The Employee Retention Tax Credit (ERC), which allows eligible employers to earn a refundable tax credit against certain federal employment taxes, was an important part of the original CARES Act to provide pandemic relief. The ERC became even more appealing once it was opened to businesses that had also received a Paycheck Protection Program (PPP) loan. (It was previously an “either/or” situation.)
Businesses that have not claimed an ERC during 2020, either because they had a PPP loan, did not realize they had an eligible revenue loss, or simply did not know about the ERC credit, can now apply for a 2020 tax credit retroactively. The revenue decline threshold for 2020 is 50% compared to 2019, with a trailing auto qualifier until the end of the following quarter, where gross revenue comparison is restored to less than a 20% decline.
The credit for 2020 is 50% of the first $10,000 paid per eligible employee, per quarter. The 2020 Retention Credits, once harvested through Form 941 / 941-X payroll filings, must be reported on your 2020 tax filings. The Credits you generate must reduce wage expense equal to the amount of ERC you received.; effectively making the ERC taxable. So if you have extended your 2020 business tax filings, they should remain on extension while the 2020 ERC opportunity is explored. If you have already filed, an amendment can be filed.
In addition, many businesses will be eligible for the ERC credit throughout 2021, potentially each quarter, as the American Rescue Plan Act of 2021 has extended the program through December 31, 2021.
The ERC is available to companies of any size that had their business fully or partially suspended or suffered a drop of 20% or more in gross quarterly revenues in 2021, compared to the same quarter in 2019. Each 2021 quarter must be calculated and tested individually. There are special rules for 2021 that allow for alternative prior quarter elections for the testing. The maximum ERC credit has been increased to 70% of the first $10,000 paid per eligible employee, per quarter. (The computation differs for companies with more than 100 full-time equivalent employees in 2020, and more than 500 full-time equivalent employees in 2021.) You cannot claim the ERC on wages that have been paid using the proceeds from a PPP loan. You can apply for the ERC with your quarterly payroll tax filings.
There is No Rush!
Unfortunately, there are some companies taking advantage of the uncertainty surrounding the ERC by pressuring businesses to hurry through an application or risk losing the opportunity. That is inaccurate information. The fact is you have more than two years to file an amended Form 941 to take advantage of the ERC. In most cases you can correct overreported taxes on a previously filed Form 941 if you file Form 941-X within three years of the date Form 941 was filed or two years from the date you paid the tax reported on Form 941, whichever is later.
New Flexibility with PPP
With the ERC now available to PPP borrowers, you might consider adjusting the allocation of PPP payments between payroll and eligible business expenses. PPP loan forgiveness requires a minimum of 60% of funds be used for payroll purposes with the balance available for eligible non-payroll costs. But many companies simply used 100% for payroll. Now, however, using the full 40% allowed for expenses may “free up” payroll costs that could be applied toward the ERC. It may require more paperwork on a PPP forgiveness application, but the result could be worth the extra effort.
There are certain restrictions and provisions on which part of your payroll is eligible for ERC, and those rules differ in 2020 versus 2021, particularly for companies with more than 100 full-time equivalent employees. The rules surrounding the inclusion of business owner’s compensation in the eligibility formulas also remain unclear; and the AICPA awaits clarification from the IRS. For larger firms, those with multiple entities and attribution or affiliation rules, calculating ERC eligibility gets quite complicated and requires assistance from an experienced consultant. Finally, the strategic interplay with the PPP and the ERC requires planning and analysis to ensure your stimulus opportunities are maximized.
Despite these complexities and uncertainties, an ERC may offer significant opportunities for tax savings, and one that is worth investigating more fully. For additional information or help in calculating your potential for applying for the ERC, either this year or retroactively for 2020, please contact Gray, Gray & Gray at (781) 407-0300.