IRS Taxing Fraudulent PPP Loan Forgiveness

On September 16, 2022, The Office of Chief Counsel of the IRS issued a memorandum regarding fraudulently forgiven PPP Loans. It seems that fraudulent PPP loan issues will never die. The short story: If you received PPP loan forgiveness under false pretenses,  you must claim that amount as taxable income. 

PPP Loan History

When the Coronavirus (Covid-19) pandemic struck in the United States, everyone was sent to a collective timeout. Businesses had to shut down. Citizens were warned to stay away from populated places. Covid-19 devastated many businesses. The government responded with the Paycheck Protection Program (PPP) Loans to assist small businesses with paying payroll and other eligible expenses. These loans were processed by lenders and guaranteed by the Small Business Administration (SBA).

There were two rounds of PPP Loans. The first was issued under the Coronavirus Aid, Relief, and Economic Security Act (CARES Act). The second was issued under the Economic Aid Act, which amended previous PPP Loan provisions. For both rounds, lenders made these loans to “eligible recipients under specified terms, conditions and processes of the program”.  The lenders could forgive the loans based on certain criteria and be reimbursed from the SBA.

Who was eligible to receive a PPP Loan?

According to the internet, EVERYBODY was eligible to receive a PPP Loan. [Insert the biggest eyeroll possible].
The actual requirements to be eligible to receive a PPP Loan were:

  1. Be a small business (as determined by the SBA), independent contractor, eligible self-employed individual, sole proprietor, business concern, or a certain type of tax-exempt organization. 
  2. In business on February 15, 2020
  3. Either had employees or was an eligible self-employed individual, sole proprietor or independent contractor.

What were eligible PPP Loan expenses?

Paycheck Protection Program loans were issued to cover specific, eligible expenses. These expenses include payroll costs, rent, interest on the business’s mortgage, utilities, and other operational expenses; SUBJECT TO REPAYMENT and additional liability if the funds were misused. You were not eligible to take PPP loan funds and start a business. 

PPP Loan forgiveness qualifications

Loan forgiveness was truly the selling point of PPP Loans. To receive PPP Loan forgiveness one had to meet the following:

  1. At least 60% of the loan must be used for payroll
  2. Up to 40% of the PPP loan could be used for other operational expenses. 

If a recipient used 100% of their PPP Loan to cover payroll costs, then the loan qualified for loan forgiveness. Forgiven PPP loan funds were excluded from taxable income. This was truly free money from the government!

Fraudulent PPP Loan Forgiveness

If you receive PPP loan forgiveness based on false statements, your loan does not actually qualify for forgiveness and must be included in taxable income. For example, let’s assume you were an eligible recipient and received a $20,000 PPP loan. Your documentation said that you used 100% of the PPP loan proceeds to pay payroll expenses (eligible expense), and the loan was forgiven. In reality, you actually used the funds to buy a car (ineligible expense). You must include the $20,000 as taxable income. 

Fraudulent PPP Loan Recipients

If you received a PPP Loan, and you were not an eligible recipient, your loan does not qualify for forgiveness. If you submitted your loan and received forgiveness, you must include the forgiven amount as taxable income. 

Let’s assume you received a $50,000 PPP loan based on false representation that you had a business with employees and received the loan disbursement. Later on, you submitted false documentation representing that you spent the loan funds on payroll for non-existent employees. You must claim the $50,000 on your tax return as taxable income. 

Forgiven PPP Loans – Income or Nah?

Internal Revenue Code Section 61(a) states that “gross income means ALL income from whatever source [legal or illegal] derived.” This applies to all payments that are “undeniable accessions to wealth, clearly realized, over which the taxpayers have complete dominion” constitute taxable income – Commissioner v. Glenshaw Glass Co. (1955). Internal Revenue Code section 636m(i) of the Covid Tenant Relief Act provides the exclusion of forgiven PPP Loan funds from gross income.

Once PPP Loans are forgiven, the funds provide for an “undeniable ascension to wealth”, especially when you flex for the ‘gram and post your ill-gotten gains. However, if your loan was forgiven based on lies – spent on ineligible expenses or you were an ineligible recipient – your loan was not forgiven based on the specific terms of the program and you must claim it as income.

Forgiven loan funds are not taxable income unless the forgiveness was based on fraud.  Let’s assume that you obtained a PPP Loan fraudulently, and received forgiveness, but don’t claim it on the return. Should you get caught in your illegal dealings, you should look for a charge of tax evasion to be added to the fraud charges you’ll get.