PPP Loans: Accounting & Financial Reporting Considerations for Business Entities
Filed under:Construction, COVID Updates, Dental, Family Business, Healthcare, Private Companies, Small Business Services
The Paycheck Protection Program (PPP) has been a savior to many companies, but it has also certainly come with its complexities. Questions regarding loan eligibility, the application process, and calculation of qualifying expenses quickly arose. And then, there is the issue of how to report the PPP loan and its potential forgiveness in accordance with U.S. Generally Accepted Accounting Principles (U.S. GAAP). This issue is top of mind for many entities that received PPP loans.
Please note the accounting for the PPP Loan for tax reporting purposes may vary from that of U.S. GAAP reporting. Please consult your tax advisor regarding tax reporting.
The following summarizes some of the accounting and financial reporting options for the PPP Loan under U.S. GAAP under the current standards and guidance.
Entities that Expect to Have Some or All of Their PPP Loan Forgiven
There is no specific guidance for treatment of a loan to a business entity that may be forgiven if conditions are satisfied. However, U.S. GAAP does note that in the absence of specific guidance, “an entity shall first consider accounting principles for similar transactions or events within a source of authoritative U.S. GAAP for that entity and then consider non-authoritative guidance from other sources” (FASB ASC 105-10-05-2). Therefore, there is suggested guidance to which business entities may refer when accounting for their PPP loans.
We have included two accounting and reporting options below. Business entities should consult with their CPA on their particular circumstances when deciding which accounting policy to elect.
Analogizing Contribution Accounting to Business Entities
Generally not-for-profit (NFP) contribution accounting under FASB ASC 958 includes scope exceptions for business entities; however, the FASB did not prohibit business entities from essentially applying those standards for similar situations (analogizing). A business entity applying the FASB ASC 958-605 government grant or conditional contribution model to a PPP loan would generally recognize contribution revenue as conditions of the forgiveness are “substantially met.”
In these circumstances, the business entity recipient accounting would be very similar to that of the NFP as noted in our post PPP Loans: Nonprofit Accounting & Reporting Considerations in Accordance with US GAAP. This accounting treatment is appropriate only when the conditions of forgiveness have been substantially met at the assessment date without any ability to forecast. Therefore, conditions, such as the FTE headcount requirement (headcount condition) and limitation on reduction in compensation, need to be substantially met at the assessment date (such as a balance sheet date) and it would not be appropriate to forecast that conditions will be met after the balance sheet date to derecognize the PPP loan liability.
As a result, an entity may have incurred qualifying expenses during an accounting year but has NOT yet satisfied the headcount condition and/or the limitation on reduction in compensation since the end of the covered period will not take place until after the accounting year. However, it is possible that partial derecognition of the PPP liability could take place based on the extent to which the headcount condition and limitation on reduction in compensation condition had been “substantially met” in stages at the balance sheet date.
If that is not the case, a business entity should assess whether this accounting treatment or treatment under FASB ASC 470, Debt is most appropriate for users of its financial statements. Take note that the revenue recognized due to the loan forgiveness is not within the scope of FASB ASC 606, Revenue from Contracts with Customers. As such, revenue recognized should be separately stated and labeled on the financial statements.
Looking to International Accounting Standards
International Accounting Standards (IAS), although not considered authoritative in the FASB ASC, may be consulted in cases where the accounting treatment for a particular transaction or similar transaction is not specified in the FASB ASC. IAS 20, Accounting for Government Grants and Disclosure of Government Assistance, provides guidance on government grants for business entities. IAS 20 states that, “a government grant is recognized only when there is reasonable assurance that (a) the entity will comply with any conditions attached to the grant and (b) the grant will be received.”
IAS 20 also states, “the grant is recognized as income over the period necessary to match them with the related costs, for which they are intended to compensate, on a systematic basis.” By utilizing IAS 20 as a non-authoritative source of guidance, a business entity would recognize as income, the PPP loan forgiveness, as qualifying expenses were incurred so long as other requirements were also met for the period. This accounting treatment is also appropriate only when there is a high likelihood of loan forgiveness.
If there is not probable loan forgiveness, a business entity should assess whether this accounting treatment or treatment under FASB ASC 470, Debt is most appropriate for users of its financial statements.
Entities that Expect to Repay Their PPP Loan
For entities that expect to repay their PPP loan, the loan should be accounted for in accordance with FASB ASC 470, Debt which requires the loan to be reported as a liability (debt) and for related interest to be accrued and also reported as a liability. FASB ASC 405-20 Liabilities: Extinguishments of Liabilities states the debtor shall derecognize the liability if and only if it has been extinguished through payment or at the time the debtor is legally released as the primary obligor under the liability.
In the case of the PPP loan, the extinguishment would be recognized as the loan and related interest was repaid or at the time forgiveness actually occurs. This treatment may be the most appropriate in cases where there are uncertainties about meeting the conditions of forgiveness.
Technical Guidance for Potential Safe Harbor
The American Institute of CPAs (AICPA) on its Recently Issued Technical Questions and Answers webpage addressed questions regarding the accounting for PPP loans and noted the treatment under FASB ASC 470 can be used “regardless” of the situation, effectively sanctioning the model as a safe harbor.
It is important to note that the use of the FASB ASC 470 safe harbor could come with a perceived distortion in financial reporting to some users as a result of a mismatch of timing of expenses incurred and income recognized as the income may be recognized in a later year (when the loan is formally forgiven) than when the qualifying expenses were incurred.
The PPP loan has certainly been helpful to many companies but has created some uncertainty for proper accounting and reporting. In any case, management should assess which accounting treatment is most appropriate for the entity’s unique circumstances and what is most appropriate for reporting to the users of the financial statements.
Jones & Roth is committed to providing up-to-date information on the PPP and COVID-19. See jrcpa.com for the latest news.