Posts, COVID-19|March 17, 2021
PPP Forgiveness – To Recognize or Not to Recognize
By Oliver Craig
Surety Risk Advisor
The topic of Paycheck Protection Program (“PPP”) loans is a hot topic yet again, as many businesses are entertaining the thought of applying for Second Draw loans, while also working through the forgiveness process for First Draw loans received in 2020. In most cases, companies are working with their CPAs to determine the treatment of these “loans” (read on…) for year-end financial statements. This can have a major impact for the financial statement users, especially your Sureties given some of the movement between short-term and long-term balance sheet accounts.
The PPP program has been ever-changing. The SBA continues to work towards clarifying common questions about the accounting treatment and tax impacts of the funds. Two major points of clarification came when the SBA noted that the forgiven loan would not be considered taxable income, AND the business is able to deduct the expenses paid by the loan for federal tax purposes. The major question that still remains – “When do I recognize the income?”.
Most banks began accepting applications for forgiveness in the 4th quarter of 2020, which means many companies had applied for forgiveness, but did not receive a decision (or payment) prior to the end of the year. This can create a difficult situation for those businesses, especially the ones that experienced a significant drop in revenue and an associated operating loss.
There are two schools of thought on recognizing the income (i.e. eliminating the loan from your balance sheet) resulting from forgiveness. The first includes treating the PPP loan as a true debt liability, which means you (the business owner) must no longer be directly obligated to repay the debt. By extension, this means the SBA actually paid off your loan with your lender, or released you from the obligation for another (uncommon) reason, prior to the date of your financial statement.
The second thought is actually treating the loan as a government grant, which means the income is recognized when there is reasonable assurance that conditions attached to the assistance will be met, AND that the assistance will be received. So, if you applied for the loan expecting to retain workers and meet the spending thresholds, it’s possible you could actually recognize the loan as a governmental grant.
Why is this important? Working capital and net worth. These are two primary factors in determining creditworthiness for both Sureties and Banks. A notable decrease in either could adversely affect a surety program or the ability to obtain other credit.
For instance, if you received a loan in April 2020 and did not pursue an extension to the five-year term when the SBA updated the program in mid-2020 (a common occurrence since most expected to apply for forgiveness), you may have to include as much as 80% of your PPP loan as a current liability in 2020 financial statements. This will skew your working capital when compared to prior years, limiting your company’s ability to grow.
For those interested in the technical side of things, the debt approach falls under FASB’s ASC 470, while the treatment as a grant falls under IAS 20. We highly encourage you to discuss this situation as early as possible with your surety, bank and financial advisors to ensure your company, and your financial statements, are well-positioned for a successful 2021. If you have additional questions or need additional resources, please visit the Insight section of our website.
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