Employee retention credits: Guide to the ERC tax credit program

Editor’s Note: The article below was initially published in April 2020 to explain Employee Retention Credits. It has been updated to include additional information on changes made to the ERC tax credit and ERC program since the original roll-out. 

The coronavirus pandemic took a major toll on American businesses. Nationwide closures and dwindling sales had a devastating effect on the bottom lines of small businesses. There were far-reaching impacts for companies of all sizes, especially pertaining to employees and investment. Many businesses had to make tough choices to keep doors open. Even with significant changes, many organizations were forced to close.

Thankfully, in late March 2020, Congress passed the Coronavirus Aid, Relief, and Economic Security Act (CARES Act) to help those financially struggling due to the coronavirus. The bill defined four important pillars for small business owners:

1. Paycheck Protection Program
2. Employee Retention Tax Credit
3. Payroll Tax Postponement
4. Economic Injury Disaster Loans

Each program was enacted to stimulate the American economy and help small business owners in economic need. (Further reading: 2020-21 Small Business Taxes and Stimulus Relief)

This post will cover details surrounding the Employee Retention Credit, or ERC tax credit. Keep reading to hear details about what it is, why it’s important, and other key guidance surrounding the credit now!

What are Employee Retention Credits (ERC Program)?

Employee Retention Credits (ERC program) worked like a payroll tax credit. As the name implies, the Employee Retention Tax Credit (ERTC) was a refundable tax credit that helped small businesses keep employees on their payroll.

From January 1, 2021, through September 30, 2021, most small business owners with a decline in gross receipts of 20% (previously 50%) year over year could claim a payroll tax credit for 70% of qualified wages up to $10,000 per employee per quarter (previously you could claim 50% for the same amount per employee per year), including certain health benefits, paid to an eligible employee. Previously, the deadline was June 30, 2021.

What is the purpose of the ERC tax credit?

The ERC program helped small business owners keep their employees on the payroll if the company stopped doing business or was significantly financially affected by the Coronavirus pandemic. (Read more: Small business disaster relief & recovery)

Employee retention credits continue to be refundable to eligible employers with insufficient tax liability.

ERC tax credit eligibility: What are the ERC program qualifications?

Employee Retention Credits are need-based. If your business took a hit financially due to the coronavirus, it may qualify. To be more specific, your business qualifies for this credit for an eligible quarter in 2020 or 2021 if:

• Business operations were partially or fully stopped due to a shutdown order from a government entity. (See also: How to build a business disaster recovery plan)

OR

• Gross receipts for the quarter are less than 20% (starting January 1, 2021) of what they were last year in the same quarter. NOTE: Once gross receipts go above 80% of a comparable prior-year quarter, you can no longer qualify after the end of that quarter.

The American Rescue Plan (ARP) Act expanded ERTC eligibility for new “recovery startup businesses.” A recovery startup business is defined as one that was founded after February 15, 2020, has annual gross receipts of up to $1 million, and otherwise does not meet the eligibility tests. A startup ERC is limited to $50,000 per quarter per employer.

What does the ERC tax credit cover?

The credit covers up to $10,000 of qualified wages per employee per quarter at a maximum payroll tax credit of $7,000 per quarter (starting January 1, 2021). The credit is determined based on the amount of employment taxes paid by an employer on qualified wages paid for the calendar quarter. The qualified wages used for the credit cannot be counted for purposes of the paid family and medical leave or the work opportunity credit.

The credit also varies based on the number of employees you have. With the December 2020 Coronavirus Response and Relief Supplemental Appropriations (CRRSA) Act:

• If you employ 500 or fewer employees: All wages qualify, regardless of whether the business remains open.
• If you employ more than 500 employees: Wages for employees qualify if you continued paying the employees but they could not do their jobs due to business closure or reduction in gross receipts due to coronavirus impacts.

NOTE: The previous employee threshold was 100 employees.

ERC program: Guidance and instructions to claim the credit

Like other programs in the CARES Act, you must follow specific instructions to claim the ERTC. To claim this credit, get educated on employee retention credit guidance. Unlike business loans, Employee Retention Tax Credits aren’t applied for — it’s a credit on the business tax return.

Currently,businesses generally have until April 15, 2024, to claim the Employee Retention Tax Credit for all quarters in tax year 2020. They have until April 15, 2025, for all quarters in tax year 2021. The credit is claimed on IRS Form 941-X, Adjusted Employer’s Quarterly Federal Tax Return or Claim for Refund. Future legislation could change these dates, so it is a good idea to confirm details with your tax advisor.

