Planning Considerations to Maximize the Benefit of Employee Retention CreditsMarch 24, 2021
The Employee Retention Credit (ERC), first introduced in the CARES Act, is a refundable payroll tax credit that essentially represents an elimination of the employer’s 6.2% FICA tax on at least a portion of an employees’ wages and a government subsidy for the remaining amount of the credit. It was set to expire on June 30, 2021, but the recently signed American Rescue Plan Act has extended the ERC through all four quarters of 2021, which can provide significant additional relief to qualified employers. For 2020, the maximum credit is $5,000 per employee for the entire year. For 2021, the credit is as much as $7,000 per employee per quarter.
Qualifying for the Employee Retention Credit
To qualify for the ERC, an employer must have either suffered at least a partial shutdown via governmental order or have experienced at least a 20% decline in its receipts for the current 2021 quarter or immediately preceding quarter as compared to the same quarter of 2019. For 2020, the same rules apply, except that the business or organization must have experienced at least a 50% decline in receipts for the quarter as compared to the same quarter of 2019.
Calculating Employee Retention Credit Amounts
2021 - For employers who had an average of more than 500 full-time employees in 2019, the 2021 credit is 70% of wages paid, up to $10,000 per quarter, to any employee who is not able to perform services for the employer. Where employees are able to perform some services but not as much as they normally would be performing, there may be opportunities to claim credits for wages paid for employee down-time. For employers who had an average of 500 or fewer employees during 2019, the 2021 credit is 70% of all wages paid, up to $10,000 per quarter to any employee other than 50% or more shareholders and their family members and wages which qualify for other credits.
2020 - For 2020, the credit amount is 50% of wages paid between March 12 and December 31, 2020, up to $10,000. Also, for 2020, the threshold of more than 500 employees is replaced by a lower threshold of more than 100 employees.
Reminder - Credits are Refundable
The ERC is a refundable payroll tax credit. This means that if the credit exceeds the employer’s quarterly federal employment tax liability, the excess amount is refunded to the employer and thus becomes a form of subsidy. Instead of waiting to file their quarterly employment tax return (Form 941), employers may instead retain payroll tax deposits in their coffers and even obtain advance refunds of credits by filing Form 7200.
Example: SmallCo is a business which qualifies for the ERC because it suffered a 20% or more decline in its revenues for the fourth quarter of 2020 as compared to the fourth quarter of 2019. During the first quarter of 2021 it will pay its three employees wages totaling $25,000, none of whom will receive more than $10,000. Normally it would make employment tax deposits for the quarter totaling $6,700. SmallCo is entitled to an ERC of $17,500 ($25,000 x .7). It can refrain from making employment tax deposits and if it does it will receive a refund of $10,800. Alternatively, if SmallCo continues to make its employment tax deposits, it will receive a refund of $17,500, either after filing its Form 941 or by filing Form 7200 prior to April 30, 2021.
Employee Retention Credit Planning Opportunities
Employers should consider all planning opportunities that can help them qualify for the ERC and maximize potential credits.
Employers who were completely or partially shut down during portions of 2020 and/or 2021, but who continued to send out paychecks during the shutdown period, are likely entitled to some credit for wages paid while they were completely or partially shut down. Affected large employers (more than 500 or 100 average full-time employees during 2019) can attempt to quantify wages paid to employees who were either not able to work at all during the shutdown or wages paid to employees who were able to perform some work but not at a level equal to their previous workload. Such wages should qualify for the ERC. Small employers are entitled to credits for wages paid to most employees, whether they were actually working or not.
All employers should calculate their quarterly receipts for 2020 and 2019 to see if they met the required 50% or more decline in receipts for any quarter of 2020 as compared to 2019. If they did, it is possible that they are entitled to some credit for at least one quarter of 2020, especially if they had less than 500 average full-time employees during 2019.
Employers should also test to see whether they had at least a 20% decline in receipts for the fourth quarter of 2020 as compared to 2019. If so, the employer can elect to take credits in the first quarter of 2021.
For all four quarters of 2021, employers should monitor and consider ways to manage their receipts if it appears that they may meet the ERC requirement of a 20% or more decline in receipts for the quarter as compared to the same quarter of 2019. Once an employer meets the test for the current quarter, it also meets the test for the immediately following quarter as well. For example: If in the last two weeks of March 2021 an employer has the opportunity to defer receipts until the first week of April and thus meet the necessary 20% or more decline in gross receipts threshold for the first quarter, doing so would entitle the employer to claim the ERC for the first and second quarters of 2021.
Employers who received first and second draw Paycheck Protection Program (PPP) loans cannot use the same wages which qualified for PPP loan forgiveness to also generate credits. However, the law provides that wages are first applied toward the ERC unless the employer elects to use them toward PPP loan forgiveness instead. Consider an example of an employer who receives a second draw PPP loan in March 2021 and who qualifies for the ERC for the first quarter of 2021. Wages paid between January 1, 2021, up to the day before the PPP loan funding date, will qualify for the ERC. For wages paid on and after the PPP loan funding date and during the PPP loan covered period, wages may either be counted toward PPP loan forgiveness or the ERC. The employer may consider dedicating some wages paid in March 2021 toward the ERC to maximize the credits and then dedicating the remaining wages toward PPP forgiveness. This would be especially true if the employer will not qualify for the ERC in the second quarter of 2021. If the employer is paying significant amounts of rent, mortgage interest, supplier costs and other allowable expenses under the PPP program, it may dedicate more wages and health insurance premiums toward the ERC while keeping in mind the 60% payroll cost requirement of the PPP loan program.
If you believe that your business or organization may qualify for the Employee Retention Credit and would like to discuss planning opportunities available to you, please reach out to Partner and State and Local Tax Leader James M. Brower, Jr. or your Marks Paneth advisor.