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The signing of the Infrastructure Investment and Jobs Act impacts the Employee Retention Tax Credit, retroactively ending the program for most businesses on Sept. 30, 2021. Recovery Startup Business remain eligible to claim the tax credit through Dec. 31, 2021.

On Dec. 6, the IRS issued guidance in Notice 2021-65  for employers who either received an advance ERTC payment or reduced their employment tax deposits in anticipation of the credit for the fourth quarter of 2021. This guidance was necessary after the signing of the law made some employers ineligible for ERTC in the fourth quarter because of the retroactive termination of the program.

This law is the third since ERTC was created under the Coronavirus Aid, Relief and Economic Security (CARES) Act was enacted in April 2020. Under the American Rescue Plan Act and previously under the Consolidated Appropriations Act, 2021, the employee retention credit had been extended and expanded, changing the ERTC program's end date several times. 

This article highlights eligibility, qualified wages, how the credits work and more. It also delineates by law and date because, depending on whether you took a Paycheck Protection Program (PPP) loan and when you claim the credit, there are different requirements. 

 

What is the Employee Retention Credit?

The ERTC is a refundable credit that businesses can claim on qualified wages, including certain health insurance costs, paid to employees.   

CARES Act – 2020            

For employers who qualify, including borrowers who took a loan under the initial PPP, the credit can be claimed against 50 percent of qualified wages paid, up to $10,000 per employee annually for wages paid between March 13 and Dec. 31, 2020.

Consolidated Appropriations Act – 2021

Employers who qualify, including PPP recipients, can claim a credit against 70% of qualified wages paid. Additionally, the amount of wages that qualifies for the credit is now $10,000 per employee per quarter for the first two quarters of 2021.

American Rescue Plan Act – 2021

The credit remains at 70% of qualified wages up to a $10,000 limit per quarter so a maximum of $7,000 per employee per quarter. So, an employer could claim $7,000 per quarter per employee or up to $21,000 for 2021 after the passage of the Infrastructure Investment and Jobs Act changed the end date of the program for most businesses to Sept. 30, 2021. However, Recovery Startup Businesses are still eligible for ERTC through the end of the year. A Recovery Startup Business is one that started after Feb. 15, 2020 and, in general, had an average of $1 million or less in gross receipts. They could be eligible to take a credit of up to $50,000 for the third and fourth quarters of 2021.

What Employers Qualify for the Employee Retention Credit?

Most employers, including colleges, universities, hospitals and 501(c) organizations following the enactment of the American Rescue Plan Act, can qualify for the credit. Previously, the Consolidated Appropriations Act expanded qualifications to include businesses who took a loan under the Paycheck Protection Program (PPP), including borrowers from the initial round of PPP who originally were ineligible to claim the tax credit.

Qualification is determined by one of two factors for eligible employers — and one of these factors must apply in the calendar quarter the employer wishes to utilize the credit:

  1. A trade or business that was fully or partially suspended or had to reduce business hours due to a government order. The credit applies only for the portion of the quarter the business is suspended, not the entire quarter.

Some businesses, based on IRS guidance, generally do not meet this factor test and would not qualify.

  • Those considered essential, unless they have supply of critical material/goods disrupted in manner that affects their ability to continue to operate.
  • Businesses shuttered but able to continue their operations largely intact through telework.

However, any of these businesses still may qualify for the credit with the second factor test.

  1. An employer that has a significant decline in gross receipts.

On Tuesday, Aug. 10, 2021, the IRS released Revenue Procedure 2021-33 that provides a safe harbor under which an employer may exclude the amount of the forgiveness of a PPP loan and the amount of a Shuttered Venue Operators Grant or a Restaurant Revitalization Fund grant from the definition of gross receipts solely for the purpose of determining eligibility to claim the ERTC. Employers must apply the safe harbor consistently across all entities.

