Everything You Need to Know About the Employee Retention Credit
The Employee Retention Credit (ERC) is a tax credit that qualifying employers can take as a benefit for keeping employees on the payroll during the COV-19 pandemic. Its purpose is to help keep as many people employed as possible. Eligible companies can be reimbursed for 70% of wages, limited to $10,000 in wages per quarter, (including health insurance costs). This equates to a maximum refund of $7,000 per employee per quarter, from January 1, 2021 to June 30, 2021.
As you’ll see when we explore the Employee Retention Credit in more detail, it can be complex pretty quickly. If you need assistance assessing whether or not your business is eligible for this tax credit, consider working with Cirrus Payroll. You may be entitled to a refund from 2020 and/or can still claim one for money paid out through June 30, 2021. Sign up today
Before we dive into the ins and outs of the ERC: Keep in mind that this credit was also active in 2020 (for qualifying wages earned between March and December 31). Several rules have changed though. Let’s take a quick look, so you can decide what other information you need to know:
Employee Retention Credit: 2021 vs 2020 Rules
|Maximum Refund||$7,000/person per quarter or $14,000/person per year||$5,000/person per year|
|PPP Loan Recipients||May be eligible for the ERC;
New rule applied retroactively to March 27, 2020
|Previously not eligible for the ERC; Now potentially eligible;
New rule applied retroactively to March 27, 2020
|Gross Receipts Requirement||Must have fallen below 80% of quarterly receipts in 2019 (or 2020)||Must have fallen below 50% of quarterly receipts in 2019 (or 2020)|
|Qualifying Wages Determinant||500 employees or fewer = All wages paid out
>500 employee= Wages paid to employees who weren’t working
|100 employees or fewer = All wages paid out
>100 employee= Wages paid to employees who weren’t working
Who is Eligible for the Employee Retention Credit
To be eligible for the ERC in 2021, you must operate a trade or business between January 1 and June 30 and have dealt with one of the following:
- Your trade or business was suspended fully or partially as a result of government-sanctioned lockdowns and/or orders limiting activity, travel, etc. due to COVID-19
- You experienced a significant decline in gross revenue throughout the first or second quarter in 2021, meaning total receipts were less than 80% of total receipts earned during the same quarter of 2019.
If your business didn’t operate in 2019 or you just prefer not to compare gross revenue received during that year, you can opt to compare your 2021 quarterly receipts with the quarter immediately preceding it, i.e, compare revenue earned during the fourth quarter of 2020 to amounts earned during the first quarter of 2021. If you realize you’re not eligible under one scenario, you should try the alternative.
How to Calculate a Significant Decline in Gross Receipts
First, let’s clarify what gross receipts are:
- Gross receipts
Total income received before deducting any discounts, returns, taxes, or other expenses.
In 2021, a significant decline is at least a 20% decrease in total quarterly revenue received compared to total received in the corresponding prior year quarter.
Your business earned $100,000 in gross receipts during Quarter 1 of 2019. In Quarter 1 of 2021, your gross receipts are $50,000. That’s a 50% decrease and meets the minimum requirement (20%) to be considered a significant decline.
($100,000 – $50,000) / $100,000 = 50% decrease
Determining Which Wages Qualify for the Employee Retention Credit
To determine which wages qualify for the ERC, you’ll need to start with the number of employees you have on average.
- If you employed an average of more than 500 full-time employees in 2019, qualified wages include payroll payments made to employees who weren’t working due to either a government-mandated shutdown (partially or fully) or a decline in revenue.
- If you employed 500 full-time employees or fewer in 2019, qualified wages include payroll payments made to all employees during a time your company experienced a government-mandated shutdown (partially or fully) or a decline in revenue.
It’s also important to note that if you were a Paycheck Protection Program (PPP) loan recipient you can now claim the ERC, but only the funds that weren’t claimed as payroll costs–some companies opted to claim them in order to receive loan forgiveness.
How to Determine the Tax Credit Amount You’re Eligible for
Let’s look at an example:
Sally averaged five employees in 2019 and paid out $240,000 in salaries for the year. In the first quarter of 2021, she paid $30,000 to three employees who continued to provide services from January 1, 2021 through March 31, 2021. She also paid out $20,000 to two employees who were laid off, because of a temporary shutdown implemented by the government. All employees earned at least $10k during the quarter.
In the above scenario, Sally would consider the $50,000 ($30,000 + $20,000) her qualifying wages for the quarter. This is because her company is considered a small business (fewer than 500 employees), and they’re allowed to claim all wages during the quarter–those paid out to employees who were temporarily out of work and those who were allowed to continue working.
Since everyone earned at least at least $10,000 during the quarter, Sally can take the maximum tax credit, which is 70% of wages or $7,000 per employee.
5 employees x $7,000 credit per employee= $35,000 total tax credit for Quarter 1 of 2021
Determining How Much Credit You Can Get for Health Plan Expenses
Qualifying health plan expenses are also subject to 70% of the $10,000 maximum. These include your cost for health insurance, not the employee’s portion of the premium, plus any pre-tax contributions. Contributions you make to flexible spending accounts (FSAs) for health expenses qualify in addition to any amounts you pay to reimburse employees who purchase their own health plans outside of the company.
Keep in mind however, that the same rules apply when it comes to determining qualifying wages. Do you have 500 or more employees or less? If you have more, you’ll only be able to apply the tax credit towards amounts you spent providing health care benefits to employees who weren’t working.
The amount of credit you should allocate to each employee may vary, depending on the kinds of health plans they are on. If you have multiple employees on separate group plans, you’ll need to do the calculations separately; if all employees are on the same plan, you can determine the average premium you cover and use that to calculate your ERC amount.
How to Claim the Employee Retention Credit
You’ll claim your quarterly ERC on Form 941 (or 944 if you use it). It’s used to report payroll taxes (Social Security and Medicare) plus income taxes that you withhold from each employee’s paycheck along with your portion. Since you’ll be deducting the credit from your Social Security tax owed, reporting it here will make it easy to see how much you’re saving.
If you’re short on cash and need help funding payroll before quarterly reports are due, you can take the credit early by deducting it from your Social Security taxes due each pay period. As long as you reconcile it on your payroll tax form (Form 941), the IRS will not penalize you for short payment. If you still find yourself short after reducing federal tax deposits as much as allowed, you can request an advance of the remaining refund using Form 7200.
Wrap it Up
The ERC was approved in 2020 but has since then been expanded and clarified to have many more pros for qualifying wages and health expenses paid out in 2021. If you’ve experienced a decline in business or were forced to shut down (whether partially or fully), you may be entitled to up to a tax credit or refund of up to $7,000 per employee.
For help claiming your tax credit, contact Cirrus Payroll. We run payroll, file taxes, and consult you on best practices to ensure you stay compliant with the IRS. Sign up for a free quote today.