Employee Retention Credit

✏ Table of Content :

The Employee Retention Credit (ERC) is a tax incentive provided by the U.S. government to encourage businesses to retain their employees. Initially introduced as part of the CARES Act in March 2020, the ERC was designed to alleviate financial strain on businesses during economic uncertainty. It offers a refundable tax credit to eligible employers, allowing them to offset a portion of their payroll tax liabilities. The credit amount is calculated based on qualified wages paid to employees, and it can be as much as $5,000 to $7000 per employee for each eligible quarter.

To be eligible for the ERC, businesses must meet certain criteria, including experiencing a significant decline in gross receipts or being subject to government-mandated restrictions due to COVID-19. The credit is available to a wide range of entities, including corporations, partnerships, and certain tax-exempt organizations, but there are limitations based on the size of the business and other factors. Importantly, businesses that received Paycheck Protection Program (PPP) loans were initially ineligible for the ERC, but legislation has since allowed them to claim the credit for certain periods.

How Does the Employee Retention Tax Credit Work ?


Here's how ERC generally works:

1) Eligibility Criteria:
Businesses must meet specific criteria, including experiencing a significant decline in gross receipts or being subject to government-mandated restrictions due to COVID-19.

2) Qualified Wages:
Qualified wages for the Employee Retention Credit (ERC) are wages paid by an eligible employer that meet specific criteria, typically including wages paid to employees during periods of economic hardship due to COVID-19, subject to certain limitations and conditions set by the IRS. These wages can include certain health plan expenses.

3) Maximum Credit per Employee:
The credit rate is typically 70% of eligible wages, up to a maximum of $10,000 in qualified wages per employee per quarter. This means the maximum credit per employee per quarter is $7,000.

4) Aggregate Business Limitation:
The total amount of qualified wages taken into account for all quarters for all employees is subject to certain limitations based on the size of the business.

5) Claiming the Credit:
Businesses report the ERC on their quarterly employment tax returns (Form 941). If the credit exceeds the business's payroll tax liability for that quarter, they can either apply the excess credit against future payroll tax deposits or request a refund.

Who is Eligible for Employee Retention Credit ?


For a claim of the employee retention tax credit, there are very specific eligibility requirements. The exact facts and circumstances of your case determine your eligibility for the ERC.

Employee retention credit eligibility :

For qualified wages paid between March 13, 2020, and December 31, 2021, eligible employers may claim the ERC on an original or revised employment tax return. However, in order to qualify, employers must either:
  • Suffered a full or partial suspension of operations as a result of a COVID-19-related order from a proper governmental body restricting trade, travel, or group meetings in 2020 or the first three quarters of 2021.
  • Has a fall in gross receipts that was significant throughout 2020 or during the first three quarters of 2021.
  • Qualified as a startup company in recovery for the third or fourth quarters of 2021.

Based on the qualified wages they paid to employees, a self-employed person who has employees and otherwise satisfies the qualifications to be an eligible employer may be eligible for the ERC. Self-employed people are not allowed to include their own self-employment income or wages provided to family members when figuring their eligibility for the credit. If they also match the other eligibility standards, employers in U.S. territories are qualified to submit an ERC claim.

Here are the other key requirements :

1) Business Type and Activity: 
The ERC is available to a wide range of entities, including corporations, partnerships, sole proprietors, tax-exempt organizations, and certain governmental entities.

2) Significant Decline in Gross Receipts: 
To be eligible, a business must have experienced a significant decline in gross receipts. This is defined as a 50% or greater reduction in gross receipts compared to the same calendar quarter in the previous year.

3) Government-Mandated Shutdown: 
Businesses that were either fully or partially suspended by government order due to COVID-19 are eligible. This includes restrictions on operations, like stay-at-home orders.

4) Size of Business: 
The eligibility criteria vary depending on the size of the business. For businesses with over 500 full-time employees, only wages paid to employees who were not providing services due to a COVID-19-related shutdown or reduction in gross receipts are eligible for the credit.

5) PPP Loan Recipients (as of 2021): 
Initially, businesses that received Paycheck Protection Program (PPP) loans were not eligible for the ERC. However, legislation passed in 2021 allowed certain businesses to retroactively claim the ERC for certain periods, particularly if they didn't use the PPP funds for payroll expenses that qualified for forgiveness.

How Much is Employee Retention Credit ?


Businesses that meet the requirements may be eligible for tax credits worth thousands of dollars per employee. An employer may be eligible for a credit of up to $5,000 per employee for 2020. For the first half of 2021, an extension of the ERC raised the per-employee ceiling to $7,000 per quarter.

How is the ERC Calculated ?


The Employee Retention Credit (ERC) is calculated based on qualified wages paid to employees and is determined on a quarterly basis. Here's a general overview of how it's calculated:

1) Eligible Wages: Determine the total qualified wages paid to eligible employees during the specific quarter.

2) Credit Rate: The credit rate is generally 70% of eligible wages, up to a maximum of $10,000 in qualified wages per employee per quarter. This means the maximum credit per employee per quarter is $7,000.

3) Maximum Credit per Employee: If an employee's qualified wages for the quarter are less than $10,000, the credit is calculated as 70% of their eligible wages.

