The Paycheck Protection Program (PPP) has been a godsend for many pond business owners. Both the original draw in April 2020 and the recently announced second draw in January 2021 were aimed at helping small businesses keep workers on the payroll and pay other bills during the pandemic. There was some initial confusion about turning PPP loans into forgivable grants, and new guidance had to be disseminated. Unfortunately, the Department of the Treasury and the Small Business Administration (SBA) continue to unearth PPP loan recipients who sought loan forgiveness erroneously.
Targeted audits aside, the IRS is reaping larger amounts of money from fewer targeted businesses, thanks to better profiling and more savvy use of the government’s limited resources.
What is the PPP?
The PPP is a critical component of the Coronavirus Aid, Relief and Economic Security (CARES) Act of 2020. Under both the first and second rounds of the PPP, loans would be forgiven if the recipient met certain criteria. Applicants have between eight and 24 weeks to use the funds, with 60% going toward payroll and the rest toward eligible expenses, such as rent and utilities.
PPP loans allow any forgiven amount to be ignored for federal tax purposes. And today, thanks to the new rules, a tax deduction is permitted even for expenses that result in a forgiven loan.
Most of the initial problems with the PPP program concerned the conditions of turning the loans into grants. PPP loan recipients must certify — not document — that “current economic uncertainty makes the loan request necessary to support ongoing operations.” What’s more, professionals seeking loan forgiveness are also required to certify that they “used the forgiveness amount of keep employees and make eligible mortgage interest, rent and utility payments.”
While inaccurate certifications are punishable under criminal and civil law, how can anybody under criminal and civil law, how can anybody certify to an uncertainty? And what is exactly meant by “necessary?” Ultimately, the courts will decide, but given the stakes, all borrowers can expect a review, whether a bare-minimum glance at your file or a deep-dive forensic audit.
Records, Records, Records
No business owner likes to hear the word “audit.” In this case, in addition to SBA audits, borrowers must prepare for separate investigations by the Special Inspector General for Pandemic Recovery and reviews by the Pandemic Response Accountability Committee and the Congressional Oversight Commission — although these presumably will be directed toward borrowers of larger amounts.
A business that fails a PPP audit jeopardizes all or part of its eligibility for loan forgiveness and a second PPP loan. Furthermore, it potentially could face False Claim Act prosecution by the U.S. Department of Justice (DOJ). In the face of the threat posed by all these audits and reviews, surviving a PPP audit — or any audit, for that matter — obviously requires good recordkeeping.
Even if we have no intent to commit fraud, many of us fall short when it comes to documentation and paperwork. Businesses are often cautioned to keep good records for tax purposes. In that same vein, those records could be crucial to forgiveness of a PPP loan.
Even if the business pays its taxes dutifully, it may be penalized for lacking documentation. After all, the law requires every taxpayer to retain all records used when preparing tax returns. Tax records should generally be kept for three years from the date the return is filed.
Recordkeeping for PPP
When it comes to the PPP, a good recordkeeping strategy might include depositing the funds into a separate bank account.
Otherwise, all expenses should be documented — utility bills, rent statements, leases, cancelled checks, bank statements tracing any electronic transfers and bills for other expenses that qualify for loan forgiveness, such as health insurance. Each of these sums should be consistent with the amounts you include in the loan forgiveness application. Careful judgement is required to project revenue and expenses during these uncertain times, especially as you reopen and ramp up your business prior to the economy returning to pre-pandemic levels.
Auditors consider contemporaneous documentation — or an accurate written record showing how the funds were applied — to be more persuasive than information created once an audit or review begins. In other words, it is better to organize records and documents now rather than attempt to create them later.
Among your supporting PPP documents should be payroll verification to demonstrate funds used for payroll, mortgage interest, lease and utility payments, invoices for mortgage interest, lease payments, utility services, lease agreements stating amount due, and general ledger entries showing use of PPP funds.
When it comes to showing employee and compensation levels from periods beginning Feb. 15, 2020 through the end of the period after the loan was made, make sure to include payment records such as payroll tax reports, employee benefit records, compensation records, calculation of full-time equivalents and pay rates, and documentation to support headcount changes.
Any remaining cash surpluses should be supported by documenting the use of those funds beyond the period analyzed. Naturally, the underlying supporting documents should provide enough support for the certification.
Smaller Fish to Fry
Although the threat of an audit is a major concern, the SBA’s job of wading through the backlog of applications, removing duplicates from borrowers that applied at more than one bank and sorting out the confusion in Congress continues to slow the process. However, don’t forget that the IRS, an agency that appears increasingly determined to find and audit all businesses, may have its own separate look at your application.
Remember, consistency is key. Inconsistencies in paperwork can happen even to honest people when the accounting is not handled professionally. The IRS, however, is becoming more prone to seeing these discrepancies as fraud until proven otherwise.
Know Your Rights?
The Taxpayer Bill of Rights, which is part of the IRS Restructuring and Reform Act of 1998, requires the IRS to provide a written statement detailing the taxpayer’s rights and the agency’s obligations throughout the audit, appeals, refund and collection processes.
Among your most important rights is to choose whether to answer an auditor’s questions directly or be represented by a financial professional. If you hire an accountant, make sure you have a detailed plan for the audit meeting. Should it be held in the accountant’s office, where all the working documents are easily accessible? Should it take place at your place of business, where all the records are kept? This could demonstrate to the auditor that there is nothing to hide, and that the operation is a legitimate one. Or, should you, a manager or another representative trudge down to the auditor’s office armed only with the specific documents and information requested? Not too surprisingly, it all depends on your situation, as there is no one right answer.
Get the Last Word
Until the business under audit agrees with the auditor, the appeals process for audits — whether everyday, routine audits or a targeted PPP audits — remains open. Most importantly, from the time of initial screening for accuracy until the final appeal has been exhausted, mistakes in the favor of those being audited are discovered in about 25% of all cases.
The IRS is usually quite sympathetic to honest mistakes and more than willing to discuss underpayments of taxes that may result from the many so-called gray areas in our tax rules. They’ll be open to negotiate the amount of tax due on occasion.
However, they don’t have patience for fraud.
Honesty and clarity go a long way toward preventing, dealing with and surviving any audit. Naturally, every pond professional should have strategies for avoiding audits and dealing with auditors. A fallback position if those strategies were to fail should also be in place.
The PPP was intended to ensure all businesses had access to sufficient resources to keep workers employed while the operation weathered the Coronavirus pandemic. Borrowers should not be frightened by the government’s warning that audits are inevitable. Instead, they should prepare now to ensure these limited benefits are not lost.
Beginning early, maintaining accurate documentation, assessing risks, considering the assessment criteria and preparing for a likely audit from any of a variety of sources can help every pond professional withstand the added scrutiny. The advice and assistance of a qualified professional is also an invaluable tool.