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Updated: September 21, 2023
In March 2020, the Employee Retention Credit (ERC) was introduced to provide much-needed financial relief to employers impacted by the COVID-19 pandemic. Part of the Coronavirus Aid, Relief, and Economic Security Act (CARES), the ERC’s goal was to encourage employers to keep employees on the payroll during the peak of the coronavirus pandemic.
This credit, also known as the ERTC, can sometimes get lost in the shuffle. It is sometimes overshadowed by the CARES Act itself, online fraudsters try to dupe business owners, and some employers are simply unaware they may qualify for these payroll tax credits.
Fast facts about the ERC
The good news is that this credit is real. The deadline for businesses to apply for these 2020 and 2021 credits has been extended several times since the program started, and qualified businesses still have until 2025 to claim them.
But how do you know if the credit applies to your business, and if it does, what are the steps to retroactively claim it? In this employer’s guide, we’ll define what the Employee Retention Credit is, how to know if your business qualifies, and with the deadlines now extended into 2024 and 2025, we’ll cover how you can apply.
Due to an increase in fraudulent applications, the IRS has announced that it will no longer process new ERTC claims until at least December 31, 2023. Previous claims are still being processed but may take longer to expedite due to fraudsters. Per the announcement, the IRS estimates timeframes may increase from 90 days up to 180 days.
Simply put, the Employee Retention Credit (ERC) is a refundable payroll tax credit — created by the federal government — to encourage employers to retain and continue paying employees during the COVID-19 pandemic-related economic downturn. It was passed by Congress in early 2020 as part of the Coronavirus Aid, Relief, and Economic Security (CARES) Act and the legislation has been amended three times by the following laws:
The credit is based on qualified wages and compensation paid to employees, including tips and qualified health expenses paid on behalf of employees.
To better understand how it’s changed since becoming law, let’s take a look at what it started as up until the present day.
To start, the ERC credit was calculated using 50% of qualified wages up to $10,000 paid per W-2 employee between the dates of March 12, 2020, and December 31, 2020.
Other provisions of the original version of the ERC stated that the credit was available to businesses that had:
Subsequent versions of the legislation extended the credit period through June 30, 2021, and later through September 30, 2021, where it has remained.
In addition, the gross receipts test changed. This means that employers were able to qualify for the credit with only a 20% drop in gross receipts, using either the current or a preceding quarter for comparison with prior-year gross receipts.
As we fast forward to the present day, the latest version now allows businesses that participated in the PPP loan program to claim a credit against wages that were not used for PPP forgiveness.
And as of this writing, the ERC has undergone even more deadline extensions, providing businesses that were able to keep their staff on the payroll an opportunity to apply. So, what’s in the dollars and cents? The following credits are currently still available for eligible small businesses (and we’ll get into the ins and outs of eligibility a bit later in the article):
Now that we know how the ERC works, most business owners probably want to know if they are eligible. Let’s find out more about who meets the guidelines for qualifying.
Please avoid getting mad at the messenger: Only some businesses qualify to take the credit, and the IRS uses three factors to determine ERC eligibility based on their definition of a small business. What are they?
Meeting the small business criteria set by Uncle Sam is the first step toward determining your eligibility. From there, your business is eligible to take the credit if one of the following three factors applies to your current situation. Note that If one of these factors does not apply to your business, the ERC is not in the cards. Here they are:
Did your business experience a shutdown or significant reduction in hours of operation as a result of a government order between March 12, 2020, and September 30, 2021? You would be eligible.
Your company’s gross receipts experienced a significant decline during any quarter in 2020 and/or the first three quarters of 2021. Keep a couple of caveats in mind though:
You have a new or launched startup business after February 15, 2020 (congratulations!) and currently have annual gross receipts of less than $1 million. If your business meets both criteria, you do not have to meet requirements 1 or 2, though you are limited in how much your business will receive in credits for each eligible quarter.
Now that we have broken down how businesses can qualify for the credit, it’s worth understanding which employee wages are considered.
For 2020, qualified small businesses that averaged 100 full-time employees or less can claim ERC for all employees, whether or not they worked. How is a full-time employee defined?
