By: Juliya L. Ismailov
In the wake of major legislation, known as the CARES Act (as discussed in this prior article), passed in late March to help alleviate the stress of the Covid-19 pandemic on individuals and businesses, members of Congress in a bipartisan effort are spearheading an effort to clarify tax consequences of some of the incentives provided in the Act.
Specifically, the proceeds of loans provided by the CARES Act through the Payroll Payment Program ("PPP") (as discussed in this prior article) were expressly made exempt from income tax on any portion that is forgiven under the program. However, while the intent of Congress seemed clear, the legislation did not specifically address whether the recipient could deduct business expenses, such as wages, rent, mortgage interest, employees' health care benefits and utilities, paid with the forgiven portion of the loan. Tax practitioners, theorists and members of Congress themselves have argued that exempting the income on the front end, while denying on the back end business deductions that would be otherwise allowable if the income were taxable, provides net-zero sum tax advantage to the taxpayer; some have called it "Alice in Wonderland" tax policy. This side claims that disallowing the deduction will thwart Congress' goals for the CARES Act and specifically the PPP loans of minimizing the tax burden and increasing liquidity for struggling businesses during the health care crisis. Others, like the IRS and the Secretary of the Treasury, Steven Mnuchin, have argued that the deduction disallowance results from a straightforward application of the existing provisions of the Tax Code. Namely, section 265 as applied to the PPP loans embodies the fairness principle that expenses paid with a tax-free cash handout, rather than earned taxable income, should not receive a "double" tax benefit on both the income and expense ends of the equation. Consistent with this latter perspective, on April 30, the IRS resolved the issue against the employer-taxpayer with Notice 2020-32, disallowing the deduction (as discussed in this prior article). With the IRS having issued guidance and the ball having passed back into congressional court, today senior members of Congress, namely Senate Finance Committee Chairman Chuck Grassley, R-Iowa, and ranking member Sen. Ron Wyden, D-Ore., have introduced legislation (co-sponsored by Sens. John Cornyn, R-Texas, Marco Rubio, R-Fla., and Tom Carper, D-Del.) called The Small Business Expense Protection Act, or S. 3612, to allow this much-discussed deduction. Likewise, House Ways and Means Committee Chairman Richard Neal, D-Mass., has voiced support for such legislation, and Rep. Lizzie Fletcher, D-Texas, announced on Tuesday that she would introduce similar legislation in the House of Representatives. Indications are that this legislation will pass in Congress and that President Trump will sign it.