Running a small business is never easy, and in today’s competitive landscape, maximizing your cash flow can be the major difference between success and in failure. That’s why taking advantage of every opportunity available to you is so important. One such option is the Employee Retention Credit (ERC), created by the IRS as part of the CARES Act to help provide relief during difficult times like we are currently experiencing. You might ask yourself “does my company qualify for ERC?”
In this blog post, we’ll discuss what qualifications are needed for ERC and how your company can benefit from participating in these credits. Read on to learn more!
The Basics of the Employee Retention Credit
The Purpose of the ERC
The Employee Retention Credit is a tax credit available to businesses that have retained employees during the COVID-19 pandemic. The purpose of the ERC is to encourage businesses to retain employees by providing them with a tax credit. This credit can offset payroll taxes, such as Social Security and Medicare.
The ERC is intended to help businesses keep employees on the payroll, even if they are not actively working. This includes employees who have been furloughed, are working reduced hours, or cannot work due to quarantine or illness.
Eligibility Criteria Overview
A business must meet certain criteria to be eligible for the Employee Retention Credit. First, the business must have experienced a significant decline in gross receipts. Specifically, the business must have had a 50% decline in gross receipts compared to the quarter year. Once a business has met this threshold, it can claim the ERC for the quarter.
Alternatively, if a business was forced to shut down completely due to a COVID-19-related government shutdown order, it can claim the ERC for the entire period the shutdown order was in place.
Additionally, businesses must maintain their employee headcount and pay rates to be eligible for the ERC. If a business has more than 100 employees, it can only claim the credit for employees who are not working due to COVID-19-related reasons. If a business has less than 100 employees, it can claim credit for all employees, regardless of why they are not working.
How to Determine Significant Decline in Gross Receipts
Defining Gross Receipts:
Gross receipts include all revenue received or earned by a business before deducting any expenses. This includes sales, services, interest, dividends, and other income. It’s essential to note that any grants or subsidies received from the government, such as Paycheck Protection Program (PPP) loans or Economic Injury Disaster Loans (EIDL) advances, are not considered gross receipts but may affect your gross receipts calculations for the ERC.
There are two primary methods for calculating a significant decline in gross receipts. The first method compares current-year gross receipts to the previous year, and the second compares current-quarter gross receipts to the same quarter in the previous year.
Method 1: Comparing Current-Year Gross Receipts to the Previous Year:
To use method one, a business must show at least a 20% decline in gross receipts in any calendar quarter of a year. Alternatively, the business did not experience a quarter with a 20% decline. In that case, it can also qualify by demonstrating a 50% decline in gross receipts during the second half of 2020 compared to the same period in 2019.
Method 2: Comparing Current-Quarter Gross Receipts to the Same Quarter in the Previous Year:
To use method two, a business must show at least a 20% decline in gross receipts in the current calendar quarter of a year. If they achieve that, they are eligible for the ERC in the current and subsequent quarters. However, a business can only switch to Method 1 if they show a significant decline in gross receipts using Method 2 in a specific quarter of 2020.
Additional Qualifying Factors:
Aside from a significant decline in gross receipts, other qualifying factors for ERC eligibility include having operations fully or partially suspended due to COVID-19-related government orders or a significant decline in gross receipts. Additionally, businesses must have fewer than 500 employees and have yet to receive a PPP loan after December 31, 2020, to be eligible for the ERC.
Special Considerations for Different Business Types
Small businesses often operate on a tight budget, making it essential to keep overhead costs as low as possible. As a result, they may face significant challenges when hiring skilled employees, as most need more resources to offer top-level salaries. The emphasis should be on finding the right balance between keeping costs low and providing competitive pay. Small businesses may also need help to maintain compliance with regulatory requirements, primarily when dealing with taxes. Finding a reliable accounting or finance expert who can guide your organization on the right path and ensure adherence is essential.
Small businesses should leverage the latest technology, such as cloud computing, automated software systems, and other affordable business tools, to streamline their operations. Adopting such technologies and automating various tasks frees up valuable resources and time, allowing small businesses to focus on innovation and growth.
