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Congress introduced several provisions in 2020 to assist businesses and individuals dealing with the financial effects of the COVID-19 pandemic. A key provision for businesses and employers, besides the Paycheck Protection Program (PPP) loan, was the Employee Retention Credit (ERC). Initially, the ERC was only available if a company did not apply for a PPP loan. This changed in December 2020 when the Consolidated Appropriations Act, 2021 (CAA) allowed businesses to claim both the ERC and PPP for 2020 and 2021. This advantageous change has many businesses reevaluating the opportunity to claim the ERC in 2020 and 2021 and possibly amend their payroll tax filings.
Most employers are familiar with the ERC and the changes made in December, but you should be aware of several recent ERC developments we’ll discuss below. In earlier articles, we addressed many ERC questions but wanted to revisit the credit so you don’t miss out on this significant opportunity. Keep reading for the latest on the ERC:
- ERC Eligibility. An employer can qualify for the ERC using one of two methods: one objective in nature and the other subjective. To qualify for the objective test in 2021, an employer must have experienced a > 20% reduction in gross receipts during a particular quarter when compared to the same quarter in 2019. The subjective method, on the other hand, is that a government order (local or state) led a business’ operations to a full or partial shutdown. While the impact of a government order is still a valid reason to claim the ERC, the focus of this article is on the reduction in gross receipts.
- ERC Gross Receipts Reduction in 2021 – Quarterly Comparison. When CAA extended the ERC into 2021, it lowered the reduction in gross receipts from > 50% in 2020 to > 20% in 2021. The CAA also established a two-part test to determine if a > 20% reduction occurred in a quarter. Employers can utilize this test by first comparing the gross receipts for a particular quarter with the same quarter in 2019. Then, they can look at the previous quarter and compare this with the same quarter in 2019 (this is referred to as the “alternative quarter election”). If either of these tests show a > 20% reduction in gross receipts when compared to the 2019 quarter, then the company is eligible for the ERC for that quarter. Below is a chart that helps illustrate how this provision works.
- Gross Receipts for PPP Loan (Draw 2) and ERC. The CAA also extended the PPP loan for the first half of 2021 (referred to as “Draw 2”). One new requirement under the PPP loan Draw 2 is that a borrower must have incurred a > 25% reduction in gross receipts in comparable quarters during 2020 and 2019. If the comparable quarter with a > 25% reduction is the fourth quarter of 2020, the employer most certainly will also qualify for the ERC in the first quarter of 2021 (as this is the alternative quarter election).
- Gross Receipts Based on Method of Accounting Used for Tax Purposes. Many businesses utilize different methods of accounting for book and tax purposes. Some perform a quick calculation using the gross receipts on the book method, compute a reduction that is < 20% and presume it doesn’t qualify for the ERC. However, if the employer had instead used the company’s tax method of accounting, the method might have produced a > 20% reduction in gross receipts in a quarter during 2021.
Example: an organization uses the accrual method of accounting on its books but employs the cash method of accounting for tax purposes. These two methods over the long-term produce similar amounts, but could temporarily fluctuate significantly. This could result in a > 20% reduction in gross receipts.
Remember to consider the tax method of accounting in analyzing gross receipts.
- Small Employer vs. Large Employer Changes in 2021. The CAA increased the threshold for a small employer from ≤ 100 employees in 2020 to ≤ 500 employees in 2021. This is a significant change for many midsize businesses in 2021, as a small employer is allowed the ERC on wages paid to employees whether the employees work or not, while a large employer is permitted the ERC only if it pays employees not working.
This higher level for a small employer coupled with other changes for 2021 can generate a significant amount of ERC in 2021. The ERC wages for 2021 was set at $10,000 per employee each quarter (contrasted with $10,000 per employee each year in 2020), and the ERC factor was 70% (not 50% like in 2020). If an employer qualifies, they can claim up to $7,000 per employee each quarter in 2021 and up to $28,000 if they qualify in all four quarters.
A brief illustration to show the benefit of the ERC: ABC Company incurred a 25% reduction in gross receipts in the first quarter of 2021 compared to the first quarter of 2019. ABC has 150 full-time employees (a small employer in 2021). If all employees had wages (and company paid health benefits) of at least $10,000 per quarter in 2021, ABC would generate $1,050,000 (150 x $10,000 x 70%) of ERC in the first quarter. They would also receive another $1,050,000 in the second quarter (under the alternative quarter election if they met the > 20% reduction in quarter one). The total ERC for ABC Company would equal $2.1M in 2021.
We encourage every employer to evaluate (or reevaluate as the case may be) whether you might benefit from the ERC. Your Sikich advisor is glad to assist you in this exercise. Please complete the following form if you would like a Sikich ERC specialist to contact you.