All information in this COVID-19 Response Resource issue is effective as of Jan. 12, 2021.
The Coronavirus Response and Relief Supplemental Appropriations Act (the Supplemental Response Act) significantly expands and enhances the employee retention tax credit (ERC). The ERC now allows certain businesses impacted by the pandemic due to a closure order or 20 percent decline in gross receipts a $7,000 credit, per employee, per quarter against the employer’s payroll tax liabilities.
The ERC was created by the Coronavirus Aid, Relief and Economic Security Act (CARES Act), which was signed into law on March 27, 2020. As originally envisioned, the ERC was an alternative to the Paycheck Protection Program (PPP) loan. Therefore, under the CARES Act, employers that took a PPP loan could not claim the ERC. The Supplemental Response Act changes that for Q1 and Q2 of 2021, allowing employers who took a PPP loan to also claim the ERC. However, an employer cannot double-dip. Wages that were supplemented or stabilized with PPP funds cannot be used to claim the ERC. There are several questions as to how that fund tracing and allocation will work, particularly if employers can reallocate PPP proceeds to other eligible expenses (rent and interest). The Department of Treasury is expected to clarify these questions with subsequent guidance.
To claim the ERC, an employer must be able to show one of the following for each applicable quarter:
1) A 20 percent decline in gross receipts from a prior or comparable quarter; or
2) The employer’s operation of its trade or business was fully or partially suspended due to orders from a governmental entity that limited commerce, travel or group meetings of the employer due to COVID-19 (Suspension Order).
The Supplement Response Act has reduced the gross receipts threshold – it was previously a 50 percent decline, and added flexibility in which comparison quarter an employer can use: either the prior quarter, or the same quarter in 2019 or 2020. What constitutes a Suspension Order was not changed, so the prior guidance issued by Treasury, such as FAQ 28 and FAQ 30-38, is still relevant. These FAQs contain numerous examples that will help employers determine if they might be eligible for the ERC due to a Suspension Order. The examples in the FAQ generally provide that businesses that have had to adjust or limit operations due to governmental orders in response to the pandemic will be eligible to claim the credit (i.e. restaurants, gyms, and bars). Businesses that moved virtual with only a nominal effect on operations will not qualify.
The amount of the ERC has also been increased from 50 percent to 70 percent of the first $10,000 of each employee’s wages. The ERC can also be applied quarterly through July 1, 2021.
The ERC does contain a size preference for employers. Large employers, now reduced to only those with greater than 500 employees (using an average number of full-time equivalents), can only claim the credit with respect to idled employees. An idled employee is one that was still on the employer’s payroll but was not providing services due to the employer’s decline in gross receipts or a Suspension Order.
The Supplemental Response Act allows employers to claim any accrued ERC on the Employer’s Q4 941, which is generally due on Jan. 31, 2021. Therefore, an employer should account and determine whether it is eligible for the ERC for any period of 2020 in the next couple weeks.
The ERC is a credit only against the employer’s aggregate Social Security or railroad tax obligations. Generally, employers that are eligible for the ERC will not have a sufficient corresponding tax liability to recover the credit and will be entitled to a refund or advance. To immediately monetize the credit, employers should consider requesting an advance against future tax obligations by filing Form 7200.
The ERC does contain a significant trap for the unwary. Social Security taxes are trust fund payments. As such, the Internal Revenue Service can hold so-called “responsible persons” liable for failure to timely pay and remit these taxes. That can mean directors, officers, owners and managers can be liable for the tax individually. Given the potential for individual liability, employers should coordinate with relevant tax and legal counsel as to the applicability of the ERC for the employer. Employers should also document the applicable governmental orders or gross receipts decline that provided the basis to claim the ERC. Employers above the 500-employee threshold will also need to document how each employee for which the credit was claimed was idled.
Employers who took a PPP loan will need to watch for additional guidance on how to efficiently dovetail the two incentives and should model whether they will benefit more from taking the ERC or a second PPP loan in 2021.
For more information on this or related topics, contact Ross Keogh by calling 406.206.9710 or send an email to firstname.lastname@example.org.