Rewind back to March 2020, panic swept through Nevada and many business owners were required under a government order to shut their doors and send their employees home. In response, then-President Trump signed the Coronavirus Aid, Relief, and Economic Security Act (CARES Act) providing two mutually exclusive incentives – the Paycheck Protection Program (PPP) and the Employee Retention Credit (ERC) – to deliver funds to business owners to stay operational and continue to pay its employees through December 31st, 2020. In other words, under the CARES Act businesses could take a PPP loan or claim the ERC, but not both. Most business owners focused on the more publicized PPP loan, which at first glance seemed easier to claim and more generous.
Then the Consolidated Appropriations Act of 2021 (CAA) signed into law December 27th, 2020, extended and enhanced the ERC, most notably by retroactively allowing employers to claim the ERC even if they took a PPP loan and extending the qualification period into quarter 1 and quarter 2 of 2021. This led many employers and consultants scurrying to relearn the 2020 provisions and to get up to speed on the 2021 provisions.
Businesses qualify in 2020 and 2021 by meeting at least one of two criteria: 1) The business experiences a significant decline in gross receipts in 2020 or 2021 compared to the same quarters in 2019; or 2) The business fully or partially suspended operations due to a COVID-19 related government order during a calendar quarter for the period March 13, 2020 through June 30, 2021.
The first test is a bright-line test of either a more than 50 percent drop in 2020 or a more than 20 percent drop in 2021 in gross receipts, compared to the same quarter in 2019. For 2020, if an employer has a drop in their gross receipts of more than 50 percent, they will continue to qualify until the quarter following the quarter in which their 2020 gross receipts are 80 percent of the same 2019 quarter’s gross receipts.
The second test is a more qualitative analysis of whether the operations of the employer’s trade or business have been “fully or partially suspended” during the quarter due to government mandate. To qualify for this scenario the business needs to be limited by, not just subject to, a government mandate. Assuming the business only qualifies under the second test then it qualifies until the government mandate is lifted for that quarter.
Once the eligible quarters are identified, the calculation can begin. The credit an eligible organization receives will vary based on several factors. In addition, the credit calculation differs depending on whether a business qualifies as an eligible small employer or a large employer. For 2020 a small employer is defined as an employer with 100 or less full-time employees whereas, for 2021, a small employer is defined as an employer with 500 or less full-time employees. Small employers are able to take the ERC on wages paid during the eligible quarters other than wages paid to a more than 50 percent owner and their relatives. Large employers are able to take the ERC only on wages and health insurance paid to employees that are not providing services to the employer, typically referred to as furloughed employees. The wages paid to these furloughed employees also need to be paid during an eligible quarter.
The credit is a refundable payroll tax credit and the amount of the credit is to be added back to the employer’s taxable income for the year the credit was claimed. In other words, a 2020 credit will reduce the employer’s 2020 payroll tax expense on their tax return.
On August 4, 2021 the IRS issued Notice 2021-49. This notice provides guidance for Recovery Start-up Businesses, which are businesses that started operations after February 15, 2020 and qualify for up to $50,000 of credit for quarters three and four of this year. One odd but important clarification is that owners/spouses owning more than 50 percent of a business are disqualified from the ERC unless they have no living family members.
While the ERC has many nuances for each reporting period, it’s proven to be a much-needed benefit for several employers who were adversely affected during the pandemic.
Zach Boyd, CPA is a Senior Tax Manager of Eide Bailly.