Employee Retention Tax Credit
The Consolidated Appropriations Act ("CAA") amended the CARES Act provisions relating to the Employee Retention Tax Credit ("ERTC"). The original ERTC provided a payroll tax credit of up to $5,000 per employee for eligible employers. The credit is equal to 50% of "qualified wages" paid to employees during a quarter, capped at $10,000 of "qualified wages.
This wage cap was for the entire year 2020, not per quarter." The credit is available for wages paid from March 13 to December 31, 2020. The ERTC is based on the average number of FTE for 2019. FTE is defined as someone employed on average of at least 30 hours of service per week. The ERTC is used to offset the employer's portion 6.2% of federal social security tax, and taxes paid under the Railroad Retirement Act, and is calculated on a calendar quarter basis. The ERTC does not apply to employee income tax withholding, the employee or employer portion of Medicare tax, or the employee portion of the Social Security tax.
CAA changes to ERTC
- Increased the Credit Amount in Q1 and Q2 2021
Under the CAA the ERTC credit is extended to Q1 and Q2 2021 and it was raised to 70% or $7,000 for the first $10,000 in qualified wages paid to an employee per quarter. This is significant change from the original ERTC which had a cap of $10,000 for the year. Additionally, any amount of the credit that exceeds the tax liability for such quarter is treated as an overpayment and refunded to the employer.
- Relaxed Eligibility Requirements.
An Employer is eligible to claim the ERTC if one of the following is true during the period the ERTC is claimed:
- The employer's operations must be fully or partially suspended due to governmental orders limiting commerce, travel, or group meetings, such as how many people can be in a restaurant at one time, additionally limiting a businesses' hours of operation qualifies as partially suspended provided it has more than a nominal effect, o
- There must be significant decline in gross receipts for the period. This means gross receipts are less than 80% of the gross receipts for the same quarter in 2019.
ERTC qualifying wages are wages, compensation, and employer provided healthcare. The wages that can be used to calculate the tax credit differ based on whether the employer has over 500 employees.
- Employers with 500 or more full-time employees on average during 2019 (as determined by IRC Section 4980H as enacted by the Affordable Care Act), only wages paid to employees who are not providing services qualify for the credit.
- Employers with 1-500 full-time employees, all wages paid to employees, regardless of whether the employees are providing services, qualify for the credit. For purposes of the employee count, organizations that are under common control (using IRC Section 52(a) and (b)) or that are a member of an affiliated service group (using IRC Section 414(m) and (o)) will be treated as a single employer.
- Qualified wages are based on the definition of wages used for FICA taxes, generally they are wages, compensation, and the employer paid portion of health plan expenses. The CAA struck the provision in the original CARES Act that limited wages and compensation which were increased prior to the eligible period.
- Any federally mandated sick or child care leave paid under the Families First Coronavirus Response Act (FFCRA) is specifically excluded from "qualified wages" for the employee retention tax credit, since employers receive a dollar-for-dollar tax credit for such paid leave wages.
- The CAA retroactively allows PPP loan Recipients to be eligible for the ERTC.
PPP loan recipients can claim ERTC, if otherwise eligible, but compensation paid with PPP loan proceeds don't count as qualified wages. EIDL loans or grants don't affect ERTC eligibility.
CARES Act ERTC Rules Still in Effect.
- If the employer is looking for retroactive ERTC credits for 2020 the annual $10,000 cap is still applicable.
- Once a business has a qualifying quarter it must test each quarter to determine if they continue to qualify in future quarters.
- A business continues to qualify so long as its gross receipts remain less than 80% of what they were for the same quarter in 2019.
- Once a business' gross receipts are reach 80% of the gross receipts for the same quarter in 2019, they are no longer eligible for the ERTC even if in a future quarter dips below the 80% threshold.
How to claim the credit
Claiming the employee retention credit will track the same procedures for claiming the tax credits for providing federally mandated paid sick and child care leave under FFCRA. In IR 2020-57 (dated March 20, 2020), the IRS said that employers can immediately recoup their refundable tax credits for paid sick and child care leave by reducing their total federal tax deposit amount from all employees (not just from those who are receiving wages that qualify for the credit) by the amount of eligible credit. Specifically, employers can deduct the amount of tax credit for paid sick and child care leave from: (1) federal income taxes withheld from all employees' pay; (2) the employees' share of Social Security and Medicare taxes; and (3) the employer's share of Social Security and Medicare taxes. Likewise, in IR 2020-62 (dated March 31, 2020), the IRS said that employers can follow that same process to immediately recoup their employee retention tax credit. These credits will ultimately be reconciled against the total tax liabilities when employers file their quarterly Form 941 or other employment tax returns.
In addition, the IRS has published Form 7200, Advance Payment of Employer Credits Due to COVID-19, which allows employers to request a rapid refund for both the employee retention credit and the FFCRA paid sick and child care leave tax credits. Form 7200 can be filed (by fax) to request an advance of payments at any time before the end of the month following the quarter in which the qualifying wages were paid. It can be filed multiple times during the quarter if necessary. Amounts use to offset federal tax deposits as described above should not be duplicated on a request for refund on Form 7200. Ultimately, any amounts refunded using Form 7200 will also be reconciled on the employer's quarterly Form 941 or other employment tax returns.
ERTC = Qualified wages + qualified health care plan x .50 or .70 for Q1 and Q2 2021
Example 1: Suppose you pay an employee $1,000 of qualified wages. You get a credit equal to 50% or $500.
Another example because, in many situations, employers also provide health insurance which plugs into the formula…
Example 2: Suppose you pay an employee $1,000 of qualified wages and also provide $500 of qualified employee health insurance. In this case you get a credit equal to 50% of $1,500 or $750.
Another wrinkle: Section 2301 essentially limits the employee retention credit to $5,000 because the formula looks only at the first $10,000 of qualified wages and health plan expenses.
Example 3: Your firm employs two workers. One worker you pay $10,000 in wages. And for him, you receive a $5,000 employee retention credit. A second worker you pay $20,000 in wages. And for her, you also receive a $5,000 employee retention credit.
Example 4: ABC is shut down in quarter 1. They qualify in Q1 for 50% qualified wage credit for all wages paid 3/12/20 through 3/31/20.
Qualified wages are 7700 * 3 weeks of pay= 23,100 of qualifying wages. 50% are credited =$11350.00
If shut down in Q2 also and pay ½ of staff (5 employees) through Q2 wages are 3,850 per week up to a 10k cap per employee or an additional %38,435. Each remaining employee is capped at $5000 of credit per employee. At the end ABC as $30,767 in its pocket
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