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Overview of Employee Retention Credit
The Employee Retention Credit (ERC) provides an incentive for employers to keep their workforce intact despite financial downtime due to the COVID-19 pandemic. This tax credit can be applied to eligible wages to reduce the employer’s federal employment tax liabilities.
In this article, we’ll discuss the basics of the ERC, how it can be claimed, and how it must be reported on a tax return:
Definition of Employee Retention Credit
The Employee Retention Credit (ERC) is a refundable tax credit applicable to certain employers equal to 50 percent of qualified wages incurred by or before December 31, 2020. Employers subject to the impact of government orders or restrictions related to coronavirus that receive the ERC are eligible for an incentive equal to 50% of wages paid up to $10,000 in qualifying wages paid after March 12, 2020, and before Jan 1 2021. Qualifying wages include eligible health plan expenses and sick leave payments made by the employer related to COVID-19.
If a business incurs losses in any quarter between 2020 and 2021, they are eligible for the credit if they recorded net income in Q1 2019 or Q4 2019.
Employers utilizing the ERC must determine their total qualified wages and qualified health plan expenses prior to filing their quarterly Form 941 with the IRS. The amounts claimed can then be applied as a refundable tax credit on Form 941 when businesses submit their quarterly payroll returns. This information should also be reported on Line 11e of a business’s annual Form 944 or Line 14b of its annual return Forms 940/941. Once businesses have successfully fulfilled these reporting requirements, employers can then get their refund through their federal tax deposit used for payroll taxes due for each quarter claimed or via an electronic fund transfer where deposits have not been made yet for that quarter’s payroll taxes due. Businesses must ensure that all information reported in respect of Form 941 is accurate and supported by relevant approved documentation prior to filing with the IRS.
Eligibility Requirements
To be eligible for the Employee Retention Credit (ERC) for wages paid between March 13, 2020 and December 31, 2020, an employer must meet all five eligibility requirements below:
- The employer’s trade or business was either fully or partially suspended due to a government order during the period of time beginning on March 13, 2020 and ending December 31, 2020.
- The employer experienced a full or partial decline in gross receipts of greater than 50 percent, compared to the same quarter in 2019.
- The employer is not a applicable large employer and is therefore not subject to tax under Internal Revenue Code (IRC) Section 3111(a).
- If self-employed, has gross income from his/her business activities in which he/she is engaged and any salary he/she receives from their self-employed services but does not exceed $10 million for 2019 OR if the organization has no more than 500 full-time employees.
- No employee may be paid over $9,000 for a biweekly pay period ($10K for certain agricultural employers).
Once a company is eligible for this credit they can claim up to 80% wage subsidy from the government depending on how much gross receipts were affected by the pandemic shutdowns and other factors limiting revenue due to COVID-19 related disruption to operations including reduced customer flow in retail stores or reduced orders received by manufacturing plants etc..
Reporting on Tax Return
The Employee Retention Credit (ERC) is a tax credit included in the Coronavirus Aid, Relief, and Economic Security Act (CARES Act) that allows employers to claim a tax credit against their share of Social Security taxes.
How must employers report the credit on their tax return? This section will discuss the rules for reporting the Employee Retention Credit on a tax return:
- Rule 1
- Rule 2
- Rule 3
- Rule 4
- Rule 5
Form 941
Form 941, Employer’s Quarterly Federal Tax Return, is the form used by employers to report income taxes, Social Security taxes, and Medicare taxes withheld from employee paychecks as well as the employer’s share of Social Security and Medicare taxes.
Under section 23 of Form 941, employers can report Employee Retention Credit (ERC) amounts which apply to certain qualifying wages paid after March 12th 2020. The amount of the credit is reported using the total for line19a plus any Additional Qualified Health Plan expenses for which reimbursement was excluded from income in line 19b.
It is important to note that employers are not required to make estimated payments on this amount and do not need to submit an advance payment request. Rather, any ERC amounts are reflected by way of a reduction in one or more of the employer’s other federal tax liabilities such as income tax deposits reported on line 19c or Federal unemployment taxes (FUTA) reported on line 20c. If there are no other federal tax liabilities that can be reduced to satisfy the credit amount due then a refund will be issued when Form 941 is filed through its normal processes.
Form 944
Form 944 acts as an employer’s annual employment tax return, which includes reporting the employee retention credit on their federal tax return. Employers must complete Form 944 to report wages, tips, and income tax withholding for the purpose of computing the employer portion of Social Security and Medicare taxes.
Form 944 will also include information regarding how employers chose to receive the Employee Retention Credit including if they used any refundable payroll credits or opted to offset their Social Security taxes with their federal income tax refund. When completing Form 944, employers must provide detailed information about employees such as their compensation, retirement plan contributions, hours worked and more.
