The Coronavirus Aid, Relief, and Economic Security Act (CARES Act) passed on March 27, 2020, authorizing more than $2 trillion to battle COVID-19 and its economic effects on the U.S. economy. For U.S. employers, the CARES Act provides significant support in the form of loans for small businesses, a loan forgiveness program to encourage employers to retain their workforces during this difficult time, and expanded unemployment benefits applying in most cases to terminated employees, furloughed employees, and those given reduced hours. It also significantly expands the definition of who can receive unemployment benefits to include self-employed workers in the gig economy, independent contractors, and those who may not have an expanded work history.

Although a more fulsome discussion of the contents of the CARES Act can be found here, the purpose of this blog is to discuss certain provisions of the CARES Act on a high level and to identify concerns that employers may face in making the decision to furlough or reduce their workforce.

Is my company eligible to receive a loan sufficient to support my costs, and what is the interest rate?

Under the CARES Act’s Paycheck Protection Program, eligible employers can receive a loan of up to $10 million to cover the costs of payroll for full and part-time employees (up to $100,000 for any individual employee), certain benefits, state and local employer taxes, mortgage interest, rent, utilities, and interest on debt accrued prior to issuance of the loan. However, 75% of the loan must go to payroll costs.

An employer is eligible if it has (1) fewer than 500 employees, (2) a standard number of employees for the employer’s sector as determined by the Small Business Act, or (3) fewer than 500 employees per site and is in the accommodations and food services industry (assigned a North American Industry Classification System Code beginning with 72).

The interest rate on the loan is 1 percent, and its use can be applied to other costs not associated with payroll, and the other items listed above. Any portion of the loan used for other costs will, however, not be eligible for loan forgiveness, but it provides employers with necessary capital at a crucial time and at a relatively low interest rate.

What is the process to apply for the loan?

The lenders under the CARES Act are SBA-approved private lenders. After an application form is submitted, a copy of which can be found here, a lender reports to the CARES Administrator an expected forgiveness amount on the covered loan. The Administrator purchases the forgiveness within 15 days after receipt of the lender’s report. Not later than 90 days after the date on which the amount of forgiveness is determined, the Administrator shall remit to the lender an amount equal to the amount of forgiveness plus interest.

What portion of the loan can be forgiven?

For costs incurred under the payroll protection program and during the first eight weeks following the origination of the loan, the CARES Act forgives up to 100 percent of:

  • Payroll costs
  • Mortgage interest (must be a pre-loan mortgage)
  • Rent (must be a pre-loan tenancy)
  • Utility payments

Forgiven debt will be excluded from gross income. However, there are strings attached to the loan forgiveness. If an employer reduces its employee headcount or reduces its employees’ wages, the amount of loan forgiveness can also be reduced according to a formula (see below).

Are there limits on the amount of the loan that can be forgiven, and if so, how are those limits determined?

If the company can satisfy both prongs of the following test, the loan forgiveness amount would not be reduced, meaning that costs incurred during the covered period associated with payroll, interest on mortgage obligations, rent, and utilities can be forgiven. If the company cannot satisfy both prongs, then it would look to two other tests to determine how much of the loan forgiveness amount can be reduced.

Circumstances under which the loan forgiveness amount is not reduced

The loan forgiveness amount does not necessarily have to be reduced if the employer meets both of the following qualifications:

  • Reinstatements: during the period between February 15, 2020 and 30 days after the date of the enactment of the CARES Act (April 26, 2020), there is a reduction (as compared to February 15, 2020) in the number of full time employees (FTE) and by June 30, 2020, the employer has eliminated the reduction in the number of FTEs; and
  • Salary tests: during the period between February 15, 2020 and 30 days after the date of the enactment of the CARES Act (April 26, 2020), there is a reduction (as compared to February 15, 2020) in the salary or wages of one or more employees and not later than June 30, 2020, the employer has eliminated the reduction in the salary or wages.

In the event of de minimis changes in the numbers of FTE or salaries, the Administrator has the authority to grant de minimis exceptions from the requirements under the statute. But if the employer doesn’t satisfy this test, then the loan forgiveness amount would be reduced as set forth below.

Loan forgiveness amount reduced by Full Time Employee (FTE) tests and salary tests

First, the loan forgiveness amount can be reduced by multiplying the total loan forgiveness amount (sum of the costs incurred and payments made during the covered period to payroll, mortgage, rent, and utilities) by the quotient of:

Avg. # FTE employed per month during the eight-week period beginning on the date of the origination of the loan

Avg. # FTE per month from 2/15/19 to 6/30/19 OR Avg. # FTE per month from 1/1/2020 to 2/29/2020

The employer chooses which denominator it would like to use, with the exception of seasonal employers, who must use the average number of FTE per month from 2/15/19 to 6/30/19 as the denominator. The average FTE is determined by the average full-time employee for each pay period within the month.

