The Employee Retention Credits (ERC) provide relief in the form of a refundable tax credit to businesses that kept their employees on payroll and/or incurred health plan expenses during the COVID-19 pandemic. The ERC tax credit, also known as ERTC, is still getting a lot of attention in the news media these days. Also, a number of companies are advertising on TV and the internet to say that you may still be able get claim the credit, even if you didn’t have a drop in revenues.

What is the Employee Retention Credit (ERC)?

The ERC is a refundable tax credit designed as an incentive for businesses to keep employees on their payroll during the challenging times caused by the COVID-19 pandemic. Here’s a more detailed look at the credit components of the employee retention program:

  1. Nature of the Credit: The ERC is a refundable tax credit, meaning that if the amount of the credit exceeds the amount of payroll taxes owed, the excess is refunded to the business. This feature makes the ERC particularly valuable as it can provide actual cash to businesses, rather than just reducing the amount of taxes owed.
  2. Application Against Payroll Taxes: The credit is applied against payroll taxes, specifically on the quarterly Form 941/941-X. Form 941 is the Employer’s Quarterly Federal Tax Return, used to report income taxes, social security tax, or Medicare tax withheld from employee’s paychecks. Form 941-X is used for making corrections to previously filed Form 941.
  3. Eligibility Period: The ERC was available for wages paid up to September 30, 2021. This means that any wages paid after this date are not eligible for the credit.
  4. Filing for the Credit: Businesses that wish to claim the ERC for eligible wages can do so by filing amended Forms 941-X. This is particularly important for businesses that may not have claimed the credit during the eligible period but realize after the fact that they were eligible.
  5. Deadline for Claiming the ERC: Generally, businesses have three years from the end of the eligible period to file amended returns and claim the ERC. This provides a window of opportunity for businesses to assess their eligibility and take advantage of the credit even after the immediate period of disruption has passed.

The ERC was part of broader government efforts to mitigate the economic fallout from the COVID-19 pandemic by supporting businesses and encouraging them to retain employees despite the challenges posed by lockdowns, reduced consumer spending, and other pandemic-related disruptions.

Unlocking the ERC: Strategies for Navigating Revenue Declines and Regulatory Challenges

The ERC is available for all four quarters of 2020 and the first three quarters of 2021. Eligibility can be happen in one of two ways.

Revenue Decrease

The first way is if there is a drop in revenues for the above seven quarters mentioned above as compared to the corresponding quarters in 2019. For 2020, the revenue decrease criteria is 50 percent of the corresponding 2019 quarterly revenues. For 2021, it is a 20 percent decrease versus 2019. In addition, if you qualify for a particular quarter, you may qualify for a previous quarter even if that quarter itself doesn’t qualify. This is because of “lookback” provisions in the law. Bottom line – If you qualify under the revenue drop criteria, then it is a fairly easy process to file an amended payroll tax return (Form 941) to claim the credit, and we can help you with this.

Facts and Circumstances

I call the second way to claim the ERC a “facts and circumstances” approach. If you did not have the revenue decreases as noted above, the second way to qualify is using this approach. If you can make the case that government mandates related to COVID had a detrimental effect on your business, then you may also qualify for the ERC – – – things like disruptions because of COVID related supply chain issues or because the government made your employees stay home. This approach is somewhat nebulous because you have to build the case (e.g. in some type of report) outlining what the disruptions were and how they negatively affected your business. The report doesn’t have to be submitted to the IRS, but needs to be available if they request proof that you’re eligible for the credit.

There are some companies around who are helping build the case for the “facts and circumstances” approach. Our firm does not do this. If you’re interested in this approach, there are some companies we’re familiar with, or we’d be glad to help you evaluate any companies you might have been referred to. There’s obviously risk to this approach, but it’s legitimate as long as you can make the case that you’ve been harmed by government mandates.

While a third party company might help you build a “facts and circumstances” type case for the ERC, the risk is all with you. Some of the reports we’ve seen to support this approach seem comprehensive and compelling. Others seem flimsy and may put you at significant risk for attack if you’re audited by the IRS. Many of these ERC consultants say they provide “audit support”, but they don’t guarantee that you’ll win. Also, since the ERC audit period is up to five years, you need to evaluate whether you think the company you used will be in business down the road.

Here is another significant risk. The wages used to claim the ERC are not deductible for income tax purposes. The statute of limitations for income tax purposes is three years. What happens if the IRS audits your ERC and disallows it five years from now? Not only would you have to pay back the ERC (likely with interest and possible penalties), but then you would not be able to amend your income tax return to claim the wage deduction because it was beyond the three year statute of limitations. You could lose both the ERC and the tax deduction in that situation.

If you have a case for the “facts and circumstances” approach, by all means evaluate the opportunity.  However, be careful if it is something that seems too good to be true. As always, we’re available to talk through your specific ERC situation and provide advice if requested.

Top Considerations for ERC Eligibility

Businesses can be eligible in two ways:

  1. Your business was partially or fully suspended due to a government order limiting commerce, travel, or group meetings related to COVID-19.
  2. Your business experienced a significant decline in gross receipts, as defined below.

If your business experienced a significant decline in gross receipts, you may be eligible for the entire applicable quarter and potentially the following quarter.

An employer is considered to have experienced a decline in revenue if:

  • Gross receipts in a 2020 calendar quarter were less than 50 percent compared to the same calendar quarter in 2019.
  • Gross receipts in a 2021 calendar quarter were less than 20 percent compared to the same calendar quarter in 2019.

