- Review key rules related to the ERC prior to filing.
- Refunds will likely come faster on timely filed 941s; however, be careful not to use wages that you need for other programs, particularly PPP loan forgiveness.
- Review the interplay of ERC, PPP loans, Families First Coronavirus Response Act, WOTC, and other wage-related credits to help protect yourself from issues related to double-dipping.
The Consolidated Appropriations Act, 2021 (CAA 2021) broadened the applicability of the employee retention credit (ERC), bringing eligible employers greater potential for savings — and more questions.
As Q2 filings approach, you have the opportunity to take the credit on a timely filed payroll tax return. But first, consider the items below.
What is the benefit to claiming the credit on a timely filed payroll return?
By claiming the credit on a timely filed payroll return, refunds tend to be processed and sent to eligible employers more quickly. In our observation, employers who claim the credit from a timely filed return are receiving funds about three times faster than those who claim the credit on the amended 941-X.
Why would an employer consider waiting to take the credit on an amended return?
There are two reasons you may not want to claim the ERC on your 2021 Q2 timely filed return.
- First, as of the date of this article, guidance related to nuances about how an organization qualifies remains very limited. Although Notice 2021-20 and Notice 2021-23 provide helpful information about an objective test for a partial shutdown, overall employee headcount, and Paycheck Protection Program (PPP) forgiveness interplay, many questions still remain unanswered. Should future guidance be released, it’s possible that credit dollars would have to be returned with interest and penalties.
- Second, if you received a second draw PPP loan, you may need the payroll dollars for forgiveness, even if you extend your covered period.
What are the key things to know about the 2021 ERC?
Under the CAA 2021, the only retroactive change was how the ERC can be used in tandem with PPP loans. Prior to the CAA 2021, an organization was not allowed to use the ERC if it had received PPP funding. Now, for both 2020 and 2021, an organization may take the ERC even if it has received PPP funding ― as long as the same payroll dollars are not used for both the credit and for PPP forgiveness.
What is my reference period for the gross receipts test in 2021?
There are two ways to determine ERC eligibility under the new rules. To qualify, your organization must either:
- Have been fully or partially suspended due to a valid government order and can claim the credits for the period defined in the dates of that order, or
- Have a reduction in gross receipts compared to a 2019 benchmark period
The CAA 2021 updated the language from the Coronavirus Aid, Relief, and Economic Security Act (CARES Act) to allow for a sufficient reduction in gross receipts to claim the credit in 2021. To be eligible for the credit in 2021, an organization’s gross receipts must be less than 80% compared to the same quarter in 2019. Make this comparison by looking at either Q1 of 2021 compared to Q1 of 2019 or Q4 of 2020 compared to Q4 of 2019. For Q2 2021, this comparison may be made by looking at either the actual decline in Q2 compared to Q2 of 2019 or by using the prior quarter, regardless of the period used for Q1 2021 filings.
That said, if using the fourth quarter of 2020 as a reference period to claim the ERC in 2021, you cannot use the enhanced benefits of the CAA 2021 for claiming a credit in 2020. When evaluating eligibility for the fourth-quarter wages in 2020 and taking a credit related to that payroll, your organization must still meet the greater than 50% reduction in gross receipts test that was effective in 2020.
If I am an S corporation owner, may I claim the ERC for my own wages?
The answer is that it depends on the percentage of ownership and whether the owners are related parties. Owners with greater than 50% ownership in a corporation, either directly or by attribution, may not claim the credit for their own wages. Owners who are unrelated may claim the credit against their own wages if they hold 50% or less ownership in the company.
Example: A husband and wife own an S corporation with an unrelated shareholder, and all hold the same number of shares individually. Attribution rules would apply to the husband and wife, giving them a total of 66% ownership and making their wages ineligible for the credit. The unrelated shareholder’s wages would still be eligible to generate the credit, as that person is only a 33% owner in the business.
May I deduct the wages that I use for the ERC to reduce my income for tax purposes?
No, the ERC operates like the other payroll-related credits: the credit amount must be added back to the wage expense adjustment to income. We see similar treatment for other employment tax credits, like the Work Opportunity Tax Credit (WOTC) and the Employer Credit for Paid Family and Medical Leave.
May I use the same payroll for PPP forgiveness, the ERC, FFCRA, and WOTC?
Although there is no rule prohibiting you from using the same pay period’s payroll for each of these credit and relief options, your organization must separate and specify which payroll dollars are being used for which program. In no case is double dipping allowed.
Picture each dollar used for any program as being “tagged” for that program. Therefore, if 50% of a payroll is being used for PPP forgiveness, the other 50% is available to use for the other programs, assuming the organization qualifies. If the organization should qualify for PPP forgiveness, ERC, FFCRA, and WOTC, it needs to plan with an advisor and determine which dollars should be applied to which program and in which order.
Most likely, you would prioritize the PPP loan forgiveness as part of the planning process, followed by the FFCRA dollars because they are a dollar-for-dollar credit. Next, you would use ERC dollars because a smaller percentage of those payments are allowed in the form of a tax credit (50% of up to $10,000 for 2020, and 70% of up to $10,000 per quarter for the first two quarters in 2021) in relation to the FFCRA credits.
Please note regarding the FFCRA credits, the obligation to pay those wages expired on December 31, 2020, and the credits are only available to eligible employers through September 30, 2021.
Use the WOTC payroll next (should you qualify and have use for a federal income tax credit in either year), as the maximum percentage of wages for that credit is 40%. If you also qualify for the Employer Credit for Paid family and Medical Leave, those wages would likely be considered after the WOTC wages, as the percentage of wages paid that may apply to the credit ranges between 12.5% and 25%.
How we can help
Although there are still many questions to be answered, the key takeaway is that careful consideration and planning should occur prior to filing for PPP forgiveness or claiming any payroll credits during the pandemic.
CLA can help you determine which credit programs best suit your organization and how to track and implement each to achieve the greatest benefit.