When the Employee Retention Credit (ERC) first came out in 2020, the rule said that if you received PPP loan money, you were not eligible for the ERC. For most taxpayers, that made this tax credit a moot point as the PPP loan offered a much better benefit. With the new stimulus bill that passed in December, Congress changed the rule and said that you could be eligible for the credit even if you received PPP money.
This blog will explore the ERC and how it may impact you. It is important to note from the beginning that while we are staying on top of how the Employee Retention Credit can benefit you, there are still a lot of unanswered questions. We are waiting on the IRS for more guidance. What follows is the most up-to-date information about the ERC.
The first step with the ERC is determining if you are eligible.
Employers including tax-exempt organizations are eligible for the credit if they operated a trade or business during the calendar year of 2020 and experienced either of the following (for our healthcare clients, we will be letting you know if one of the following applies to your business):
- Your gross receipts (less refunds) in any calendar quarter of 2020 were less than 50% of your gross receipts for the same calendar quarter in 2019.
- You had a full or partial suspension of operations due to a governmental order which limited commerce, travel, or group meetings due to Covid-19.
If you meet the 50%-of-gross-receipts test:
Here are additional details if your gross receipts for any quarter in 2020 were less than 50% of your gross receipts for the same quarter in 2019:
- Once you meet this test in any quarter in 2020, you will be eligible for the ERC from the beginning of that quarter unless it is the first quarter. If you are eligible for the first quarter, the eligibility will start on any qualified wages paid to employees after March 12,2020.
- The ERC time period will end when your gross receipts are greater than 80% of the gross receipts from the same calendar quarter in 2019 or 12/31/20.
- Some of our clients will qualify for the Employee Retention Credit starting in the second quarter of 2020. In addition, many will have gross receipts that rebounded to the greater-than-80% mark by the third quarter of 2020 (as compared to the third quarter of 2019). That means the time period to use for the Employee Retention Credit is 4/1/20 to 9/30/20 (the full second and third quarter). If you did not meet the 80% gross receipts test until the fourth quarter, you will receive the credit through 12/31/20.
If you meet the suspension of operations test:
Here are additional details on the full or partial suspension of operations test:
- This time period will be based on the government mandate given by the state where your business operates.
- Several states mandated that dentists only treat urgent health care procedures, which stopped a major part of their business. We have reviewed this situation with a few attorneys, and based on our research, we believe the mandate to provide only urgent care qualifies as a suspension of operations.
- If you are a dentist practicing in Oregon, Washington, or Alaska, here are the dates when you were mandated to close:
- Oregon – 3/23/20 to 4/30/20
- Washington – 3/19/20 to 5/18/20
- Alaska – 3/28/20 to 5/4/20
Calculating and reporting the ERC:
What follows are additional details regarding how the tax credit is calculated and reported if you meet the gross receipts test or faced a full or partial suspension of operations:
- You can receive a credit of 50% on any wages or health expenses paid up to $10,000 per employee or a max $5,000 credit per employee for 2020.
- Wages are based on gross wages paid during the ERC time period. This excludes:
- Wages from the Families First Coronavirus Response Act (FFCRA) paid during the same time period.
- Related individuals and their family if they own > 50% of the entity (e.g., the business owner and family are excluded).
- 1099 contractor pay.
- Severance payments made to former employees following a termination of employment.
- Any wages paid with PPP money that was forgiven.
- Health plan expenses include group health insurance premiums paid, HRA contributions, and FSA contributions. This excludes:
- After tax deductions from an employee’s payroll for health insurance premiums
- Employer H.S.A. contributions
- Employer Archer M.S.A. contributions
- Any health benefit associated with FFCRA pay in which a credit was received during this period.
The calculation of the ERC can be quite complex. For example, you cannot double up on wages and health expenses allocated to the PPP loan and the ERC. Therefore, if the time period for the ERC is the same period as your PPP loan covered period, the allocation becomes complicated. The current ordering rules are FFCRA first, ERC second, and then the remaining wages are used for the PPP loan. We are awaiting additional IRS guidance on these rules.
We believe the ERC will be reported on an amended Form 941x as a credit. This means you will receive a refund based on the credit amount calculated on Form 941x (since you already paid the tax that the credit offsets). Please keep in mind that you cannot get a deduction for payroll expenses AND get a credit for the same deduction. You will have to back out the deduction equal to the credit. Remember, however, that tax credits are better than deductions since credits offset taxes dollar-for-dollar. Deductions reduce your taxable income, but that is done before the calculation of the tax bill. You are better off lowering your deductions to get a matching credit.
What does this mean for you?
If you are eligible for the ERC, we will likely need to file an extension for your corporate tax return. At this point, the IRS still needs to issue guidance on how this credit will be reported for all 2020 quarters impacted by the Employee Retention Credit. We may also need to file an extension for your personal tax return depending on when the IRS issues guidance for the credit. Please know that the IRS has confirmed that filing for an extension does not increase your chances of getting audited.
Even if we may put on your return on extension, it is very important to send your tax information to us as soon as possible. We need your information to plan effectively.
Finally, here are additional examples of why we need further guidance from the IRS:
- If you have already submitted for PPP loan forgiveness and had more wages listed on the PPP application then needed, are you able to allocate part of the wages to the Employee Retention Credit? This could have a big impact on the credit you receive.
- If the PPP loan forgiveness application has already been submitted, are you able to allocate any non-payroll costs not reported on the application to allow more wages to be used for the ERC?
- If you have not submitted for PPP loan forgiveness yet, are the ordering rules going to remain the same, or will the IRS let you pick and choose wages per employee or time period? This strategy would help maximize the Employee Retention Credit while still making sure all the eligible PPP funds are used for loan forgiveness.
As you can see, there are a lot of unanswered questions concerning the Employee Retention Credit and its interplay with PPP loan forgiveness. Therefore, we need more answers before completing your corporate and personal tax returns for 2020. This is also why we do not want you to file for PPP loan forgiveness if you have not done so already.
We will keep you up to date about the Employee Retention Credit and other developments that impact your business and personal taxes. Please stay safe and healthy. And please remember to send your 2020 accounting and tax information as soon as possible.