June 2, 2020

By Joe Price

Are you in the situation where your company is more than halfway through its eight-week Paycheck Protection Program (PPP) loan period (the covered period) and realize that you are probably not going to be able to spend the entire amount that you borrowed?

Or, are you one of those overachievers who has already digested the Small Business Administration’s (SBA’s) loan forgiveness application and the interim final rules, which were issued on May 22, and realized that a significant portion of your loan may not be forgiven?

What You Have to Do Now

In either case, now is the time to take stock of where you stand and see if there are things you can do to improve your situation. Spoiler alert: There will be. Keep in mind that if you want your loan to be forgiven in part or in full – remember, that is what motivated you to take this loan in the first place – you must spend your loan dollars or incur your expense during that covered period. This can be tricky because your covered period may not line up neatly with your payroll payment dates. Your covered period begins on the date your PPP loan is funded and ends eight weeks later. For this purpose, payroll is treated as paid on the date that you distribute paychecks or originate Automated Clearing House (ACH) transactions for those employees who have direct deposit arrangements.

Assume that your PPP loan was funded on April 20 so it ends on June 14, but your payroll periods are biweekly starting April 19, with paychecks distributed or deposited on the Friday after each payroll period ends. The paychecks for the fourth and final payroll period of the covered period that starts May 31 and ends June 13 would not be paid or deposited until June 19, which is five days after the covered period ends. Would that payment be too late to be treated as forgivable? We believe that the answer is “no” because the payroll expense is incurred during the covered period and you have acted consistently in making all payments on the Friday after the payroll period ends.

You may find that the first time you run the numbers, nonpayroll items will be greater than 25% of the total (see the below); you will then have to do some juggling to either (1) get the payroll items up, or (2) get the nonpayroll items down. You may also have to make job offers during that time. If you don’t complete those actions by the end of the covered period, some part of your loan will not be forgiven.

Payroll Is King

Since payroll costs must be at least 75% of the amount to be forgiven, the upper limit on all other forgivable costs (mortgage interest, rents and utilities) cannot exceed one-third of your payroll costs (i.e., payroll must be at least 75% of the total; nonpayroll can’t exceed 25%). As a consequence, you should concentrate on maximizing your payroll expense before looking for additional expenses in the other three categories.

The “How To” of Maximizing Payroll

How do you maximize payroll costs? First, make sure that every employee who is likely to earn $100,000 or more during the year receives the maximum payment of $15,384 during the covered period. That may sound obvious, but at many companies, the most highly compensated employees take smaller draws during the early part of the year to prevent the company from having cash flow crunches. The covered period is not the time to take less than the maximum allowed by the SBA. Please note any payment to an employee of more than $15,384 during the covered period is not forgivable by the SBA.

Claiming All That Is Forgivable

Second, make sure that you know what constitutes a forgivable payroll cost because it goes beyond salaries, wages and commissions. It also includes employee benefits such as vacation, parental, family, medical or sick leave (so long as no credits were claimed under Sections 7001 or 7003 of the Families First Coronavirus Response Act), the employer portion of employee health insurance, the employer portion of contributions to retirement plans, employer state and local taxes assessed on employee compensation and allowances for separation or dismissal.

Maximizing Compensation for Your $100,000+ Employees

If a $100,000+ employee receives the maximum amount of $15,384 during the covered period, may other amounts be claimed for him or her, like the employer portion of health insurance premiums? Yes, the $15,384 payment is a limit only for purposes of salaries, wages and commissions, so the other payments referred to in the preceding paragraph for the $100,000+ employee’s benefit are not a problem.

Reason #1 That Your PPP Loan Might Not Be Forgiven

Reducing the Number of Full-Time Equivalent Employees

Be aware that if you laid off any employees during what was most likely the panic period (but see the comparison periods described below for exact details), the amount of the PPP loan forgiven by the SBA will be reduced. [Note: this part is necessarily tedious so you may want to skip to the heading titled “Safe Harbor Enticements by the SBA” for the important point, i.e., that one of the two Safe Harbors may fix this problem for you].

The formula that the SBA uses to reduce the amount of forgiveness is based on a fraction that compares the average number of full-time equivalent (FTE) employees during the covered period with the average number during a comparison period. The SBA gives you two choices for the comparison period. It can be either the four-and-a-half month period from 2/15/2019 through 6/30/19 or the two-month period from 1/1/2020 through 2/29/2020. You would select the comparison period during which you had fewer FTE employees if you are interested in maximizing the forgiveness amount (and that is probably why you have read this far).

