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Tax treatment of PPP loan forgiveness and related expenses

by | Oct 3, 2025 | Technical Research & Calculations

Here’s what HIVE AI had to say about “Tax treatment of PPP loan forgiveness and related expenses”:

Tax treatment of PPP loan forgiveness and related expenses

Overview of income inclusion and deductions

  • PPP loan forgiveness is excluded from gross income. Congress codified that no amount is included in income by reason of forgiveness of a PPP First Draw, Second Draw, or §1109 PPP loan. Further, no deduction is denied, no tax attribute is reduced, and no basis increase is denied because of this exclusion. For partnerships and S corporations, the excluded amount is treated as tax-exempt income for §§705/1366 purposes, with basis increase rules coordinated to the related deductions. 1
  • IRS summarized the statutory rule similarly: no income on qualifying forgiveness, and for pass-throughs it is tax-exempt income for §§705 and 1366. 2

Timing: when to recognize tax-exempt PPP income

  • Taxpayers can choose one of three timing options to treat the tax-exempt income from forgiveness as received or accrued: (1) as and to the extent eligible expenses are paid or incurred; (2) when the forgiveness application is filed; or (3) when forgiveness is granted. Taxpayers may implement this on an original or amended return/AAR. 3
  • Publication 525 echoes these timing options and instructs attaching a statement identifying the section of Rev. Proc. 2021-48 used and the applicable years. 4

Required statement if using the timing safe harbor

  • If you adopt Rev. Proc. 2021-48’s timing, attach a statement to your return that includes: your name/address/SSN or EIN; which section 3.01 option you’re applying and for which tax year; the amount of tax-exempt income treated as received and for which year; and whether forgiveness has been granted as of filing. Mark “RP 2021-48” on the statement. 4

Partnerships and S corporations: allocation and basis

  • Allocations of tax-exempt income from PPP forgiveness and the related deductions must have substantial economic effect under §704(b); the guidance details acceptable allocation approaches and the corresponding basis adjustments under §705. The basis increase equals the partner’s distributive share of deductions resulting from costs giving rise to forgiveness (unless the Secretary provides otherwise). 1
  • Rev. Proc. 2021-50 reminds BBA partnerships to file consistently with K‑1s and references Rev. Proc. 2021-49 for allocation/basis mechanics tied to PPP forgiveness and other grants. 5

Coordination with the Employee Retention Credit (ERC)

  • You cannot use the same wages for both PPP forgiveness and the ERC. Reporting wages on the PPP forgiveness application up to the amount needed to obtain forgiveness is treated as an election not to use those wages for ERC. 6
  • Statute confirms ERC coordination: wages treated as PPP payroll costs cannot also be treated as qualified wages for ERC, with guidance for cases where PPP loans are not forgiven. 7

Documentation and eligibility caveats

  • Qualifying forgiveness is not automatic; it requires eligible use of funds, proper application, and satisfaction of statutory conditions. If forgiveness is not “qualifying,” the income exclusion does not apply and cancellation of debt rules would otherwise control. 8
  • IRS warns that improperly forgiven PPP loans (e.g., ineligible recipients or misuse of proceeds) are taxable; such forgiveness may be treated as income. 9

Special safe harbor for 2020 amended positions

  • If you previously disallowed 2020 deductions under early guidance, you may use Rev. Proc. 2021-20’s safe harbor to deduct those expenses and coordinate the timing of related tax-exempt income with Rev. Proc. 2021-48. 10 11

Practical filing steps

For all taxpayers

  • Decide your timing method under Rev. Proc. 2021-48 and attach the required statement if you adopt it. 3 4
  • Keep documentation of eligible expenses and forgiveness approval to substantiate “qualifying forgiveness.” 8

For partnerships/S corporations

  • Track tax-exempt income and related deductions for capital account and stock/basis; allocate in accordance with §704(b) and apply basis increase equal to the partner’s share of deductions that gave rise to forgiveness. 1

For employers claiming ERC

  • Avoid double-dipping: exclude from ERC computation the wages you used to obtain PPP forgiveness, with deemed election rules tied to what you reported on the forgiveness application. 6 7

If you share your entity type and tax years affected, I can outline the exact journal entries, statement language for Rev. Proc. 2021-48, and basis adjustments.

Sources

1 – Rev. Proc. 2021-49 📄 Summarize
2 – Rev. Proc. 2021-49 📄 Summarize
3 – Rev. Proc. 2021-48 📄 Summarize
4 – IRS – Publication 525 Taxable and Nontaxable Income 📄 Summarize
5 – Rev. Proc. 2021-50 📄 Summarize
6 – Notice 2021-20 📄 Summarize
7 – IRC § 3134(h) 📄 Summarize
8 – IRS Determination-202237010 📄 Summarize
9 – IRS Newsroom – IR-2022-162 📄 Summarize
10 – Rev. Proc. 2021-20 📄 Summarize
11 – Rev. Proc. 2021-48 📄 Summarize

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