Succeeding in Your Business: Oh, the joy of those pesky NAICS codes

By Cliff Ennico 

“I am trying to apply for a Paycheck Protection Program loan for my small business, but I’ve hit a snag.

“My local bank, which is part of the PPP, is telling me I can’t apply for a loan because my current NAICS Code is incorrect. I didn’t even know what a NAICS Code was, much less that I had one. I’ve been in business for over 20 years and this has never even come up as an issue before.

“Please tell me, in plain English, what a NAICS Code is and what I can do to fix this problem.”

First, some background:

Many, many years ago, the government had difficulty keeping accurate statistics on small businesses. So, they invented the Standard Industrial Classification system as a way of figuring out how many small businesses there were in different categories. They assigned a number to each type of business in which a small business could engage. For example, “eating places” (restaurants) were SIC Code 5812, while “drinking places” (bars) were SIC Code 5813.

Right there, you see part of the problem: A restaurant that serves alcoholic beverages could be either a 5812 or a 5813. Each SIC Code covered a broad range of businesses and there was often overlap between two or more categories. As we lawyers say, the SIC Codes were both overinclusive and underinclusive.

They were also focused entirely on manufacturing businesses. When I was studying law, back in the Paleozoic Era, the codes were referred to as “product codes” — so a company that made widgets got the widget code, a company that made tractors got the tractor code, and so forth.

In 1993, the NAICS Association was formed to help address this problem. They developed the North American Industry Classification System, which assigns NAICS Codes to businesses in a way they hoped would classify businesses more precisely and accurately. People fell in love with the NAICS, and many government agencies, particularly the IRS, began requiring businesses to specify a NAICS Code when registering with those agencies.

But then along came the Internet, social media, mobile phones and most of the technology that drives today’s business models, and many of the NAICS Codes became obsolete or overly broad. If your business offers a “software-as-a-service business intelligence tool using artificial intelligence” (I realize that’s gibberish, but please go with me here), there is no specific NAICS Code for what you do. The closest you can come is Code 511210 (software publishers — applications software, computer, packaged), which lumps you in with Microsoft, Apple and Intuit and other “shrink-wrap” software companies.

While the NAICS Codes are generally more precise than the SIC Codes, they’re still pretty broad and they still haven’t been updated to deal with the post-industrial world where a company’s biggest “product” is intellectual property. Accountants, lawyers and others who form small businesses have a lot of leeway when selecting an NAICS Code or SIC Code for their clients and the choice often involves a certain amount of guesswork.

Sometimes these folks guess wrong, which is what I think happened here.

You say your business is 20 years old. Back then, you had to include a NAICS Code on the application form for your federal tax identification number (called an EIN). The accountant or lawyer who set up your company probably selected what he or she felt was the most accurate NAICS Code for your business at that time, and that Code is now permanently attached to your EIN even though your business may have changed over the years. Your PPP lender probably noticed this on your latest tax return and realized it didn’t accurately describe your business.

That’s a guess, but an educated one.

Talk to your accountant about ways you can fix this problem. The good news is that you should be able to switch to the correct NAICS Code when you file your 2020 tax return. That probably won’t be for a while, however, and the new PPP loan program is likely to fill up fast. You could amend your 2019 tax return (which you have already filed with the IRS) to change the NAICS Code and update the IRS database, but that’s a cumbersome and time-consuming process that may alert the IRS to other potential problems with your 2019 tax return. Better to let sleeping dogs lie.

One possibility: Form a new corporation or limited liability company, obtain a new EIN with the correct NAICS Code and then merge your old company into the new one before applying for the PPP loan. That will be a real pain in the neck, as you will have to open new bank accounts and change all your vendors’ and suppliers’ accounts to reflect the new company. If you are desperate for cash, however, it may be the only way you can move forward with your lender.

It’s always a shame when a slip of the pen 20 years ago causes problems for you today, but, hey, it happens. If you’re not sure your business is operating under the correct NAICS Code, ask your accountant to look into it this year and get it right when you file your 2020 tax return.

Cliff Ennico (crennico@gmail.com) is a syndicated columnist, author and former host of the PBS television series “Money Hunt.”

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