The Internal Revenue Service released guidance Monday for employers claiming the employee retention credit for 2020 and how it relates to eligibility for the Paycheck Protection Program.
The guidance in Notice 2021-20 echoes the information the IRS has already provided in its employee retention credit FAQs, but includes some clarifications and discusses the retroactive changes to the CARES Act under the COVID-19 relief package that Congress passed in December that are applicable to 2020, mainly relating to expanded eligibility for the employee retention credit.
The Paycheck Protection Program and the employee retention tax credit were both included in the CARES Act last March as a way to help struggling businesses deal with the economic fallout from the coronavirus pandemic by providing forgivable loans from the Small Business Administration and tax credits from the IRS to companies that retain their employees. Originally they were seen as separate programs, but the stimulus package passed by Congress last December, which included the Taxpayer Certainty and Disaster Tax Relief Act of 2020, made it easier for employers to participate in both.
Accounting firms have been helping their clients navigate the complexities. “The two of these programs have become wildly popular,” said John Confrey, a senior manager at Mazars USA. “In the first round, they were mutually exclusive, so you had to pick one or the other, and this time you have the option of both. What we’re trying to analyze and take advantage of is really seeing what dollars can go into which bucket and how you can maximize the benefits of each one. There is a limitation on the dollars that go into the PPP bucket and the ERC bucket, but potentially there’s the ability to maximize both and get full forgiveness and the full employee retention credit that is available.”
For 2020, the ERC can be claimed by employers who paid qualified wages after March 12, 2020, and before Jan. 1, 2021, and who experienced a full or partial suspension of their operations or a significant decline in gross receipts. The ERC is equal to 50 percent of qualified wages paid, including qualified health plan expenses, for up to $10,000 per employee in 2020. The maximum credit available for each employee is $5,000 in 2020.
A significant change for 2020 in last December’s COVID relief package allows eligible employers that received a PPP loan to claim the ERC, though the same wages can’t be counted both for seeking forgiveness of the PPP loan and calculating the employee retention credit. Notice 2021-20 explains when and how employers that received a PPP loan can claim the employee retention credit for 2020.
December’s stimulus package revived the PPP and allowed businesses that got PPP loans last year to apply for a “second draw” if they still need a loan. The Atlanta-based firm of Bennett Thrasher has been helping clients deal with the complexities of the PPP and the ERC. “First and foremost, we’re advising them to evaluate the PPP loans first,” said Timothy Watt, a tax partner at Bennett Thrasher. “I think they’re far superior than the employee retention credit, not only the economic benefit but the tax benefit as well. Then we’re helping them evaluate their eligibility for the employee retention credit, which does have some overlapping similar qualifications with PPP in regard to the gross receipts test. The second-draw PPP program has imposed a decrease in gross receipts. While it’s not the same, it does have similar alignment with the employee retention credit. We’re evaluating both at the same time, as far as the gross receipts test goes, and that’s kind of a quantitative analysis.”
The IRS guidance in Notice 2021-20 also includes answers to questions such as which employers are eligible; what constitutes full or partial suspension of trade or business operations; what is meant by a significant decline in gross receipts; how much is the maximum amount of an eligible employer’s employee retention credit; what are qualified wages; how does an eligible employer claim the employee retention credit; and how does an eligible employer substantiate the claim for the credit.
Even before the release of the latest guidance, tax professionals have been guiding their clients through questionnaires about the PPP and the ERC. “The employee retention credit is a very big deal now because you’re allowed to do both — take PPP money and qualify for the employee retention credit — but the evaluation is a lot more complex than maybe some professionals or others in the market are leaning to,” said Watt. “But it shouldn’t be overlooked. I think many small businesses are going to qualify for it. You can go through either a quantitative gross receipts analysis or a qualitative partial suspension of operations analysis, which is more subjective. What we’re finding is being an eligible employer is your first step, and probably one of the hardest steps, and then figuring out if you’re over the full-time employee threshold. That will have a large effect on how much will qualify. When it’s all said and done, and we go through the qualification process on wages and computing the credits, what do I get? Some parts of that are straightforward and others are not. I think that’s more of an administrative process with payroll filings and your quarterly Form 941.”
Tax pros have been doing their own analysis to help their clients with the PPP and the ERC, using Form 941 as well as Form 7200, “Advance Payment of Employer Credits Due to COVID-9.”
“Getting the PPP loan is step 1 and from there analyzing payroll, currently with Q1 of 2021, and seeing where your payroll dollars lie,” said Confrey. “Initially upfront you have the PPP loan. Let’s say you took it out on Jan. 28 and in theory you’d be able to take advantage of the ERC for the first 28 days of the year without affecting the PPP forgiveness. You’d get ERC dollars there, and you could calculate. But the 941, which you would file at the end of April of 2021, is going to be the mechanism that you would use to get the ERC credit. Then for the PPP, it’s going to be whenever your covered period runs out on this new loan, you’re going to apply for forgiveness. For right now, it’s still in the planning stages. There is a mechanism to get an ERC credit upfront via the 7200 form that exists, but from what we’re seeing, most are going to go about it with the 941 in April.”
Prior to the release of the new IRS guidance, tax pros have been giving their clients advice on ways to leverage both the PPP and the ERC. “Most are taking the PPP loan now in round 2,” said Confrey. “From there it’s really analyzing the makeup of the payroll and non-payroll costs for the PPP. We can start projecting that out. If there’s an opportunity where you can use some PPP proceeds to potentially get forgiveness, and then for the non-payroll costs, you would want to maximize the non-payroll costs up to that 60/40 ratio that exists in the program. That essentially would give you the ability to go after the ERC credit. The time of the dollars used for forgiveness is going to matter. If you’re outside the covered window, dollars spent on payroll theoretically would be applicable to the employee retention credit. And then it’s a matter of if there are dollars that are accrued from the PPP — the example that comes up is if somebody makes more than $100,000 [because] there’s a cap in the PPP for that — can you take advantage of the ERC? It’s really mapping that out and creating a strategy that we think as it currently stands would work, subject to any further guidance.”
While the Taxpayer Certainty and Disaster Tax Relief Act also extended and modified the employee retention credit for the first two calendar quarters in 2021, Notice 2021-20 addresses only the rules applicable to 2020. The IRS plans to release more guidance soon to discuss the changes for 2021. A page on IRS.gov explains the ERC and other aspects of the CARES Act.