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Nearly half the states are taxing PPP loans that have been forgiven


The U.S. Small Business Administration’s Paycheck Protection Program (PPP) is providing an important lifeline to help keep millions of small businesses open and their workers employed during the COVID-19 pandemic.

Many borrowers will have these loans forgiven; eligibility for forgiveness requires using the loan for qualifying purposes (like payroll costs, mortgage interest payments, rent, and utilities) within a specified amount of time.

Ordinarily, a forgiven loan qualifies as income. However, Congress chose to exempt forgiven PPP loans from federal income taxation. Many states, however, remain on track to tax them by either treating forgiven loans as taxable income, denying the deduction for expenses paid for using forgiven loans, or both.

The map and table below show states’ tax treatment of forgiven PPP loans.

Why do states have such different practices when it comes to the taxation of PPP loans? It all has to do with how states conform to the federal tax code.

All states use the Internal Revenue Code (IRC) as the starting point for their own tax code, but every state has the authority to make its own adjustments. States that use rolling conformity automatically adopt federal tax changes as they occur, which is the simplest approach and provides the most certainty to taxpayers. States that use static conformity link to the federal tax code as it stood on a certain date and must proactively adopt legislation to accept more recent changes.

It is common for states to conform to certain parts of the federal tax code but decouple from others. States that use rolling conformity sometimes adopt legislation to decouple from certain federal changes after they occur.

Most states that use static conformity update their conformity dates routinely, but sometimes indecision about whether to accept new federal tax changes results in states remaining conformed to an outdated version of the IRC for many years. When static conformity states do update their conformity dates, they sometimes decouple from specific changes on an ad hoc basis.

Even beyond the question of conformity dates, there has been a great deal of uncertainty surrounding the state tax treatment of forgiven PPP loans due to the way the federal government provided for the nontaxability of forgiven PPP loans.

When the CARES Act was enacted on March 27, 2020, Congress’ intent was that forgiven PPP loans be tax-free at the federal level, which is a departure from usual practice. Normally, when federal debt is forgiven for various reasons, the amount forgiven is considered taxable income by the federal government and by states that follow that treatment. In normal circumstances, this is a reasonable practice.

However, Congress specifically designed PPP loans as a tax-free emergency lifeline for small businesses struggling to stay open amid the pandemic, so the CARES Act excluded PPP loans from taxable income (although not by amending the IRC directly). Congress also seems to have intended that expenses paid for using PPP loans be deductible—the Joint Committee on Taxation scored the original provision as such—but did not include language to do so directly in statute.

In the months following the CARES Act’s enactment, the Treasury Department ruled…



Read More: Nearly half the states are taxing PPP loans that have been forgiven

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