Greg and John discuss important tax updates for employers who took advantage of the Paycheck Protection Plan and important details about the Employee Retention Tax Credit.

With each new COVID bill that is passed, it seems that one or two provisions rise to the top, becoming a focal point for business owners. When the Consolidated Appropriations Act, 2020 (CAA) was signed into law I would have bet the farm that the changes and continuation of the Paycheck Protection Program (PPP) would have been the talk of the town. Little did I know that nearly 2-months into 2021 it would be the Employee Retention Tax Credit (ERTC) that reigned supreme. Under the CARES Act the ERTC was not available to businesses that obtained a PPP loan, but this has changed. Employers can now take the tax credit AND obtain a PPP loan.

There is a catch though – they cannot count the earnings paid with PPP funds as qualified earnings for the ERTC if they received forgiveness or are expected to receive forgiveness for the PPP. Moreover, employers can request the credit retroactively to March 12, 2020 utilizing the eligibility requirements and employee threshold for 2020. The credit gets applied to the employer’s portion of Social Security, and the employer may retain the employee’s federal withholdings, both the employee and employer portions of Social Security and Medicare in order to cover the credit as the liabilities for Social Security alone will fall far short of the ERTC. IRS Form 7200 can be used to request an immediate refund for credits that far exceed 941 tax liabilities. The IRS is expected to update their FAQs to reflect these changes and provide guidance on how to request the retroactive credit for 2020, however, most tax professionals think that it will require an amended 941 (941x) to request 2020 credits. Here are the key aspects of the ERTC:

Employee Retention Tax Credit Eligibility

2020 Criteria

The ERTC is available to any employer in 2020:

• That was carrying on a trade or business during the calendar quarter for which the credit is determined; and
• Had its operations fully or partially suspended under government orders due to COVID-19, or
• Had a loss in gross receipts of at least 50% during the quarter for which the credit is being sought when compared to the same calendar quarter of 2019
  • NOTE: an employer remains eligible for the subsequent quarters after they qualify in a singular quarter UNLESS 2020 gross receipts rebound in a later quarter to 80% or more when compared to the same 2019 quarter. If so, then the employer is no longer eligible in the next following quarter. For example, let’s say an employer had a 70% reduction in gross receipts in Q2 2020 but rebounded in Q3 2020 and only had a 15% reduction in gross receipts when compared to Q3 2019. The employer would remain eligible for the ERTC in Q2 and Q3 of 2020, but NOT Q4 of 2020, UNLESS the loss in gross receipts in Q4 were at least 50% or greater when compared to Q4 2019.
     

2020 Details

• Available from 03/12/202 through 12/31/2020
• Amount of credit = 50% of qualified wages with respect to each employee for the calendar year
• Maximum wages considered per employee in the calendar year = $10,000 (max credit = $5,000 per employee)
• Qualified wages:
  • Employers with an average number of employees >100 FTEs in 2019 = wages paid to employees NOT performing services due to COVID-19 related circumstances (either suspensions of operations or reduction in gross receipts)
  • Employers with an average number of employees of 100 or fewer FTEs in 2019 = all employee wages paid
    • Includes employer’s qualified health plan expense
    • Excludes wages paid with PPP funds that are ultimately forgiven
    • Excludes wages that an employer received tax credits under sections 41 (R&D), 45S (voluntary family and medical leave credit), 51 (WOTC), or for qualified wages under the FFCRA because of the separate credit against 941 liabilities. It may also extend to wages that an employer received tax credits under section 45A (Indian employment), 45P (active duty military), and 1396 (empowerment zones)
    • NOTE: There are special limitations on wage increases in 2020 as it pertains to the ERTC, so be sure to consult with a tax professional
       

2021 Criteria

The ERTC is available to any employer in 2021

• That was carrying on a trade or business during the calendar quarter for which the credit is determined; and
• Had its operations fully or partially suspended under government orders due to COVID-19, or
• Had a loss in gross receipts greater than 20% during the quarter for which the credit is being sought when compared to the same calendar quarter of 2019.
  • NOTE: There is a special qualifying test allowed for 2021 only. An employer can look at the preceding quarter to see if they qualify for the current quarter. For example, to qualify for the credit in Q1 2021 an employer can compare Q4 2020 gross receipts to Q4 2019 gross receipts, as they already know what those numbers are. This allows an employer to take advantage of the tax credits now rather than waiting to see what the gross receipts are at the end of Q1 2021. 
• The note regarding a rebound in gross receipts does not apply in 2021 as each quarter is viewed independently
   

