Before we begin, we may want to revisit the background and purpose of the Employee Retention Credit.
The ERC program was established under the Coronavirus Aid, Relief, and Economic Security (CARES) Act. It encouraged businesses not to lay off employees on their payroll. It was also focused on providing incentives to those businesses through a refundable payroll tax credit. This was to offset certain wages.
Although initially, it prohibited employers from receiving both a PPP loan and the ERC, a subsequent amendment allowed businesses to claim the ERC even if they had applied for the PPP loan. In the ERC, eligible employers receive payroll tax credits for wages and health insurance.
The ERC (employer retention credit) program ended in November 2021 when the Infrastructure Investment and Jobs Act became law. However, businesses can still claim it retroactively for up to three years. You can help your clients claim this credit only if you know how the program works.
Here is a guide about 10 important things that CPA & ERC Specialist must know about ERC.
If a business had been suspended or its revenue had dropped, the outcome would depend on whether the business had been suspended.
In the case of "small employers," the ERC credit can be claimed on ALL employee wages.
If your client does not qualify as a small employer, they will not be able to claim the ERC on wages paid to employees who are not working. They should consult professional advisors about the definition of employees who are "not working". Employees' wages must be deemed "not working" for ERC eligibility, which requires additional guidance.
Some related parties and owners are restricted from earning wages (under rules similar to Section 51(i)). This credit is not available to family members, such as siblings, parents, grandparents, etc. These relationships are ineligible according to IRS FAQ #59:
In addition to wages paid to employees with an ineligible relationship, ineligible wages may also include wages paid to people who indirectly own 50% or more of the business by way of constructive ownership (under 267(c)). Indirect owners are spouses, brothers, sisters, ancestors, and descendants. Also, indirect ownership can result from holding shares of other businesses, such as corporations, partnerships, and trusts.
Earnings from self-employment do not qualify as qualified wages for self-employed individuals.
To be eligible for the ERC, employers must have less than 100 full-time equivalents (FTE). Small employers are defined as one with less than 500 full-time employees to qualify for the ERC. It is the employment period that is used in both cases. To put it another way, in the ERC for 2021, the reference period will not be 2020 FTEs. FTEs must also be calculated based on affiliation rules.
According to Section 4980H of the Affordable Care Act, enacted in 2010, FTEs are computed according to specific rules. When an employee works full-time, that employee averages at least 30 hours a week for the calendar month.
Generally, this is the total cost of employer health insurance plus gross wages. For 2020 and 2021, the maximum qualified wages per employee are $10,000 per year and $10,000 per quarter, respectively.
The employer could not use a PPP loan obtained by an employer under the CARES Act to benefit another ERC employee. During 2020 and 2021, this was changed retroactively by the CAA law. This was so that both PPP and ERC could not be applied to the same wages. As a result, ERC cannot be used to claim wages on PPP loans.
Similarly, wages claimed under the Families First Coronavirus Response Act (FFCRA) that are for emergency sick leave or emergency family or medical leave are not qualified wages.
ERCs can't be used to generate certain other credits in conjunction with wages and health insurance benefits.
As we wait for IRS guidance, mainly when businesses have already applied for PPP loan forgiveness, we look forward to the interaction of PPP and ERC. The amounts claimed on the PPP forgiveness form should be reconsidered if your client has not filed it. More guidance is needed if the forgiveness form has already been filed.
The PPP forgiveness form can be used to claim all wages, even if other expenses, such as rent, interest, and utilities, could be claimed.
Would other non-wage expenses free up wages for PPP if they weren't reflected on the forgiveness form?
A PPP form often claimed more wages than were necessary to support 100% forgiveness. For example, a PPP loan of $250,000 was obtained, while a wage claim of $400,000 was made. Regarding employee retention credit wages, it is unclear whether the excess $150,000 can be applied. Additionally, it is unclear how using excess wages could affect the calculation of PPP headcount reductions.
Up to $10,000 in qualified wages will be eligible for the credit in 2020. Included in this is the entire year. Thus, for 2020, an employee may claim a maximum credit of $5,000 ($10,000 multiplied by 50%).
