As businesses deduct expenses paid with PPP loan proceeds, R&D tax credits for payroll are impacted. Here’s how and what to do about it.

By Jamie Overberg

What is given on the one hand is partially stripped away on the other. That’s the best way to describe recent legislative changes impacting research credits.  

The Consolidated Appropriations Act (CAA) of 2021 signed into law on Dec 27, 2020, includes a key relief for businesses that took out Paycheck Protection Program (PPP) loans and claim the research and development (R&D) tax credit. However, a separate provision in the Employee Retention Credit (ERC) reverses some of that good.

For the 2020 tax year, expenses paid with forgiven PPP loans are deductible for income tax purposes, including the costs of payroll funded by PPP expenses. The CAA clarifies that such expenses qualify for a deduction, meaning businesses can deduct the payroll taxes and other related expenses paid using PPP loan proceeds.

Businesses can also use those expenses in calculating the payroll-based components of R&D expenses. This means the taxpayer does not have to pay tax on the PPP and can take a research tax credit on the same amount.

For businesses in 2020 employing more than 500 individuals, the Employee Retention Credit (ERC) was granted on wages paid to employees who were not performing services due to COVID-19 work related disruptions.  However, the IRS provided guidance mandating the ERC must reduce eligible qualified wages for the research tax credit under §41.

In 2021, updated guidance (Notice 2021-23) to the ERC specifically mandates that wages must be reduced by ERC amount for R&D tax credit purposes. Employers claiming both credits will need to make sure that there is no overlap between wages used to calculate the ERC and wages used to calculate the R&D tax credit. 

With this change, the CAA excludes wages included in the calculation of the Employee Retention Credit from also being treated as eligible expenses for R&D tax credits, eliminating a double dip. Reach out to us if your business is looking for help in reconciling the CAA and ERC provisions in R&D credit calculations.

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