August 31, 2020
Dear WZ Clients, Business Associates and Friends,
The SBA published a new Interim Final Rule (IFR) on Aug. 24, 2020, related to the Paycheck Protection Program (PPP). The IFR addresses a) treatment of certain owner-employees and b) limitations on eligibility of certain non-payroll costs for loan forgiveness.
Owner-Employee Compensation Rules Inapplicable to Certain Owners
The First Loan Forgiveness Rule, as revised by the Revisions to Loan Forgiveness and Loan Review Procedures Interim Final Rules, 85 FR 38304, 38307 (June 26, 2020), capped the amount of loan forgiveness for payroll compensation attributable to an owner-employee to either eight weeks’ worth (8/52) of their 2019 compensation (up to $15,385) for an eight-week covered period or 2.5 months’ worth (2.5/12) of their 2019 compensation (up to $20,833) for a 24-week covered period per owner in total across all businesses. There was no exception in the rule based on the owner-employee’s percentage of ownership.
The new IFR provides that an owner-employee in a C- or S-corporation who has less than a 5 percent ownership stake will not be subject to the owner-employee compensation rule. The IFR describes the exemption as intending to cover owner-employees who have no meaningful ability to influence decisions over how loan proceeds are allocated. It should be noted that the IFR applies this exception only to corporate entities and does not provide an exception for partnerships or limited liability companies.
Eligibility of Certain Non-Payroll Costs for Loan Forgiveness
Shared Rent, Mortgage Interest and Utility Costs
Although a borrower might expect to capture all rent, mortgage interest or utility expenses when calculating its forgiveness amount, it must be careful to take into the account the portion of such expenses that are attributable to a tenant or subtenant or to household expense for a home-based business. The IFR provides four examples that can be found by going to the link here: Interim Final Rule (IFR)
Related Party Rent and Mortgage Interest
While many borrowers operate on real estate leased to the borrower by a company owned by a related party, until now the SBA’s guidance did not provide any express restrictions on the use of rent expense under related party leases as a forgivable use of loan proceeds. The IFR places a new cap on loan forgiveness available for rent paid to related parties to no more that the amount of mortgage interest owed on the property during the covered period in question that is attributable to the space being rented by the business, and only to the extent that both the lease and the mortgage were in place prior to Feb. 15, 2020, on the theory that if the property was held directly by the borrower, the borrower would only be entitled to obtain forgiveness for this amount of mortgage interest. As a further note, the IFR provides that any mortgage interest owed to a related party is not eligible for forgiveness.
As a further reminder, the PPP allows for forgiveness for rent and mortgage interest for both real and personal property (i.e., items such as vehicles, copiers, or servers). Although the IFR used only real property examples, there is no reason to assume that these limitations would not apply equally to any rent or mortgage interest with respect to personal property.
The term “related party” is not addressed in the statutory language of the CARES Act or previously in prior rules and is thus described in the IFR as including “any ownership in common between the business and the property owner.” Interestingly, although appearing in the same IFR, the SBA did not elect to exclude owners of less than 5 percent as was done for the owner-employee compensation rule describe above. As a result, the safest approach seems to be to treat any level of co-ownership as creating a related party relationship no matter the size of the interest or the indirect nature of ownership.
Furthermore, if applying for forgiveness for related party rent, the borrower is required to provide its lender with mortgage documentation to substantiate the related payment, something lenders will now need to be prepared to accept into any portal system intended to accept forgiveness applications.
For more information, please go to the IFR link here: Interim Final Rule (IFR)
AS ALWAYS, WAGNER & ZWERMAN IS HERE TO ANSWER ALL OF YOUR QUESTIONS AND CONCERNS. WE ARE ALL IN THIS TOGETHER.
STAY SAFE AND HEALTHY
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