The CARES legislation created a loan program for business called PPP loans. The law said that the loan could be forgiven if certain requirements were met. Section 61(a)(11) generally requires forgiven debt to be included as income. CARES said that the PPP loan forgiveness would be excluded from income.

What was not clear from CARES was if the expenses paid by the loan could be deducted. IRS claimed no it said that since the loan was to be forgiven with no income reported then the expenses could not be deducted. The Chairs of the two tax writing committees in Congress said this was not their intent. But the law needed to be fixed.

The most recent legislation (COVID Relief) did several things in this regard:

1. It clarified that the borrower could deduct any expenses funded with a PPP loan.
2. It clarified that if the loan was obtained in a pass through entity, such as a partnership or an S corporation, that the forgiven amount would be treated as an item of tax-exempt income that would increase the basis of the partners or shareholders interests in a pass through. This was important because the basis is needed to be able to deduct the expenses.
3. What it did NOT address is the effect of the forgiven loan on an S shareholders AAA. That would then presumably be subject to the normal rules for determining AAA.

REQUIRED: You need to do three things..

1. Give me the specific section of the new legislation, that is a specific citation, that says that the basis would increase (partner and S shareholder)
2. Give me the specific section of the new legislation that says that the forgiveness of the loan will not affect the deductibility of the expenses
3. Give me you analysis of what happens to AAA, if anything, for this forgiven income (that is, basis increases, but does AAA? Give a specific citation to the GENERAL tax law to support your answer)

Each of the 3 parts is worth as much as 5 points.