Important Changes to the Employee Retention Credit (ERC)
March 24, 2021
Many different relief opportunities continue to be available for businesses through the ongoing COVID relief bills that Congress has implemented over the past year. Although much of the focus has been on the Paycheck Protection Program (PPP) loans, another potentially impactful credit for many businesses is the Employee Retention Credit (ERC). While these updated ERC provisions were announced in December, businesses should continue paying attention to these items to make sure they have taken full advantage of the past eligibility and are prepared moving into 2021.
Initially, PPP recipients were excluded from taking advantage of the ERC. However, the COVID relief bill passed in December of 2020 provided updated provisions allowing businesses to take advantage of both programs. As a result, businesses can go back and review the qualifications to determine if they can claim the ERC for 2020. As well, with the program’s extension into 2021, businesses should understand the qualifications for this variant of the credit in order to be ready to act if they are eligible.
Employee Retention Credit Updates
Even though both years’ credits are called the ERC, they really operate as two different credits, so it’s important to review each year separately.
2020 ERC
Business Eligibility
Businesses that are eligible for the 2020 ERC are those that had either a decline in gross receipts or experienced a shut down due to the pandemic. Details on each of these eligibility factors are as follows.
Gross Receipts Decline. Businesses that had a decline in gross receipts of 50% or more in any 2020 quarter compared to the same quarter in 2019 would be eligible to claim the ERC for at least that credit in that quarter of 2020, possibly along with additional quarters in the 2020.
Business Shut Down. A business could claim the credit for any period of a shut down that was imposed by a government mandate, whether from the federal, state, or local government.
- Partial shut downs are included in this category, assuming that the impact of the shut down created a more than nominal impact.
- Hair salons & tattoo parlors that had to shut down for a period of time.
- Restaurants that had to switch to take-out only and/or limit their indoor capacity in such a way that they couldn’t serve as many customers as they normally would.
- Doctors that perform elective procedures that had to suspend those procedures for a period of time.
- Dental/orthodontic offices that had to close for non-emergency work.
- Businesses that had to limit their number of customers due to capacity restrictions.
- For the purposes of this credit, “nominal” has been defined to be a segment of the business that provided 10% or more of the entity’s revenue or used 10% or more of the entity’s employee hours, based on any quarter in 2019.
Qualified Employee Wages. The wages that businesses can use for the ERC can vary depending on the size of the business.
- Businesses with 100 or fewer full-time employees, based on a 2019 count, can take ALL wages paid during the relevant period for the ERC.
- Businesses that have more than 100 full-time employees can only take the wages that were paid to staff during the relevant period who were paid not to work.
- In many ways, this severely limits the benefit of the ERC to these businesses.
Calculation of the Credit
Once you’ve determined the eligibility of the business and the time period of the eligibility, you can review what the credit actually amounts to.
- The credit is based on 50% of wages paid, which are capped at $10,000 per employee for the year.
- Health insurance benefits paid by the company would be included in the calculation of wages paid per employee.
- Nearly all wages paid during the qualified period would count towards the ERC, with the exception of direct family members of owners.
- While owners themselves, and their spouses, are able to count their wages for the ERC, wages paid to direct relatives, such as children, parents, and siblings would not qualify for purposes of the credit.
Separately from the 2020 credit detailed above, there is an extension of the credit into 2021. However, this is more than just an extension, as several key changes make the credit operate in a significantly different manner than the 2020 credit. While this credit was originally only available for Q1 and Q2 of 2021, the American Rescue Plan Act of 2021 extended the credit for all four quarters in 2021.
2021 ERC
Key Changes Compared to 2020 Credit
Gross Receipts Decline. Rather than showing a 50% or greater revenue decline, businesses just need to show a 20% or greater decline. As well, there is now an alternative calculation where businesses can use the immediately preceding quarter compared to the same quarter in 2019, rather than the current quarter.
- So, for Q1 of 2021, you can meet the eligibility test by either comparing 2021 Q1 to 2019 Q1 OR comparing 2020 Q4 to 2019 Q4.