Medium and Large Businesses
Medium and large businesses have vastly different considerations from their small business counterparts, the most significant being scaling their operations. These organizations must implement effective growth strategies to stay within their operations and stay caught up in their competition. They must also ensure that policies and procedures are in place to monitor operations and identify vulnerabilities before they escalate, preventing issues from impacting the wider system.
Medium and large companies must also maintain flexibility with an ever-changing market, workforce, and evolving consumer demands. The onus falls on leaders to provide ongoing training, encouraging personal and professional growth to meet these challenges. Leaders must encourage a strong company culture, which can be a critical motivator for employees.
How to Determine Qualified Wages
Firstly, what exactly are qualified wages? Essentially, they’re wages paid by employers to their employees that are eligible for tax credits. Most commonly, qualified wages are related to the employee retention tax credit (ERTC) — a credit that was introduced as part of the Coronavirus Aid, Relief, and Economic Security (CARES) Act, which provides economic relief to businesses affected by the COVID-19 pandemic.
The qualified wages a business can claim for the ERTC can be, at most, $10,000 per employee per quarter. There are also limitations on how much an employee’s wages can be counted towards the credit. In summary, qualified wages represent taxable compensation paid to employees aligned with the criteria set out by tax credits.
Now, let’s discuss how to calculate qualified wages. The IRS requires specific computation methods to determine qualified wages for the ERTC. The credit amount equals 50% of up to $10,000 per employee of qualified wages paid between March 13, 2020, and December 31, 2021. The computation method differs for businesses that employ more than 500 full-time employees and those that don’t.
For businesses with more than 500 full-time employees, the calculation is based on wages paid to employees not providing services due to a full or partial suspension of business activities or a significant decline in gross receipts. For businesses with fewer than 500 employees, the calculation is based on wages paid to all employees, regardless of whether they currently provide services.
It’s worth knowing that qualified wages are also determined based on the type of health insurance employers provide. The premium can count towards qualified wages if the employer provides a group health plan. Employees enrolled in employer-sponsored health plans can also have their wages counted if the amount of the deduction from their employee pay equals or exceeds the employer’s cost of coverage.
The more complicated areas of qualified wage calculations relate to eligibility criteria. An extensive range of conditions must be met for an employee’s wages to count as qualified wages and be eligible for tax credits. Specifically, these include but aren’t limited to:
- Properly documenting the amount of qualified wages paid during the identified period
- Meeting specific geographical requirements for the employees
- Documenting a significant decline in gross receipts compared to the same period last year
- Documenting full or partial suspension of operations due to government orders relating to COVID-19
Interaction of ERC with Other Relief Programs
ERC and Paycheck Protection Program (PPP)
The PPP was designed to provide businesses with a forgivable loan. On the other hand, the ERC is a tax credit designed to incentivize businesses to retain their employees. The PPP was initially designed to cover only a few months of payroll expenses but has since been extended to 24 weeks. Businesses that received PPP loans were also eligible for ERC benefits, but there are specific guidelines to follow. If a company uses the PPP loan to pay eligible payroll expenses, it cannot use the same expenses to claim the ERC. However, any payroll expenses not covered by the PPP can be claimed as ERC. This interplay between the programs can be confusing, but taking the time to understand their specifics can substantially benefit businesses.
ERC and other Federal Credits
Apart from the PPP, businesses can take advantage of several other federal relief programs to maximize their benefits. These programs include the Families First Coronavirus Response Act (FFCRA), which provides paid leave to employees affected by COVID-19 and the Work Opportunity Tax Credit (WOTC). These programs work uniquely with the ERC, with businesses getting the benefit of claiming both programs if they meet the criteria. For instance, if a business hired a new employee who qualified for the WOTC program and retained this employee during the qualifying period, they would be eligible for WOTS and ERC credit for the employee.
