On May 15, 2020, SBA published a copy of the loan forgiveness application form and accompanying instructions that PPP borrowers will submit to their lenders when the borrowers seek loan forgiveness. We summarized the key facets of the forgiveness application here. A week later, on May 22, 2020, SBA issued its highly-anticipated interim final rule on loan forgiveness, which will be published in the Federal Register.
The interim final rule tracks the mechanics of the loan forgiveness calculation disclosed in the forgiveness application, including:
The “Covered Period” for Loan Forgiveness
- The Covered Period over which applicants may seek loan forgiveness is either: (1) the eight-week (or 56-day) period beginning on the day that the loan is disbursed or, at the borrower’s election, (2) the eight-week period beginning on the first day of the borrower’s payroll cycle following loan disbursement.
Expenses Eligible for Forgiveness
- The forgiveness regulations reiterate that at least 75 percent of the loan proceeds must have been expended for allowable payroll costs and, consistent with other SBA regulations implementing the CARES Act, define “payroll costs” as follows:
[C]ompensation to employees (whose principal place of residence is the United States) in the form of salary, wages, commissions, or similar compensation; cash tips or the equivalent (based on employer records of past tips or, in the absence of such records, a reasonable, good-faith employer estimate of such tips); payment for vacation, parental, family, medical, or sick leave; allowance for separation or dismissal; payment for the provision of employee benefits consisting of group health care coverage, including insurance premiums, and retirement; payment of state and local taxes assessed on compensation of employees; and for an independent contractor or sole proprietor, wages, commissions, income, or net earnings from self-employment, or similar compensation.
The Act and prior regulations also exclude from the definition of “payroll costs” the following:
i. Any compensation of an employee whose principal place of residence is outside of the United States;
ii. The compensation of an individual employee in excess of an annual salary of $100,000, prorated as necessary;
iii. Federal employment taxes imposed or withheld between February 15, 2020 and June 30, 2020, including the employee’s and employer’s share of FICA (Federal Insurance Contributions Act) and Railroad Retirement Act taxes, and income taxes required to be withheld from employees; and
iv. Qualified sick and family leave wages for which a credit is allowed under sections 7001 and 7003 of the Families First Coronavirus Response Act (Pub. L. 116–127).
- The forgiveness regulations reminds applicants of the eligible non-payroll expenses that may comprise up to 25 percent of their total loan expenses, specifically:
- covered mortgage obligations: payments of interest (not including any prepayment or payment of principal) on any business mortgage obligation on real or personal property incurred before February 15, 2020;
- covered rent obligations: business rent or lease payments pursuant to lease agreements for real or personal property in force before February 15, 2020; and
- covered utility payments: business payments for a service for the distribution of electricity, gas, water, transportation, telephone, or internet access for which service began before February 15, 2020.
Importantly, the eligible non-payroll expenses must be paid during the Covered Period, or incurred during the Covered Period and paid on or before the next regular billing date for these expenses. Borrowers are prohibited from seeking loan forgiveness for advance payments—i.e., “prepayments”—of interest on mortgage obligations.
Reductions in the Amount of Forgiveness
- Perhaps the most complex aspect of the forgiveness calculation relates to the amount by which an applicant’s forgiveness must be reduced, based on the applicant’s reduction in its number of full-time equivalents (FTEs)—based on a work week equal but, but capped at, 40 hours—or employee salary reductions of greater than 25 percent, including the potential applicability of the CARES Act safe harbor provisions to avoid such reductions.
- FTE-Based Forgiveness Reduction. Generally, to determine any FTE-related forgiveness reductions, applicants will calculate a ratio where the numerator is an applicant’s average number of FTEs during the Covered Period (or the alternative period described above) and the denominator is the applicant’s average number of FTEs over, at the applicant’s election, the period from February 15 to June 30, 2019, or January 1 to February 29, 2020 (or May 1, 2019 to September 15, 2019 for seasonal employers). The ratio reflects the percentage by which an applicant’s loan forgiveness will be reduced unless the safe harbor provision described below applies.