4) Maximum Credit per Quarter: The maximum ERC for any one employee for all quarters combined is $7,000 x number of eligible quarters (up to the current reporting period).

5) Aggregate Business Limitation: The total amount of qualified wages taken into account for all quarters for all employees is subject to certain limitations based on the size of the business.

How to Apply for Employee Retention Credit ?


Businesses can claim the ERC by reporting it on their quarterly employment tax returns (Form 941) and applying any excess credit against future payroll tax deposits or requesting a refund. Claiming the employee retention tax credit involves below steps:

1) Gather Necessary Information:
Ensure you have accurate records of your business's gross receipts and eligible wages paid to employees. Keep records of any government orders or official notices that impacted your business operations due to COVID-19.

2) Determine Eligibility:
Review the eligibility criteria to confirm that your business qualifies for the ERC based on factors like gross receipts decline, government-mandated shutdown, and size of the business.

3) File for Retroactive Credits (if applicable):
If you are eligible to retroactively claim the ERC for 2020 or the first half of 2021, you may need to file amended employment tax returns (e.g., Form 941-X) for the relevant quarters.

4) Include ERC on Form 941:
For each quarter in which you are eligible for the ERC, report the credit on your quarterly employment tax return (Form 941). You will need to separately report the total qualified wages and the ERC amount.

5) Claim Refund or Adjust Payroll Tax Deposits:
If the ERC exceeds your payroll tax liability for a quarter, you can either:
  • Apply the excess credit against your future payroll tax deposits, or
  • Request a refund of the excess credit.

6) Maintain Documentation:
Keep thorough records of all relevant documents, including calculations, records of gross receipts, government orders, and any other supporting documentation. This is crucial for potential future audits.

Remember, the ERC is subject to change based on updates in tax laws and government regulations, especially in response to evolving circumstances such as the COVID-19 pandemic. Always refer to the latest IRS guidance or consult a tax professional for the most current and accurate information on applying for the Employee Retention Credit.

Employee Retention Credit Deadline 2025


The deadline to claim the Employee Retention Credit (ERC) has been extended, but it is important to act promptly as the following deadlines apply:
  • Deadline for 2020 ERC Claims: The deadline to claim the ERC for wages paid in 2020 is April 15, 2024. If you miss this date, you may no longer be able to claim the credit for 2020.
  • Deadline for 2021 ERC Claims: The deadline to claim the ERC for wages paid in 2021 is April 15, 2025.
These deadlines refer to the date by which your business must file an amended return (Form 941-X) to claim the ERC for applicable periods. It is highly recommended to consult with a tax professional to ensure you meet all necessary requirements and deadlines for claiming the credit.

Example of Employee Retention Credit


Here's an example of how the Employee Retention Credit (ERC) might work for a hypothetical business:

Let's say XYZ Company, a small business, experienced a significant decline in gross receipts due to the COVID-19 pandemic. As a result, they were eligible for the ERC.

In Quarter 2 of 2021, XYZ paid $20,000 in qualified wages to an eligible employee who was not providing services due to a government-mandated shutdown. The ERC rate during that period was 70%.

Calculation:
  • Qualified wages: $20,000
  • ERC rate: 70%

ERC Amount = Qualified wages x ERC rate
= $20,000 x 70%
= $14,000

So, in this example, XYZ Company would be eligible for a $14,000 Employee Retention Credit for Quarter 2 of 2021. This credit can be used to offset their employment tax liabilities or, if the credit exceeds their liability, it can result in a refund.

Frequently Asked Questions


Can a business claim the ERC if they received a PPP loan?
Initially, businesses that received PPP loans were generally ineligible for the ERC. However, legislation in 2021 allowed certain businesses to retroactively claim the ERC for certain periods, depending on their PPP usage.

How does Employee Retention credit affect tax return?
The Employee Retention Credit can reduce the total tax liability of an eligible employer by providing a refundable credit based on qualified wages paid to employees during specific periods affected by economic hardship, potentially resulting in a lower tax bill or a refund on their tax return.

Who is not eligible to claim the ERC?
If you didn't run a company or a tax-exempt organization with employees, you are ineligible for the ERC. For instance, taxpayers who cannot make an ERC claim include, Individual taxpayers who are not business owners, Retirees, Employees, Household employers, Self-employed individuals who do not have employees, Employers that didn't pay wages to employees during the qualifying time periods and Government agencies.

Can a business claim both the ERC and the Work Opportunity Tax Credit (WOTC)?
Yes, a business can potentially claim both the ERC and the WOTC, as they are separate tax credits with different eligibility criteria.

Is the ERC available for self-employed individuals or sole proprietors?
Yes, self-employed individuals and sole proprietors may be eligible for the ERC, subject to specific criteria.

Is the ERC retroactive for previous quarters?
Yes, businesses could retroactively claim the ERC for certain periods in 2020 and the first half of 2021 if they met the eligibility criteria.

Is the employee retention credit real?
Yes, the Employee Retention Credit (ERC) is a real tax incentive provided by the U.S. government to encourage businesses to retain their employees, especially during economic challenges like the COVID-19 pandemic.