2021 Details

• Available from 01/01/2021 through 06/30/2021
• Amount of credit = 70% of qualified wages with respect to each employee for the quarter
• Maximum wages considered per employee in any calendar quarter = $10,000 (max credit = $7,000 per employee per quarter; capped at $14,000; program ends 06/30/2021)
• Qualified wages:
  • Employers with an average number of employees >500 FTEs in 2019 = wages paid to employees not performing services due to COVID-19 related circumstances (either suspensions of operations or reduction in gross receipts)
  • Employers with an average number of employees of 500 or fewer FTEs in 2019 = all employee wages paid
    • Includes employer’s qualified health plan expense
    • Excludes wages paid with PPP funds that are ultimately forgiven
    • Excludes wages that an employer received tax credits under sections 41 (R&D), 45S (voluntary family and medical leave credit) 51 (WOTC) or for qualified wages under the FFCRA because of the separate credit against 941 liabilities. It may also extend to wages that an employer received tax credits under section 45A (Indian employment), 45P (active duty military), and 1396 (empowerment zones)
       

What Are Qualifying Wages?

Qualifying wages are wages that are subject to Social Security taxation, with some exceptions; group health plan expenses, both the employee and employer pre-tax premiums count as qualified wages even though they are excluded from Social Security wages. Additionally, even though there is no direct guidance, it appears that pre-tax contributions to a Health FSA are included as qualified wages. Those that are self-employed can claim the wages and group health plan expenses paid to employees, but they cannot claim wages with respect to self-employment income that is subject to the Self-Employed Contributions Act (SECA) but not Federal Insurance Contributions Act (FICA).

How Does This Affect My Taxes?

Credits received under the ERTC will affect the deductibility of wages as a business expense. Employers must reduce their ordinary income tax deductions by the amount of the ERTC claim. For example, if an employer has $10,000 in qualified wages for quarter 1 2021, and claims a $7,000 tax credit under the ERTC, the remaining $3,000 ($10,000 – $7,000) is all that can be deducted from ordinary income on the tax return. Previously, this rule also applied to wages paid with PPP funds that were ultimately forgiven, however Congress addressed that issue under the CAA, but the rule does not apply to tax credits taken under the ERTC.

Plan Ahead If You Have A PPP Loan

Wages paid with PPP funds and ultimately forgiven are 100% covered by the government, whereas credits obtained under the ERTC are covered at 50% for 2020 (maximum of $5,000 per employee for the year) and 70% for 2021 (maximum of $7,000 per employee per quarter, for a total of $14,000 in 2021). Additionally, thanks to the provisions in the CAA, wages paid with PPP funds REMAIN tax deductible, whereas the credits received under the ERTC would reduce the tax deductibility of those wages as a business expense by the amount of the credit. Tax professionals recommend getting as much of the PPP loan forgiven first, then claim as much ERTC as possible after that. Consider incorporating allowable business expenses into the PPP forgiveness (as a reminder at least 60% of PPP funds must be used on payroll expenses and business expenses cannot exceed 40% of the total PPP loan amount) to maximize both the PPP forgiveness AND the eligible ERTC.

What is Form 7200?

If an employer cannot claim the full ERTC against the applicable employment taxes, any excess credit is treated as on overpayment and refunded. These excess credits may be claimed in advance (prior to filing Form 941) using Form 7200 or after the fact by filing an amended Form 941 and requesting a refund. If an employer works with a third-party payor, they must provide a copy of any Form 7200s filed by the employer as it could cause difficulties with the IRS. There are no limits on the advance amount for 2020. For 2021, advances are limited to employers with an average of 500 or fewer employees in 2019 and capped at 70% of the average 2019 quarterly wages.

For additional information visit:

https://www.irs.gov/newsroom/new-law-extends-covid-tax-credit-for-employers-who-keep-workers-on-payroll

https://www.irs.gov/forms-pubs/about-form-7200