Although the Employee Retention Tax Credit (ERTC) program has officially sunset, this does not impact the ability of a business to claim ERTC retroactively. In fact, businesses have up to three years from the end of the program to conduct a lookback to determine if wages paid after March 12, 2020 through the end of the program are eligible.
For most businesses, the credit could be claimed on wages until Sept. 30, 2021, with certain businesses having until Dec. 31, 2021 to pay qualified wages.
In addition, several laws have gone into effect since the inception of the ERTC program that impact how the credit can be claimed. Paychex developed an ERTC Service to assist.
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. Click on any of the following bulleted statements to go directly to that section.
- What is ERTC?
- How do the credits work?
- How can businesses claim ERTC retroactively?
- Who qualifies for ERTC?
- What wages qualify for the credit?
- How are tipped wages handled?
- How do funding sources interact?
- What about retroactive termination guidance?
- How does a PEO reconcile?
- 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.
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.
American Rescue Plan Act – 2021 employees working together
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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 through the first three quarters of 2021 after the passage of the Infrastructure Investment and Jobs Act changed the end date of the program for most businesses. However, Recovery Startup Businesses were eligible through the end of 2021. They could be eligible to take a credit of up to $50,000 for the third and fourth quarters of 2021.
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 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?
The IRS Notice 2021-20 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. Additionally, the bulk of the notice reiterates the ERTC 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 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, could 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:
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.
The IRS released Revenue Procedure 2021-33 in Aug. 2021 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 the quarter their gross receipts exceed 80% compared to the same calendar quarter in 2019.
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.
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
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 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.
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. The Paychex ERTC Service can help businesses determine if they qualify to claim the credit.
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 tax credit. These must have been paid after March 12, 2020 and qualify for the credit if paid through Sept. 30, 2021 (Recovery Startup Businesses had 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.
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. Leave under FFCRA included paid sick leave and family leave, which when taken under the provisions of the act offered businesses an opportunity to claim a tax credit.
This law increased the employee limit to 500 for determining which wages are applicable for the credit.
This law allowed certain hardest-hit businesses — severely financially distressed employers — to claim the credit against all employees’ 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 tax credit.
