Employee Retention Credit Expanded and Extended; PPP Loan Recipients Now Eligible

Under the CARES Act, enacted March 27, 2020, employers that experienced a significant business impact from COVID-19 based on specific parameters are eligible for a fully refundable federal payroll tax credit, the Employee Retention Credit (ERC). However, as originally enacted, employers (or members of their controlled groups) that received a loan under the Small Business Administration’s Paycheck Protection Program (PPP) were not eligible for the ERC.

The Consolidated Appropriations Act of 2021 (CAA), enacted on December 27, 2020, removed that restriction. Under CAA, employers that received a PPP loan may still claim the ERC for qualified wages. However, the same wages that were used to qualify for forgiveness of the PPP loan may not also be used to qualify for the ERC. This change is retroactive to 2020, so an employer that did not claim an ERC in 2020 because it received a PPP loan may now apply retroactively for the 2020 credit if it is otherwise eligible.

In addition, CAA extended the ERC through June 30, 2021. For 2021, the amount of the credit has been substantially increased while the conditions to be eligible for it have been significantly reduced. The differences in the ERC between the years 2020 and 2021 are discussed in detail below.

The ERC is claimed on the quarterly employer payroll tax return, Form 941. Because it is a refundable credit, should the overpayment on the form (including the ERC) exceed the employment tax liability, the excess may be refunded or applied to the following quarter. Employers who did not claim now-eligible ERC in 2020 may catch up by claiming the ERC on the fourth quarter 2020 Form 941 in accordance with new IRS guidance, or by filing amended quarterly employer payroll tax returns (Form 941-X) for 2020.

Prior to CAA, when the law did not allow the ERC for PPP loan recipients, PPP loan borrowers may have listed more payroll costs than necessary on their PPP forgiveness application. For example, for convenience they may have listed payroll costs first rather than other eligible expenses such as rent and utilities, or they may have listed more payroll costs than necessary just to be safe. Now that ERC is available to PPP recipients, but only for wages that were not used for forgiveness, these unnecessary overstatements of payroll costs on the forgiveness application may impact the availability of the ERC. We await guidance from the IRS on the ERC/PPP interaction. In the meantime, for any PPP forgiveness application being submitted currently, the amount of payroll costs used should be minimized as much as possible.

Claiming the Credit in 2020

To be eligible to claim the ERC for 2020, an employer must have met one of two conditions during the second, third, and/or fourth quarter a quarter of 2020 (for this purpose, the second quarter also includes the period from March 13 to March 31, 2020). To claim the ERC for a quarter, the employer must have, in that quarter, either:

• had business operations fully or partially suspended due to a COVID-19 related government shutdown order, or
• had a quarter-to-quarter gross receipts of less than 50% compared to the same quarter of 2019.
  
  

The amount of the credit in 2020 is 50% of the qualified wages paid for an employee from March 13, 2020 to December 31, 2020. Qualified wages now include group health care expenses, even when no other wages are paid to an employee (for example, continuing health coverage during a furlough). The amount of qualified wages considered for any one employee for the entire calendar year 2020 is limited to $10,000. Therefore, the maximum credit for an eligible employer for qualified wages paid to any one employee during 2020 is $5,000.

Employers who averaged 100 or fewer full-time employees in 2019 are considered small employers in 2020. These employers may claim the credit in 2020 for all employees in the applicable quarter. Employers who averaged more than 100 employees in 2019 (large employers) may only claim the credit in 2020 for employees to whom they paid wages although the employee did not perform any services for the employer, including teleworking or working at a reduced capacity due to business reduction.

Claiming the Credit in 2021

One of two conditions must again apply in the first and/or second quarter of 2021 for an employer to be eligible to claim the ERC for 2021. The shutdown order is the same, but the gross receipts test has been revised to a 20% decrease compared to the same quarter in 2019. Further, a safe harbor has been provided that allows employers to use the prior quarter’s gross receipts to compare to the same quarter in 2019. Also, employers that were not in existence in 2019 may use the same quarter of 2020 to determine eligibility.

The amount of the credit has been increased to 70% of qualified wages paid for an employee in the first and second quarters. Moreover, the credit may now be claimed for the first $10,000 of qualified wages paid to each employee in each of the two quarters. Therefore, the maximum credit for an eligible employer for qualified wages paid to any one employee during 2021 is $14,000.

Employers who averaged 500 or fewer full-time employees in 2019 are considered small employers in 2021. These employers may claim the credit in 2021 for all employees in the applicable quarter. Employers who averaged more than 500 employees in 2019 (large employers) may only claim the credit in 2021 for employees to whom they paid wages although the employee did not perform services for the employer.

Small employers (500 or fewer employees) may also elect to receive a refund in advance of the ERC for the quarter, based on not more than 70% of the average quarterly wages paid by the employer in 2019. Any advance will be reconciled against the actual credit at the end of the quarter on Form 941.

Employers that utilize a third-party provider to file their payroll tax returns should discuss claiming the ERC with their provider. Employers using a Professional Employer Organization (PEO) for their human resource needs are entitled to receive the ERC for their employees although the PEO files an aggregate Form 941 for multiple employers. PEO clients should discuss with their representative how the credit is reconciled and received.

We will issue additional Alerts as further guidance becomes available. During this crisis, your LMC professional is available if you have questions related to the latest updates on this topic.