Forgive Me: How to legally borrow CARES Act money and not pay it back
[The article is syndicated from DigBoston via AAN.]
Since publishing our deep dive on the subject last week, we have heard from many readers who completed the Paycheck Protection Program (PPP) application and are anxiously awaiting an official reply from the feds. Meanwhile, there are various media reports about the SBA’s electronic loan processing system [known as E-Tran] struggling under the weight of application activity, while lenders are experiencing difficulties accessing the system and are also frustrated.
Remember, be kind and be patient. Also, as you prepare to receive funding, it is time to consider the full impact of the forgiveness provisions. This is a big deal and you do not want to hit any potholes. Forgiveness depends upon payroll and headcount, so let’s start with the latter.
FTE is business shorthand for “full-time equivalent” employees. While headcount simply records the number of persons employed, FTE attempts to rationalize that in some manner. Consider an ice cream shop with 10 staffers who work 40-hours each for a total of 400 paid hours a week. Compare that to a shop with one 40-hour worker, one 30-hour worker, six 28-hour workers, and nine 18-hour workers. That might be 17 workers, but it still adds up to 400 hours of paid time. FTEs attempt to provide a common form of measurement. We are spending extra time on this issue for the benefit of restaurants, bars, and retailers who often hire less than full-time workers.
The PPP has 10 mentions of “full-time equivalent employees,” but does not define this term within the text of the CARES Act, so we turned to hunting around the SBA website (as we keep repeating, rule number one for this stuff is to only trust information from dot-gov websites). Any guidance we found was applicable to other programs.
One of the biggest questions surrounding the law remains the definition of a full-time equivalent employee as this determination impacts the eventual loan forgiveness. Based upon prior loan programs, a full-time equivalent employee is typically defined for the specific program. As of this writing, no definition has been put forward. The recent Treasury guidance put forward a definition of how the SBA normally counts employees. It’s possible the same definition may be used for full-time equivalent employees but this requires confirmation by the SBA.
A 2014 definition under Employer Shared Responsibility provisions of the Affordable Care Act (ACA) defines a full-time employee as “an employee who is employed on average at least 30 hours per week,” and an FTE Employee as “a combination of employees, each of whom individually is not a full-time employee because they are not employed on average at least 30 hours per week, but who, in combination, are counted as the equivalent of a full-time employee.” The definition from one program might not apply to another, but it serves as a starting point.
Paul Carelis, vice-president of HR services at MassPay, a national HR firm serving more than 3 million employees, offered:
In speaking with a number of legal experts and employment law firms, we’re finding that the vast majority are confident that the SBA will use the ACA definition of ‘Full Time Equivalent.’ The good news is that many payroll platforms are already set up to calculate this figure as it pertains to compliance with the Affordable Care Act. That said, we’ll all sleep a little better once that guidance is formally published.
The devilish details
What appears to be clear is that the PPP instructs applicants that “the average number of full-time equivalent employees shall be determined by calculating the average number of full-time equivalent employees for each pay period falling within a month.” With this in mind, if you have a meaningful number of less-than-full-time staff, we suggest you add up all of their hours worked per pay period, and ask your lender whether to divide that total by 30 or by 40 to determine FTEs for an SBA 7(a) loan (the CARES Act and PPP are SBA 7(a) loan products).
We do not recommend adding all staff hours if you routinely have staff that worked over 40 hours per week, just the part timers. Consider a restaurant with four employees who each averaged 50 hours per week. If you add all the hours and divide by 40, you will need to show five people to not lose any of your loan forgiveness (see below for further discussion). But do check with your lender.
The amount of loan forgiveness shall not exceed the principal amount of the applicable PPP loan. If you increase staffing or have unusually high rent, your forgiveness deduction is capped at the amount of the loan, even if you spend more on “forgivable” expenses. Several factors can reduce your forgiveness. We discuss them below.
Just cause you got it now doesn’t mean you can keep it later
Expect that if you miscalculate or misrepresent your qualification figures and obtain a larger loan than you are qualified to receive, the excess might not be forgiven, regardless of your expenses. There will come a day, some time well into the future, when the government will audit these loans. Expect the impact of misrepresentations to be painful. At reported application rates, the $349 billion will be gone within a few weeks, and even if an additional $251 billion is approved by Congress, it is unlikely that will last past the first week of May. Once lenders have completed issuing these loans, expect them to turn their attention to the forgiveness with a fine-tooth comb.
The SBA does not require personal guarantees or collateral for PPP loans. Credit worthiness is not considered. The bank’s role is to confirm that based upon a reasonable review of the documents provided by an applicant, and the applicant’s certification, that amount requested is appropriate. The bank will also review documentation to confirm the forgiveness requested is supported by facts. It is likely the banks will be held responsible by the SBA for loans that should not have been forgiven. Hence, one might expect the scrutiny to increase when the forgiveness train pulls into the station.
