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Accounting for Paycheck Protection Program Loans

by Lora Ament
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As businesses begin to receive their loan proceeds under the Paycheck Protection Program (PPP), many questions are starting to arise concerning how to properly account for transactions concerning these funds.  In order to receive loan forgiveness, the funds must be used for eligible expenses and the businesses must keep detailed records.
 
Timeframe for Expenses
 
To be eligible for forgiveness, the funds from the Paycheck Protection Program need to be spent during the Covered Period, which is the 8-week period following loan disbursement.  It is important to remember that the Covered Period is 8 weeks, not 2 months.  If you have payroll on a monthly or semi-monthly basis, you may need to pay your last payroll early to get it in the 8-week Covered Period.
 
Payroll vs. Other Costs
 
At least 75% of the loans must be spent on Payroll Costs which is a specifically defined term including:
  • Salary, wage, or commission ($100K maximum per employee-based on gross earnings)
  • Employee benefits such as vacation, sick leave, health care and retirement benefits
  • State and local payroll-related taxes
  • Allowance for dismissal or separation
  • Payment of cash tip or equivalent
Other covered expenses include mortgage interest payments, rent payments and utilities but these may not exceed more than 25% of the forgiven amount. If PPP loan proceeds are used for any of these other costs, it is important to realize that February 15, 2020 is the cut-off date for initially incurring these expenses.  Therefore, mortgage loans, lease agreements and utility service must have been under agreements that commenced prior to February 15, 2020.

The amount of loan forgiveness will be decreased if the company reduces the amount of its employees during the covered period or reduces the salary by more than 25% of any employee making less than $100K per year (which is benchmarked against the choice of two periods indicated below).

The business will need to account for the average number of full-time employees per month during:
  1. The eight-week period beginning with the receipt of loan proceeds (numerator);
  2. The period covering 2/15/19 to 6/30/19 (denominator benchmark 1);
  3. The period covering 1/1/20 to 2/29/20 (denominator benchmark 2).
The program also permits businesses to avoid any reduction in the potential forgiveness in connection with reductions to headcount or salary level by (a) rehiring by June 30, 2020 any staff that were terminated between February 15 and April 26 and (b) restoring their pay to required levels by June 30.  However, even though this may impact the amount of loan forgiveness the business may claim, it is important to realize that this cure does not impact the requirement that the funds be properly spent in the 8-week period following the loan funding.
 
Accounting Entries Related to the PPP Loan
 
This following section addresses the various accounting entries required to record receipt of the PPP loan proceeds, recording expenses that the loan is being used for, recording accrued interest expenses and writing off the forgivable portion of the PPP loan.
 
1. Recording Receipt of Loan Proceeds

When the loan proceeds are received, the business’ funds and liabilities increase.  The loan proceeds should not be accounted for as any type of “income”.    Until the lending bank tells the business that part or all the loan is forgiven, it is a liability.  It is recommended to record the receipt of the proceeds as follows:
DR           Bank Account
     CR                PPP Loan Payable

2. Recording Expenses Utilizing the PPP Loan Proceeds

When the loan proceeds are spent during the 8-week period to cover payroll and other costs, how the entries should be recorded will depend on whether a separate bank account has been created for the PPP loan or the PPP loan proceeds have been deposited directly into the business’s regular bank account. 
 
a. If Loan is Recorded in a Separate Banking Account 
 
If the loan is in a separate account, the regular bank account is used to pay for the expenses.  Then the appropriate PPP loan funds should be transferred from the PPP account to the regular bank account to cover them.  

For example, assume a business has $10,000 in payroll expenses over a biweekly payroll period.   The first journal entry should debit the payroll related expenses accounts and will credit the regular business checking account.
 
DR     Payroll Expense                                                     7,000
DR     Payroll Tax Expense (state and local)                    300
DR     Payroll Tax Expense (federal)                                700
DR     Health Insurance Expense                                     1,000
DR     401(k) Expense                                                      1,000
     CR     Checking (Regular Bank Account)                                               10,000
 
In order to replenish the funds in the regular bank account, the following entry would record the transfer from the PPP Account to the regular account.
 
