The Employee Retention Credit was enacted in March 2020 as part of the CARES Act. It was enhanced and expanded when business relief legislation passed in December 2020 making it a more valuable option to generate cash flow. The amount of the credit was significantly increased, employers are now allowed to claim the credit until June 30, 2021, and the restriction that prevented employers with PPP loans from claiming this credit was repealed retroactively to March 2020. This repeal offers a significant opportunity for PPP loan borrowers to now benefit from this credit.
For employers eligible in 2020, the credit can be claimed on amended payroll tax returns and offset the employer portion of Social Security tax, but any excess credit is fully refundable. For 2021, employers can reduce their current federal payroll tax deposits and even request an advanced refund from the IRS.
Non-profit entities can also qualify for this credit.
With the retroactive change, it is important that PPP loan recipients review their eligibility for the 2020 credit. With expanded eligibility requirements effective in 2021, it is expected that more employers can qualify for this benefit.
Business must meet one of two tests:
- The business was fully or partially shut down between March 13, 2020, and December 31, 2020, due to a government order and unable to continue normal operations. The order must limit commerce, travel, or group meetings.
- Examples include: shelter in place order, curfew that impacts operating hours, order mandating a workplace closure for cleaning, closure of non-essential businesses
- A business that was subject to a shutdown order but was able to continue normal operations with employees working remotely would not qualify.
- The shutdown does not need to be for a long duration so an employer that was shut down for a few hours or days (ex-for required cleaning of facilities) can qualify.
- All locations of a business operating in multiple locations meet this test if at least one location meets the test.
- The credit is available only for qualifying wages paid during the shutdown period.
- The business had a greater than 50% decline in gross receipts for any quarter of 2020 compared to the same quarter of 2019.
- The decline in gross receipts does not need to be directly related to the pandemic.
- An employer can claim the credit for qualifying wages paid beginning the first day of the quarter that experienced the 50% or greater decline in gross receipts and continuing until the last day of a quarter where gross receipts exceed 80% or more of gross receipts for the comparative prior year quarter. Due to this rule, employers are allowed to claim the credit for a minimum of 2 quarters.
- Qualifying wages for the first quarter of 2020 must be paid on or after March 13.
- Gross receipts include sales, rents, interest, dividends, etc
Changes Effective January 1, 2021:
- The applicable period for being subject to a shutdown order or for experiencing a decline in gross receipts has been extended to June 30, 2021.
- The required decline in gross receipts has been reduced from 50% to a greater than 20% reduction in gross receipts.
- The comparative quarter can be either the same quarter of 2021 compared to 2019 or the immediately preceding quarter (i.e. fourth quarter of 2020 and first quarter of 2021) compared to the same calendar quarter of 2019.
- Under the alternative calculation, if gross receipts declined 20% or more in the fourth quarter of 2020 compared to 2019, the employer could qualify for the credit starting the first quarter of 2021.
Depends on the average number of full-time employees during 2019. Employees working over 30 hours per week or 130 hours per month are considered full-time for this test. Employees working fewer hours are part-time and not included as this is not a full-time equivalent test.
- Over 100 full-time employees: wages paid for time not working (on furlough) and employer health plan payments allocated to such wages. Time “not working” does not include holidays, PTO, sick days, etc.
- Under 101 full-time employees: all wages paid and employer health plan payments
The maximum qualifying wages for all employers is $10,000 per employee for all quarters of 2020. The credit is 50% of qualifying wages so the maximum credit is $5,000 per employee for the year.
- Qualifying wages include wages paid to the owners of the entity but do not include wages paid to certain relatives of 50% or greater owners. Based on current guidance, a spouse is not an excluded relative.
Changes Effective January 1, 2021:
- The 100 employee test is replaced with a 500 employee test.
- Qualified wages increase to $10,000 per employee per quarter and the credit rate is 70% so the maximum credit is $7,000 per employee per quarter.
- Employers are eligible to claim the credit for wages paid in both 2020 and 2021.
- Qualified wages can include wage increases for hazard pay. During 2020 certain wage increases paid by “large employers” could not be included as qualified wages.
Claiming the Credit
For qualified wages paid in 2020:
- Employers must file an amended Form 940 for each quarter with qualified wages.
- Certain employers can claim the credit for all quarters on their Form 940 for Quarter 4.
For qualified wages paid in 2021:
- Report the credit on Form 940 and receive a refund
- Reduce payroll deposits during the quarter for amounts owed for federal income tax withheld from employees and employee and employer social security/Medicare tax. Any excess credit is refundable when the quarterly Form 940 is filed.
- Request an advance refund from the IRS using Form 7200 if the credit is expected to exceed the payroll deposits for the quarter or you need cash earlier. Only employers with fewer than 500 full-time employees in 2019 can request an advance refund.
Other Important Things To Know
- An employer that received a PPP loan is not prohibited from claiming the employee retention tax credit but a credit may not be claimed for wages paid with the proceeds of a PPP loan that have been forgiven. This change is retroactive for wages paid after March 12, 2020, so PPP loan borrowers must carefully look at all eligible expenses during their Covered Period and wages qualified for the credit to optimize loan forgiveness and tax credits. Basing loan forgiveness solely on payroll costs is simple but may no longer be the best approach. The IRS is expected to issue guidance to allocate payroll costs for PPP loan borrowers that have submitted their Forgiveness Applications.
- Employers that were not in existence for all of 2019 are eligible for the credit.
- Employers cannot claim the credit for the same wages that are covered by other tax credit programs, such as the paid sick leave or emergency family leave credits under the Families First Coronavirus Relief Act.
- Qualified wages are not eligible for the research credit.
- Any amount allowed as a credit must reduce the employer’s deduction for wage expenses.
- Entities related by common ownership are aggregated for purposes of the shutdown order test, decline in gross receipts test, and full-time employee count test.
- IRS FAQs
Contact us for assistance in determining if you qualify for this credit or need help calculating the amount of the credit.