- Note that the shutdown rules from the 2020 ERC still apply, so a business can meet the qualifications in 2021 by either having a full/partial shutdown or by meeting the 20% revenue decline tests.
Employee Counts. For 2021, the 100 employee limit to be able to take the credit for all wages paid versus just employees paid not to work is increased to 500 employees.
Amount of Credit. The credit for the 2021 credit is theoretically larger than the 2020 credit. Rather than being a credit of 50% of wages paid, up to $10,000 of wages per employee per year, the credit has been adjusted to 70% of wages paid, up to $10,000 of wages per quarter.
If you believe that you are eligible to claim this credit for any part of 2020, you should be reviewing your information and discussing with your advisor. It is important to work on the computation of the credit, as it will impact the 2020 income tax return. Unlike some of the COVID relief from the government, this credit will decrease qualified wage expenses on the 2020 return, which has an impact on taxable income. Businesses will need to have this handled for the credit before filing income tax returns. As a part of year-end tax return preparation, HBE will be monitoring for possible eligibility for the credit.
The ERC is a payroll tax credit, so it is accounted for on a business’s Form 941 or 943, rather than on the income tax return. If you know that your business is eligible before filing that quarter’s tax return, you can claim the credit when you file the return. Otherwise, you can file an amended payroll return to claim the credit. In either case, the credit can generate a refund back to the business if it exceeds the balance due on the return or create a carryforward for future payroll taxes. In most cases, it will be in the business’s best interest to claim the refund rather than applying the balance to future payroll taxes, but it is worth consulting with your HBE advisor for the best decision for your particular scenario.
ERC Interplay with PPP Loans and Other Relief Options
Both the 2020 and 2021 ERC might interplay with the PPP loans, if your business received one. In general, there are ways to allocate between the two to maximize the benefit to businesses, though each business circumstance is different. If you have already filed for PPP forgiveness for the 2020 loan and qualify for the ERC in 2020, there might be limitations placed on the ERC so that you are not double dipping on payroll costs.
For businesses that received a loan in 2021 and are also qualified for the ERC in 2021, you will want to work with both programs to find the maximum benefit to the business. That might mean waiting to file the ERC on Form 941 until later and amending those returns to claim it. HBE will be able to help with this complex set of calculations to determine what the best course of action is. As of this writing, the IRS has not issued any guidance related to the credit in 2021. We hope to have that guidance soon, but know that there could be changes in the application of the credit depending on the guidance that the IRS puts out. HBE will continue to monitor all guidance and keep clients advised of any new information.
Given the interplay with the ERC and other aspects of COVID relief and the fact that guidance for the 2021 credit currently has not been released, HBE is recommending that clients who are eligible in the first quarter of 2021 not rush to get the credit on their Form 941, but plan to amend the return after clearer guidance has been provided and there has been sufficient time to review all of the opportunities to allow businesses to maximize their relief options.
IRS Credits for COVID-Related Sick-Pay
In addition to updated ERC provisions, IRS credits for COVID-related sick-pay, which were first introduced in the Families First Coronavirus Relief Act (FFCRA), have been extended and changed as a part of the most recent stimulus bill, the American Rescue Plan Act of 2021 (ARPA).
Previously, these wages were mandatory for eighty hours of sick pay per employee through the end of 2020. Subsequently, the employer would then be able to take a payroll tax credit for the wages. In the December stimulus bill, the credit was expanded as a voluntary credit for businesses through the end of March 2021. Under the ARPA, the credit was further expanded through September 30, 2021. In addition, the eighty-hour cap per employee resets as of April 1, 2021. This means that an employer who had an employee that hit the maximum sick pay credit in March 2020 through March of 2021 can get an additional credit for any COVID-related leave that occurs after April 1, 2021 for that employee.
This communication and any applicable contents pertaining to COVID-19 employer relief provisions is based on our professional judgment given the facts provided to us and the COVID-19 employer relief provisions guidance as of the date of the communication. Subsequent developments changing the facts provided to us, or differences in the final guidance and regulations once they are issued, may affect the advice provided. These effects may be material.