Forgiveness reduction based on use of loan proceeds
At least 75% of the loan proceeds must be used for wages (which includes benefits and state payroll taxes). Any expenditure for non-payroll expenses exceeding 25% of the loan proceeds is not forgivable.
Forgiveness reduction based on pruning the number of employees
STEP ONE: Calculate “the average number of full-time equivalent employees per month employed by the eligible recipient during the covered period.” The “covered period” is the eight weeks following the day you receive the loan proceeds. Tempus fugit, pursuant to fresh SBA guidance, an applicant must accept loan proceeds no later than 10 days after approval. “The average number of full-time equivalent employees shall be determined by calculating the average number of full-time equivalent employees for each pay period falling within a month.”
We suggest you calculate the average number of full-time equivalent employees per pay period and use those figures to calculate the monthly employment totals. Below is an illustration:
You pay staff weekly and based upon counting full-time staff and converting part-time staff to full-time equivalent (based upon your lender’s direction as to whether you use 30 hours or 40 hours), you have determined your FTE employee headcount at 14.5 for week #1, 16 for week #2, 15 for week #3, 16.5 for week #4 and 16 for weeks 5 through 8. Add them up (14.5 + 16 + 15 + 16.5 + 4 x 16 = 126). Divide by two to determine “the average number of full-time equivalent employees per month.”
STEP TWO: Calculate the base period. Applying the same methodology, calculate “the average number of full-time equivalent employees per month employed by the eligible recipient during the period beginning on February 15, 2019 and ending on June 30, 2019”; or “the average number of full-time equivalent employees per month employed by the eligible recipient during the period beginning on January 1, 2020 and ending on February 29, 2020.” If your business is a seasonal employer (as determined by the SBA), you are instructed by the CARES Act to use “the period beginning on February 15, 2019 and ending on June 30, 2019.”
STEP THREE: Add your costs. Those include “payroll costs,” “any payment of interest on any covered mortgage obligation (which shall not include any prepayment of or payment of principal on a covered mortgage obligation), “any payment on any covered rent obligation,” and “any covered utility payment.” “The term ‘covered utility payment’ means payment for a service for the distribution of electricity, gas, water, transportation, telephone, or internet access for which service began before February 15, 2020.”
The amount of loan forgiveness shall be reduced (but not increased) by multiplying your costs (step three above) by the quotient obtained by dividing your average monthly headcount during the covered period (step one) by the average monthly headcount during the base period (step two).
PRO TIP: Calculate your average headcount per pay period along the way—at each pay period. Know that number and track whether you are ahead or behind. Do not wait until the end of the eight-week covered period.
Forgiveness reduction relating to salary and wages
“The amount of loan forgiveness … shall be reduced by the amount of any reduction in total salary or wages of any employed … during the covered period that is in excess of 25 percent of the total salary or wages of the employee during the most recent full quarter during which the employee was employed before the covered period.” Total salary or wages includes tips for hourly workers.
As to highly paid employees [earning above $100,000], assume their wages were $100,000 “during the most recent full quarter during which the employee was employed before the covered period.” The specific text of the law reads: “an employee described in this subparagraph is any employee who did not receive, during any single pay period during 2019, wages or salary at an annualized rate of pay in an amount more than $100,000.” We interpret this to mean that as to employees who earned above $100,000 in 2019 (or pro-rated if they worked less than a full year), their wage rate can be reduced to an annualized $75,000 rate without forfeiting forgiveness.
Forgiveness exemption for rehires
In the event there is a reduction in the number of FTE employees from February 15, 2020 to April 26, 2020 [30 days after the March 27 enactment date of the CARES Act], and not later than June 30, 2020, the eligible employer has eliminated the reduction in the number of FTE employees; and/or there is a reduction in the salary or wages of one or more employees from February 15, 2020 to April 26, 2020 [and not later than June 30, 2020], the eligible employer has eliminated the salary or wages of such employees; then the reductions to forgiveness described above under the two prior headings for lower FTE headcount or lower salary or wage levels will not apply.
Bear in mind that if payroll levels were reduced and slowly brought back up to the pre-existing levels, there simply may be less payroll to be forgiven. If the same holds true for headcount, there may also be less payroll paid out. Fewer eligible costs means lower forgiveness. Don’t forget that no more than 25% of the loan proceeds can be used for non-payroll purposes. Hence, if you have to ramp staffing levels back up, you will have less money to use for rent, utilities, and interest costs.
For those of you anxious because you are unable to pay rent, don’t fear retribution for the time being. You generally cannot be evicted while waiting for a loan [not because the law protects you] because most courts have sidelined much of their civil work so an eviction simply cannot be processed until things return to normal, and by then these loans will be processed.