Mar 31, 2020

The Paycheck Protection Program Under the CARES Act

photo of paycheck

The Coronavirus Aid, Relief, and Economic Security Act (the “CARES Act”), the sweeping coronavirus relief package signed into law by President Trump on March 27, 2020, includes among its provisions a “Paycheck Protection Program” – an important vehicle for certain employers with fewer than 500 employees to continue to pay employees and meet certain other expenses through a forgivable loan.

The Paycheck Protection Program creates a new category of loans guaranteed by the Small Business Administration (the “SBA”).  The new loans are unsecured (no collateral required), do not require any personal guarantees and are available to businesses that previously would have been ineligible for SBA loans.  Importantly, the loans may be forgiven entirely or partially if the proceeds of these loans are used to continue payroll or pay certain other ongoing business expenses.

Loan Eligibility

Eligible Business.  Traditional SBA loans are limited to “small business concerns.”  The Paycheck Protection Program expands this to include all business concerns, nonprofit organizations, veterans organizations and Tribal business concerns.  A “business concern” is a business entity organized for profit, with a place of business located in the United States, and which operates primarily within the United States, and it can be organized as an individual proprietorship, partnership, limited liability company, corporation, joint venture, association, trust or cooperative.

Size of Workforce.  To be eligible for SBA loans under the Paycheck Protection Program, the entity must have no more than 500 employees (a higher threshold applies for certain business, principally those in manufacturing).  For these purposes, full-time employees, part-time employees and employees working for the business through a temporary agency are taken into account.  The CARES Act does not describe when the number of employees should be identified for these purposes, but the SBA loan regulations look at the average number of employees in each pay period over the immediately preceding 12 months.  There are exceptions for hospitality and restaurant businesses.  If a business in these designated industries has fewer than 500 employees, the affiliation rules (see below) are waived and, in addition, if such a business has multiple locations, the 500 employee limit applies to each location rather than the business as a whole.

Affiliation.  The no-more-than-500-employee test takes into account the business seeking the loan and all other affiliated concerns or entities, including both for profit and nonprofit entities and both domestic and foreign entities.  The general SBA loan rules have fairly detailed and complex rules to determine if separate business entities should be combined as affiliates for purposes of applying eligibility criteria.  Entities are affiliated if one controls or has the power to control the other.  There is no specific numerical test for control.  In addition, an entity that owns, or controls, 50% of more of another entity’s voting stock is an affiliate of the second entity.  Affiliation also exists where one or more officers, directors, managing members, or partners control the board or management of two or more separate businesses.

Maximum Loan Amount

The maximum loan amount available under the Paycheck Protection Program is generally the lesser of (i) $10 million, or (ii) 2½ times the average monthly payroll costs incurred during the one-year period before the date the loan is made.

“Payroll costs” are (i) salary, wages, commissions, or similar compensation; (ii) cash tips or equivalent; (iii) payments for vacation, parental, family, medical, or sick leave; (iv) severance pay; (v) payments required for the provisions of group health care benefits, including insurance premiums; (vi) payment of any retirement benefit; and (vii) payment of state or local tax assessed on the compensation of employees.  Payroll costs do not include (i) amounts for an individual employee in excess of an annual salary of $100,000, (ii) compensation paid to employees whose principal place of residence is outside the US, and (iii) certain payments for which tax credits are allowed under the Families First Coronavirus Response Act.

Allowable Uses of Loan Proceeds

From February 15, 2020, to June 30, 2020, the proceeds of a Paycheck Protection Program loan may be used to pay (i) payroll costs; (ii) costs related to the continuation of group health care benefits during periods of paid sick, medical, or family leave, and insurance premiums; (iii) employee salaries, commissions, or similar compensations; (iv) payments of interest (but not principal) on any mortgage obligation; (v) rent; (vi) utilities; and (vii) interest on any other debt obligations that were incurred before February 15, 2020.

Required Certification

Each applicant for a Paycheck Protection Program loan must certify in good faith (i) that the uncertainty of current economic conditions makes necessary the loan request to support the ongoing operations of the applicant; (ii) acknowledging that funds will be used to retain workers and maintain payroll or make mortgage payments, lease payments, and utility payments; (iii) that the applicant does not have an application pending for an SBA loan for the same purpose; and (iv) during the period beginning on February 15, 2020 and ending on December 31, 2020, that the applicant has not received an SBA loan for the same purpose.

Importantly, the requirement applicable to traditional SBA loans that the borrower is unable to obtain credit elsewhere does not apply to loans under the Paycheck Protection Program.

Loan Forgiveness

A Paycheck Protection Program loan is eligible for forgiveness in an amount equal to the sum of the following costs incurred and payments made during the 8-week period beginning on the date of origination of the loan: (i) payroll costs (as defined above); (ii) any payment of interest (but not principal) on any mortgage obligation that was incurred before February 15, 2020; (iii) any payment on any rent obligation under a leasing agreement in effect before February 15, 2020; and (iv) payment for electricity, gas, water, transportation, telephone or internet service, which began before February 15, 2020.

The loan forgiveness amount is prorated down if the average monthly number of full-time equivalent employees during the 8-week period beginning on the date of origination of the loan is less than the average monthly number of full-time equivalent employees during either (i) the period from February 15, 2019, through June 30, 2019, or (ii) the period from January 1, 2020, through February 29, 2020, as elected by the borrower.

The loan forgiveness amount is reduced by the amount of any reduction in total salary or wages of an employee during the 8-week period beginning on the date of origination of the loan that is in excess of 25% of the total salary or wages of the employee during the most recent full quarter during which the employee was employed before the date of origination of the loan.  For these purposes any employee whose annualized wages and salary for any pay period during 2019 exceeded $100,000 is not taken into account.  To some extent, these reductions can be mitigated by rehiring employees and/or eliminating wage and salary reductions before June 30, 2019.

Any Paycheck Protection Program loan that is forgiven as described above will not result in taxable forgiveness of indebtedness income to the borrower.

Coordination with Other Coronavirus Relief

Taking a loan under the Payroll Protection Program and/or having all or part of such a loan forgiven makes an employer ineligible for certain other relief under the CARES Act.  For example, the payroll tax relief that is otherwise available under the CARES Act is not available to an employer that takes advantage of the Payroll Protection Program.

This client alert summarizes some of the most important aspects of the Paycheck Protection Program.  Please contact your Corporate or Employee Benefits Counsel at Smith, Gambrell & Russell, LLP for more detailed information.


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