Update on November 18, 2021: With the passage of the Infrastructure Bill, the ERC program has been cut short. The program has now expired on September 30, 2021, which means that in tax year 2021, the maximum tax credit available to an employer (per employee) is $21,000.
An important exception: if you own/operate a Recovery Startup Business (a business that started after February 15, 2020 and has gross receipts under $1M), you may still be eligible for ERC through Q4 of 2021. Recovery Startup Businesses are the only businesses that may claim ERC through the end of the year.
The COVID-19 pandemic continues to present small businesses with new challenges, and as a result, the government has stepped in to offer financial relief resources. Key among these is the Employee Retention Credit (ERC) which was established in the CARES Act.
Since ERC was initially established, it has undergone a number of changes and expansions (first under the Consolidated Appropriations Act, 2021, and then again under the American Rescue Plan Act).
This expanded ERC program is (like many COVID-19 relief programs) complex. Below, we’ll walk through how the credit works, eligibility requirements, credit calculations, and a few FAQs to help you better understand if the ERC is right for your business.
ERC at a glance:
- The ERC provides a refundable tax credit to help businesses with the cost of keeping their staff employed
- This program expired on September 30, 2021
- Businesses are eligible to receive ERC and PPP (but wages that are qualified for ERC cannot have been paid with PPP funds)
- For tax year 2021, the refundable tax credit is: 70% of qualified wages paid per employee (up to a maximum amount of $7000 per employee, per quarter and up to $21,000 for the entire year)
- For tax year 2020, the refundable tax credit is: 50% of qualified wages paid per employee (up to a maximum amount of $5000 per employee for the entire year)
- If you qualify for ERC but you didn’t get a chance to claim it, you may do so retroactively (back to March 27, 2020) on Form 941-X.
Ready to calculate your Employee Tax Credit?
You can calculate your eligibility (to find out if you qualify for the ERC) program and the tax credit amount you can expect using this calculator:
What’s changed recently with the Employee Retention Credit (ERC)?
There have been so many changes to ERC, it may be difficult to keep straight, so we put together this table for you:
|
2020 March 13, 2020 – December 31, 2020 |
2021 (Q1 and Q2) January 1, 2021 – June 30, 2021 |
2021 (Q3) July 1, 2021 – September 30, 2021 |
| Eligible employers must have between 1 – 100 W2 employees (excluding the owners) | Eligible employers must have between 1 – 500 W2 employees (excluding the owners) | Eligible employers must have between 1 – 500 W2 employees (excluding the owners) |
| Eligible businesses must have been in operation before February 16, 2020 | Eligible businesses must have been in operation before February 16, 2020 | It is possible to be eligible if you started your businesses after February 15, 2020; if your gross receipts are under $1M, you may qualify as a Recovery Startup Business |
| The maximum credit amount per employee is $5000 for the year | The maximum credit amount per employee is $7000 for the quarter ($21,000 for the year) | The maximum credit amount per employee is $7000 for the quarter ($28,000 for the year) |
| Credit is 50% of qualified wages | Credit is 70% of qualified wages | Credit is 70% of qualified wages |
| To qualify for ERC, you must see a decline of 50% in gross receipts when comparing corresponding quarters in 2020 and 2019 | To qualify for ERC, you must see a decline of 20% in gross receipts when comparing corresponding quarters in 2021 and 2019 | To qualify for ERC, you must see a decline of 20% in gross receipts when comparing corresponding quarters in 2021 and 2019 |
What is the Employee Retention Credit?
The ERC is a refundable payroll tax credit that is available to employers who meet certain criteria as laid out in the Consolidated Appropriations Act, 2021. If eligible, recipients of the ERC may:
- For Tax Year 2021: Receive a credit of up to 70% of each employee’s qualified wages.
- This means an employer could claim up to $7,000 per quarter per employee, or $21,000 per employee for 2021.
- Consider group health plan expenses as qualified wages, even if no other wages are paid to an employee.
- For Tax Year 2020: Receive a credit of up to 50% of each employee’s qualified wages, up to $5,000 for the year.
- Consider group health plan expenses as qualified wages, even if no other wages are paid to an employee.
What constitutes a full-time employee?
For the purposes of the ERC, a full-time employee is defined as one that in any calendar month worked at least 30 hours per week or 130 hours in a month.
Interested in other tax credits?
