of FTE employees during the covered period
average # of FTE employees during the comparison period
That fraction tells you what portion of your qualifying expenses will not be forgiven. So for example, if your qualifying expenses are $1 million and the forfeiture fraction is 7/10 or 70%, you would multiply $1 million by .70 to obtain your forgiveness amount of $700,000. In other words, if you have laid off or furloughed 30% of your workforce from the comparison period, assume that 30% of your PPP loan will not be forgiven.
The Safe Harbors
Let’s say that you have taken all of the steps described above and it produces a number that is fairly close to the amount of your loan proceeds but you would still like to improve it if possible. Then you should determine if either of the two Safe Harbors described in my earlier article can benefit you.
Safe Harbor #1 is hiring or rehiring enough FTE employees by June 30 to bring the number up to the number you had for the pay period that included February 15, 2020. If you do that, your forfeiture fraction will equal #1 and the entire amount of your qualifying expenses will be forgiven.
For more detail on Safe Harbor #1, see Important Changes Made to the Paycheck Protection Program.
Safe Harbor #2 is making good faith written offers during the covered period to rehire employees you laid off or furloughed. If the employee rejects the offer, you may eliminate his or her FTE number from the denominator of the above fraction. Safe Harbor #2 also allows you to eliminate from the denominator any employee who was terminated for cause or voluntarily resigned during the covered period. If any employee voluntarily requested and was granted a reduction in work hours, then the appropriate FTE number may be eliminated from the above fraction as well.
The Upshot of Your Actions
What have you accomplished by taking all of the above steps? You have maximized the amount of qualifying expenses and you have brought the forfeiture fraction as close to Safe Harbor #1 as you were able to during the eight-week period.
If you want to have a real choice between the eight-week and the 24-week covered periods, you need to make the eight-week period as attractive as you can manage during the covered period itself. You will still have the opportunity to wait until the end of the 24-week period to decide which covered period you want to use, but in case the longer period turns out badly, you will default to using the eight-week period. You have a very short time to modify your eight-week numbers after the period ends. The time to optimize it is now.
This information contained in this publication is for general informational purposes only and is not intended, and should not be construed, as legal, accounting or tax advice. The author expressly disclaims all and any liability and responsibility to any person or corporation who acts or fails to act as a consequence of any reliance upon the whole or any parts of the content above.