Employee Retention Credit (ERC)

The Employee Retention Credit provides employers with a way to offset up to $5,000 of employer payroll taxes per eligible employee for 2020, and as much as $21,000 per employee for 2021 due to COVID-19. If your business has been negatively impacted by the pandemic, you will qualify!

Note: the Infrastructure Investment and Jobs Act, enacted on November 15, 2021, amended Internal Revenue Code § 3134 to limit the Employee Retention Credit to wages paid before October 1, 2021, unless the employer is a recovery startup business.

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What is the Employee Retention Tax Credit?

The IRS describes the Employee Retention Credit as a fully-refundable tax credit for employers equal to 50% of 2020 qualified wages—including allocable qualified health plan expenses— those eligible employers pay their employees. This credit applies to qualified wages paid after March 12, 2020, and before January 1, 2021. And again, the maximum amount of qualified wages taken into account for each employee for all calendar quarters is $10,000. Consequently, the maximum credit for an eligible employer for qualified 2020 wages paid to any employee is $5,000. Additionally, credits for up to $7,000 per employee over Q1-Q3 in 2021 qualified wages applies.

The credit is permitted against the employer’s share of social security taxes under Internal Revenue Code § 3111(a).

The Employee Retention Credit is fully refundable because the eligible employer may get a refund if the amount of the credit is more than certain federal employment taxes that the employer owes. So, if for any calendar quarter the amount of the credit the employer is entitled to exceeds its share of the social security tax on all wages paid to all employees—then the excess is treated as an overpayment and refunded to the employer pursuant to §§ 6402(a) and 6413(a).

Since this is treated as an overpayment, the excess is applied to offset any remaining tax liability on the employment tax return. The amount of any remaining excess will be shown as an overpayment on the return. Like other overpayments of federal taxes, the overpayment will be subject to offset under § 6402(a) before it is refunded to the employer.

Schedule a Free ERC Strategy Session today to learn whether the ERC is right for your organization.

How is ERC Eligibility Determined?

“Eligible Employers” for the purposes of the Employee Retention Credit are defined as employers that carry on a trade or business during calendar year 2020, including tax-exempt organizations, that satisfy one of the following:

1. They fully or partially suspended operations during any calendar quarter in 2020 due to orders from a governmental authority that restricted commerce, travel, or group meetings (for commercial, social, religious, or other purposes) due to COVID-19; or
2. The company experienced a “significant decline” in gross receipts during the calendar quarter.

The IRS explains that the operation of a trade or business is partially suspended if an appropriate governmental authority imposes restrictions on the employer’s operations by limiting commerce, travel, or group meetings (for commercial, social, religious, or other purposes) due to COVID-19 to the extent that the employer can continue some, but not all of its typical operations.

A significant decline in gross receipts starts with the first calendar quarter in 2020 where an employer’s gross receipts are less than 50% of its gross receipts for the same calendar quarter in 2019. This significant decline in gross receipts ends with the first calendar quarter that follows the first calendar quarter in which the employer’s 2020 quarterly gross receipts are greater than 80% of its gross receipts for the same calendar quarter in 2019, or with the first calendar quarter of 2021.

Schedule a Free ERC Strategy Session today to learn whether the ERC is right for your organization.

How Does the IRS Define Qualified Wages?

Qualified wages are “wages” as defined in § 3121(a) of the Internal Revenue Code and “compensation” as defined in section 3231(e) that is paid by an eligible employer to some or all employees after March 12, 2020, and before January 1, 2021.

This includes the eligible employer’s qualified health plan expenses that are properly allocable to the wages.

The definition of qualified wages depends, to some extent, on the average number of full-time employees employed by the eligible employer during 2019. The definition of full-time employees is found in § 4980H of the Code.

If the eligible employer averaged more than 100 full-time employees in 2019, the IRS explains that qualified wages are the wages paid to an employee for time that the employee isn’t providing services due to an economic hardship. This means specifically, either:

1. A full or partial suspension of operations by order of a governmental authority due to COVID-19; or
2. A significant decline in gross receipts.

For these employers, qualified wages considered for an employee can’t exceed what the employee would have been paid for working an equivalent duration during the 30 days immediately before the period of economic hardship described above.

If the eligible employer averaged 100 or fewer full-time employees in 2019, qualified wages are the wages paid to any employee during any period of economic hardship described above.

Note that the Consolidated Appropriations Act, 2021 (CAA) increased the Employee Retention Credit’s threshold for treatment as a “large employer” from 100 to 500 employees for 2021.