Note: The tax credit is taken against an employer’s portion of required Social Security deposits. Business owners should also keep their share of Social Security tax already withheld (up to the credit amount) until it’s reconciled in their quarterly payroll tax return (Form 941). Beginning July 1, 2021, the credit applies against the employer’s share of Medicare tax. Learn more about FICA taxes.

Is there still an ERC tax credit advance option?

In 2020 and 2021, Employee Retention Credits had a credit advance option. Using IRS Form 7200, the credit advance helped small business owners adjust how the credit was received for those with qualifying employees. It allowed businesses to reduce their employment tax deposits to account for the credit before filing Form 7200. Then, the business would reconcile it on IRS Form 941 when filing their most recent quarterly return. However, currently, this credit advance is no longer available. (Learn more: What is Form 941?)

Employee Retention Credits (ERC program) vs. Paycheck Protection Program (PPP)

Business owners who received a PPP loan can still take advantage of the ERTC as long as the wages used are not paid with PPP loan proceeds. Prior to the passage of CRRSA in December 2020, business owners could not claim both the ERC tax credit and a PPP loan. It’s also important to note that if you paid wages with a Restaurant Revitalization Grant or Shuttered Venue Operators (SVO) Grant assistance, your situation is different. You can’t use those wages to claim the ERC.

Employee Retention Credit (ERC) example

If you’re considering taking employee retention credits and need an example of its use, read on…

• Sam is a small business owner based in Kansas who has experienced significant loss in her web design business due to the coronavirus.
• Her company has one employee, Ned, who is paid $2,000 weekly and gets group health insurance.
• The cost to provide Ned insurance is $200 per week.

In this case, the qualified wages for Employee Retention Credits are ($2,000 x 12) + ($200 x 12) = $26,400 for the quarter. So, Sam’s company would be eligible to receive a $7,000 payroll tax credit. Remember, the ERC tax credit will be limited to the payroll taxes paid for Ned’s wages. Any excess Employee Retention Credits are refundable as an overpayment.

IRS Employee Retention Credit Relief Programs

The IRS has put additional scrutiny on ERTC claims filed in tax years 2023 and 2024. This is due to an increase in fraudulent Employee Retention Credit claims. Many of these fraudulent ERC tax credit claims were the result of taxpayers being misled or pressured into claiming the credit for their business. In response, the IRS created two relief programs. First, we’ll look at the ERC program’s special withdrawal process. Then, we’ll discuss the voluntary disclosure program for employee retention credits. Both were designed to provide relief to taxpayers who were improperly convinced to claim an ERTC.

ERC Program – Special Withdrawal Process

The IRS created the ERC withdrawal process to allow taxpayers who submitted an ERTC claim that has yet to be processed to withdraw their ERC program claim. The process requires you to submit a request to the IRS asking them not to process your ERC tax credit claim. Once the request is accepted, the IRS will withdraw your claim for the ERC tax credit. There are penalties or interest applied to the employer if they choose to use this method to complete their ERC withdrawal.

ERC Tax Credit – Voluntary Disclosure Program

What if you have already submitted an ERC program claim, and your ERC tax credit request has been processed? If you have received ERC Tax Credit funds already, you will need to utilize the ERTC voluntary disclosure program. To take advantage of this ERTC relief program, you will need to submit Form 15434, Application for Employee Retention Credit Voluntary Disclosure Program. You will also need to pay back 80% of the ERC tax credit funds received. The ERC Voluntary Disclosure Program will not hold you responsible for the remaining 20% of the ERC tax credit funds your small business received. You have until March 22, 2024, to apply for this avenue of relief for the ERC program.

More information from our tax professionals

The ERC tax credit provided much-needed support for small businesses during the pandemic. It offered a lifeline to keep employees on the job and stabilize the business ecosystem. Now, the IRS offers options to withdraw your ERC program application or pay back the majority of ERC tax credit funds already received if you find yourself in a tricky situation and want to avoid penalties.

Need more information about the ERTC? Do you want to take advantage of one of the relief programs above? You can rely on Block Advisors and our team of small business-certified tax pros to get your taxes right and keep your business on track, including helping you understand Employee Retention Credits.

Connect with a tax pro today.

---