  • CARES Act – 2020

    • Generally, if gross receipts in a calendar quarter are below 50% of gross receipts when compared to the same calendar quarter in 2019, an employer would qualify. They are no longer eligible if in the calendar quarter immediately following their quarter gross receipts exceed 80% compared to the same calendar quarter in 2019.
  • Consolidated Appropriations Act, 2021

    • Beginning in 2021, businesses must be impacted by forced closures or quarantines or have seen more than 20% drop in gross receipts in the quarter compared to the same quarter in 2019.
    • If you are a new business, the IRS allows the use of gross receipts for the quarter in which you started business as a reference for any quarter which they do not have 2019 figures because you were not yet in business.
  • American Rescue Plan Act – 2021

    • In addition to eligibility requirements under the Consolidated Appropriations Act, 2021, business also have the option of determining eligibility based on gross receipts in the immediately preceding calendar quarter (compared with the corresponding quarter in 2019).

3. Recovery Startup Business

  • American Rescue Plan Act – 2021

    • 3rd and 4th quarter 2021 only — a third category has been added. Those entities that qualify may be entitled to up to $50,000 per quarter.

To qualify as a Recovery Startup Business, one must:

  • Have begun carrying on trade or business after Feb. 15, 2020
  • Have annual gross receipts that do not exceed $1 million
  • Not be eligible for the ERTC under the other two categories, partial/full suspension of operations or decline in gross receipts

The IRS notice 2021-49 clarified that Recovery Startups may use all qualified employee wages for purposes of the credit, regardless of the number of employees. It should also be noted that determining if this category applies is assessed for each quarter. So, if one of the other two categories — gross receipt decline or full/partial suspension — applies to 3rd quarter but not 4th, they would not be a recovery startup in 3rd quarter, yet they may still qualify as a recovery startup in 4th quarter.

The IRS notice is important in understanding how to apply upcoming changes to Form 941 necessary to claim the credit. Form 941-X will be used to retroactively file for the applicable quarter(s) in which the qualified wages were paid.  

  • Infrastructure Investment and Jobs Act – 2021

    • This law removes a condition of eligibility. Recovery startups are no longer subject to the business closure or gross receipts reduction to qualify. Essentially all RSBs are eligible in 4th quarter. 

What Wages Qualify When Calculating the Retention Credit?

Wages/compensation, in general, that are subject to FICA taxes, as well as qualified health expenses qualify when calculating the employee retention credit. These must have been paid after March 12, 2020 and qualify for the credit if paid through Sept. 30, 2021 (Recovery Startup Businesses have until Dec. 31, 2021).

Remember, the credit can only be taken on wages that are not forgiven or expected to be forgiven under PPP.

When determining the qualified health expenses, the IRS has multiple ways of calculating depending on circumstances. Generally, they include the employer and employee pretax portion and not any after-tax amounts.

When determining the qualified wages that can be included, an employer must first determine the number of full-time employees.

For the purposes of the employee retention credit, a full-time employee is defined as one that in any calendar month in 2019 worked at least 30 hours per week or 130 hours in a month (this is the monthly equivalent of 30 hours per week) and the definition based on the employer shared responsibility provision in the ACA.

  • Employers who were in business the entire calendar year in 2019 or 2020 would take the sum of the number of full-time employees in each calendar month and divide by 12.
  • An employer who started a business during 2019 or 2020 determines the number of full-time employees by taking the sum of the number of full-time employees in each full calendar month in 2019 or 2020 in which the business operated and divide by that number of months.
  • An employer who started a business in 2021 determines the number of full-time employees by taking the sum of the number of full-time employees in each full calendar month in 2021 that the business operated and divides by that number of months.

Note: The employee calculation of full-time equivalent (FTE) used for the PPP forgiveness report is not calculated the same way as a full-time employee for the employee retention credit. If you are an accounting professional, do not provide your clients with the PPP Forgiveness FTE information. Also, remember that if a client has taken and will be forgiven for a PPP loan, they may now be eligible for the employee retention credit on certain wages.

CARES Act – 2020

Those who have more than 100 full-time employees can only use the qualified wages of employees not providing services because of suspension or decline in business. Furthermore, any wages paid for vacation, sick or other days off based on the employer’s current policy cannot be included in qualified wages for the larger employers. Basically, employers can only use this credit on employees who are not working.

