One of the most exciting features of the Paycheck Protection Program was that it appeared that borrowers were going to be getting deductions funded with loans that did not have to be paid back. And there was an explicit statement that the discharge of indebtedness would not be taxable income.

Taxability.—For purposes of the Internal Revenue Code of 1986, any amount which (but for this subsection) would be includible in gross income of the eligible recipient by reason of forgiveness described in subsection (b) shall be excluded from gross income.


It did not take long for somebody to raise a concern. I credit Greg Berhardt and he brought it up on #TaxTwitter (I mean, where else?)

I saw the merit of the argument, but did not agree. More importantly to me, Lucien Gauthier of the Boston Tax Institute did not agree. Regardless it was disturbing.

The Other Shoe Drops

April 30 was one of the most exciting days in my blogging career. My partner and I were touring the country in our RV. Our carefully laid plans were disrupted by Covid-19. We ended up spending a month sheltering in place at Lake Lurleen State Park near Tuscaloosa AL. The only problem was that our hotspots did not work there. So we kind of set up at an out of the way spot in a mall. It ended up almost like commuting to the office.

That very day after nearly a month of friendly relations, a fairly belligerent young woman, who may have been named Karen for all I know, had two very polite officers of the Tuscaloosa PD evict us for trespassing. They were kind of apologetic and suggested we try the Walmart

parking lot.

As we were driving home that evening just before the coverage lapsed, I saw Notice 2020-32 on my phone and decided that after supper I had to drive back to Walmart to knock out IRS Rains On The Paycheck Protection, which turned out to be one of my all-time biggest hits. The essence of the notice was:

Specifically, this notice clarifies that no deduction is allowed under the Internal Revenue Code (Code) for an expense that is otherwise deductible if the payment of the expense results in forgiveness of a covered loan pursuant to section 1106(b) of the Coronavirus Aid, Relief, and Economic Security Act (CARES Act)

Is That The End Of The Story?

Just accepting the IRS notice is as hard or even harder than blowing it off. If the notice is right what is the point of the income exclusion that is explicitly in the act? Reporting from the Whole Foods parking lot in Washington, PA, I got further into the issue noting that there might be Congressional action and that the AICPA thinks it is a bad idea to take the deduction anyway.

Attorney Anthony Castro wrote Expenses Paid with a Forgiven PPP Loan are Deductible, IRS is Wrong for my alternative blog Your Tax Matters Partner.

No court has ever ruled, nor would it ever rule, that cancellation of debt that is claimed to be non-taxable pursuant to existing exclusions, whether that be due to insolvency or bankruptcy under Section 108 or pursuant to Section 1106 of the CARES Act, somehow requires a taxpayer to amend prior-year returns to remove deductions attributable to the non-taxable cancellation of debt.

No court has ever ruled that a future contingent event that may or may not occur (i.e., loan forgiveness) in a future tax year can somehow retroactively treat expenses that were deductible at the time they were incurred as though they are now nondeductible expenses.

At the time the Paycheck Protection Program (herein “PPP”) loan proceeds are acquired, they are not considered “wholly exempt income.” In fact, because the loan proceeds may be only partially forgiven, it would logically be classified as “partially exempt.” Therefore, the IRS is wrong, and any expenses incurred with the proceeds are fully deductible.

And Now

At that point, I thought that loan forgiveness would be taking place in 2020, but based on the process that has been put into place I believe that you can make forgiveness a 2021 event if you want to.

The interesting question is how many people in the tax business agree with me. So I took did one of my highly scientific twitter surveys. Here is the result.

Here is the survey creator’s judgment of the best comment so far.

But If Congress Does Nothing?

I predict that a lot of returns will go in claiming the deductions. One reason for that will be that normal people don’t cherish all the crumbs dropped by the IRS like you and I do and will not get the word. A small subset of that group will report the discharge as taxable income. A couple of them might catch the Agent From Hell and somehow get whipsawed.

The other is that my survey results, which are actually not scientific, are consistent with the scattering of comments I have seen.

How Does It Play Out?

This is important because there are still a lot of compliant people who will take the conservative approach. If Congress doesn’t act and the IRS holds firm, it ends up in the courts. And I really think it could go either way, particularly for people who get their forgiveness in 2021 after they have filed their 2020 return claiming the deductions.

So if the courts side with the taxpayers, all the conservative people can amend. Right? No that is wrong.

When the IRS audits your return you get to appeal the agent determination within the IRS. If you ultimately agree to disagree you will get a Statutory Notice of Deficiency, which is commonly referred to as a 90 Day Letter because you have ninety days to file a petition with the Tax Court. (Another option is to pay the tax, ask for it back and then sue for refund in District Court or the Court of Claims. Let’s stick with the Tax Court.)

Just to be thorough I looked at every Tax Court regular or memorandum opinion in the last six months. None of the opinions that concerned income tax determination related to a year that was still an open year. A few of the deficiencies were old enough to be in high school. We will hear what the Tax Court thinks about this no earlier than 2025 unless something extraordinary happens.

Another View

Before I went looking at what tax year was involved in recent decisions, I asked Lew Taishoff to prognosticate on how long it would take the Tax Court to get to the matter. He did not answer the question but he had something to say.

Mr Reilly,  Tax-Free money plus a deduction? That’s what Section 265 was enacted to prevent. Congress never overrode Section 265 in the CARES Act. The employer has a simple choice: take the free money as a non-taxable loan, and take the forgiveness as a non-taxable incident, but don’t try to double-dip by writing off the employee payments. Or don’t take the loan, but deduct the higher FUTA taxes you and your employees will share when economic reality catches up with this largesse. 

And for the wits, wags and wiseacres who try the double-dip and hope for the SOL to get away with it, remember mitigation. Taking the forgiveness in years after the deduction opens the door for IRS. 

Finally, I don’t make prognostications for anything but horseraces. There’s a great card at Belmont tomorrow. (See note)

The Conservative But Thorough Approach

If claiming the deduction even though the loan is forgiven is too wild and crazy for you, but you don’t want to lose out if the IRS loses in court, you can file in obedience to the notice and then file a refund claim. You can put this in your tickler file for 2023 or so. Whatever you do don’t push the deadline close and be sure to use US Mail and go the post office and get your receipt stamped in person.


I asked Mr. Taishoff if he was on the record and he indicated he was, but I needed to add:

“The foregoing should not be construed, and may not be used, as (a) legal advice, or (b) to abate in whole or in part any interest or penalties for, related to, or in connection with any tax or imposition by any governmental authority having or asserting jurisdiction, or (c) solicitation of retention or employment, or for the furnishing of legal or non-legal services, or (d) to create a client-attorney relationship or privilege.

“All recipients hereof are advised that a qualified common interest privilege is asserted, both as to the substance of this communication or any claims in connection herewith or in consequence hereof.”