The enactment of the Consolidated Appropriations Act, 2021, changed some of the provisions under the Coronavirus Aid, Relief, and Economic Security (CARES) Act, including the employee retention tax credit that has been expanded and extended under the new law. Due to the ongoing impact of the COVID-19 pandemic, eligible employers now have until June 30, 2021 to claim the tax credit on wages paid to employees they retained through the crisis.
Another change under the law is the tax credit is now available to businesses that 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. Keep in mind, the credit can only be taken on wages that are not forgiven or expected to be forgiven under PPP. It is expected that guidance from the federal agencies will clarify and define the limitation on what wages PPP recipients can consider for the retention credit.
We are awaiting additional guidance and will share when that is released.
What is the Employee Retention Credit?
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.
Employers who qualify in 2021, including PPP recipients, the new law expands the credit and allows them to 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. So, an employer could claim $7,000 per quarter per employee or $14,000 for 2021.
What Employers Qualify for the Employee Retention Credit?
Most employers, including tax exempt organizations, can qualify for the 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:
- 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.
- An employer that has a significant decline in gross receipts.
- Under the original CARES Act, 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.
- Under the new law, beginning in 2021, businesses must be impacted by forced closures or quarantines and have seen more than 20% drop in gross receipts in the quarter compared to the same quarter in 2019.
An employer can amend their Form 941 if they determine later that they qualified for the credit.
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.
Note: A member of controlled or affiliated service groups are considered a single employer, so they must aggregate their gross receipts to determine when and if they qualify.
The IRS has provided FAQs to flesh-out how the credit works for employers. However, these FAQs have not been updated at this point to reflect changes implemented in the Consolidated Appropriations Act, 2021 and only apply to the original retention credit from the CARES Act. This guidance is only informational and not legal authority.
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 June 30, 2021. Keep in mind, the thresholds on these wages and the percentage of credit increases on 2021.
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 they had in 2019. Employers with more than 100 full-time employees (based on the employer shared responsibility provision in the Affordable Care Act) use different qualified wages than those with 100 or fewer full-time employees. Under the new law, the employee limit for determining which wages are applicable to the credit increases to 500 in 2021.
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 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 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 in which the business operated and divide by that number of months.
- An employer who started a business in 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 2020 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 the full-time employee 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.
Once full-time employees are determined, employers will know which qualified wages to use. Those who have more than 100 full-time employees (this threshold increases to 500 beginning in 2021) 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 (this threshold increases to 500 beginning in 2011) 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.
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.
- 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.
So, employer’s considering which credits to take should evaluate which one is better financially to their business.
How do the credits work?
The employee retention credit is allowed against the employer’s share of Social Security taxes. However, the credit is fully refundable. So, if the credit exceeds the employer’s total liability of the portion of Social Security 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 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.
If employers have questions or need more information, they should work with their accountant and payroll specialist.
This article was previously updated Dec. 11, 2020.