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March 12, 2021

IRS Issues Additional Guidance on the Employee Retention Credit for 2020

The Internal Revenue Service (IRS) has issued guidance for employers claiming the Employee Retention Credit (ERC) for 2020. The ERC, which is provided for in the Coronavirus Aid, Relief, and Economic Security Act (CARES Act) and modified by the Taxpayer Certainty and Disaster Tax Relief Act of 2020 (Relief Act), can be claimed by employers who paid qualified wages after March 12, 2020, and before January 1, 2021, and who experienced full or partial suspension of their operations or a significant decline in gross receipts.

A significant change for 2020 made by the Relief Act permits eligible employers that received a Paycheck Protection Program (PPP) loan to claim the ERC, although the same wages cannot be counted both for seeking forgiveness of the PPP loan and calculating the ERC. The guidance clarifies that qualified wages for which the employer claims the ERC are excluded from payroll costs paid during the PPP covered period that would otherwise qualify for forgiveness under the PPP. The CARES Act permits an eligible employer to elect not to take into account certain qualified wages for purposes of the ERC by not claiming the ERC for those qualified wages on its federal employment tax return. However, an eligible employer that received a PPP loan is deemed to have made such election for those qualified wages included in the amount reported as payroll costs on a PPP loan forgiveness application. If an eligible employer obtains forgiveness of only a portion of the PPP loan amount, then the employer is deemed to have made an election for the minimum amount of qualified wages included in the payroll costs reported on the PPP loan forgiveness application necessary to obtain the forgiveness of that amount of the PPP loan.

The guidance also answers the following questions and provides the following examples:

What constitutes full or partial suspension of trade or business operations?

  • An employer that operates an essential business may be considered to have a partial suspension of operations if, under the facts and circumstances, more than a nominal portion of its business operations are suspended by a government order.
  • An employer may be considered to have a full or partial suspension of operations due to a governmental order if, under the facts and circumstances, the business’s suppliers are unable to make deliveries of critical goods or materials due to a governmental order that causes the supplier to suspend its operations. If the facts and circumstances indicate that the business’s operations are fully or partially suspended as a result of the inability to obtain critical goods or materials from its suppliers because they were required to suspend operations, then the business would be considered an eligible employer for the calendar quarters during which its operations are fully or partially suspended and may be eligible to receive the ERC.
  • However, an employer that suspends some or all of its operations because its customers are subject to a government order requiring them to stay at home or otherwise causing a reduction in demand for its products or services is not considered to have a full or partial suspension of its operations due to a governmental order. Similarly, an employer that voluntarily suspends operation of a trade or business or voluntarily reduces hours due to COVID-19 is not eligible for the ERC on the basis of a full or partial suspension of its operations.
  • Generally, the following factors should be considered in determining if an employer is able to continue comparable operations:
    • Employer’s telework capabilities
    • Portability of employee’s work
    • Need for presence in employee’s physical work space
    • Transitioning to telework options

What is a significant decline in gross receipts?

The period during which there is a significant decline in gross receipts is determined by identifying the first calendar quarter in 2020 (if any) in which an employer’s gross receipts are less than 50 percent of its gross receipts for the same calendar quarter in 2019. The period during which there is a significant decline in gross receipts ends with the earlier of January 1, 2021, or the calendar quarter that follows the first calendar quarter in which the employer’s 2020 quarterly gross receipts are greater than 80 percent of its gross receipts for the same calendar quarter in 2019.

“Gross receipts” means gross receipts of the taxable year and generally includes total sales (net of returns and allowances) and all amounts received for services. In addition, gross receipts include any income from investments, and from incidental or outside sources. For example, gross receipts include interest (including original issue discount and tax-exempt interest within the meaning of section 103 of the Code), dividends, rents, royalties, and annuities, regardless of whether those amounts are derived in the ordinary course of the taxpayer's trade or business. Gross receipts are generally not reduced by cost of goods sold, but are generally reduced by the taxpayer’s adjusted basis in certain property used in a trade or business or capital assets sold. Gross receipts do not include the repayment of a loan, or amounts received with respect to sales tax if the tax is legally imposed on the purchaser of the good or service, and the taxpayer merely collects and remits the sales tax to the taxing authority.

How much is the maximum amount of an eligible employer’s ERC?

The credit equals 50 percent of qualified wages (including allocable qualified health plan expenses) that an eligible employer pays in a calendar quarter. The maximum amount of qualified wages (including allocable qualified health plan expenses) taken into account with respect to each employee for all calendar quarters in 2020 is $10,000, which means that the maximum credit for qualified wages (including allocable qualified health plan expenses) paid to any employee in 2020 is $5,000.

What are qualified wages?

Qualified wages are generally limited to wages (as defined in section 3121(a) of the Code) and compensation (as defined in section 3231(e) of the Code), both determined without regard to the social security wage base, paid by an eligible employer to some or all of its employees after March 12, 2020, and before January 1, 2021. The CARES Act provides that “wages” include amounts paid by an eligible employer to provide and maintain a group health plan, but only to the extent that the amounts are excluded from the gross income of employees. Qualified wages do not include qualified sick leave wages and qualified family leave wages taken into account under sections 7001 and 7003 of the FFCRA.

How does an eligible employer claim the ERC?

An eligible employer claims the ERC for qualified wages by reporting its qualified wages and the amount of the credit to which it is entitled on the designated lines of its federal employment tax return(s). In anticipation of receiving the ERC, eligible employers can (1) reduce their deposits of federal employment taxes, including withheld taxes, that would otherwise be required up to the amount of the anticipated credit and (2) request an advance of the amount of the anticipated credit that exceeds the reduced federal employment tax deposits by filing Form 7200.

How does an eligible employer substantiate the claim for the ERC?

An eligible employer will adequately substantiate eligibility for the ERC if the employer creates and maintains records that include the following information:

  • Documentation to show how the employer determined it was an eligible employer that paid qualified wages
  • Documentation to show how the employer determined the amount of allocable qualified health plan expenses
  • Documentation related to the determination of whether the employer is a member of an aggregated group treated as a single employer for purposes of the ERC and, if so, how the aggregation affects the determination and allocation of the credit
  • Copies of any completed Forms 7200 that the employer submitted to the IRS
  • Copies of the completed federal employment tax returns that the employer submitted to the IRS

An eligible employer should keep all records of employment taxes for at least four years after the date the tax becomes due or is paid, whichever comes later.

As discussed in our alert from February 12, 2021, the ERC has been extended for the first two calendar quarters of 2021. Although this recent guidance only addresses rules applicable to 2020, we anticipate additional guidance from the IRS addressing the changes for 2021. 

If you have any questions regarding the content of this alert, please contact Danielle Katz, associate, at dkatz@barclaydamon.com, or another member of the firm’s Tax Practice Area.

We also have a specific team of Barclay Damon attorneys who are actively working on assessing regulatory, legislative, and other governmental updates related to COVID-19 and who are prepared to assist clients. Please contact Yvonne Hennessey, COVID-19 Response Team leader, at yhennessey@barclaydamon.com or any member of the COVID-19 Response Team at COVID-19ResponseTeam@barclaydamon.com.

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