DR      Checking (Regular Bank Account)                      9,300
     CR    PPP Loan Bank Account                                                                   9,300
 
The difference between the total payroll-related expense recorded in the first entry and the amount to be replenished recorded in the second entry is $700 which is equal to the amount of the federal payroll taxes.  Since federal employment taxes are expressly excluded as eligible payroll costs, PPP loan proceeds cannot be used for them.
 
b. If PPP Loan Proceeds are Included in Business’s Normal Bank Account

If a new account was not opened to account for the PPP loan funds, the entries will need to be accounted for differently.  Because the PPP loan funds are commingled with other funds in one bank account, the business will need to be careful to account for how much loan proceeds have been used to date.

For example, assume a business has $10,000 in payroll expenses over a biweekly payroll period.   The first journal entry should debit the payroll related expenses accounts and will credit the regular business checking account.
 
DR     Payroll Expense                                                        7,000
DR     Payroll Tax Expense    (state and local)                    300
DR     Payroll Tax Expense (federal)                                   700
DR     Health Insurance Expense                                        1,000
DR     401(k) Expense                                                         1,000
     CR     Checking (Regular Bank Account)                                             10,000
 
Next a reclassification entry should be done for easy reporting once the eight-week loan period is over.  Doing so will reclassify all the eligible expenses into one amount.  The following is an example of such reclassification entry:
 
DR     Payroll Expense (COVID-19-PPP Loan)                 9,300
       CR  Payroll Expense                                                                                   7,000
       CR  Payroll Taxes Expense                                                                           300
       CR  Health Insurance Expense                                                                 1,000
       CR  401(k) Expense                                                                                    1,000

The difference between the total payroll-related expense recorded in the first entry and the amount to be reclassed which is recorded in the second entry is $700 which is equal to the amount of the federal payroll taxes.  Since federal employment taxes are expressly excluded as eligible payroll costs, PPP loan proceeds cannot be used for them.
 
3. Recording Accrued Interest Expenses
 
For the PPP loan, interest begins to accrue for the date a business receives the funds at a rate of 1%.  Loan payments are deferred for six months with interest accruing during the six-month period.  If the business retains its employees and maintains salary levels, the Small Business Administration (SBA) will forgive part of all the loan including the accrued interest.  However, keep in mind that terms can vary depending upon the bank.

To calculate the accrued interest for the PPP loan, the following formula can be used:
 
PPP Accrued Interest = Loan Amount x 1% x (number of days from the date of the loan to the end of the month/365)

Assume a business received a $500,000 loan and received the loan proceeds on April 22, 2020.  For the month of April, the accrued interest would equal $109.59.
 
DR     Interest Expense (PPP loan accrued interest)        109.59
     CR       Accrued Interest Payable                                                            109.59
 
For the month of May, an entire month of interest should be recorded:
 
DR   Interest Expense (PPP loan accrued interest)          424.66
     CR     Accrued Interest Payable                                                             424.66
 
4. Writing off the Forgivable Portion of the PPP Loan

Depending on how much of the loan is forgiven, a business should record the forgivable portion of the PPP loan on its books.  The PPP Loan Payable Account should be debited, and a Debt Forgiveness account should be credited.  The Debt Forgiveness account should be set up as an other income account but it should not be recorded in the same account as other miscellaneous income.  Because the debt forgiveness is not considered taxable income to be included on the federal income tax return of the business, commingling it with other business income could cause it to be overlooked and erroneously included in taxable income.
 
a. Writing off a Partially Forgivable Loan

Assume a business has a $500,000 PPP loan and only $250,000 of the loan was forgiven.  The following entry should be recorded:
DR     PPP Loan Payable                                                  250,000
     CR     Debt Forgiveness                                                                         250,000
 
Since the PPP Loan Payable account would still have a balance of $250,000, each time a loan payment is made, entries would need to be recorded to reduce the remaining balance over the repayment period.

b. Writing off a Completely Forgivable Loan

Assume a business has a $500,000 PPP loan which was completely forgivable and that $650 in accrued interest was previously recorded on this loan.  The following entry should be recorded to write off the loan and any accrued interest:
 
DR     PPP Loan Payable                                                500,000
DR     Accrued Interest Payable                                          650
     CR             Debt Forgiveness                                                                      500,650
 
As previously mentioned, proper accounting and segregation of the PPP funds is extremely important to every business receiving PPP loan proceeds. This is critical in case the business’ usage of the loan proceeds is audited by the Small Business Administration (SBA).  In addition, any loan forgiveness should be properly recorded because this is not required to be considered taxable income to the business.  If you have any questions related to your specific business, please contact your Louis Plung & Company representative for additional guidance.

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