In addition to Form 944, an employer can take advantage of reporting on their own quarterly or annual return. If claiming a refundable payroll credit from the Employee Retention Credit, employers will report this on either Line 16a (Payroll Tax Credits) or Line 16b (General Business Credit) of Form 941 for that quarter. Conversely if opting for an offsetting Social Security tax through a refundable payroll credit during that same quarter, employers need only document the application of the ERC in their taxable wage expense section located on Line 12c (Wages Subject to Social Security Tax) of Form 941.
Form 1040
Form 1040 is the basic form used to report an individual’s income, deductions, and credits. The employee retention credit is reported on Form 1040 using line 11 of the Schedule 1 form. The taxpayer must include total employee retention credit as one of the other income items on this line of the return.
It is important to note that businesses that qualify for the employee retention credit can choose to reduce their business tax deposits equal to the amount of estimated employee retention credits in order to receive a refund when filing Form 941 for each quarter. This procedure should be taken into account when reporting this credit on line 11 of Form 1040 Schedule 1.
When reporting this credit, taxpayers need to make sure they are using qualified wages and qualified health plan expenses from now through December 31, 2021 as well as make sure they are correctly determining their eligible full-time employee levels in order to maximize their benefits from this credit program. Additionally, it is important that taxpayers document all information related to calculations made for the purpose of claiming this business credit which includes:
- Withholding documents
- Detailed salaries information related to respective employees falling under various classifications within a business entity’s payroll structure.
Calculating the Credit
The Employee Retention Credit (ERC) is a refundable tax credit available to eligible employers that are operating during the COVID-19 pandemic. The credit is calculated based on wages paid to employees who work for the employer during the applicable period.
In this section, we’ll discuss how to calculate the credit and how to report it on your taxes:
Calculating Qualified Wages
The Employee Retention Credit (ERC) is a refundable credit available to employers affected by the coronavirus (COVID-19) pandemic that have been either fully or partially suspended due to COVID-19 or have experienced a significant decline in gross receipts. To determine if employers are eligible for the credit and if so, how much they can receive, they need to calculate “qualified wages,” meaning wages paid to employees for eligible periods.
Qualified wages generally are limited to those paid after March 12, 2020 (or March 13, 2020 for employers that had average annual gross receipts of $41 million or more). Qualified wages include cash wages paid (plus employer contributions to employee health coverage), up to $10,000 per employee (which includes noncash wage compensation).
An employer can take into account all payroll costs associated with providing group health insurance coverage and certain amounts paid as vacation, parental, family medical or sick leave pay when calculating qualified wages. For each employee over an employee-quarter period, qualified wage expenses related solely to providing health care coverage are limited to $10,000 per employee ($5,000/employee quarter period).
Additionally, as long as certified self-employed individuals meet all other requirements for the credit including having experienced a full or partial shutdown due to Covid-19 related reasons and having seen at least a 50% reduction in revenue compared with the same quarter in the prior year – they too may be eligible for this benefit through their return using Schedule C’s “Net Earnings from Self Employment” line 14.
You must report your allowances on Form 941 quarterly payroll tax return. Your total amount of allowable Wage Credits is on Form 941C under Credits section line 11b: “EmployeeRetentionCredit”. You recycle these credits against Social Security taxes during quarters when you become eligible for them instead of claiming them against current liabilities like an Earned Income Tax Credit relief. The excess ERC will be refunded if total amount is more than total liabilities like Social Security taxes on Form 941 tax returns or separately claimed on Schedule R Part II line 13a “Employee Retention Credit” amount section under Other credits.
Calculating the Credit Amount
The Employee Retention Credit (ERC) is a tax credit available to employers whose operations have been fully or partially suspended due to orders from a governmental authority related to COVID-19. To calculate the amount of the credit, first use the qualified wages paid formula to figure out the maximum credit limit you can claim for each quarter:
Qualified wages paid x 0.50 = max Eligible Credit Amount
For example, if you paid $50,000 in qualified wages during a quarter, your maximum eligible credit would be $25,000 (0.50 x $50,000). You can then subtract any employer credits that have already been claimed for that same payroll period or for prior periods using any of the credits specifically allowed under Rev Proc 2020-22 to arrive at your qualifying ERC wage amount:
Qualified wage amount – previously allowed credits = Maximum qualifying ERC wage amount
Once you’ve determined your maximum qualifying ERC wage amount, multiply it by 70% to determine your final credit calculation. Your final tax calculation should look something like this:
Maximum quality ERC wage amount x 0.70 = Final Credit Calculation
In this example, if you had $25,000 in eligible expenses after subtraction previously allowed credits and multiplied it by 0.70, you would end up with a final credit calculation of $17,500 ($25,000 x 0.70). This will be the total ERC credit available once you’ve completed filing your taxes and claiming it on line 18b of IRS Form 940 or line 21b if filing Form 941 – whichever one applies.
