Will The IRS Deny Your Claim For The Employee Retention Tax Credit?

The worker retention credit score (ERC) began out gradual however retains going robust, even to the current day. When it was first enacted on March 27, 2020 as a part of the CARES Act, it obtained little fanfare as a result of taxpayers that obtained a forgivable mortgage below the paycheck safety program (PPP) have been prohibited from claiming the ERC. When that prohibition was lifted 9 months later by the Consolidated Appropriations Act, 2021, claims for the ERC exploded. Then, Congress added gasoline to the fireplace and saved making the principles more generous as time went on.

One unlucky aspect impact of the ERC explosion has been the proliferation of tax credit score firms providing doubtful recommendation in change for outsize charges. Be particularly cautious of those that overstate their credentials or capability to offer recommendation concerning the ERC. Some declare to have obtained particular coaching from the IRS (they haven’t) and others declare to have particular data concerning the regulation for one purpose or one other (they don’t – detailed information in regards to the ERC is out there to anybody with an web connection). One firm claims that its concepts are “proprietary” and refuses to debate them in entrance of out of doors advisors.

The written recommendation a few of these firms present to their purchasers is missing. Now we have seen cases the place an organization offers the identical boilerplate tax memo to a number of purchasers, however that the purchasers have been engaged in several companies and their eligibility relied on various factors. The memos are greater than 20 pages in size however so far as we may inform, solely two or three strains of textual content are totally different. There isn’t any description of the details and no evaluation of the elements in IRS Notice 2021-20, Q&As 11-22 (the ERC claims at concern have been all predicated on a partial suspension of enterprise operations). The memos are so generic that they almost definitely wouldn’t qualify as tax recommendation that purchasers can depend on to say reasonable cause to keep away from penalties.

A few of these advisors additionally promise indemnification and audit assist if their purchasers are audited by the IRS. These guarantees are hole. First, the indemnification relates solely to the charges paid to the advisor; the shopper stays on the hook to repay the whole quantity of the ERC to the IRS, and for any curiosity and penalties which will apply. Second, the indemnification provisions sometimes require the purchasers to permit the advisor to regulate the audit, which is one thing many purchasers might not wish to do at the moment. Additionally, no point out is made within the retainer agreements that audit assist is included within the ERC price, although sometimes that’s promised orally. Final, the retainer agreements usually state one thing to the impact that the advisor shouldn’t be offering tax or accounting recommendation. Sure, the advisor is offering recommendation that the shopper is eligible for a tax credit score – the ERC, and the advisor is calculating the quantity of the credit score, however the advisor states that it’s not offering tax or accounting recommendation. Huh?

Let’s now evaluate the final guidelines of the ERC after which discover among the areas the place the IRS is prone to inquire of all taxpayers on audit.

ERC Usually

Basically, there are two eligibility exams for the ERC for 2020 and for the primary three calendar quarters of 2021 – the gross receipts check and the suspension of operations check. The good thing about the gross receipts check is that it’s goal – taxpayers want solely present a decline in gross receipts of greater than 50% in any calendar quarter in 2020, or greater than 20% in any of the primary three calendar quarters in 2021. See usually Notice 2021-20, Q&As #23-28. The rationale for the decline in gross receipts is irrelevant. There are nuances to the definition of gross receipts – e.g., PPP mortgage forgiveness proceeds are excludible, and to the calendar quarters that can be utilized for measurement functions, however for our functions right here it is sufficient to be aware the final guidelines. One other good factor in regards to the gross receipts check if that whether it is met for a specific calendar quarter, then the taxpayer can embody within the ERC calculation wages and well being plan bills paid throughout the whole calendar quarter, and in some instances the taxpayer can mechanically qualify for a second quarter as effectively.

The suspension of operations check is a subjective check. See usually Notice 2021-20, Q&As #11-22. It’s the check that’s used when a taxpayer doesn’t meet the gross receipts check. It usually requires the taxpayer to ascertain the next:

1. The taxpayer suffered a full or partial suspension of enterprise operations as a consequence of a governmental order that restricted commerce, journey, or group conferences as a consequence of COVID-19.

2. The taxpayer’s staff weren’t capable of work comparably by means of telework.

3. The complete or partial suspension of operations had greater than a nominal impact on the taxpayer’s enterprise operations.

If there’s a full or partial suspension of enterprise operations, then the taxpayer usually can embody within the ERC calculation solely these wages and well being plan bills paid throughout the interval of the suspension.

As you possibly can see, there’s a actual profit to qualification below the gross receipts check – it’s goal and it consists of wages/well being plan bills for the whole calendar quarter of eligibility. Many taxpayers, nevertheless, don’t meet the gross receipts check and should depend on the suspension of operations check, which is subjective and consists of wages/well being plan bills just for the interval of the suspension.