ERC eligibility requirements
Employer eligibility is largely determined by one of two key factors, at least one of which must apply in the calendar quarter the employer wishes to utilize the credit:
- Full or partial closure due to a government order.
- A significant decline in gross receipts (this decline is different for tax year 2020 and tax year 2021, so keep reading!).
There are also considerations around how many employees a business has on payroll, which we’ll dive into in a bit.
Full or partial closure due to a government order
A business is eligible for the ERC if they were forced to fully or partially suspend operations or reduce business hours because of a government COVID-19 order. The credit applies only for the portion of the quarter the business is suspended, not the entire quarter. According to the IRS, there are certain businesses that generally do not meet this description and would not qualify:
- Those considered essential, unless they have supply of critical material/goods disrupted in a manner that affects their ability to continue to operate.
- Businesses shuttered but able to continue their operations largely as-normal through telework.
However, any of these businesses could still qualify for the ERC if they meet the second requirement. Most eligible employers will fall into this second category:
An employer that has a significant decline in gross receipts
For tax year 2020, the business must have seen a 50 percent drop in gross receipts when comparing a quarter in 2020 with the corresponding quarter in 2019.
Under the new law, beginning in 2021, businesses must have seen more than a 20 percent drop in gross receipts in Q1 and Q2 compared to the same quarter in 2019. If you are a new business, the IRS allows the use of gross receipts for the quarter in which you started business as a reference for any quarter in which you do not have 2019 figures.
Am I eligible if I received a PPP loan?
Yes. The new legislation allows businesses that received a loan under the Paycheck Protection Program (PPP) to qualify for the ERC tax credit. However, the credit can only be applied to wages that are not forgiven or expected to be forgiven under PPP.
How do I determine if my business is eligible?
Look at these flowcharts . . .
For tax year 2020 (click on image to zoom in):
For the first and second quarters in tax year 2021 (click on image to zoom in):
For the third quarter in tax year 2021 (click on image to zoom in):
For the fourth quarter in tax year 2021 (click on image to zoom in):
If your business did not experience a forced closure, you will determine eligibility based on whether you had a significant decline in gross receipts during the calendar quarter.
For tax year 2021, eligibility is achieved if gross receipts of any quarter in 2021 are less than 80 percent of the same quarter in 2019 (you may also see this phrased as a 20 percent decline in gross receipts).
If your business did not exist at the beginning of the same quarter of 2019, you can substitute the same quarter in 2020 instead. The CARES Act allows you to test eligibility by using the “immediately preceding” calendar quarter. In this case, you would perform a comparison between that quarter and the same quarter in 2019. In this example, if your business does not qualify based on Q1 2021, you could look at Q4 2020 and compare Q4 2019 gross receipts to Q4 2020 to determine eligibility. This option should help to accelerate the eligibility determination process.
For tax year 2020, eligibility is achieved if gross receipts of any quarter in 2021 are less than 50 percent of the same quarter in 2019.
The current guidance also says that a business that qualifies in a quarter automatically qualifies in the following quarter, as well, even if that following quarter doesn’t meet the gross receipts loss requirement.
How does the number of employees factor into the ERC?
The rules are different depending on how many employees you have. The updated 2021 program bumped these categories up from 100 full-time employees to 500.
- Employers with 500 or fewer full-time employees can apply the ERC towards all qualified wages paid to employees during those quarters, whether or not employees were working at the time.
- Employers with more than 500 full-time employees can apply the ERC towards qualified wages paid to employees who were not working during a quarter because the business suspended operations or had a significant decline in gross receipts. These employers can only count wages up to the amount that the employee would have been paid for working an equivalent duration during the 30 days immediately preceding the period of economic hardship.
What are “qualified wages”?
Qualified wages are wages and compensation paid by an employer to some or all full-time employees in the relevant quarter. Qualified wages include the employer’s qualified health plan expenses that are properly allocable to the wages.
How to calculate your credit: an example
The best way to explain credit calculations is with a simple example. You’ll want to talk with your accountant to determine your specific calculation.
In this example, let’s assume the business has less than 500 employees.
| Gross Receipts Test | 2021 | 2019 | % Achieved |
|---|---|---|---|
| Q1 | $90,000 | $150,000 | 60.0% |
| Q2 | $95,000 | $150,000 | 63.3% |
This sample business will qualify for the ERC 2021 program in both Q1 and Q2 based on gross receipts for each quarter in 2021 being less than 80% of those same quarters in 2019.