Employers with 100 or fewer full-time employees can use all employee wages — those working, as well as any time paid not being at work with the exception of paid leave provided under the Families First Coronavirus Response Act.

Consolidated Appropriations Act – 2021

This law increased the employee limit to 500 for determining which wages are applicable for the credit.

American Rescue Plan Act – 2021

This law allows certain hardest-hit businesses — severely financially distressed employers — to claim the credit against all employee’s qualified wages instead of just those who are not providing services. These hardest hit businesses are defined as employers whose gross receipts in the quarter are less than 10% of what they were in a comparable quarter in 2019 or 2020. This only applies to the third quarter of 2021 for businesses that aren't Recovery Startup Businesses.

The IRS does have guardrails in place to prevent wage increases that would count toward the credit once the employer is eligible for the employee retention credit.

Are Tipped Wages Included in Qualified Wages?

IRS notice 2021-49 clarified that tips would be included in qualified wages if these wages were subject to FICA. In general, this mean if tips are over $20 in calendar month for an employee, then all tips (including the first $20) would be included in qualified wages for the purpose of the retention credit.  Tips that amount to less than $20 in a month are not subject FICA wages and would not qualify for the retention credit.

Are Owner/Spouse Wages Included in Qualified Wages?

It was well understood from a previous statute and previous IRS guidance that related individuals to a majority owner were not included in qualified wages (see IRS FAQ #59 for specifics). However, the owner and spouse wages were unclear. Related individuals are:

  • Child or a descendant of a child
  • Brother, sister, stepbrother or stepsister
  • Father or mother, or an ancestor of either
  • Stepfather or stepmother
  • Niece or nephew
  • Aunt or uncle
  • Son-in-law, daughter-in-law, father-in-law, mother-in-law, brother-in-law or sister-in-law

Notice 2021-49 clarified that attribution rules must be applied to assess whether the owner or spouse’s wages can be included for the ERTC. Essentially, the assessment is dependent on these related individuals previously mentioned and, when the attribution rules are applied, if any of these individuals would be considered a majority owner. If they are considered a majority owner, then their wages are not qualified wages for ERTC.

Keep in mind, these rules the IRS clarified apply to all quarters for ERTC. Consequently, if wages were previously miss-categorized as qualified wages for ERTC, then amendments to the 941 would be necessary to correct any inadvertent errors.

What is the Interaction with Other Credits and Funding Sources?

  • There is no double-dipping for credits. Employers who take the employee retention credit cannot take credit on those same qualified wages for paid family medical leave.
  • If an employee is included for the Work Opportunity Tax Credit, they may not be included for the employee retention credit.

Remember, the credit can only be taken on wages that are not forgiven or expected to be forgiven under PPP.

  • American Rescue Plan Act — 2021

Shuttered Venue Operators Grant (SVOG) or Restaurant Revitalization Fund (RRF) recipients may not treat any payroll costs that they take into account in connection with either program to justify use of the grant, as qualified wages for the employer retention credit in the third quarter of 2021 (Recovery Startups still have the fourth quarter).

Keep in mind, an eligible employer receiving these grants must retain records justifying where the funds were used. The funds must be used for eligible uses no later than March 11, 2023 for RRF while the SVOG dates vary (June 30, 2022 is the latest).

So, employer’s considering which credits or funding source to take should evaluate the interaction of these vehicles to determine what is financially best for their business.

How Do the Credits Work?

The American Rescue Plan Act stipulates that the nonrefundable pieces of the employee retention tax credit will be claimed against Medicare taxes instead of against Social Security taxes as they were in 2020. However, this change will only apply to wages paid after June 30, 2021 and will not change the total credit amount.

If the credit exceeds the employer’s total liability of the portion of Social Security or Medicare, depending on whether before June 30, 2021 or after in in any calendar quarter, the excess is refunded to the employer.