Computing the Number of FTE Employees

In general, an employee who works at least 40 hours per week will constitute one FTE employee. An employee who works less than 40 hours per week will constitute some fraction of one FTE employee. Just be aware that the SBA gives you two alternative ways to compute how many FTE employees you have if some are part-time. You should consult Section 1106 of the Coronavirus Aid, Relief, and Economic Security (CARES) Act for the discussion of the alternatives. In any event, your resulting fraction will look like this:

Average # of FTE employees during the covered period
Average # of FTE employees during the comparison period

You would multiply that fraction by the amount of otherwise forgivable costs to determine how much is forgivable. So if you have laid off or furloughed 30% of your FTE employees, assume that around 30% of your loan would not be forgiven. If you have actually increased the number of FTE employees during the covered period, the SBA will not allow you to increase the amount of forgivable costs over 100%.

Safe Harbor Enticements by the SBA

The SBA gives you two opportunities (enticements) to undo the reduction in forgiveness as a result of the reduction in FTE employees. We will refer to these two opportunities as “Safe Harbors.”

Safe Harbor #1

Safe Harbor #1 requires you to compute the average (see above for the definition of “average”) for two additional time periods. Time period #1 runs from Feb. 15, 2020, through April 26, 2020. We will call that “the panic period.” It is presumed to be the lower number. Time period #2 is the pay period that included February 15, 2020. We will call that the “pre-panic period.” It is presumed to be the higher number. If the average is smaller for the panic period than for the pre-panic period, then you would meet the Safe Harbor if you boost your average above pre-panic period levels by June 30, 2020, by hiring more FTE employees.

Safe Harbor #2 – “Hey, I Tried!”

The second Safe Harbor opportunity is easier to understand and less expensive to implement than Safe Harbor #1. If you make a good faith written offer to rehire an employee during the covered period but the employee rejects the offer, then the reduction in forgiveness attributable to that employee’s termination may be disregarded. Likewise, if an employee was terminated for cause, voluntarily resigned, or voluntarily requested and was granted a reduction in work hours, that reduction in forgiveness may also be disregarded.

Reason #2 That Your PPP Loan Might Not Be Forgiven

Reducing your Employees’ Compensation

If you reduce an employee’s salary during the covered period, that will reduce the amount of your forgiveness. We could go into excruciating detail on this, but we will just give you the high points.

The $100,000+ Employee Exemption

If you are a $100,000+ employee, none of this compensation reduction discussion applies to you.

The 25% Exemption

If you reduce an employee’s compensation by more than 25%, your forgiveness will be reduced unless you comply with a Safe Harbor. It pays to wait until you hear the Safe Harbor enticement from the SBA before you try to understand the convoluted computations that determine the amount of forgiveness. The computations are simple to understand conceptually, but math complications arise because we are comparing two time periods of different lengths.

The Concept of the 25% Exemption Rules

The concept, stated simply, is that you compare the annual salary of the employee during a “mostly good time period” (January 1, 2020, through March 31, 2020) with his or her annual salary during the covered period. If the annual salary was reduced from the “mostly good time period level, some forgiveness may be reduced.

The Details of Those Rules

There are many steps to achieve an “apples to apples” comparison of the 90 days of the “mostly good time period” with the 56 days of the covered period. The bottom line is you are comparing annual salaries in each case. If you reduced the annual salary by more than 25% from the “mostly good time period,” your forgiveness will be reduced.

How Significant Is the Reduction?

The following example is drawn from a terrific Forbes article, Paycheck Protection Loan Forgiveness Application: A Deep Dive, by Tony Nitti. Where an employee’s average annual salary was reduced by 35% (from $80,000 to $52,000), the reduction in forgiveness was $1,230.

The Salary Reduction Safe Harbor

The Safe Harbor entails restoring the employee to his or her average annual salary as it stood on February 15, 2020 (or more precisely, for the pay period that includes February 15, 2020) by June 30, 2020; if you do that, you don’t have to reduce that employee’s forgiveness amount at all.

Key Takeaways

    • Figure out when your covered period ends and how your payroll periods fit within that period.
    • Run the numbers to determine how much of your loan will be forgiven and what tweaks you can make to increase that number before the covered period ends.
    • Some of those tweaks can be done quickly (e.g., asking a $100,000+ employee to take more money).
    • Some tweaks will take longer (e.g., deciding if you want to make rehire offers to former employees, and actually carrying those out).
    • When should you get started on running your numbers? As The Smiths asked long ago, “How Soon Is Now?”

The Next Issue

In the next issue, we will discuss how to compute forgivable costs for the non-payroll expenses: mortgage interest, rent and utilities.

We will also cover what is in the proposed legislation that was passed by the House and is languishing in the Senate. The smart money says that something will get passed but not before your covered period ends. Look for passage some time closer to the November election.

Don’t wait for that issue to begin running your numbers. Payroll is the more important issue and the one that you will have an easier time improving. Good luck!


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.