One of the big open questions left by the CARES Act was what would happen to payment obligations that were incurred but not paid within the eight week loan period or, on the flip side, payments that were made on obligations that weren't incurred during the eight week loan period. The new application provides clarity on these questions as to both payroll and non-payroll expenditures.
Per the CARES Act, payroll costs are included in, and are, in fact, intended to be a central part of, the forgivable loan amount. Payroll costs include compensation to employees of up to $15,385 per employee during the 8 week loan period (which would annualize to $100k), plus employer contributions towards group health insurance, retirement plans or employerstate and local taxes on employee compensation. For loan forgiveness related to payments to business owners, the application specifies that businesses may only include payments to owner up to $15,385 OR the eight-week equivalent of the owner's average compensation in 2019, whichever is lower. It is unclear whether amounts paid for a business owner's health insurance or retirement plan contributions are included in, or can counted in addition to, those limits.
The application provides that, in calculating payroll costs, in addition to counting payroll costs actually paid during the eight week loan period, businesses may also include payroll costs incurred during the loan period but not paid during the loan period, as long as the costs are paid on or before the next regular payroll date after the end of the loan period. Thus, for example, if the last day of a company's eight week loan period is June 10, but the company's pay period runs from June 1 through June 15, with payday on the 16th, the company would be able to count amounts earned by employees from June 1 through June 10, even though the employees would not actually be paid until June 16 (six days after the end of the loan period). Of course, amounts earned and paid to employees can only be counted once, so the focus would be on amounts paid during the loan period, with amounts earned only being included if they will not be paid until after the end of the loan period. Among the unanswered questions generated by the application's provisions are how certain types of employer retirement plan contributions, beyond the standard matching contribution, would be treated for the purpose of being included or excluded from the forgivable amount. We anticipate additional guidance in the retirement plan area.
Similar to payroll costs, the loan application provides businesses with the opportunity to include covered mortgage, rent and utility payments that are either (1) paid during the eight week period or (2) incurred during the eight week period and paid on the next regular billing date (if such billing date falls outside the eight week loan period). Again, these costs can only be counted once. Regardless of the amount of other costs incurred or paid during the eight week period, covered non-payroll costs may only comprise 25% of the total forgiveness amount.
Reductions to Forgiveness
The CARES Act provided that borrowers are eligible to have up to the principal amount of the PPP loan forgiven BUT that the eligible loan forgiveness amount would be reduced if the borrower made certain reductions the employees' salaries or hourly rates or its total number of full time employees. The application materials provides additional insight and information on how these reductions will be assessed and calculated.
Reduction in Number of Full Time and Full Time Equivalent Employees
Under the terms of the CARES Act, a business' eligible forgiveness amount will be reduced if the average number of full-time equivalent employees employed by the business during the eight week loan period was less than either the average number of full time employees employed by the business either (1) between January 1 and February 29, 2020 or (2) between February 15 and June 30, 2019. The business gets to pick which of the two comparison periods it will use and special rules apply to businesses with seasonal workforces. What the CARES Act didn't do is explain how businesses will calculate how many full-time equivalent employees they have. The application materials shed light on this question.
For the purpose of determining loan forgiveness, a full time employee is an employee who typically works at least 40 hours per week. As to employees who work less than 40 hours per week, the employer may choose to either count all of these employees as .5 full-time employees OR do a full time equivalency calculation for each employee by dividing their regular weekly hours of work by 40. For example, for an employee who typically works 30 hours per week, the business could either elect to count him as a .75 full-time employee (30/40) or, to avoid doing individually specific calculations and count him, and any other employee working less than 40 hours per week, as a .5 full-time employee. The business will need to use the same calculation method for calculating full time equivalencies for the eight week loan period and the comparison period. Businesses that have the capacity to do so, may want to run the calculations using both approaches and both comparison periods to determine which is more favorable for them.
To the extent that the average number of full time and full-time equivalent employees during the 8 week loan period is lower than the selected comparison period, the loan forgiveness amount will be proportionately reduced (for example, if the business has 15 full time and full time equivalent employees during the loan period but had 20 full time and full time employees during the comparison period, i.e. had a 25% reduction in headcount, the loan forgiveness will be reduced by 25%).
However, there are two instances where an employer in this situation may not be subject to a reduction in forgiveness, or the reduction may be reduced -
-First, as set forth in the CARES Act and explained in more detail on the forgiveness application, there is a safe harbor for businesses that restore their prior level of full time and full time equivalent employees by June 30, 2020. For a business to qualify for the safe harbor (1) the reduction in employees must have occurred between February 15 and April 26, 2020 and (2) the business must be back to having the same number of full time and full time equivalent employees as it did during the pay period that included February 15, 2020, by June 30, 2020. For the purposes of considering the employee headcount, the focus is simply on the number of employees that the business has at the relevant periods of time. So a business that reduced its workforce between February 15 and April 26, need only bring on the same number of employees that it previously had and need not rehire the exact same individual employees.