Example: In 2021, an employer had a 20 percent decline in gross receipts for Q1 and Q2 as compared to those quarters in 2019.The employer qualifies for ERC and could receive up to $7,000 per employee for Q1 and Q2. Additionally, eligibility for the credit ends the quarter after qualification. Therefore, the employer would also be able to take advantage of ERC in Q3 as well. Note that the credit may be reduced if the employer also received PPP funds.

If my business received a PPP loan, is it eligible for the ERC?

The ERC was introduced as part of the Coronavirus Aid, Relief and Economic Security (CARES) Act to incentivize employers who keep workers on payroll during the pandemic by offering a refundable tax credit against employment taxes. Initially, a business that received a PPP loan was not eligible for the ERC.

Since, the enactment of the Consolidated Appropriations Act, 2021 (CAA) in December 2020, PPP recipients can claim the ERC retroactive to March 13, 2020, on qualified wages that are not paid for with forgiven PPP loans. If you are a PPP loan recipient, you may now be eligible for this tax credit with this change.

Changes to the Employee Retention Credit Offers New Opportunities for Employers

The ERC originally had a rate of 50 percent on qualified wages, and with the new changes, that ERC rate was increased to 70 percent for the first two quarters of 2021. The changes also increased the limit on per employee creditable wages from $10,000 for the year for 2020 to $10,000 for each eligible quarter for 2021.

In the original guidance, it was required for employers’ gross receipts to have experienced a 50 percent YoY decline, and now that has been adjusted to 20 percent, making more employers eligible. Companies, tax-exempt organizations, colleges and universities, and entities providing medical or hospital care are now entitled to ERC benefits in 2021 if they experience a decline of more than 20 percent in gross receipts as compared to their gross receipts for the same calendar quarter in 2019. The new guidance also increased the number of full-time equivalent employees counted from 100 to 500 when determining the relevant qualified wage base.

Navigating the Updated Employee Retention Credit for 2021

Employee Retention Credit for Quarters Beginning after December 31, 2020

“As a result of the new legislation, eligible employers can now claim a refundable tax credit against the employer share of Social Security tax equal to 70% of the qualified wages they pay to employees after December 31, 2020, through June 30, 2021. Qualified wages are limited to $10,000 per employee per calendar quarter in 2021. Thus, the maximum ERC amount available is $7,000 per employee per calendar quarter, for a total of $14,000 in 2021.”1

Use these steps to determine if your company is eligible for the ERC under the new guidelines.

  • Step 1: Did the business have an Eligible Quarter?
    • The business was fully or partially suspended by the government.
    • The business had a 20% reduction in gross receipts as compared to same quarter in 2019. If same quarter 2019 didn’t exist, use 2020.
  • Step 2: What is the Number of Full Time Equivalent Employees
    • If the business has fewer than 500 FTEs, all wages paid qualify.
      • Added: Credit can be taken in Advance = to 70% average paid by employer in 2019
    • If the business has more than 500 FTEs, only wages paid for not providing service qualify (wages paid not to work).
  • Step 3: Determine Qualified Wages (Max $10,000 qualified wages per employee per Quarter = $7,000 credit per employee per quarter)
    • Make election to treat wages plus healthcare costs as first coming out of new PPP.
    • Excess wages & healthcare costs qualify for ERC cap at $10,000 per employee of wages x 70% (determined by quarter).

Added: The rule preventing inflating wages in an eligible quarter was scratched. Employer can pay bonuses to employees to reach cap for quarter.

Employee Retention Credit for the Period March 12, 2020 through December 31, 2020

“Prior to the Relief Act amendments, section 2301(j) of the CARES Act provided that an eligible employer that received a covered loan under paragraph (36) of section 7(a) of the Small Business Act (15 U.S.C. 636(a)), as added by section 1102 of the CARES Act (a Paycheck Protection Program loan or PPP loan) would not be eligible for the employee retention credit. Section 206 of the Relief Act amended section 2301 of the CARES Act to permit an employer that received a PPP loan to be eligible to claim an employee retention credit under section 2301 of the CARES Act by striking section 2301(j) of the CARES Act, effective retroactive to the original effective date of the CARES Act.”2

To see if your business can claim a refund of up to $5,000 per employee, follow these steps.

  • Step 1: Did business have an Eligible Quarter?
    • The business was fully or partially suspended by the government.
    • 50% reduction in gross receipts as compared to same quarter in 2019; continue to qualify until receipts back to 80% of same quarter 2019.
  • Step 2: Number of Full Time Equivalent Employees
    • If less than 100 FTEs, all wages paid qualify.
    • If more than 100 FTEs, only wages paid for not providing service qualify (wages paid not to work).
  • Step 3: Determine Qualified Wages (Max $10,000 qualified wages per employee = $5,000 credit per employee)
    • Make election to treat Wages plus Healthcare Costs as first coming out of PPP.
    • Excess wages & healthcare costs qualify for ERC cap at $10,000 per employee of wages x 50% (determined by quarter).

If you received a PPP loan or your gross receipts experienced 20 percent or greater YoY loss, you may now have additional tax credits available to you. Please contact us to evaluate your situation.

Content provided by LBMC tax professionals.

LBMC tax tips are provided as an informational and educational service for clients and friends of the firm. The communication is high-level and should not be considered as legal or tax advice to take any specific action. Individuals should consult with their personal tax or legal advisors before making any tax or legal-related decisions. In addition, the information and data presented are based on sources believed to be reliable, but we do not guarantee their accuracy or completeness. The information is current as of the date indicated and is subject to change without notice.