It’s an employee who works an average of 30 hours in a week.
If you’re keeping score, the definition of a small business changed in 2021 to include businesses that averaged 500 full-time employees, making them eligible to claim the credit whether they worked or not. Keep in mind that part-time employee wages are also eligible to apply towards the credit.
Though the ERC is geared towards small businesses, larger businesses with more than 500 full-time employees can still take advantage of the credit, but only for wages that were paid to employees that did not work.
Cash tips of more than $20 per month are also considered qualified wages, but wages paid to the owner or related family members does not qualify for the credit.
When filing for the ERC, it’s important to remember that you can only use qualified wages for the specific time frame, which is all four quarters of 2020 and the first three quarters of 2021, with eligibility determined per quarter.
For example, if you meet the IRS criteria, you can apply for the credit for each quarter that you remain eligible, even if you’re not eligible for the next quarter.
Businesses are not able to claim wages for the same employees under both the ERC and the Work Opportunity Tax Credit for the same quarter, nor those claiming the employer credit for the Family and Medical Leave Act (FMLA).
As we get through the ins and outs of how the wages work when it comes to the ERTC, business owners are probably wondering how this comes into play when considering PPP loans.
When PPP loans and the ERTC first became options for small businesses, you had to pick one: Applying for both was a “no-no.” Similar to the evolving ERC deadlines, things have changed since those early days.
If you’ve applied for and received a PPP loan, you’re still eligible to apply for the ERC credit. In its original version, the ERC was not available to businesses that had taken a PPP loan. In the updated guidelines issued in late 2020, employers receiving a PPP loan are now allowed to apply for ERC, but cannot use wages used for PPP loan forgiveness when calculating their ERC credit.
We have covered a lot of ground, and — drum roll, please — let’s talk next about the steps to retroactively claim this credit.
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As we mentioned, the good news is that even if you haven’t claimed the employee retention tax credit yet, time is on your side.
You have until April 15, 2024 to file an amended 941 (using Form 941-X) to:
Are you ready to get the ball rolling on retroactively applying? Here’s the documentation to have ready to go.
Once you have that documentation in place, you’ll need to complete Form 941-X and here are complete instructions on how to fill it out available from the IRS. Before completing Form 941-X, you’ll want to:
Before downloading Form 941-X or spending time looking over the instructions, make sure that you qualify for the retroactive credit by reviewing the eligibility criteria we touched on earlier in this guide.
Determined that you qualify for credit? Sounds good! Next, you’ll need to review payroll records to determine your total qualified wages and related healthcare costs for each quarter you’re eligible for the credit.
Next up is a bit of number crunching. Once you’ve identified the employees and wages that are eligible for the credit, you can calculate it. For example, let’s say your business had 20 full-time employees and five part-time employees in 2020, with all 20 full-time employees paid at least $10,000 in qualified wages for the second quarter of 2020.
Because the 2020 rules state that 50% of wages paid up to $10,000 are eligible for the credit, you would calculate your second quarter credit as follows:
However, for your part-time employees, three earned qualified wages of $8,000 for the quarter, and two earned $5,000 for the quarter. Because only 50% of qualified wages is going to be eligible for the credit, you’ll calculate your ERC credit as follows:
When adding them all up, your total ERC credit for the second quarter of 2020 is:
Let’s look at a second calculation.
Because the credit was raised to $7,000 for the first three quarters of 2021, using the same numbers from our original example above,, you would calculate your 2021 credit for the quarter as follows:
So, your total for the 2021 quarter would be:
It’s important to follow the rules for the quarter in which you’re applying for the credit. What does this mean?
For instance, let’s say you’re applying for a credit for 2020, your eligible full-time employees are going to be capped at 100, with the cap increasing to 500 in 2021.
And if you’re a startup business, the maximum you can receive in credits is $50,000 per quarter for both 2020 and 2021.
It can be a good idea to familiarize yourself with Form 941-X before filling it out. Fortunately, the IRS has included a detailed worksheet that can help simplify the task.