Interaction with Local Relief Programs
State and local governments have also rolled out their relief programs in response to the pandemic. These programs range from grants to deferral of taxes. The benefit of these programs is that they add to the already existing federal benefits. For instance, a business that received a grant from the state government to cover payroll expenses could still claim ERC credit for any expenses not covered.
Maximize your Benefits
To maximize your benefits, working with your accountant, legal advisor, or tax professional is essential. These professionals understand the specific guidelines and can help you navigate the complexities. Hiring a professional to manage the various programs can also save you time and money in the long term.
Calculating the ERC
The ERC represents the energy efficiency of a building and is calculated based on the amount of energy used to heat, ventilate, and cool a structure. There are several components to the calculation, including the square footage of the building, the number of rooms, and the type of equipment used to heat and cool the space. To find the maximum ERC for a building, one must start by determining the area of the building. This can be done by measuring the length and width of each room and multiplying them to find the total square footage.
Once the area of the building has been determined, the next step is to identify the energy sources used to heat and cool the building. Various factors go into determining the energy consumption of a building, including the type of HVAC system used, the age and efficiency of the equipment, and the number of people living or working in the building. Energy consumption devices such as lighting and appliances can also impact the ERC.
After identifying all the factors that contribute to energy consumption in a building, the ERC is calculated by dividing the total energy used by the square footage of the building. The ERC measurement is usually expressed in BTU or kilowatts per square foot per year.
Limitations and Caps on the ERC
While calculating the ERC can help identify energy inefficiencies, it is crucial to consider this metric’s limitations. The ERC only considers the energy used to heat, cool, and ventilate a structure and does not consider other factors that may impact energy efficiency, such as insulation levels, excessive lighting, or water usage. Therefore, it is essential to supplement this measurement with other sustainability metrics to ensure maximum energy efficiency.
Moreover, some states and local governments have established caps and limits on the ERC for specific buildings. These limitations and caps may vary based on the type of building, location, and energy generation source. Some utility providers even offer rebates or incentives to encourage customers to improve their ERC. Therefore, it is essential to calculate the ERC and be aware of relevant local and state regulations.
Application Process for the ERC
- Go Through the Documentation Checklist: Before diving into the ERC application process, you’ll need to gather all of the necessary documentation. This includes copies of your company’s tax returns, payroll records, and financial statements. You may also need to provide documentation to show how the pandemic impacted your business. The best course of action is to go through the documentation checklist provided by the IRS and ensure that you have everything you need. Documentation can take time, but it’s the foundation of a successful ERC claim.
- File Your Claim: Once you have all your documentation, it’s time to file your claim for the ERC. You can do this using Form 941, which must be filed quarterly. You’ll need to complete a special ERC worksheet to claim the credit, and you’ll also need to attach any other necessary documentation. Taking time with this process is important to ensure you have completed everything correctly.
- Monitor Your Claim: After you have submitted your claim, it’s important to monitor the status of it. You can check your IRS account or contact your tax advisor. The IRS is currently processing ERC claims within 3 – 6 months, but it’s important to follow up if you have any questions or concerns.
- File Your Amended 941s: If you’re claiming the ERC retroactively— meaning you’re claiming for a previous quarter—you’ll need to file amended Form 941s for those quarters. This process can be a bit more complex, so working closely with your tax advisor is important to ensure everything is filed correctly. The IRS has provided specific guidance on handling retroactive ERC claims, so consult with your advisor on this.
- Keep Detailed Records: It’s critical to keep detailed records throughout the application process. This includes copies of all of your documentation and any communication you have with the IRS or your tax advisor. Having detailed records will make the process smoother and may help you in the case of any disputes.
Understanding How the ERC is Paid
Refunds vs. Credits
One question that often comes up about the ERC is whether it’s a refund or a credit. The answer is that it’s both. The ERC is a tax credit, which means it can reduce the taxes a business owes. However, if the credit is larger than the business’s tax liability, the excess amount can be refunded to the business. This means that the ERC can offset the cost of payroll and provide a much-needed infusion of cash for struggling businesses.
