Through the Taxpayer Certainty and Disaster Tax Relief Act of 2020, enacted December 27, 2020, the Employee Retention Credit (ERC) was extended through June 30, 2021, with an increase in credit from 50% in 2020 to 70% of qualified wages in 2021, an increase of the qualified wage limit from $10,000 for all quarters to $10,000 per quarter, and a reduction in year-over-year decline in gross receipts from 50% to 20% compared to a comparable quarter in 2019.
The ERC was provided under Section 2301 of the CARES Act and enables eligible employers to take a credit against applicable employment taxes for each calendar quarter in an amount equal to 50% of employee qualified wages. The ERC was initially for wages paid on or after March 13, 2020 through December 31, 2020.
On March 1st, the Internal Revenue Service (IRS) issued a notice to clarify guidance related to the ERC. The key intent of the guidance is to clarify and describe retroactive changes under the new law (amended by the Consolidated Appropriations Act, 2021, P.L 116-260) that apply to 2020, primarily relating to expanded eligibility for the credit for organizations receiving Paycheck Protection Program (PPP) loans.
These are the key updates provided in the guidance:
- For 2020, employers experiencing a full or partial suspension of their operations or a significant decline in gross receipts and paying qualified wages from March 12, 2020-January 1, 2021, can take the credit.
- The credit is equal to 50% of qualified wages paid, including qualified health plan expenses, up to $10,000 per employee in 2020 (this means the maximum credit available for each employee is $5,000).
- For 2020, eligible employers receiving a PPP loan can also claim the employee retention credit, although the same wages are not permitted to be counted for both.
The notice also defines the following:
Are non-profits and governments eligible for the credit?
- Tax exempt organizations are deemed to be engaged in a ‘trade or businesses’ and are therefore eligible while local governments are not eligible for the credit.
What constitutes full or partial suspension of trade or business operations?
- Organizations deemed as ‘essential business’ may be considered to have a partial suspension of operations if more than a ‘nominal portion’ of its business operations are suspended by a governmental order. More than a nominal portion
is defined as either (i) the gross receipts from that portion of the business operations is not less than 10% of the total gross receipts (determined using the gross receipts of the same calendar quarter in 2019), or (ii) the hours of service performed by employees in that portion of the business is not less than 10% of the total number of hours of service (determined using the number of hours of service performed by employees in the same calendar quarter in 2019).
- Organizations that voluntarily suspend operations or reduce hours due to COVID-19 are not eligible for the employee retention credit.
- Organizations that close their physical workspace but can continue operations in a comparable manner through other means such as telework are not eligible for the employee retention credit. However, if the closure of the workplace causes the employer to suspend business operations for certain purposes, but not others, it may be considered to have a partial suspension of operations due to the governmental order
- An employer with business operations that are fully or partially suspended due to a governmental order during a portion of a calendar quarter is an eligible employer for the entire calendar quarter. However, only wages paid with respect to the period during which the employer is fully or partially suspended due to a governmental order may be considered qualified wages.
What is a significant decline in gross receipts?
- The period during which there is a significant decline in gross receipts is determined by identifying the first calendar quarter in 2020 (if any) in which an employer’s gross receipts were less than 50% of its gross receipts for the samecalendar quarter in 2019. The period during which there is a significant decline in gross receipts ends with the earlier of January 1, 2021, or the 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.
- For tax-exempt organizations, “gross receipts” are defined as the gross amount received by the organization from all sources without reduction for any costs or expenses including, for example, cost of goods or assets sold, cost of operations, or expenses of earning, raising, or collecting such amounts. To determine whether there has been a significant decline in gross receipts, a tax-exempt employer should compute its gross receipts received from all of its operations during the calendar quarter and compare those gross receipts to the gross receipts received for the same calendar quarter in 2019.
What is the maximum amount of an eligible employer’s employee retention credit?
- The credit equals 50% of qualified wages (including allocable qualified health plan expenses) that an eligible employer pays in a calendar quarter. The maximum amount of qualified wages (including allocable qualified health plan expenses) taken into account with respect to each employee for all calendar quarters in 2020 is $10,000, which means that the maximum credit for qualified wages (including allocable qualified health plan expenses) paid to any employee in 2020 is $5,000. If an employee is employed by two or more entities treated as a single employer under the aggregation rules, the maximum amount of qualified wages for all calendar quarters that may be taken into account with respect to that employee is $10,000 in the aggregate; thus, an aggregated group treated as a single employer may not claim more than the maximum credit of $5,000 with respect to any one individual employed by the members of the aggregated group. With respect to such an employee, the amount of the employee retention credit that may be claimed by any member of an aggregated group is based on the member’s proportionate share of qualified wages giving rise to the credit per the return period for which the credit is claimed.
What are qualified wages?
- Qualified wages are generally limited to wages and compensation both determined without regard to the social security wage base, paid by an eligible employer to some or all of its employees after March 12, 2020, and before January 1, 2021.
- For a large eligible employer (more than 100 employees), qualified wages are the wages paid to an employee for time that the employee is not providing services due to either (1) a full or partial suspension of the employer’s business operations due to a governmental order, or (2) the business experiencing a significant decline in gross receipts.
- For a small eligible employer (less than 100 employees), qualified wages are the wages paid with respect to an employee during any period in the calendar quarter in which the business operations are fully or partially suspended due to a governmental order or during any calendar quarter in which the business is experiencing a significant decline in gross receipts.
How does an eligible employer claim the employee retention credit for qualified wages?
- Employers can report their qualified wages and the amount of the credit to which they are entitled on the designated lines of the federal employment tax return(s). Employers can also report any qualified sick leave wages and qualified family leave wages and claim the credit under sections 7001 or 7003 of the FFCRA on the designated lines on their federal employment tax returns. For most employers, Form 941 is used to report income and social security and Medicare taxes withheld by the employer from employee wages, as well as the employer’s share of social security and Medicare tax. In anticipation of receiving the employee retention credit, eligible employers can (1) reduce their deposits of federal employment taxes, including withheld taxes, that would otherwise be required up to the amount of the anticipated credit, and (2) request an advance of the amount of the anticipated credit that exceeds the reduced federal employment tax deposits by filing Form 7200.
- An Eligible employer may file a claim for refund or make an interest free adjustment by filing Form 941-X, Adjusted Employer’s Quarterly Federal Tax Return or Claim Refund, for a past calendar quarter to claim the employee retention credit to which it was entitled on qualified wages paid in that past calendar quarter. An eligible employer that received a PPP loan and did not claim the credit may file a form 941-X for the relevant calendar quarters in which qualified wages were paid, excluding payroll costs during the covered period of a PPP loan that qualified for forgiveness.
What records should an eligible employer maintain to substantiate eligibility for the employee retention credit?
- Documentation to show how the employer determined it was an eligible employer that paid qualified wages.
- Documentation to show how the employer determined the amount of allocable qualified health plan expenses.
- Documentation related to the determination of whether the employer is a member of an aggregated group treated as a single employer for purposes of the employee retention credit and, if so, how the aggregation affects the determination and allocation of the credit.
- Copies of any completed Forms 7200 that the employer submitted to the IRS.
- Copies of the completed federal employment tax returns that the employer submitted to the IRS (or, for employers that use third-party payers to meet their employment tax obligations, records of information provided to the third party payer regarding the employer’s entitlement to the credit claimed on the federal employment tax return).
If you have any questions regarding the guidance and how it relates to your organization, please contact us.