Second, if, after receiving the loan (and in the eight-week period thereafter) there is a reduction in excess of 25 percent in the salary or wages of any employee earning $100,000 or less during 2019 (as compared with the most recent full quarter during which the employee was employed before the eight-week period), the loan forgiveness amount is reduced by that number.

How does a company apply for loan forgiveness?

A company seeking loan forgiveness submits to the lender an application with documentation verifying the number of FTE on payroll and pay rates, including payroll tax filings, state income, payroll, and unemployment insurance filings. The company must also submit documents verifying covered payments, and a certification from someone within the company verifying that the documentation is true and that the amount of forgiveness required was used for allowable purposes. Not later than 60 days after the date on which a lender receives an application for loan forgiveness, the lender shall issue a decision on the application.

How does the CARES Act expand unemployment insurance benefits?

The CARES Act expands unemployment benefit eligibility to self-employed individuals (such as gig workers and independent contractors), part-time employees, those with limited work history, and others who are unable to work for a variety of reasons due to COVID-19. Individuals may receive unemployment benefits for up to 39 weeks, 13 weeks longer than previously permitted. The CARES Act provides an additional $600 per week to each recipient of unemployment insurance through July 31, 2020, but the additional $600 is not automatic; each state must enter into an agreement with the federal government in order to provide this additional relief. Similarly, for those states that have waived the one-week waiting period for unemployment benefits, the federal government will fund that first weeks’ cost to the State, through December 31, 2020, but only if the state and federal government enter into an agreement. Individuals applying for unemployment benefits will still do so through their applicable state unemployment insurance agency.

How does the CARES Act impact an employer’s decision to furlough or reduce its workforce?

Employers who are eligible for a CARES Act loan and who are considering layoffs are now faced with several choices. Should they eliminate part of their workforce to save on payroll costs? Will the CARES Act loan and loan forgiveness program provide sufficient and timely cost savings so that employees can keep their jobs and employers can retain their workforce? Or, should the employer try to both reduce its workforce and simultaneously apply for a CARES Act loan?

Layoffs have the obvious benefit of being an immediate cost-saving measure. Some companies may be in such dire financial straits as a result of COVID-19 that they may not be able to front the costs of paying wages to all of their employees, even if they believe they can ultimately get a CARES Act loan. This is especially true for industries foreshadowing long-term economic consequences of COVID-19 where the company does not see a clear path to regaining its foothold.

Obvious concerns with layoffs are the adverse impact they could have on company morale, as well as the cost and uncertainty of hiring previously terminated or new employees when the workflow increases. Further, prominent employers may be incentivized to sustain their workforce to avoid public scrutiny and to maintain good will, especially if doing so could encourage consumer loyalty during an economic downturn.

Additional financial concerns with layoffs include the potential unemployment costs to the employer. Employees who find themselves unemployed or underemployed may be eligible for expanded unemployment benefits under the CARES Act. The Department of Labor has issued guidance prohibiting states from charging employers for any CARES Act unemployment benefits paid so as to impact the employer’s experience rating Additionally, depending on the scope of the layoffs, state and federal Worker Adjustment and Retraining Notification Act obligations may be triggered, which can cause an employer to incur additional legal costs and risks.

Finally, when considering layoffs, employers should determine what, if any, impact a reduction in force could have on their eligibility for a CARES Act loan. As stated above, loan forgiveness amounts will be reduced if headcount is reduced.

The loan forgiveness program could help those employers who have already implemented layoffs or furloughs, or who still intend to do so by April 26, 2020. If a company conducts layoffs, obtains a CARES loan, and then rehires part or all of its workforce by June 30, 2020, it appears that the employer can theoretically reap the immediate cost-saving benefits of the layoff, as well as the benefits of the loan and loan forgiveness, assuming the employer is successful in rehiring the previously terminated individuals in the levels previously discussed.

Rather than implementing layoffs, the CARES Act seems to imply that an employer may reduce salaries of employees earning over $100,000 with no effect on loan forgiveness, or reduce salaries of those earning less than $100,000 by 25 percent or less, especially where they revert to their regular compensation by June 30, 2020.

Employers may be apprehensive that even if they qualify for the CARES Act loan, they may, for one reason or another, not qualify for the loan forgiveness later on, after the loan has been spent. For instance, the initial guidance from the Department of Treasury indicates that due to the likely high subscription, it is anticipated that not more than 25 percent of non-payroll costs will be forgiven. Employers should be mindful of this potential concern. Additional regulations from the Department of Treasury will hopefully provide more guidance soon.