Benefits of Employee Retention Credit
The Employee Retention Credit (ERC) is a tax credit designed to help businesses retain their employees during the COVID-19 crisis. This tax credit can provide businesses with a much needed financial boost in these uncertain times.
In addition to the financial support, there are many other benefits to taking advantage of the ERC, including the ability to:
- lower your taxable income
- reduce the amount of taxes you owe
- possibly even get a refund
Let’s explore this tax credit further and see how it can benefit you.
Tax Savings
One of the most attractive benefits of taking advantage of the Employee Retention Credit (ERC) is tax savings. The ERC allows eligible employers to apply a credit of up to $5,000 per employee against employment taxes. It can be used to offset up to 50% of an employers’ share of taxes due on wages paid in 2020 and 2021. By taking advantage of the ERC, employers can reduce their federal payroll tax obligation for an employee by up to $5,000—or more if multiple credits are taken.
Although the ERC is only applied against employment taxes, tax savings are realized in a variety of ways. A lower federal payroll tax obligation means reduced costs at filing time as well as greater cash on hand throughout the year when wages must be paid out. In addition to reducing period-end liabilities and freeing up working capital, some companies may be eligible for refunds on previously paid employment taxes if they meet certain qualifications.
As with all other federal credits offered under the CARES Act, it is important for companies to understand how and when they qualify for these valuable payroll tax credits before applying them or amending prior returns – this will ensure that all questions have been answered prior to filing a return or making any changes.
Improved Employee Retention
Employee retention credit is a valuable benefit that employers can use to incentivize their workforce and make it easier to keep employees on the payroll. This type of credit is based on the employer’s ability to continue paying wages for select eligible employees. This gives employees peace of mind knowing that their employer is committed to retaining them regardless of any business challenges that may arise. Improved employee retention carries several other long-term benefits, such as:
- Stronger connection with customers: Developing meaningful relationships with customers often starts at the employee level. For example, when loyal customers recognize your staff, they tend to reward loyalty with repeat purchases or referrals. Keeping good employees in place will ensure continuity in your customer service experience and may lead to stronger customer relationships overall.
- Decreased costs related to recruiting and training: Retaining qualified staffers can save money associated with recruiting, screening, interviewing and onboarding new employees. Additionally, replacing staff members can open up opportunities for mistakes or errors due to lack of experience or knowledge in certain areas – an issue that companies can avoid by keeping existing staffers in place who are already familiar with organizational policies and processes.
- Increased productivity: Employees who feel secure, supported and valued in their positions will be more likely to remain motivated and productive while on the job – this is especially important during difficult times as maintaining morale should always be a top priority for any organization. Additionally, learning new skill sets becomes much easier since people will generally commit themselves more fully when their job security isn’t at risk of being terminated short-term.
The practice of offering a employee retention credit is quickly becoming essential for organizations looking for ways to better manage business operations through difficult times while also showing support for its personnel. It could potentially have a beneficial impact on both an organization’s financial status as well as its reputation among its workforce, customers and potential future hires alike.
Conclusion
The Employee Retention Credit is an important tool for businesses and organizations affected by the pandemic to help keep their employees connected and employed. There are several requirements and eligibility criteria that must be met in order to qualify and receive the credit.
The credit is reported on the Employer’s Quarterly Federal Tax Return Form 941 and is also reported on the Employer’s Annual Federal Tax Return Form 940. In this article, we discussed the process for reporting Employee Retention Credit on both forms.
Summary of Employee Retention Credit Reporting Requirements
The Credit for Other Payroll Costs (ERTC) is claimed as a payroll tax credit on payroll tax returns. Employers must report the amount of ERTC on their Form 941 and the IRS will calculate the ERTC refund amount. Claimants must include a detailed Form 924 when filing their payroll tax return and attach a copy to their income tax return.
ERTC can only be used to reduce employer’s federal income tax liability or it can be used to offset remaining Social Security/Medicare taxes due after other credits have been applied. Note that employers cannot receive advance payments from the IRS for the ERTC; employers must pay wages net of any applicable unemployment taxes and then wait for an eligible repayment from the IRS in subsequent period when filing Form 941. It is important to remember that these funds are not available until after taxes have been paid in full for an employer’s employment cycle. What could impact whether an entity would receive its refund quickly are any errors on its Form 941, payment accuracy, and timeliness in remitting payments due.
For entities that qualify, Employers must make sure they submit all required documents in order to properly claim the ERTC on income tax returns and maximize its benefit to employers during this difficult time.