In these cases the place we’ve seen tax credit score companies present overly optimistic recommendation, it has been of their interpretation of the suspension of operations check. A few of them take a particularly broad interpretation of that check and use its subjectivity as a sword. When discussing with purchasers the recommendation they obtained from considered one of these outlets, and whether or not it is smart, we usually concentrate on the next questions:

1. Did they determine a governmental order (see Q&A #10) that restricted the enterprise’s commerce, journey, or group conferences as a consequence of COVID-19 – it’s not sufficient to concentrate on the impression to the enterprise; identification of the governmental order is a needed first step within the evaluation.
2. Did they decide whether or not the impact on the enterprise was greater than a nominal (see Q&As #17-18).
3. Did they analyze whether or not the staff of the enterprise have been capable of work comparably by means of telework (see Q&As #15-16).
4. If their recommendation is correct, would it not apply to each enterprise within the nation from March 13, 2020 by means of the top of Q3 2021, and in that case, do you suppose that’s what Congress meant? This final query give purchasers pause, as a result of it forces them to concentrate on the massive image.

What Points Can We Count on The IRS To Audit?

Even in case you are pleased with the advisor you used to arrange your ERC declare, you aren’t out of the woods. The IRS is predicted to start auditing ERC claims within the coming months and it has 3 years from the submitting date of the related Kind 941 tax return to say deficiencies, and 5 years within the case of ERC claims for the third and fourth calendar quarters of 2021 (see §3134(l)).

Right here is the place we expect the IRS will focus its audit exercise:

Willpower of Small vs. Giant Eligible Employer

1. Did the taxpayer calculate accurately the variety of full-time staff (FTEs) in 2019? Recall that an FTE for this function is an worker that labored 30 hours/week or 130 hours/month, and {that a} month-to-month common for 2019 is required. Recall additionally that this calculation is totally different from the full-time equal calculation for the PPP.

2. Did the taxpayer accurately decide whether or not the employer was a small eligible employer or a big eligible employer? Recall that the check for a small eligible employer is as follows: (i) for the 2020 ERC, did the taxpayer have 100 or fewer 2019 FTEs and (ii) for the 2021 ERC, did it have 500 or fewer 2019 FTEs. See query #15 beneath for qualifying wages relevant to every, and see Discover 2021-20, Q&A #38, for sure exclusions relevant to massive eligible employers.

Gross Receipts Check

3. Did the taxpayer calculate gross receipts accurately, as such time period is outlined in §448(c) (or §6033 for tax-exempt entities)? Recall the taxpayer ought to use the identical technique of tax accounting, money or accrual, that’s used for tax functions for the related tax yr.

4. Did the taxpayer depend on the secure harbor for enterprise combos in 2020 and in 2021? See, e.g., Discover 2021-20, Q&A #28.

Suspension of Operations Check

5. Did the taxpayer determine a governmental order that restricted its commerce, journey, or group conferences as a consequence of COVID-19?

6. Have been the taxpayer’s staff capable of work comparably by means of telework?

7. Did the complete or partial suspension of operations had greater than a nominal impact on the taxpayer’s enterprise operations? Contemplate the ten% secure harbor in Discover 2021-20, Q&A #11.

8. Did the partial suspension of operations end result from a discount in demand? See Discover 2021-20, Q&A #13.

Aggregation

9. Did the taxpayer apply the aggregation guidelines accurately? These guidelines are complicated and they need to be utilized solely by an skilled advisor.

10. Did the taxpayer apply aggregation for functions of (i) the gross receipts check, (ii) the suspension of operations check, (iii) the calculation of the variety of FTEs, and (iv) in figuring out the utmost credit score quantity per worker? See Discover 2021-20, Q&A #7.

ERC Calculation

11. Did the taxpayer guarantee it didn’t use wages within the ERC calculation that have been used for the PPP, i.e., it didn’t double dip the wages? Recall there are different credit, resembling FFCRA paid household/sick go away credit, that have to be thought of too.

12. Did the taxpayer exclude from qualifying wages severance and different post-termination funds made to former staff? See Discover 2021-20, Q&A #39.

13. Did the taxpayer embody the proper qualifying wages for small eligible employers (all wages paid throughout the related interval) and for giant eligible employers (solely wages paid to not present providers throughout the related interval)?

14. Did the taxpayer exclude qualifying wages for self-employed people, greater-than-50% house owners, and “associated people”? Recall that constructive possession guidelines apply right here and that the “associated particular person” dedication is quirky and may produce surprising outcomes.

15. Did the taxpayer apply the $10,000 qualifying wage restrict per worker accurately — $10,000 for March 13, 2020 by means of December 31, 2020, and $10,000 for every of the primary three calendar quarters in 2021?

16. Did the taxpayer apply the suitable proportion limitation to the quantity of qualifying wages – 50% in 2020, and 70% in every calendar quarter in 2021?

17. If the taxpayer certified for the ERC as a restoration startup enterprise, did it meet the definition of such time period in §3134(c)(5)?

18. Did the taxpayer preserve ample data to substantiate its ERC calculation and the quantity of qualifying wages?

Taxation

19. Did the taxpayer disallow the wage/well being plan bills that have been used for the ERC on its acceptable federal revenue tax returns? Recall that such bills have to be disallowed on the tax return for the tax yr during which they have been paid, not the yr during which the ERC was utilized for or obtained.

The principles for the ERC are detailed and sophisticated, and claims for the ERC are filed below penalties of perjury. If a enterprise is worried with the evaluation underlying its declare, then now’s the time to have it reviewed. Don’t wait till the IRS comes knocking, as a result of at that time it might be too late.