Understanding Eligibility for Employee Retention Credit

What is the Employee Retention Credit?

The ERC was introduced in March 2020 under the Coronavirus Aid, Relief, and Economic Security (CARES) Act. Initially, it provided a refundable tax credit for 50% of up to $10,000 in wages paid by an eligible employer whose business was adversely impacted by the coronavirus pandemic. The Consolidated Appropriations Act, 2021, and the American Rescue Plan Act of 2021 subsequently expanded and extended the credit, allowing up to 70% of $10,000 in wages per quarter per employee through December 31, 2021.

Who Qualifies for the Employee Retention Credit?

Eligibility for the ERC hinges on several criteria. Firstly, the employer must run a trade or business that was either fully or partially suspended due to orders from a governmental authority due to COVID-19 during the calendar quarter, or the business must have experienced a significant decline in gross receipts during the calendar quarter.

For 2020, a significant decline in gross receipts is defined as a drop of more than 50% in a quarter compared to the same quarter in 2019. For 2021, the threshold was amended to a 20% decline in gross receipts compared to the same quarter in 2019. It’s essential for businesses to compare their receipts carefully and document the impact thoroughly to substantiate their claim.

Understanding the Calculation of the Credit

The amount of the credit available under the ERC varies. For 2020, the credit was 50% of qualifying wages paid up to a maximum of $10,000 per employee annually, translating to a maximum credit of $5,000 per employee for the year. In 2021, this was increased to 70% of qualifying wages up to $10,000 per employee per quarter, meaning the maximum credit per employee could be as high as $28,000 across the year.

Qualifying wages include not only the cash payments made to employees but can also include a portion of the cost of employer-provided health care. However, for employers that took advantage of Paycheck Protection Program (PPP) loans, any wages that were counted for forgiveness of the PPP loan cannot be claimed for the ERC.

Special Considerations for Small Businesses

The definition of a ‘small business’ under the ERC varies between 2020 and 2021. In 2020, a small business was defined as having an average of 100 or fewer full-time employees in 2019, allowing all wages paid during eligible periods to be considered for the credit, regardless of whether the employee was providing services. In 2021, this threshold was raised to employers with 500 or fewer employees. Larger businesses could only claim the credit for wages paid to employees for the time they were not providing services due to COVID-19 related reasons.

Claiming the Employee Retention Credit

To claim the ERC, eligible employers must report their total qualified wages and the related health insurance costs on their federal employment tax returns, typically Form 941, Employer’s Quarterly Federal Tax Return. Employers can also reduce their required deposits of payroll taxes that have been withheld from employees’ wages by the amount of the credit, easing cash flow issues.

If an employer’s employment tax deposits are not sufficient to cover the credit, they can receive an advance payment from the IRS by submitting Form 7200, Advance Payment of Employer Credits Due to COVID-19. This form helped businesses get immediate access to the funds they needed to continue operations and retain employees.

Conclusion

The Employee Retention Credit offered significant financial relief for businesses struggling due to the COVID-19 pandemic. Understanding and applying for this credit correctly can provide essential capital during challenging times, helping employers maintain their workforce and emerge from the pandemic in a stronger position. Given the intricacies of the eligibility criteria and the claiming process, employers are advised to consult with financial professionals to maximize their benefits accurately and effectively.