Qualifying for the ERC
To qualify for the ERC, a business must meet certain criteria. The credit is only available to that employers whos experienced a full or partial suspension of operations due to government orders (usually at least 50%) compared to the same quarter. The credit is also available to businesses that started operations in 2020 or 2021, provided they meet certain eligibility requirements.
Calculating the ERC
The ERC is calculated per-employee basis and equals 50% of qualified wages paid during the eligible period. For 2020, the maximum credit amount is $5,000 per employee; for 2021, the maximum credit is $7,000 per quarter. The eligible wages can include salary and benefits, such as health insurance premiums.
Timeline for Receiving the ERC
The timeline for receiving the ERC can vary depending on the business’s specific circumstances. Generally, the credit can be claimed on the business’s quarterly employment tax returns. However, there are also provisions for claiming the credit on an amended return or applying for an advance payment. The IRS has provided detailed guidance on how to claim and calculate the ERC, and businesses must follow these guidelines carefully to make sure that they receive the full amount of the credit.
Tax Implications of the ERC
Impact on Tax Deductions:
The ERC is a refundable tax credit that businesses can claim if they meet certain eligibility requirements. The amount of the credit is equal to 70% of the first $10,000 in qualified wages paid per employee during certain quarters of 2020 and 2021. Before claiming the credit, businesses should understand its impact on tax deductions.
The qualified wages used to calculate the ERC cannot be used for other tax credits or deductions, such as the Research and Development Tax Credit or Work Opportunity Tax Credit. Additionally, expenses used to calculate the ERC cannot be used for the Paycheck Protection Program (PPP) loan forgiveness.
Reporting the ERC on Tax Filings:
Businesses that claim the ERC must report it on their tax filings accurately. They should also report the amount of the ERC claimed on their Payroll Support Program application and the corresponding payroll Form 941.
Moreover, businesses should maintain adequate documentation to support their ERC claims, including the qualified wages used to calculate the ERC and the eligibility criteria used to determine the credit. They should keep the documentation for at least four years after the due date of the tax return or the date of filing the return, whichever is later.
Record Keeping for ERC Compliance
Under the ERC Act, there are specific requirements for electronic record keeping. Businesses are required to maintain electronic records that are accurate, accessible, and reliable to ensure legal compliance. Necessary documentation includes signed contracts, agreements, invoices, and receipts.
However, it’s important to note that not all records you keep need to be electronic. You may also keep records in paper form, provided that these records are scanned or converted electronically for compliance. Additionally, records must be easily retrievable, tamper-proof, and secured from unauthorized access.
Recommended Record Retention Period:
The recommended retention period for electronic records varies based on the document or record you’re keeping. Business records that pertain to tax reporting, SEC filings, and other financial records should be kept for at least seven years. Employee records, such as employment contracts and payroll-related documents, should be retained for at least three years after termination.
Other records not specifically covered by ERC requirements may vary in their recommended retention period. Following recommendations from other regulatory bodies, industry experts, or legal advisors is best to ensure compliance.
Invest in Technological Solutions:
Keeping electronic records can be challenging and requires extensive storage space. That’s why investing in technological solutions can help make this process more manageable. Cloud-based storage, for example, allows you to store your records securely and provides a convenient means of accessing these records from anywhere at any time.. This system helps ensure you retain all necessary records while also destroying no longer required records.
Common Mistakes to Avoid When Applying for the ERC
Misinterpretation of Eligibility Criteria
One of the most common mistakes businesses make when applying for the ERC is needing to be more accurate with the eligibility criteria. The eligibility criteria can be complex, and businesses should take the time to read the guidelines carefully to make sure they meet all the requirements. Some common mistakes include failing to meet the gross receipts test, not understanding the definition of a full or partial suspension of operation, or not correctly identifying and calculating qualified wages.
