Employee retention tax credit (ERC) updates for 2020 and 2021 tax returns

Many changes have occurred in the past year regarding the employee retention credit (ERC). The ERC was created by the Coronavirus Aid, Relief, and Economic Security Act (CARES) and stated eligible employers who paid qualified wages after March 12, 2020, and before Jan. 1, 2021, were eligible for a refundable credit equal to 50% of qualified wages paid (limited to $10,000 in wages per employee). The maximum credit for an eligible employer for qualified wages paid to any employee is $5,000 ($10,000 x .50) for the year. All wages paid qualify for the credit for employers that averaged 100 or fewer full-time employees in 2019.

ERC extensions were made under the Consolidated Appropriations Act (CAA) and the American Rescue Plan Act of 2021 (ARP). For calendar quarters beginning after 2020, the credit is 70% of qualified wages (limited to $10,000 in wages per employee, per quarter), and all wages paid qualify for the credit for employers that averaged 500 or fewer full-time employees in 2019. The maximum credit amount per employee is $7,000 ($10,000 x .70) per quarter or $28,000 ($7,000 x 4) for the full year. For employers that averaged more than 500 full- time employees in 2019, only wages paid to employees who are not providing services qualify for the credit. Special rules apply to a recovery startup business and a severely financially distressed employer.

An eligible employer can claim the ERC even if it received a Paycheck Protection Program (PPP) loan. By the time this guidance came, many employers may have already filed their payroll reports for the tax year 2020.

So, what does this mean for practitioners? This means practitioners may have clients who they initially thought were not eligible for the ERC (due to having received a forgivable PPP loan) are now eligible for the ERC. Similar to most tax- related items, no double dipping is allowed. Any wages that count toward eligibility for the ERC or PPP loan forgiveness can be applied to either the ERC or PPP loan forgiveness, but not both.

To recap, some of our clients may be eligible to file amended payroll reports when the eligible employer’s qualified wages were not provided by the PPP loan.

Practitioners may find other situations where clients are eligible to amend; however, the one mentioned above will probably be the most common. For additional information on when and how employers that received a PPP loan can claim the ERC for 2020, see Notice 2021-20.

Also keep in mind, if a taxpayer files a Form 941-X, Adjusted Employer’s QUARTERLY Federal Tax Return or Claim for Refund, to claim the ERC, Notice 2021-49 (under timing of qualified wages deduction disallowance) states the taxpayer must file an amended federal income tax return to reduce the deduction for the wages on which the credits were claimed. If the taxpayer is a partnership subject to the Centralized Partnership Audit Regime an administrative adjustment request (AAR) would need to be filed. An AAR is filed instead of an amended return for the partnership.

What this is saying is, if you amend a taxpayer’s 941 for a prior year, you will also most likely need to amend the related business return to account for a reduction in wages. You will not be able to make the wage adjustment, for example, on the 2021 business return, if an amended 2020 payroll report was filed to claim the ERC. The wage adjustment will need to be made on an amended 2020 business return.

An important item to be aware of is that the statute of limitations on ERC claims is extended from three to five years (based on Notice 2021-49). For example, if the Form 941 for quarter four of 2021 claiming the ERC is treated as filed on April 15, 2022, the return could be audited with respect to the ERC as late as April 14, 2027.

Lastly, Notice 2021-49 delivered some disappointing news to many practitioners and their clients. In the majority of cases, wages paid to a more than 50% owner of a corporation, partnership or other entity are ineligible for the ERC. The same would apply generally to wages paid to a spouse of a more than 50% owner of a corporation, partnership or other entity.

If you are an NATP member and have additional questions concerning the ERC, are intrigued by the concept, or are looking to obtain CPE, we will have an article in our final issue of the 2021 TAXPRO Journal, delivered straight to your mailbox.

If you are not an NATP member, you can join today and experience all the benefits that come with membership, including access to this article and all others like it!