- However, this FTE-based reduction will not apply where an applicant laid-off or reduced an employee’s hours, but then the applicant made an offer to rehire the employee for the same salary and number of hours, or to restore a reduction in hours, and the employee declined the offer. If the following criteria are met, the applicant essentially will be permitted to credit FTEs in these categories as part of the calculation of its average number of FTEs (unless the applicant fills the positions in question, in which case it will not be entitled to any additional FTE credit):
- The applicant made a good faith, written offer to rehire the employee (or otherwise restore a reduction in hours of such employee) during the Covered Period.
- The offer was for the same salary or wages and same number of hours as the employee earned in the last pay period prior to the reduction.
- The offer was rejected by the employee.
- The borrower has maintained records of the offer and rejection.
- The borrower informed the applicable state unemployment insurance office of the rejection within 30 days of the rejection.
- The FTE-based reduction also will not apply to any employee who is fired for cause, voluntarily resigns or voluntarily requests a reduced schedule during the Covered Period. In all cases, the applicant must maintain adequate documentation.
- Salary-Based Forgiveness Reduction. An applicant’s forgiveness also may be reduced on a dollar-for-dollar basis with respect to any employee whose annualized average salary of $100,000 or less has decreased by more than 25 percent as compared to the period from January 1 to March 31, 2020. The regulations specify, however, that the salary-based reduction “applies only to the portion of the decline in employee salary and wages that is not attributable to the FTE reduction,” so that “borrowers are not doubly penalized.”
- Safe Harbor. An applicant that has reduced its FTE count or salaries may be subject to a safe harbor, and therefore exempt from a loan forgiveness reduction, if two conditions are met: (1) the applicant reduced its FTE levels or any individual employee’s salary in the period beginning February 15, 2020, and ending April 26, 2020; and (2) the applicant then restored its FTE levels or any individual employee’s salary by not later than June 30, 2020, to its pre-February 15, 2020 level.
Documentation and Review Process
- The forgiveness regulations incorporate the significant documentation requirements of the forgiveness application, which include bank statements, tax forms, payment receipts, cancelled checks or account statements, and documents reflecting FTE levels. PPP borrowers must retain this documentation, as well as all other documents demonstrating compliance with the PPP requirements, for six years after the date the loan is forgiven or repaid in full, and borrowers must provide access to these records upon the request of SBA or the Office of Inspector General.
- The loan forgiveness process can take up to 150 days (60 days for the lender’s review and 90 days for SBA’s review) to complete. SBA will disqualify an applicant from forgiveness if the SBA determines that “the borrower was ineligible for the PPP loan based on the provisions of the CARES Act, SBA rules or guidance available at the time of the borrower’s loan application, or the terms of the borrower’s PPP loan application (for example, because the borrower lacked an adequate basis for the certifications that it made in its PPP loan application).”
Application Certifications
- Although not set forth in the forgiveness regulations, the forgiveness application requires a number of certifications and representations, to be signed under threat of criminal and civil penalties. One notable representation asks borrowers to specify whether the combined value of PPP loans received by it and its affiliates exceeds $2 million. This representation gives effect to SBA guidance issued May 13, 2020, which announced SBA’s intent to conduct PPP compliance reviews of loans greater than $2 million per affiliate group.
The foregoing provisions reflect the highlights from the current forgiveness regulations. But the regulations, and the PPP program itself, could change in the coming days. On May 15, 2020, the House of Representatives passed the Health and Economic Recovery Omnibus Emergency Solutions Act (HEROES Act) which, if ultimately passed by the Senate and enacted, could introduce some important changes into the PPP that would necessitate changes to SBA’s forgiveness formula. For example, the HEROES Act would eliminate the 75/25 ratio described above related to the use of loan proceeds.
While negotiations over the HEROES Act continue in Congress, the House and Senate also have introduced companion versions of the Paycheck Protection Flexibility Act—a much shorter bill that features targeted changes to the PPP, including eliminating the 75/25 ratio and extending the Covered Period to December 31, 2020. If these statutory provisions are enacted, they will necessitate important changes to many of the extant PPP regulations.
Pillsbury attorneys can help clients interpret and assess the PPP requirements as clients assess and strategize regarding the availability of SBA loans and other stimulus funds. We are proactively monitoring any forthcoming regulations and guidance.
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