Errors in Calculating Qualified Wages
Calculating qualified wages is a critical step in applying for the ERC. Businesses must include all eligible wages and withholdings and exclude any ineligible and qualified wages used to claim other tax credits. A common mistake is not identifying and calculating eligible health care costs, which can include both the cost of employer-sponsored health coverage and qualified health plan expenses.
Businesses must provide all necessary documentation when applying for the ERC. A common mistake is submitting incomplete documentation, which can delay the application process. Documentation must be accurate and include all necessary information, such as payroll records, financial statements, bank statements, and tax returns. Businesses should ensure that all documentation is organized, accurate, and up-to-date.
Failing to Maximize Eligible Credits
Another common mistake businesses make when applying for the ERC is failing to maximize eligible credits. The ERC can be a complex credit, and businesses may need to understand all the provisions to maximize eligibility fully. For example, some businesses may need to realize that they can retroactively claim credit for certain quarters in 2020 when they did not apply for a Paycheck Protection Loan.
Meeting deadlines is a common mistake businesses make when applying for the ERC. The ERC is a time-sensitive credit, and businesses should be aware of the application deadlines to maximize eligibility. Businesses should apply as soon as possible to claim the maximum credit for each quarter in 2021. A timely deadline can result in a loss of potential credits.
Frequently Asked Questions
Q: How long does it take to receive the ERC?
A: The time depends on how quickly a business submits its application and provides all necessary documentation. Generally, businesses should expect to receive the credit within eight weeks of submitting their application.
Q: Is there a limit to how much a business can claim for the ERC?
A: Yes, businesses are capped at a total of $7,000 per quarter in 2021 for the ERC. However, this limit will increase depending on factors such as inflation and wage changes.
Q: Can a business claim the ERC retroactively?
A: Yes, businesses may be able to claim the ERC retroactively for certain quarters in 2020, even if they did not apply for a Paycheck Protection Loan. Businesses should review the applicable rules and regulations to determine their eligibility for retroactive credits.
Q: Is there any additional assistance available?
A: Businesses can seek professional tax advisors or CPAs to help them navigate the ERC process. Professional advisors can help businesses maximize their eligibility for credit and ensure they remain compliant with all applicable rules and regulations. Many states also have programs available to assist businesses in applying for the ERC. Businesses should contact local government offices for more information about these assistance options.
Q: What happens if a business makes a mistake on its ERC application?
A: If a business makes an error on its ERC application, it should contact the IRS and request an amended form. This will ensure that the business complies with all applicable rules and regulations. Additionally, businesses may also be subject to penalties if they do not correct any errors promptly. Therefore, reviewing all applications carefully and ensuring everything is accurate before submitting is important.
Q: Is the ERC specific to certain business types?
A: Generally speaking, any type of business that meets the criteria for qualified wages is eligible for the ERC. This includes small and large businesses and sole proprietorships, corporations, partnerships, and LLCs. However, certain industries may have additional requirements or restrictions on ERC eligibility. Businesses should consult a professional tax advisor to meet all applicable rules and regulations.
Q: Is the ERC available on a state level?
A: Many states have adopted their versions of the ERC, usually mirroring the IRS guidelines for federal credits. Businesses should contact their local government offices to find out more information on specific state programs that may be available. However, it is important to note that state ERCs may have different qualifications and restrictions than federal credit, so businesses need to research these differences before applying.
Q: Are there any other tax benefits associated with the ERC?
A: Businesses may be eligible for other tax credits or deductions when they claim the ERC. Depending on their circumstances, businesses can take advantage of these additional benefits to reduce their overall tax liability. Businesses should consult with a professional tax advisor to ensure they are taking full advantage of all possible tax breaks associated with the ERC.
The Employee Retention Credit (ERC) is a great tool for small businesses looking to save money during difficult times. To qualify, your business must meet certain criteria and be impacted by COVID-19 in some way. With the right preparation, you can take advantage of this credit and save money on payroll taxes today.
I hope you found this short article about the question “Does my company qualify for ERC” to be helpful? Please share your own experience in the comment section!
I wish you success!
Michael, founder of Gold Retired