Texas companies with forgiven loans under the Paycheck Protection Program (PPP) face additional complications in computing their Texas Franchise Tax (TFT). Amounts forgiven under the PPP program are generally excluded from income for federal tax purposes, and PPP borrowers can take federal tax deductions for ordinary business expenses paid with PPP loan proceeds. While many states are following the Federal tax treatment of PPP loan forgiveness and related expense deductions, Texas has not conformed to the treatment related to loan forgiveness.
Because the TFT applies to federal tax laws in effect for the federal tax year beginning on January 1, 2007, Texas does not conform to the Internal Revenue Code changes made by the CARES Act and the Consolidated Appropriations Act of 2021 in implementing the PPP program. The treatment in PPP loan forgiveness for TFT purposes was confirmed recently in the Comptroller’s Tax Policy News for February 2021.
The TFT, which is based on a taxable entity’s margin, is computed as either 70 percent of total revenue; total revenue minus cost of goods sold (COGS); total revenue minus compensation; or total revenue minus $1 million. Calculating the revenue portion of this equation will require Texas taxpayers to include in income the forgiven PPP loans that are excluded from income for federal tax purposes unless excluded by IRC Section 108. Taxpayers will be able to deduct the expenses paid with forgiven PPP loan proceeds if the expenditures qualify for the COGS or compensation portion of the TFT.
The nonconformity of Texas law also affects the determinations of apportionment for the taxpayer. For apportionment, CODI must be sourced to the state of legal domicile of the creditor. For corporate entities and limited liability companies, the state of legal domicile is the state of formation. The legal domicile of a partnership, trust, or joint venture is the principal place of business of the partnership, trust, or joint venture (where management directs, controls and coordinates the entity’s activities.) This apportionment rule may allow Texas taxpayers some relief by sourcing an amount outside of the state.
What Should Companies Do?
Unless the Texas legislature passes legislation to explicitly exclude forgiven PPP loan amounts from revenue and allow deductions for expenses paid using the PPP loan proceeds, Texas taxpayers should include the amount of CODI from forgiven PPP loans in income and apply the apportionment rule to the CODI as described above. A bill (SB 372/ HB1195) has been introduced in the current Texas legislative session that would allow taxpayers to exclude the PPP loan forgiveness from total revenue while continuing to allow related expenses as a deduction if available for COGS or compensation purposes. Given the extension until June 15, 2021 to file and pay the TFT, the bill could be passed before the returns are due. Weaver will continue to monitor the Legislative session and provide updates as necessary.
Update: Texas Governor Greg Abbott signed SB 372/ HB1195 into law on May 7, 2021. The law excludes forgiven PPP loan amounts from revenue and allow deductions for expenses paid using the PPP loan proceeds if available for COGS or compensation purposes.
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