Remember, a separate 941X has to be filed for each quarter that you are requesting a refund, and filing online or electronically is not an available option. What should you do when it’s completed? You’ll have to send your completed Form 941-X form to the nearest IRS office, either in Cincinnati, Ohio, or Ogden, Utah.
For further reference, the IRS provides a resource with specific mailing addresses and breaks down who should mail the form and which office to use.
If you have enough payroll taxes to offset the credit, you’ll be able to use the credit immediately against the deposit. However, if the credit exceeds the amount of tax that’s owed, you’ll be eligible for a refund, which can take several months.
Originally, the IRS used Form 7200, which allowed businesses to apply for an advanced refund. But it was officially sunsetted on January 31, 2022, leaving businesses with the option to wait for a refund or apply for an ERC advance loan.
As we wrap up, let’s find out how small businesses can stay up to date on the status of their refund and avoid bad actors who are trying to use the ERC to take advantage of small business owners.
One of the reasons the ERC is getting more attention is that it’s not a loan, and business owners are under no obligation to repay it. Having said that, while you may be happy to be receiving a refund, patience is key because there are many people in the same boat. Refunds are currently taking between four months to a year to receive, but the IRS has said that refund times are improving.
For business owners who want to check on the status of their refund, the IRS has a hotline for updates, which can be reached at (800) 829-4933.
When money enters the equation, there are bound to be those looking to spread misinformation to make a quick buck. As a CPA with over a decade of accounting experience, Noel Lorenzana of Lorenzana Tax has come across scammers trying to take advantage of small business owners applying for the ERTC.
“Though Employee Retention Tax Credits are a valuable financial resource for businesses, but the space is unfortunately rife with fraud and abuse.”
— Noel Lorezana, CPA and tax expert
The IRS even keeps a page on its website with tax scams and alerts so consumers can stay two steps ahead of those who are up to no good. For business owners taking a closer look into the ERC, it’s wise to keep an eye out for evil-doers such as “ERC mills” that are springing up as more and more businesses apply.
Furthermore, IRS Commissioner Danny Werfel recently issued warnings to businesses regarding the use of aggressive ERC marketing tactics and con artists to pull a fast one. There’s no shame in being suspicious if you experience any of the following:
All of this being said, it’s important to point out that there are plenty of legitimate businesses offering assistance with ERC filings, as well. It’s just a good idea to keep your guard up.
We asked Lorenzana if there are any specific things to keep an eye out for. Here’s what he shared:
If you’re unsure how to do this on your own, you can always ask your CPA or payroll provider for assistance when filing the ERC claim.
“It’s always a good idea to consult with your CPA or trusted tax professional for accurate information,” says Lorenzana. “By exercising caution and leveraging professional guidance, businesses can successfully apply for ERC without falling victim to scams.”
Though retroactively claiming ERC credit means that you need to have all your ducks in a row, it could be a boon for your bottom line. Designed for employers that were able to keep their employees on staff while the pandemic created economic uncertainty, if you failed to take the ERC credit in 2020 and 2021, there is still time to do so.
With an expiration date of April 15, 2024, to file 2020 claims and an April 15, 2025 expiration date for 2021 claims approaching, it’s worth spending some time to determine if you fit the eligibility requirements for retroactively applying for the ERC.
All four quarters of 2020 and the first three quarters of 2021 are eligible for the ERC.
For all of 2020, the credit is 50% of the first $10,000 of qualified employee wages. For 2021, the percentage increased to 70%.
Yes, as long as the wages have not been claimed on an application for PPP forgiveness, PPP recipients are also eligible for the ERC.
As long as they qualify in every other respect, wages paid to part-time employees are eligible for the ERC, as long as you’re only calculating the first $10,000.
Self-employed and LLC owners are not eligible for the ERC. However, if you paid wages to any other employees who supported your business, those wages qualify for ERC credit. In addition, single-owner S-Corps may be eligible if the owner is paid a salary.
To apply for the ERC, you will need to use IRS Form 941-X and mail the completed form to the appropriate IRS processing center. You can find the correct IRS processing center here.