The COVID-19 pandemic and associated lockdowns significantly hurt American small businesses. To help, the federal government implemented a variety of tax relief measures. The Employee Retention Tax Credit provides a major tax break to particularly hard-hit businesses. With this program, eligible employers can receive a refundable tax credit based on qualified employee wages. And with the passage of the American Rescue Plan, this benefit is extended through the end of 2021.
As of May 2021, more than 30,000 small businesses claimed tax credits, totaling more than $1 billion this year alone. The program offers struggling, small businesses a major benefit. In this article we’ll explain how to claim the Employee Retention Tax Credit and the following topics:
- What is the Employee Retention Tax Credit?
- Do I Qualify for ERTC?
- Will Employee Retention Tax Credits Help Save Money?
- How Do I Claim ERTC?
- Final Thoughts
What is the Employee Retention Tax Credit?
In simple terms, this tax credit incentivizes small businesses to keep employees on their payroll during COVID-19 lockdowns. More specifically, the Employee Retention Tax Credit (ERTC) provides eligible small businesses with a refundable tax credit based on qualified employee wages.
The federal government created the ERTC as a part of the initial COVID-19 relief bill (CARES Act) in March 2020. In its initial form, the ERTC offered eligible businesses a 50% tax credit for up to $10,000 in qualified wages per employee. Essentially, employers could receive $5,000 per employee through 2020.
In the following legislation, the government extended and increased this tax credit through the end of 2021. With the passage of the American Rescue Plan, this refundable credit increased to a 70% tax credit up to $10,000 in qualified wages. And this credit applies on a quarterly basis instead of annually. This means that in 2021, eligible employers can qualify for up to $28,000 in refundable credits per employee!
Most eligible employers used these 2020 and 2021 credits to reduce their employment tax liabilities. But what if the allowed credit exceeds a business’s tax liability? The IRS will provide cash to eligible employers for any credit amount above this owed tax. The bottom line is the ERTC provides employers with incredible tax relief and cash-flow management tool.
Do I Qualify for ERTC?
As with most generous IRS programs, strict eligibility requirements exist with the ERTC program. The legislation serves those hardest hit by the pandemic, so the IRS is likely to review business results in any application very closely. And these eligibility rules become further complicated by differences between the 2020 and 2021 credits.
2020 ERTC Eligibility
To qualify for the 2020 tax credit, employers must meet one of two requirements. First, they must have faced a full or partial shutdown due to a government order. Alternatively, they must demonstrate that they had a more than 50% quarterly decline in gross receipts. This quarterly decline applies to quarter-over-quarter results compared to the same quarter in 2019.
Eligibility for 2020 also includes one more catch. In 2020, employers who applied for Paycheck Protection Program (PPP) relief could not apply for the ERTC at the same time.
2021 ERTC Eligibility
The new legislation broadened ERTC eligibility significantly for 2021. While the full or partial shutdown element remained, the gross receipt test changed dramatically. Now, businesses only need to show a 20% quarterly decline in gross receipts to qualify.
Furthermore, the 2021 rules now allow PPP loan recipients to receive these tax credits as well. However, employers cannot “double-dip.” Businesses also cannot use the wages that qualified for PPP in 2021 to apply towards ERTC.
Due to these changes, many employers who did not qualified for the 2020 ERTC will qualify in 2021.
Will Employee Retention Tax Credits Help Save Money?
Yes, the ERTC will absolutely help you save money. In 2020, businesses that averaged more than 100 employees could not claim all wages. This number increased to an average of 500 employees in 2021. As such, your potential savings depends on the number of people you employ and the tax year.
In 2020, employers could receive a maximum credit of $5,000 per employee. For example, if your business had an average of 100 employees, that would translate to $500,000 in savings. In 2021, that same business could now save up to $28,000 per employee. This translates to $2.8 million potential savings. And, because this is a refundable credit, the IRS will pay you any excess of your credit over your tax liability.
How Do I Claim ERTC?
Due to the changes between 2020 and 2021, calculating the ERTC is a fairly complicated process. We highly recommend working with a tax professional to figure this out. Professional assistance will maximize your potential credit and ensure you don’t make any filing mistakes. Here’s a high-level review of how to claim your ERTC.
To claim the ERTC, businesses report their qualified wages and associated credits for each quarter on their federal employment tax returns. You report this information on IRS Form 941, Employer’s Quarterly Federal Tax Return. And, according to the IRS:
In anticipation of claiming the credit, employers can retain a corresponding amount of the employment taxes that otherwise would have been deposited, including federal income tax withholding, the employees’ share of Social Security and Medicare taxes, and the employer’s share of Social Security and Medicare taxes for all employees, up to the amount of the credit, without penalty.
With this system, employers don’t need to wait for their tax relief. As long as they correctly calculate their credits with the quarterly returns, they can access those funds now.
The Employee Retention Tax Credit essentially offers businesses plenty of savings through 2021. With this credit, you can directly offset business taxes and save your business a lot of money. Furthermore, the ERTC can even provide you cash in excess of your tax liability due to its refundable nature.
If you’re not sure if you qualify, or don’t think you will, you should ask a tax professional. The ERTC is too good to pass up just because you’re unsure of your eligibility status. At Tax Hack, we live and breathe taxes for small businesses. If you provide us with your payroll records and quarterly numbers, we can quickly tell you whether or not you qualify for this significant tax credit. Contact us today, and we’ll set up an ERTC review session!