Now let’s calculate our credit. The table below shows the wages paid during the business’s eligible period by employee.
| Employee | Wages Q1 | Wages Q2 | Total Wages Paid |
|---|---|---|---|
| 1 | $3,000 | $6,000 | $9,000 |
| 2 | $8,000 | $7,000 | $15,000 |
| 3 | $10,000 | $10,000 | $20,000 |
Again, the credit for ERC 2021 is 70% of qualified wages, capped at $10,000 in qualified wages per quarter (so the maximum credit is $7,000 per employee, per quarter or $14,000 total).
| Employee | Total Wages Paid | Credit Amount |
|---|---|---|
| 1 | $9,000 | $6,300 |
| 2 | $15,000 | $10,500 |
| 3 | $20,000 | $14,000 |
Using the chart above, you’ll see that the credit in our example is $30,800. No employees were capped in this example.
How do the credits get applied?
The ERC is applied to your portion of the employee’s Social Security taxes and is fully refundable. This means the credit will serve as an overpayment and be refunded to you after subtracting your share of those taxes. In other words, if your credit exceeds your total liability of the portion of Social Security in any quarter, the excess would be refunded to you.
What do I need to do to claim the credit?
In order to claim the new Employee Retention Credit (if eligible), you must calculate your total qualified wages and the related health insurance costs for each quarter, and subtract that amount from your deposit on Form 941, Employer’s Quarterly Federal Tax Return.
If you already filed your taxes for 2020, you can retroactively claim the credit. To do this, fill out Form 941-X.
If you qualify as a small employer (500 or fewer full-time employees in 2019) you may request advance payment of the credit using Form 7200, Advance of Employer Credits Due to Covid-19. Employers with more than 500 employees are not eligible for advance payments.
Other considerations:
Your business may not be eligible if you received other credits or government relief provisions.
An eligible employer’s ability to claim the Employee Retention Credit is impacted by other credit and relief provisions:
- Wages for the ERC cannot include any wages that received an employer tax credit for paid sick and family leave under the Families First Coronavirus Response Act.
- Wages counted for this credit can’t be counted for the credit for paid family and medical leave under section 45S of the Internal Revenue Code.
- Employee wages are ineligible for ERC if:
- the employee is a family member of the owner,
- own 50 percent or more of the company, and /or
- the wages are being used to claim the Work Opportunity Tax Credit (WOTC) under section 51 of the Internal Revenue Code.
ERC for disaster zones
The new bill extends the disaster ERC tax credit of 40% of wages (up to $6,000 per employee) to employers in disaster zones, for wages paid whether or not the employee was working. These businesses must operate in Presidentially declared disaster areas for major disasters—other than COVID-19—declared after December 31, 2019, through 60 days after the bill is enacted.
Are government entities eligible?
Effective January 1, 2021, the following government entities are now also eligible for the credit (this was not the case in 2020):
- public colleges or universities
- organizations whose principal purpose is providing medical or hospital care
- certain federal instrumentalities, such as federal credit unions
What you should do now:
Take a strategic point of view to leverage PPP and ERC as best as you can consider:
- Based on what we know today, determine if you will be eligible for the ERC 2021 program.
- ERC 2021 eligibility is based on the first and second quarters of 2021 and the credit is driven by payroll costs. As a result, you will want to maximize the dollar value of payroll costs you can put toward the ERC 2021 program.
- Forecasting payroll costs over the next six to nine months is important based on when your PPP loan is funded.
- If you get your PPP loan funded on January 31, you will have until mid-July to spend the funds if you take advantage of the 24-week covered period.
- If you get your PPP loan funded on March 31 (the date the PPP program closes), you will have until mid-September to spend the funds if you take advantage of the 24-week covered period.
- 100% PPP forgiveness rules require that you spend 60% of your loan on payroll costs . You need to know how many payrolls it will take to achieve 60% so that you can plan your payroll runs to maximize the payroll costs you can apply to the ERC program.
We hope this guide to the new 2021 Employee Retention Credit proves helpful. Be sure to explore Gusto’s COVID-19 Small Business Relief Hub for additional resources and guidance!
This post was written by Levi Morehouse, the founder and CEO of Ceterus. Ceterus exists to empower small business entrepreneurs. They assist thousands of small business owners with automated financial reporting and bookkeeping, and know firsthand how challenging it can be to decide which CARES Act relief option is right for you.