Until the end of 2021, 70% of qualified wages can be used for tax credit purposes. However, there is an important difference here: for 2021, the credit will only be available for the first two calendar quarters before June 30, 2021, and is capped at 70% of qualified wages each quarter. Accordingly, the maximum credit for 2021 per employee will be $14,000. A new ERC will be implemented on June 30, 2021, expiring on June 30, 2022.
Form 941 records the ERC, which is a payroll tax credit, not an income tax credit.
To access the ERC, employers must compute their ERC for the pay period and adjust the required tax deposit downward by the credit amount. Form 7200 (Advance Credit Form) must be filed before Form 941 is filed if the ERC exceeds the required deposit. If an employer has a reasonable expectation of receiving an employee retention credit, penalties for not depositing employment taxes will be waived under the CARES Act.
If eligibility for the ERC is determined after quarter-end but before filing Form 941, you can claim the credit on the form as instructed on Form 941.
In Form 941, line 11c and line 13d, if applicable, are used to report the ERC. The wages that qualify for ERC are reported on line 21, while the wages that are eligible for Social Security and Medicare are reported on lines 5a and 5c. On line 22, you will find information about health care expenses. For more information, see Worksheet 1, Step 3..
Additionally, businesses with 500 or fewer full-time equivalents can claim an advance credit based on 70% of the average quarterly wage in 2019. This 70% advance needs further guidance from the IRS.
If the qualified wages were paid between January 1, 2020, and September 30, 2020, the credit may be claimed on the fourth quarter payroll tax return. The mechanics of this need to be clarified, and we hope that guidance will be issued before the deadline for submitting Form 941 on February 1, 2021.
Alternatively, Form 941-X can be used to file amended payroll tax returns. Lines 18, 26, 30, and 31 are impacted by Form 941-X. In general, IRS regulations allow you to correct over reported taxes within three years of the date Form 941 was filed or within two years from the date you paid the tax reported on Form 941. Affected employers may be required to amend their Form 941 due to the timeline.
ERC credits are taxed as income. As a result, the amount of the credit must be subtracted from the wages on which it is claimed, resulting in taxable income on credit. As a result of the reduction in wages, some employees may not be eligible for the 20% qualified business income deduction under Section 199A. If the employee retention credit is claimed after the income tax return has been filed, the income tax return may need to be amended to include wages reduced for the credit accurately. It will also be necessary to amend owners' returns for pass-through entities.
It is important to remember that the maximum credit per employee for 2020 is $5,000. Therefore, your client will have a minimum of six months in 2020 to earn ERCs if your revenue declines by 50% or more in any quarter.
The very first step is to determine if the revenue has dropped more than 50% in any quarter or if your client has suspended operations in full or in part. There is much less interpretation involved in meeting the revenue decrease test; instead, it is based solely on the period during which the suspension was enacted.
Consider using the ERC to claim wages and health insurance benefits if your client didn't file a PPP loan forgiveness application.
Consider the wages and health insurance benefits that weren't reported when you filed your PPP loan forgiveness application. These may be eligible for ERC.
An employee's health insurance benefits are paid if they are not working.
Employers should examine eligibility for employees who provide part-time or full-time services and employees who are not working but continue to receive wages. The advisors should be consulted to determine if these identified employees meet the "not working" standard for ERC eligibility.
ERC is a valuable credit that businesses can claim on employee wages during the COVID-19 pandemic. There are several important things that CPA and ERC specialists must know about ERC, such as the eligibility criteria, the period for claiming ERC, the employees who are eligible, and the maximum amount of wages eligible for the ERC. Additionally, there are restrictions on related parties and owners who cannot earn wages, and certain non-wage expenses cannot be used to claim the ERC. CPA must know all these basic details so that they can further advise their clients on how to claim the ERC.
ERC is technically complex. It has high consequences due to the peculiarity of its design. Leaving this benefit on the table would be a mistake, but without the right expert on board, it's a mission impossible.
For more information, you can Schedule a call with Jason Dinesen, EA, LPA, or visit the ERC PPP experts to know more about ERC Credit.