By Marian Kiernan, CPA, Tax Manager
Revisions to Employee Retention Credit: What Employers Need to Know
In terms of government relief, the Employee Retention Credit is the new belle of the ball after revisions and expanded eligibility for 2020 and an increase to the credit for 2021.
The Employee Retention Credit (ERC) is a refundable employment tax credit created by the Coronavirus Aid, Relief and Economic Security (CARES) Act for employers paying qualified wages and health plan expenses who experienced a full or partial suspension of operations due to a government order or a significant decline in gross receipts. Effective March 13, 2020, the Employee Retention Credit became available to all private employers regardless of size.
The Consolidated Appropriations Act, 2021 (CAA) signed into law on December 27, 2020, has significantly extended and broadened the Employee Retention Credit. Employers need to review these revisions for potential payroll tax credits for past quarters in 2020 and through the second quarter of 2021.
In short, the CAA revised the ERC to:
- Reduced the stringency of eligibility requirements (**PPP loan recipients are now eligible**)
- Expanded period of credit availability for wages paid before July 1, 2021
- Increased qualified wages and maximum credit for 2021 wages
- Clarification on certain qualified and limited wages
Certain changes that came out of the CCA are retroactive to enactment of the CARES Act, but most apply only with respect to wages paid from January 1, 2021, through June 30, 2021 (the first two calendar quarters of 2021). The prospective changes for 2021 were primarily to the credit calculation. The retroactive changes are primarily administrative. The CCA did not change the credit calculation for 2020.
The following changes are retroactive to March 13, 2020:
Reduced stringency of eligibility requirements for recipients of Paycheck Protetion Program Loans
In the original legislation and IRS FAQs there were several eligibility requirements that prohibited employers from taking advantage of the credit. One of the major restrictions was on employers who received PPP loans. Under the CARES Act, an eligible employer receiving a PPP loan could not claim the ERC, and this rule extended to a loan recipient’s affiliate. If an affiliate of an eligible employer received a PPP loan and they shared more than 50% common ownership, then the eligible employer was prohibited from receiving the credit. This mutual exclusivity has created challenges for aggregated employers.
Under the new law, an employer that receives a PPP loan is no longer prohibited from claiming the ERC. However, the same wages funded by PPP loan proceeds and forgiveness cannot be claimed as qualified wages for the credit. If an eligible employer’s qualified wages exceed the amount of PPP forgiveness, the employer can file an amended Q4 Form 941 to claim the credit for any quarter of 2020 for which it qualifies.
Other limitations from the original legislation were based on the large employer status, qualified wages, and other nuanced definitions in the IRS’s FAQs. The CCA has also relaxed some of these restrictions for 2021.
The following changes apply to the period after December 31, 2020:
Expanded period of credit availability
The ERC provisions of the CARES Act were due to expire on December 31, 2020. The Consolidated Appropriations Act extends and broadens the expiring ERC.
Increased qualified wages and maximum credit for 2021
Increase to qualified wages
For 2020, the credit equals 50% of qualified wages up to $10,000 of wages per employee (max credit per employee $5,000). For 2021, the CCA increased the credit percentage to 70% and made the $10,000 max on qualified wages a per quarter limitation rather than an annual limitation. Thus, the maximum credit for 2021 is $14,000 per employee ($7,000 per quarter).
Decrease in significant decline measurement
As mentioned, one of the provisions for which an employer can qualify for the ERC is a significant decline in gross receipts. Under the CARES Act (and effective for 2020), a significant decline is measured as a 50% contraction in gross receipts in comparison to that same calendar quarter in 2019. Effective January 1, 2021, an employer may be eligible for the ERC if gross receipts for the current or prior quarter are less than 80% of gross receipts for the same quarter in 2019. Not only does this change decrease the significant decline measurement, it also allows employers to look back to prior quarters to qualify. For example, an employer may be eligible for the first quarter of 2021 if either 2021 Q1 gross receipts fell by more than 20% when compared to 2019 Q1, or if 2020 Q4 gross receipts fell by more than 20% when compared to 2019 Q4. The lower rate for 2021 allows more taxpayers to tax advantage of the ERC.
If an employer is part of an aggregated group the determination of significant decline must be made at the group level, not the entity level.
Increase to the large employer definition
While the ERC is available to all private employers regardless of size, “large employers” are subject to limitations on what remunerations are considered qualified wages. In general, small employers may treat wages subject to FICA taxes and qualified health plan expenses as qualified wages. A large employer may treat only payments to employees not currently working as qualified wages. For example, if a large employer furloughs 10% of its staff but continues to pay their health insurance, the large employer’s qualified wages would be the qualified health plan expenses. For both small and large employers, only qualified wages and health plan expenses paid during the period of suspension of normal operation or significant decline of gross receipts can be treated as qualified wages. Payments outside of that period do not qualify.
Under the CARES Act (and effective for 2020), a large employer is one with more than 100 full-time employees.
Under the CCA (and effective for 2021), a large employer is one with more than 500 full-time employees.
It is important to note that the number of employees is not a headcount, it is based on full-time and full-time equivalents. Thus, the employee count for an employer with many part-time employees will be less than the headcount used for the PPP loans. Additionally, aggregation rules must be accounted for when determining the number of employees.
Clarification on certain qualified and prohibited wages
The CARES Act prohibits employers from treating certain remunerations as qualified wages. Omitted wages include those that the employer receives a credit for qualified sick and/or family leave (Sec 7001 and 7003 of the FFCRA). Additionally, qualified wages cannot include wages paid to an employee for the Work Opportunity Tax Credit (Sec 51) or the credit for paid family medical leave (Sec 45S). Payments to related individuals do not qualify.
The CCA went on to extend prohibited wages to wages taken into account for purposes of:
- Credit for Increasing Research Activities (Sec 41),
- Indian Employment Credit (Sec 45A),
- Credit for Active Duty Employees (Sec 45P), and
- Empowerment Zone Employment Credit (Sec 1396).
Implications of Expansion and Extension of the Employee Retention Credit
The expansion and extension of the Employee Retention Credit has created an additional liquidity option for employers effected by the pandemic. Employers can begin to take steps to claim the credit by evaluating and documenting their eligibility and collecting payroll reports for the applicable period. However, there are still many items for which we do not have guidance on, a significant one being the interaction of PPP loan forgiveness and ERC qualified wages. Many employers will have to wait until this guidance is released to claim the credit and amend their Q4 2020 Form 941.
And while the ERC is the new darling of government relief, we must remember it does not come with the same benefits of PPP loan forgiveness. Cash received from ERC will reduce the associated expenses, thus creating a taxable event. PPP loan forgiveness is a not a taxable event. While you work on applications for PPP round 2, we recommend working with your tax advisor to make certain you maximize loan forgiveness and qualified wages for the ERC.
There are many other provisions contained within this new legislation and your Keiter team is working to disseminate this information as quickly as possible. If you have questions about the legislation and how it may impact you or your business, please reach out to your Keiter Opportunity Advisor, Email | Call: 804.747.0000
The combination of the Coronavirus pandemic and non-COVID disasters made 2020 a historically challenging year. As businesses continue to navigate the economic impact of these challenges, the possibility for additional government legislation and relief could continue into 2021.
Additional Paycheck Protection Program and COVID-19 Business Planning Resources
The information contained within this article is provided for informational purposes only and is current as of the date published. Online readers are advised not to act upon this information without seeking the service of a professional accountant, as this article is not a substitute for obtaining accounting, tax, or financial advice from a professional accountant.