By Beanna J. Whitlock, EA CSA
Executive Director ncpeFellowship, an internet organization for tax professionals who are serious about the business of tax – https://ncpefellowship.com/
What a relief it was to hear these magic words: “My S Corp pays me as an employee based on the services I provide to the company.” Whew!
Why? Because the Paycheck Protection Program (PPP) offers loans for payroll. So when we helped these S Corp. clients apply for PPP loans, we felt confident they were compliant with the SBA guidelines and were eligible for help. What a relief it was when their loans were approved!
But not all S Corps got it right. In spite of years of informing, cajoling, and even threatening, some of our clients have continued to refuse to pay reasonable compensation. Instead, the shareholder/employee continued to take compensation as loan repayments, rents, and distributions.
Then the world changed: COVID-19
The PPP was designed to help small businesses cover payroll during the pandemic. The money is not available to pay distributions. So the S corporations who paid distributions instead of reasonable compensation now cry “foul.” What once seemed shrewd now feels foolish, because distributions are not considered payroll for the SBA loans.
Here are the SBA has rules and guidelines for the Disaster Relief and Paycheck Protection Program (PPP) Loans:
WHAT CAN I USE THESE LOANS FOR?
YOU SHOULD USE THE PROCEEDS FROM THESE LOANS ON YOUR:
- PAYROLL COSTS, INCLUDING BENEFITS;
- INTEREST ON MORTGAGE OBLIGATIONS, INCURRED BEFORE FEBRUARY 15, 2020
- RENT, UNDER LEASE AGREEMENTS IN FORCE BEFORE FEBRUARY 15, 2020; AND
- UTILITIES, FOR WHICH SERVICE BEGAN BEFORE FEBRUARY 15, 2020.
WHAT COUNTS AS PAYROLL COSTS?
PAYROLL COSTS INCLUDE:
- SALARY, WAGES, COMMISSIONS, OR TIPS (CAPPED AT $100,000 ON AN ANNUALIZED BASIS FOR EACH EMPLOYEE)
- EMPLOYEE BENEFITS INCLUDING COSTS FOR VACATION, PARENTAL, FAMILY, MEDICAL, OR SICK LEAVE; ALLOWANCE FOR SEPARATION OR DISMISSAL; PAYMENTS REQUIRED FOR THE PROVISIONS OF GROUP HEALTH CARE BENEFITS INCLUDING INSURANCE PREMIUMS; AND PAYMENT OF ANY RETIREMENT BENEFIT;
- STATE AND LOCAL TAXES ASSESSED ON COMPENSATION; AND
FOR A SOLE PROPRIETOR OR INDEPENDENT CONTRACTOR: WAGES, COMMISSIONS, INCOME, OR NET EARNINGS FROM SELF-EMPLOYMENT, CAPPED AT $100,000 ON AN ANNUALIZED BASIS FOR EACH EMPLOYEE.
After informing the noncompliant S Corp. that their distributions would not be eligible for the PPP loan, some asked if they could be treated as an independent contractor.
The IRS says NO! FS-2008-25 states: Corporate officers are specifically included within the definition of employee for FICA (Federal Insurance Contributions Act), FUTA (Federal Unemployment Tax Act), and federal income tax withholding under the Internal Revenue Code. (W-2 or 1099 for S Corp Owners)
Generally, an officer of a corporation is an employee of the corporation. The fact that an officer is also a shareholder does not change the requirement that payments to the corporate officer be treated as wages.
Is there a way around this? Not according to the current guidelines:
AS PART OF YOUR APPLICATION, YOU NEED TO CERTIFY IN GOOD FAITH THAT:
- CURRENT ECONOMIC UNCERTAINTY MAKES THE LOAN NECESSARY TO SUPPORT YOUR ONGOING OPERATIONS.
- THE FUNDS WILL BE USED TO RETAIN WORKERS AND MAINTAIN PAYROLL OR TO MAKE MORTGAGE, LEASE, AND UTILITY PAYMENTS.
- YOU HAVE NOT AND WILL NOT RECEIVE ANOTHER LOAN UNDER THIS PROGRAM.
- YOU WILL PROVIDE TO THE LENDER DOCUMENTATION THAT VERIFIES THE NUMBER OF FULL-TIME EQUIVALENT EMPLOYEES ON PAYROLL AND THE DOLLAR AMOUNTS OF PAYROLL COSTS, COVERED MORTGAGE INTEREST PAYMENTS, COVERED RENT PAYMENTS, AND COVERED UTILITIES FOR THE EIGHT WEEKS AFTER GETTING THIS LOAN.
S Corporation Shareholders that were treated as employees, their wages, subject to a $100,000 limitation, qualify for the SBA loans available, specifically the PPP.
Playing by the rules has benefits.
There are other benefits to playing by the rules including Social Security, disability insurance and retirement plan.
In addition, the risk to tax preparers remains high due to IRS Preparer Penalties and professional responsibilities and ethics to exercise due care and professional competency when advising clients.
Note from RCReports: We would like to sincerely thank Beanna Whitlock for contributing to May’s newsletter! Her organization, the ncpeFellowship, does an exceptional job at keeping its members up to date with all things tax. We encourage you to check out the ncpeFellowship for yourself.