At the end of the quarter, the amounts of these credits will be reconciled on the employer’s Form 941.

 

How Does a Business Claim the Employee Retention Tax Credit Retroactively?

On March 1, 2021, the IRS issued Notice 2021-20 that provides guidance for employers claiming the Employee Retention Tax Credit. However, the notice only provides guidance for the credit as it applies to qualified wages paid between March 12, 2020 and Sept. 30, 2021, which is the program's new end date for most businesses. Additionally, the bulk of the notice reiterates the ERC FAQs that previously were published on the IRS website.

Included in the notice is guidance on how employers who received a PPP loan can retroactively claim the employee retention tax credit. In order to claim the credit for past quarters, employers must file Form 941-X, Adjusted Employer’s Quarterly Federal Tax Return or Claim for Refund, for the applicable quarter(s) in which the qualified wages were paid. The IRS includes three examples (Q&A No. 57) to highlight the process.

The IRS notice 2021-20 includes seven examples (Q&A No. 49) with scenarios of how an employer with a PPP loan determines which wages, if any, are eligible for the tax credit. The amount of wages eligible largely depends on how the qualified wages were reflected on the PPP loan forgiveness application. Qualified wages included in reported payroll costs on the forgiveness application may be utilized in certain conditions where more expenses than necessary were used to justify the loan forgiveness. In these cases, the IRS will take the minimum wage cost necessary when combined with other eligible expenses to justify loan forgiveness. 

However, the IRS makes it clear that expenses eligible for PPP forgiveness that were not included in the loan forgiveness application cannot be factored in after the fact. Consequently, it’s important to ensure all eligible expenses, including non-payroll costs such as utilities, rent and operations expenses, to name a few, are included on PPP loan forgiveness applications in order to maximize the qualified wages available for ERTC.

What Businesses Should Know about ERTC Retroactive Termination Guidance?

Notice 2021-65 list conditions that must be met to avoid a failure to deposit penalty. An employer (not a Recovery Startup Business) who reduced employment tax deposits in anticipation of receiving ERTC in the fourth quarter of 2021 before becoming ineligible due to the program’s early termination must have:

  • Reduced deposits on or before Dec. 20, 2021
  • Made deposits for the retained amounts on or before the relevant due date for wages paid on Dec. 31, 2021 (regardless of whether the employer actually pays wages on that date). Deposit due dates will be based on employer’s applicable federal deposit schedule:
    • Jan. 5, 2022 for semi-weekly depositors
    • Jan. 18, 2022 for monthly depositors
    • Jan. 3, 2022 for employers subject to the $100,000 Next-Day Deposit Rule if the amounts initially retained in anticipation of ERTC total $100,000 or more, with or without any additional liability on that date.
  • Report the tax liability on the applicable employment tax return and schedule that includes the period from Oct. 1, 2021 through Dec. 31, 2021

Employers (not Recovery Startup Business) who requested and received an advanced payment of the ERTC for wages paid in the fourth quarter of 2021 will be required to repay the advances by the due date for the applicable employment tax return that includes the fourth quarter of 2021. The advances resulted from filing Form 7200, Advance Payment of Employer Credits Due to COVID-19. For more information, employers should refer to instructions for the applicable tax form.

Failure to pay penalties could result if repayments are not made according to these specific parameters.

For PEO/CPEO customers who had employment tax deposits reduced, as well as received advance payments by filing Form 7200, they will need to repay these under their PEO/CPEO accounts.

How does a PEO client employer reconcile?

Employers utilizing a Professional Employer Organization (PEO) or Certified Professional Employer Organization (CPEO) do not have an individual 941 filed on their behalf, so it’s important for them to understand how they would reconcile this information and receive the credit. The IRS posted guidance to clarify how it would work.

If an eligible employer uses a PEO or CPEO, the retention credit is reported on the PEO/CPEO aggerate Form 941 and Schedule R.
 

Looking forward

If employers have questions or need more information, they should work with their accountant and payroll specialist.

This article previously was updated Nov. 15, 2021.
 

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