Updated: Apr 26, 2021
Federal regulations are changing quickly in response to the Covid-19 pandemic and several recent changes have made navigating these regulations even more complicated. The Employee Retention Credit (ERC) received updates that are very helpful to businesses in 2021, but also include provisions with retroactive application back to 2020. Here is what small businesses need to know about the Employee Retention Credit for 2020 and 2021.
What You Need To Know
The ERC provides a credit of up to $5,000 for each employee paid between March 13 and Dec. 31, 2020 and up to $14,000 for each employee paid between Jan. 1 and June 30, 2021.
The change now includes recovery startup businesses as qualified employers for Q3 and Q4 2021. A recovery startup business is generally a business that began operating after February 15, 2020, and has less than $1M of annual gross receipts. A recovery startup business will be eligible for a maximum credit of $50,000 per quarter, even if the business has not experienced a significant decline in gross receipts or been subject to a full or partial suspension under a government order, which have been the requirements through now.
Retroactive to 2020, employers who received a Paycheck Protection Program (PPP) loan may now also qualify for ERC. In short, you cannot use the same wages for PPP and ERC, so the credit is limited to qualified wages that are not treated as payroll costs on the PPP Forgiveness Application. Read more about Retroactive ERC here.
IRS guidance allows qualifying employers to amend Form 941 to claim the ERC and request a refund. This can be accomplished by amending the 2020 fourth quarter 941 using Form 941-X and reporting ERC wage amounts on Line 11c or Line 13d. This process can take between 10-12 weeks, sometimes longer to receive the credit from the IRS.
For 2021, qualifying businesses can claim the credit immediately by reducing payroll taxes. If the credit exceeds payroll taxes owed, businesses can either request a direct refund from the IRS using Form 7200 or claim the credit on their 941 Form at the end of the quarter.
Qualifying wages should be submitted to the IRS with your quarterly 941. If you are a Paysteady client, qualified wages should be submitted through the payroll portal no later than the end of each quarter and will be properly reported on Form 941. Businesses will receive the credit amount back directly from the IRS.
If you have utilized Form 7200, you must note this on Form 941 as well. Paysteady clients should be sure to report any Form 7200 submissions before quarter end.
A business is likely eligible to claim ERC Credit if:
Fully or partially suspends operation during any calendar quarter due to orders from an appropriate government authority due to COVID-19; or
Experience a "significant decline in gross receipts" during the applicable calendar quarter.
For 2020, "significant decline in gross receipts" is defined as a drop of at least 50% in gross receipts when compared with the same calendar quarter in 2019.
For 2021, it’s defined as a drop of at least 20% in gross receipts when compared with the same calendar quarter in 2019. Employers have the option of using the gross receipts from the immediately preceding calendar quarter and the corresponding quarter in 2019 to determine whether they meet this threshold.
*If the business wasn’t operational in 2019, the business owner can use corresponding quarters from 2020.
What are qualifying wages for the Employee Retention Credit?
Qualified wages are wages paid to employees (exceptions noted below), including qualified health plan expenses. For businesses with less than 100 full-time employees in 2019, qualified wages are the wages paid to employees during any period when operations are fully or partially suspended due to a governmental order or the business experienced a significant decline (see above for definition) in gross receipts.
Wages paid to employees who are related to the business owner are not considered qualified wages and are not eligible for the ERC. That includes children, grandchildren, brother, sister, stepbrother, stepsister, parents, stepparents, grandparents, niece, nephew, aunt, uncle, son-in-law, daughter-in-law, father-in-law, mother-in-law, brother-in-law, or sister-in-law. A business owner for these purposes is anyone owning, either directly or indirectly, more than 50% of the business.
How can I maximize the ERC while still achieving full PPP loan forgiveness?
PPP loan recipients can also claim the ERC for qualified wages as long as the same expenses are not used for both benefits. On March 1, 2021, guidance was issued that an eligible employer makes the election to use payroll costs for PPP loan forgiveness by not claiming ERC for those qualified wages on its amended Form 941.
The general rule is simple for PPP borrowers who have not yet applied for first-round PPP loan forgiveness, because they can make the election on the amended Form 941 for 2020. Furthermore, businesses can strategize the best way to report payroll costs on the PPP forgiveness application (at least 60% required) and qualified wages for the Employee Retention Credit. If you have already applied for forgiveness you will not be able to use these same strategies. For 2021, PPP borrowers can stop claiming ERC on wages once a second round PPP loan is received until those PPP funds are exhausted.
To determine the ERC wages for 2020, there should be an analysis of qualified wages paid during the covered period of March 13 - December 31, 2020. If the maximum qualified wage amount was reached ($10,000) after subtracting PPP coverage per employee, then you will report the maximum amount of $10,000. However, if the ERC maximum qualified wage is not reached after subtracting the PPP coverage amount for that employee, businesses will need additional analysis to determine which wages will be covered by PPP and which will be used for ERC.
Unfortunately, employers that have already received PPP loan forgiveness may not be able to utilize these strategies and will need to operate around the payroll costs reported on the forgiveness application. If an employer had enough wages to satisfy the PPP forgiveness and maximize the qualified wage limit for ERC, there may be no impact.
As an example, if an employer had a PPP loan for $100,000 and claimed forgiveness for $100,000 in payroll costs, they are only eligible to claim ERC on qualified wages above that $100,000 threshold in 2020. If the employer had instead claimed forgiveness for $60,000 in payroll costs and $40,000 in eligible non-payroll costs, they would’ve been eligible to claim ERC on qualified wages above $60,000 for 2020.
In addition to the ERC, The Consolidated Appropriations Act (CAA 2021) also extended and modified Paid Sick and Family Leave Tax Credits under the FFCRA. Check out our blog post for details about these changes.