The employee retention credit (“ERC”) was enacted as part of the CARES Act to provide a refundable payroll credit for eligible employers, including tax-exempt organizations, whose businesses have been negatively affected by the COVID-19 pandemic. In general, an employer qualifies for the ERC if it (1) fully or partially suspends its operations due to a government order relating to COVID-19, or (2) experiences a certain percentage decline in gross receipts (greater than 50% for 2020 and greater than 20% for 2021) as compared to a corresponding quarter in 2019. On August 4, 2021, the IRS issued Notice 2021-49 (the “Notice”) which provides additional guidance regarding the ERC and is applicable to employers who pay qualified wages between July 1 and December 31, 2021.
Major provisions of the Notice include:
- The test for determining whether the employer is a large employer (more than 500 employees) or a small employer (500 employees or less) is based on the number of full-time employees (on average, 130 hours or more per month or 30 or more hours per week) rather than the number of full-time equivalent employees (which include part-time employees’ hours). This clarification is important because more limited ERC eligibility rules apply for large employers and should allow more employees to fall under the favorable treatment afforded eligible small employers.
- While previous guidance stated that the same employee wages could not be used to claim the ERC and for purposes of calculating the forgiveness amount of a PPP loan, the Notice clarifies that the same wages also cannot be used to claim the ERC and taken into account as payroll costs under the Shuttered Venue Operators Grant or Restaurant Revitalization Fund.
- Eligible employers are required to claim the ERC against the employer’s share of Medicare tax (rather than Social Security tax).
- Tips are included as qualified wages if the tips are subject to FICA (i.e., more than $20/month).
- The definition of “eligible employer” is expanded to include a “recovery startup business” which is essentially a small business with less than $1 million of gross revenue. A recovery startup business is limited to an overall ERC limit of $50,000 per calendar quarter (after application of the $10,000 wage limit).
- The statute of limitations on ERC claims is extended from 3 to 5 years.
- The Notice reaffirms that the amount of an employer’s ERC for a year reduces the employer’s compensation deduction dollar-for-dollar for that same year. The Notice provides that if an employer already filed its 2020 tax return and then retroactively takes the ERC for the year 2020, the employer will be required to file an amended 2020 tax return to reduce the compensation deduction.
- An employer with gross receipts that are less than 10% of the gross receipts for the same calendar quarter in 2019 (referred to in the Notice as “severely financially distressed employer”) is not subject to the qualified wage limitations imposed on large employers (which limit qualified wages to wages paid to an employee for time the employee is not providing services due to a full or partial suspension or a decline in gross receipts).
- Related party rules provide that the wages of a majority owner (i.e., owner, directly or indirectly, of more than 50% of the ownership of the entity) will not be qualified wages for purposes of the ERC if the owner has any siblings, ancestors or lineal descendants. This rule applies even if the relative is not an employee of the business. As a result, the owner must have no family other than a spouse to treat the owner’s wages as qualified wages.
On a related note, IRS Revenue Procedure 2021-33 clarified that PPP loan forgiveness and grants from the Shuttered Venue Operators Grant or Restaurant Revitalization Fund are excluded from the definition of gross revenue for purposes of determining whether an employer qualifies for the ERC based on a decline in gross receipts.