Employee Retention Tax Credit Expands to Help More Businesses

Big changes were made to Employee Retention Credit (ERC) that could help employers and small businesses hit hard by the COVID-19 pandemic.

What is the ERC?

The Coronavirus Aid, Relief, and Economic Security (CARES) Act introduced the ERC to encourage employers to hire and retain employees during the pandemic. For employers negatively impacted by the pandemic who keep their employees, the ERC offers a temporary refundable credit against applicable employment taxes for each calendar quarter during 2020.

How did the ERC work initially?

The credit is equal to a capped percentage of wages paid by an employer meeting certain criteria. The amount of qualified wages taken into account by an eligible employer is based on the average number of employees in 2019. It includes cash payments, as well as a portion of the cost of employer-provided health care paid after March 12, 2020, and before Jan. 1, 2021. If the employer had 100 or fewer employees on average in 2019, the credit was based on wages paid to all employees, regardless of whether the employees worked. If an employer averaged more than 100 employees in 2019, the credit was only allowed for wages paid to employees who did not work during the calendar quarter.

Who can get the ERC?

All employers, regardless of size, including tax-exempt organizations, can get the credit, as long as their business has been financially impacted by the COVID-19 virus. However, small businesses who received loans from the Paycheck Protection Program (PPP) were not originally eligible for the ERC.

How did the Relief Act and Notice 2021-20 change the ERC?

The Taxpayer Certainty and Disaster Tax Relief Act of 2020 (the Relief Act) extended and changed ERC eligibility on Dec. 27, 2020. The IRS recently clarified the changes in Notice 2021-20.

Most significantly, the passage of the Relief Act allows employers who got a PPP loan in 2020 to now claim the ERC. While the same wages cannot be used both for seeking forgiveness of the PPP loan and calculating the credit, Notice 2021-20 provides guidance on when and how employers that received a PPP loan in 2020 can claim the ERC for 2020.

Notable changes brought by the Relief Act include:

• Extending the ERC available for eligible employers paying qualified wages to include wages paid after Dec. 31, 2020, and before July 1, 2021
• Raising the maximum credit amount that may be claimed per employee from 50% to 70% of up to $10,000 of qualified wages paid to an employee per calendar quarter
• Expanding the category of employers that may claim the credit
• Modifying the gross receipts test by changing the required reduction from 50% to 20% of the same calendar quarter’s receipts in the prior year
• Changing the number of employees counted when deciding the relevant qualified wage base from 100 to 500
• Expanding the definition of “qualified wages” for purposes of calculating the ERC

What do these changes mean for businesses?

Under the Relief Act and Notice 2021-20, the ERC is no longer connected to the PPP and provides added benefits for small businesses. Although the Relief Act and Notice 2021-20 only address the rules for 2020, the IRS is expected to release more guidance soon to discuss the changes for 2021, including guidance for small businesses that may receive a second draw PPP loan.

While some of the important elements have been highlighted above, the changes the Relief Act brings are extensive and complex. Please contact Todd L. Denison, Christopher Luke Nixon or any member of Phelps’ Business team if you have questions.