The Coronavirus Aid, Relief, and Economic Security Act of 2020 (CARES Act) provided for federally guaranteed loans to small businesses. The loans are forgiven to the extent used for qualifying purposes, including employee compensation, continuation of group healthcare benefits, rent, and utilities.
Under federal income tax law, forgiven debts generally are gross (taxable) income to the debtor. The CARES Act modifies this by providing that any amount which would be includible in gross income of an eligible recipient of a CARES Act loan by reason of forgiveness of the loan shall be excluded from gross income. Of course, a loan for which there is an obligation to repay is never gross income. So, neither CARES Act loan proceeds nor forgiveness of such proceeds constitutes gross income.
The CARES Act did not say whether expenses that are otherwise deductible for federal income tax purposes, but which are paid with proceeds of a CARES Act loan that is forgiven, are deductible for federal income tax purposes. The Internal Revenue Service stepped into the breach and issued administrative pronouncements denying tax deductions for expenses paid with the proceeds of a CARES Act loan that is forgiven. Congress corrected this in the Consolidated Appropriations Act, 2021, which provides that no deduction shall be denied, no tax attribute shall be reduced, and no basis increase shall be denied, by reason of the exclusion from gross income of a forgiven CARES Act loan. The IRS withdrew its earlier administrative pronouncements to the contrary.
Now it is clear that expenses that are otherwise deductible for federal income tax purposes, but which are paid with proceeds of a CARES Act loan that is forgiven, are deductible for federal income tax purposes.
Stephen J. Dunn is a tax attorney in Troy, Michigan. He is the author of the treatise Foreign Accounts Compliance (Thomson Reuters 2017) and Foreign Accounts Compliance Blog. He is also an adjunct professor at Michigan State University College of Law.
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