The CARES Act doesn’t require employers to pay qualified wages, and eligible employers may choose to not claim the Employee Retention Credit.

Schedule a Free ERC Strategy Session today to learn whether the ERC is right for your organization.

What are Qualified Health Plan Expenses?

Qualified health plan expenses are defined as the amounts paid or incurred by an eligible employer that are properly allocable to employees’ qualified wages to provide and maintain a group health plan. But this is only to the extent that these amounts are excluded from the employees’ gross income.

Schedule a Free ERC Strategy Session today to learn whether the ERC is right for your organization.

How the Employee Retention Credit Works

Qualified wages are defined as wages subject to withholding of federal income tax and both the employer’s and employee’s shares of social security and Medicare taxes. Qualified wages are also considered wages for purposes of other benefits that the employer provides, like contributions to 401(k) plans.

Eligible employers must report their total qualified wages for purposes of the Employee Retention Credit for each calendar quarter on their federal employment tax returns. This is accomplished usually with Form 941, Employer’s Quarterly Federal Tax Return. Employers also are to report any qualified sick leave and qualified family leave wages for which they are entitled to a credit under the Families First Coronavirus Response Act (FFCRA) on Form 941. That form is to be used to report income, and social security and Medicare taxes withheld by the employer from employee wages, along with the employer’s share of social security and Medicare tax.

In anticipation of receiving the Employee Retention Credit, eligible employers can fund qualified wages in the following methods:

1. Accessing federal employment taxes, including withheld taxes that are required to be deposited with the IRS; and
2. Requesting an advance of the credit from the IRS for the credit that’s not funded by accessing the federal employment tax deposits, by filing Form 7200, Advance Payment of Employer Credits Due to COVID-19.

An eligible employer that pays qualified wages in a calendar quarter won’t be subject to a penalty under § 6656 for failing to deposit federal employment taxes if:

1. The eligible employer paid qualified wages to its employees in the calendar quarter prior to the required deposit.

2. The total amount of federal employment taxes that the eligible employer fails to timely deposit, reduced by:

•  Any amount of the employer’s share of social security tax deferred under section 2302 of the CARES Act; and
• Any amount of federal employment taxes not deposited in anticipation of the credits claimed for paid sick and/or family leave under the FFCRA, is less than or equal to the amount of the eligible employer’s anticipated Employee Retention Credit for the qualified wages for the calendar quarter as of the time of the required deposit, and

3. The eligible employer didn’t seek payment of an advance credit by filing Form 7200, Advance Payment of Employer Credits Due to COVID-19, as far as any part of the anticipated credits it relied upon to decrease its deposits.

Schedule a Free ERC Strategy Session today to learn whether the ERC is right for your organization.

Interaction with Other Credit and Relief Provisions

An eligible employer’s ability to claim the Employee Retention Credit is impacted by other credit and relief provisions. The IRS explains the following situations:

• Wages for this credit don’t include wages that the employer received a tax credit for paid sick and family leave under the FFCRA.
• Wages counted for this credit cannot be considered for the credit for paid family and medical leave under Internal Revenue Code section 45S.
• Employees aren’t counted for this credit if the employer is allowed a Work Opportunity Tax Credit under Internal Revenue Code section 51 for the employee.

An eligible employer can get both the tax credit for qualified leave wages under the FFCRA and the Employee Retention Credit under the CARES Act. However, it can’t be for the same wages.  The amount of qualified wages for which an eligible employer may claim the Employee Retention Credit doesn’t include the amount of qualified sick and family leave wages for which the employer receives tax credits under the FFCRA.

The Consolidated Appropriations Act, 2021 (CAA) addresses the interplay for businesses that want to claim both the Employee Retention Credit and the research and development (R&D) tax credit. The CAA clarifies that business expenses (that normally would be deductible for federal income tax purposes) paid out of forgiven PPP loans may be deducted for federal income tax purposes. This rejects the position previously taken by the IRS that expenses paid with forgiven PPP loan proceeds aren’t deductible for income tax purposes. The CAA also states that wages considered in determining a taxpayer’s 2021 Employee Retention Credit may not be considered in determining the R&D tax credit. Taxpayers, therefore, may deduct and take an R&D tax credit for expenses that otherwise qualify as qualified research expenses (QREs).

Schedule a Free ERC Strategy Session today to learn whether the ERC is right for your organization.

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