Paycheck Protection Program
Paycheck Protection Program Loan Forgiveness
The amount of loan forgiveness under a Paycheck Protection Program (“PPP”) loan is not taxable for state income tax purposes to the extent the amount of loan forgiveness is excluded from federal gross income.
Expenses Deducted Under a Forgiven PPP Loan
For N.C. income tax purposes, any expenses paid using the proceeds of the forgiven PPP loan that are otherwise deductible at the federal level are not deductible when calculating N.C. taxable income. Taxpayers must make a North Carolina addition for the amount of expenses deducted on the federal return if the expenses were paid with proceeds from a PPP loan, the loan is subsequently forgiven, and the income associated with the PPP loan forgiveness is excluded from federal gross income.
A taxpayer that received a covered loan guaranteed under the PPP and paid or incurred certain otherwise deductible expenses listed in section 1106(b) of the CARES Act may not deduct those expenses for N.C. income tax purposes in the taxable year in which the expenses were paid or incurred if, at the end of such taxable year, the taxpayer reasonably expects to receive forgiveness of the covered loan on the basis of the expenses it paid or accrued during the covered period, even if the taxpayer has not submitted an application for forgiveness of the covered loan by the end of such taxable year.
Individuals must make the addition to federal adjusted gross income on Line 14 of the 2020 Form D-400 Schedule S, Supplemental Schedule. Corporations must make the addition to federal taxable income on Schedule H of Form CD-405, C-Corporation Tax Return for the tax year during which the expenses were deducted. Fiscal year filers should make the addition on the tax return in which the expenses were deducted. Therefore, if a fiscal year filer with a beginning date in 2019 and an ending date in 2020 deducted expenses on their 2019 tax return, the addition would also be made on their 2019 tax return.
Examples
Example 1: Taxpayer is a business filing as a C-Corporation. Taxpayer receives a PPP loan and uses the loan to pay employee wages and business office rent. The PPP loan is subsequently forgiven. Taxpayer does not include the PPP loan forgiveness in federal taxable income. Taxpayer is allowed to deduct the business expenses paid using the forgiven PPP loan proceeds (employee wages and office rent) on its federal return. On its N.C. return, Taxpayer is not required to make an addition for the amount of the PPP loan forgiveness. Taxpayer is required to make an addition on its NC return for the amount of the business expenses deducted on its federal return that were paid with the PPP loan proceeds.
Example 2: Taxpayer is a sole proprietor that receives a PPP loan and uses the loan to pay employee wages. The PPP loan is subsequently forgiven. On Taxpayer's federal individual income tax return, Taxpayer does not include the PPP loan forgiveness in adjusted gross income. Taxpayer is also allowed to deduct the business expenses paid using the forgiven PPP loan proceeds (employee wages) on Taxpayer's federal return. On Taxpayer's N.C. individual income tax return, Taxpayer is not required to make an addition for the amount of the PPP loan forgiveness. Taxpayer is required to make an addition on Taxpayer's N.C. return for the amount of the business expenses deducted on Taxpayer's federal return that were paid with the PPP loan proceeds.
Example 3: Taxpayer is a sole proprietor that receives a PPP loan for owner replacement income. Taxpayer uses the loan proceeds for personal expenses as allowed under federal law. The PPP loan is subsequently forgiven. On Taxpayer's federal individual income tax return, Taxpayer does not include the forgiven PPP loan proceeds in Taxpayer's adjusted gross income. Taxpayer cannot take a business expense deduction for the personal expenses paid with the PPP loan proceeds. On Taxpayer's N.C. individual income tax return, Taxpayer will not make an addition for the amount of the PPP loan forgiveness. Since Taxpayer did not take a business expense deduction for the personal expenses paid with the loan proceeds on Taxpayer's federal return, Taxpayer will not make an addition on Taxpayer's N.C. return for the personal expenses paid with the forgiven PPP loan proceeds.
Example 4: Taxpayer is a sole proprietor that receives a PPP loan and uses the loan to pay employee wages. In November 2020, pursuant to the terms of section 1106 of the CARES Act, Taxpayer applied to the PPP lender for forgiveness of the covered loan on the basis of the eligible expenses it paid during the covered period. At that time, and based on Taxpayer’s payment of the eligible expenses, Taxpayer satisfied all requirements under section 1106 of the CARES Act for forgiveness of the covered loan. The PPP lender does not inform Taxpayer whether the loan will be forgiven before the end of 2020. On Taxpayer's 2020 N.C. individual income tax return, Taxpayer is required to make an addition for the amount of the business expenses deducted on Taxpayer's federal return that were paid with the PPP loan proceeds because at the end of the taxable year Taxpayer reasonably expects to receive forgiveness of the covered loan.
Additional Resources
For more information, see Session Law 2020-58 and the Department's Important Notice: North Carolina's Reference to the Internal Revenue Code Updated - Impact on North Carolina Corporate and Individual Income Tax Returns.