Last week, we discussed how the CARES Act incorporates expanded tax benefits for those making donations to certain charitable institutions, such as museums. However, given the current economic circumstances, many taxpayers may not find themselves in a position financially to take advantage of the expanded charitable contribution deduction in 2020. In tacit acknowledgement of this fact, and as the expanded deduction benefits only a limited class of charitable organizations, the CARES Act contains additional provisions that are calculated to alleviate the financial woes of charitable organizations struggling with continuing revenue losses and accumulating expenses. One such provision creates the Paycheck Protection Program, which makes loans, and, in some circumstances, provides loan forgiveness, to small businesses, including charitable organizations.
In this conversation, my colleagues Steve Chidester and Sarah Verano discuss how charitable organizations may benefit from certain provisions in the CARES Act, including the Paycheck Protection Program.
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Sarah: We have been hearing a lot about the CARES Act and its loan program for small businesses. One of the aspects of this loan program is the Paycheck Protection Program that provides loans up to $10 million to businesses with fewer than 500 employees with the additional potential benefit of loan forgiveness for certain loan expenditures. Can you explain how this might benefit charitable organizations?
Steve: As applied to tax-exempt charitable organizations, the Paycheck Protection Program (PPP) makes available 2-year loans of up to $10 million at 1% annual interest to organizations with fewer than 500 full-time, part time, or other employees. The maximum loan amount is the lesser of (a) 2.5 times the average monthly payroll over the past 12 months plus the outstanding amounts under economic injury disaster loans or (b) $10 million.
The loan proceeds can be used for payroll and benefits, mortgage interest, rent, and utilities – but at least 75% must be used for payroll costs.
The borrower can apply for loan forgiveness for amounts used within 8 weeks after loan funding for payroll costs (but not for compensation exceeding $100,000 for a single employee) and payments on pre-existing obligations for mortgage interest, rent, and utilities. The forgiveness amount is reduced if employee count or wages are reduced from the previous year, but if payroll has already been reduced, the forgiveness formula rewards a restoration of payroll after receiving the loan.
The federal government's funding for the PPP is limited, so eligible charitable organizations should not delay in applying.
Sarah: Why do you think Congress included charitable organizations within the definition of small businesses for purposes of qualifying for a PPP loan? We have previously discussed in this Q&A series how the CARES Act already incentivizes increased charitable giving by private donors by incorporating expanded tax benefits for those donors.
Steve: Allowing tax-exempt charitable organizations to participate in what are referred to as business loans under the PPP for employers of fewer than 500 employees is a recognition that charitable organizations are important small employers in our country. It also acknowledges that in a time when many people are in need on so many levels, the services and efforts of the charitable sector are more important than ever, but charitable organizations cannot serve if they are forced to lay off their people.
In addition, the benefit of the 1-year 100% AGI limit on charitable deductions will not be felt uniformly across the charitable sector; it may benefit some charitable organizations handsomely but leave others wanting. The PPP loans provide an additional safety net for organizations that are unable to cover their losses by increased fundraising.
Applying for or receiving a PPP loan under a program that speaks of the borrowers as businesses does not mean that the charitable organization borrower is operating for business purposes instead of its charitable mission.
Sarah: What types of charitable organizations do you anticipate are most likely to benefit from this program?
Steve: Charitable organizations that are tax-exempt under Section 501©(3) of the tax code (no distinction is made between public charities and private foundations) that have had fewer than 500 employees for the past 12 months and who intend to keep paying those employees despite the economic downturn should look into the PPP.
Sarah: Are there any charitable organizations that are excluded from the program or which ought to proceed with caution?
Steve: The PPP loans are available only the employers of fewer than 500 employees, so some substantial charitable organizations will not qualify. With other types of businesses, the employee-count limit is applied on a location-by-location basis, so larger charitable organizations that are distributed among several locations might explore those categories.
Tax exemption under Section 501©(3) is a prerequisite to qualifying under the provisions of the program that speak to nonprofit organizations. Organizations that are exempt under Section 501©(2) (title holding organizations), or 501©(4) (social welfare organizations), 501©(6) (trade associations), 501©(7) (social clubs), or any of the many other subsections describing other types of tax-exempt organization may be able to qualify under other elements, but should read the Act carefully.
Additionally, the Small Business Administration's affiliation rules will apply in determining the eligibility of a charitable organization for a PPP loan.
Sarah: Are there any other programs or tax code provisions you would recommend charitable organizations to take a look at right now?
Steve: The Employee Retention Tax Credit allows certain employers – both for-profit firms and nonprofit organizations – to claim a credit of up to $5,000 in compensation paid to each covered employee from March 13 through December 31, 2020. Because this credit is applied against employment tax, which most nonprofit employers pay, rather than against income tax liability, the credit will be beneficial to many charitable organizations. If the credit exceeds the employer's share of employment tax actually paid, the employer can receive the excess as a refund.
The eligible employers are those whose business is fully or partially suspended by the government due to COVID-19 or that have seen a decline in gross revenue by 50% compared to the same calendar quarter of the prior year (until gross revenue recovers to 80% of the quarter for the prior year). Employers who retain employees on payroll even though they are not working can claim an employment tax credit of up to 50% of qualified wages (up to $10,000) paid to each employee. For employers of more than 100 full-time employees, this applies to employees who are not working due to COVID-19 circumstances ("not working" as opposed to "working remotely"). For employers with 100 or fewer full-time employees, all employee wages qualify even if the employer remains open for business.
Additionally, charitable organizations and for-profit firms alike are permitted to defer payment of the employer's portion of payroll taxes (6.2% of Social Security taxes). The deferral is for payroll taxes for the period from March 27 through December 31, 2020. The deferred taxes are payable 50% on December 31, 2021 and 50% on December 31, 2022. But no deferral is permitted if the organization receives a loan forgiveness under the Paycheck Protection Program.
Under the CARES Act, the Federal government will provide funding to the states to reimburse 50% of unemployment payments by charitable organizations described in Section 501©(3) of the Code who are self-insured for unemployment compensation. The program covers payments made between March 13, 2020 and December 31, 2020 on all unemployment claims, not just COVID-19 related claims.
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