Paycheck Protection Program Accounting 101|
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The passing of the CARES Act created the Paycheck Protection Program (PPP), which has been subsequently modified by the Paycheck Protection Flexibility Act. The PPP is a loan designed to encourage small businesses to retain and re-hire their workforce by providing cashflow assistance which may be fully forgiven if certain criteria are met. Though there are several restrictions and qualifications associated with receiving the loan and obtaining loan forgiveness, utilizing PPP funds extends a lifeline to businesses that might have otherwise folded due to the economic impact of COVID-19.
If your business obtained a PPP loan, you may be wondering how to account for the loan and what the potential financial statement impacts may be. Although no guidance has been provided from accounting standard setters, the PPP forgiveness rules and associated regulations from the Small Business Association (SBA) outline some key points to guide borrowers through the forgiveness process and accounting for the loans.
Step One: Accounting for any loan origination costs -While the CARES Act prohibits banks from charging any PPP loan origination fees, many businesses retained legal counsel or hired a financial advisor, like Aprio, to assist in evaluating the complex qualifications. These costs should be capitalized and recorded as a reduction of the total loan balance.
Step Two: Interest accrual – While the PPP Flexibility Act ensures that no loan payments will be required for ten months after the end of the covered period unless partial or no forgiveness has been granted by the SBA, interest still accrues at the statutory rate of 1% during that time. Interest should be recorded when incurred, and any loan costs amortized and included in interest expense over the loan term, which is two or five years.
If the entity adheres to the PPP stipulations, the initial loan and accrued interest may never need to be repaid.
Loan forgiveness is where accounting for PPP funds becomes less clear. There is no current guidance on accounting for forgivable loans obtained from or guaranteed by the government. However, the AICPA issued a Q&A in June 2020 drawing a correlation of accounting for a PPP loan to that of a traditional loan or government grant.
There are two options to consider:
Option 1: Debt
The loan proceeds would be recognized as debt. If the proceeds, or a portion thereof, are subsequently forgiven by the SBA, the entity would recognize income at that point in time. The entity would eliminate the outstanding loan proceeds and record other income for amounts that are forgiven. Any unamortized loan costs would be netted with other income associated with the write-off.
Option 2: In-substance grant
If the entity has intent to fully meet the conditions for forgiveness of the loan, theoretically that entity should account for the loan as a government grant, similar to not-for-profit accounting standards and international accounting standards. Under grant guidance, an entity will record deferred income liability on the balance sheet for proceeds received, will further evaluate the conditions set forth in the agreement and recognize the income when the conditions have been substantially met. This should happen (1) when the entity spends the funds on eligible costs or (2) when forgiveness is granted by the SBA.
There are additional considerations for entities who believe they have substantially met the conditions upon spending the funds on eligible costs. Entities should keep in mind that the final determination of whether a loan will be forgiven may not occur during the reporting period that the loan proceeds were expended. In order to recognize the income upon expenditure of funds, the entity would need to retain supporting documentation that it is reasonable the conditions for forgiveness have been met.
In selecting which option is appropriate for your business, you should consult with your accounting advisors and auditors.
A final consideration when accounting for PPP loans – the tax treatment of the loans. At this point, we are still waiting on IRS guidance for tax implications of PPP loan forgiveness, especially as it relates to C-corporations and recording of deferred taxes. We are continuously monitoring new guidance and will provide updates as available.
Regardless of your chosen method, it is important to document your entity’s policy and the accounting treatments. Aprio’s advisors are here to help you plan for what’s next. If you have any questions, contact your Aprio advisor.
Disclaimer for services provided relative to SBA programs and the CARES Act
Aprio’s goal is to provide the most up to date information, along with our insights and current understanding of these programs and regulations to help you navigate your business response to COVID-19.
The rules regarding SBA programs are constantly being refined and clarified by the SBA and other agencies In certain instances, the guidance being provided by the agencies and/or the financial institutions is in direct conflict with other competing guidance, regulations and/or existing laws.
Due to the evolving nature of the situation and the lack of final published rules, Aprio cannot guarantee that additional changes or updates won’t be needed or forthcoming and the original advice given by Aprio may be affected by the evolving nature of the situation.
You need to evaluate and draw your own conclusions and determine your Company’s best approach relative to participation within these programs based on your Company’s specific circumstances, cash flow forecast and business strategy.
In situations where resources are provided by third parties, those services should be covered under a separate agreement directly with that service provider. Aprio is not responsible for the actions of any other third party.
Aprio encourages you to contact your legal counsel to address the legal implications of the impact of the CARES Act and specifically your participation in any of the SBA programs.