Contents
Introduction
The Employee Retention Credit enacted under the Coronavirus Aid, Relief, and Economic Security (CARES) Act is a refundable tax credit for employers who have been affected by COVID-19. The goal of this credit is to help businesses cope with declining revenues and keep staff on payroll.
This credit is designed to help offset employment-related costs, such as wages and health plan contributions. It also covers part of an employer’s health care costs associated with retaining employees impacted by the pandemic – meaning that, to qualify for the credit, an employer must continue to provide health insurance coverage to their employees.
The Employee Retention Credit is available for Qualified Wages paid after March 12, 2020 and before January 1, 2021. Employers can claim up to $5,000 per employee in credits per quarter of 2020 – this includes regular wages from pre-COVID business operations as well as wages paid related to illness or family leave pay mandated due to COVID-19 orders. Notably, this credit not only applies for cash payments for Qualified Wages; it also applies when employers pay their workers in noncash benefits as well.
When applied correctly, these credits offer businesses welcome assurance that they can reimburse a portion of payroll costs not completely covered from other sources – enabling them to join the steady recovery process hitting many parts of the economy today.
What is the Employee Retention Credit?
The Employee Retention Credit (ERC) is a refundable tax credit designed to help employers keep or rehire employees and cover certain costs. The ERC is part of the Coronavirus Aid, Relief, and Economic Security (CARES) Act and was established to help businesses that have been negatively impacted by the COVID-19 pandemic.
The credit can be as much as a maximum of $5,000 per employee and it is available to eligible employers if they meet the eligibility requirements outlined in the CARES Act. This credit can be used to offset certain payroll tax withholding obligations. For those who qualify for the credit, it may reduce the amount of payroll taxes an employer would otherwise owe for 2020.
The ERC operates in two different periods: March 13th through June 30th, 2020 and July 1st through December 31st, 2020. The amount of credits available in each period differs; therefore, it’s important to understand which period your employer falls into before calculating the estimated credit amount. In addition, employers must also consider how other coronavirus-related assistance programs affect their eligibility for this program.
It’s also important to note that this program does not provide income tax refunds or reductions beyond what was provided through the CARES Act provisions or any other coronavirus-related assistance package. In other words, while you may save on payroll taxes with this program, these savings will not impact your income tax liability in any way.
Eligibility Requirements
The Employee Retention Credit (ERC) is a tax credit designed to help employers with the costs of keeping their workforce employed despite the economic hardship caused by the coronavirus pandemic. To be eligible for this credit, employers must meet certain requirements.
This section will outline the eligibility requirements for the ERC, so employers can determine if they qualify:
Qualifying wages
In order to qualify for the Employee Retention Credit, employers must meet certain criteria. Qualifying wages are wages paid to an eligible employee between March 13, 2020 and December 31, 2020. To be eligible for the full credit, wages paid must be less than $10,000 per employee over the period beginning on March 13 and ending on December 31.
Also, employers can only claim up to $5,000 total in qualified wages per quarter. If wages exceed this threshold amount in any quarter, then only a portion of the total can be claimed in that quarter. Additionally, employers must pay at least fifty percent of an employee’s qualifying wages during each calendar quarter in order for the employer to qualify for the credit. If these requirements are met then the employer is eligible for the Employee Retention Credit and will not have to pay taxes on these qualifying wages.
Qualifying employers
Qualifying employers must satisfy the following criteria in order to be eligible for the Employee Retention Credit:
- Have been actively operating within the U.S. on March 12, 2020
- Have had to fully or partially suspend operations due to orders from a governmental authority limiting operations due to COVID-19
- Decline in gross receipts compared to the same quarter in 2019 of more than 50%. Or if your business did not exist in the 1st quarter of 2019, gross receipts are more than 80% less than comparable quarters in 2020
- Have fewer than 500 full time employees during either calendar year 2019 or calendar year 2020
- Not have taken a Small Business Interruption Loan under the Coronavirus Aid, Relief and Economic Security (CARES) Act.
Qualifying employers are generally allowed retain up tp $50,000 of employee retention credits per quarter for tax free treatment. The credit is available for employees kept on payroll from March 13th,2020 through December 31st, 2020 or when federal government orders limiting operations due to COVID19 no longer remain in effect. The credit is applied against quarterly employers social security taxes liability and can be paid at an earlier date then when income taxes would normally be due.
Qualifying employees
In order to be eligible for the Employee Retention Credit, employers must have an Employee Retention Credit qualifying employee on the payroll. A qualifying employee is generally one who meets all of the following criteria:
- The employee’s wages qualify as wages paid by the employer that are subject to withholding of federal income tax, and was in service during any calendar quarter in 2020.
- The employee’s wages paid during any calendar quarter of 2020 have been reduced due to either 1) a suspension of business operations or 2) a significant reduction in hours worked.
- The employer’s gross receipts for any quarter in 2020 are lower than the amount reported for the same quarter in 2019.
The Employee Retention Credit is also available to employers whose gross receipts decrease by more than 20%, compared with the same calendar quarter from 2019, until December 31, 2020. This credit is allowed against 50% of qualified wages or salaries for up to $10,000 per employee ($5,000 maximum per quarter). Additionally, eligible employers may claim up to $7,000 per full-time equivalent employee on their annual return.
Tax Implications
The Employee Retention Credit (ERC) incentivizes businesses to keep their employees on their payrolls. It is a tax credit offered by the federal government to help businesses cope with the financial strains of the COVID-19 pandemic. Yet, with all tax credits, there are certain tax implications associated with the ERC. Let’s explore what these might be:
Taxable wages
When determining whether a payment qualifies for the Employee Retention Credit (ERC), it is important to know if the payment is considered taxable wages. Generally, taxable wages include payments that must be reported on an employee’s Form W-2 and are subject to withholding taxes. These payments may include wages, salaries, bonuses, commissions, and vacation pay. Other forms of compensation that may qualify as taxable wages include sick pay provided by a third-party administrator and deferred compensation paid through a nonqualified plan or other arrangement.
In order to receive the ERC, employers should ensure that any payments they make to employees or independent contractors meet the definition of “qualified wages” as outlined by the Internal Revenue Service (IRS). Qualified wages are limited per employee per calendar quarter and take into account payroll taxes already paid in respect to those same wages for that employee for that same calendar quarter. Generally, only “wages” paid with respect to work performed by an employee or independent contractor qualify for a credit under the ERC; fringe benefits do not generally qualify as “wages” under the ERC. Employers should also note that there are restrictions on claiming credits with respect to certain types of employees; for example, tips and amounts paid to cash employees must generally be excluded from any calculations related to the ERC.
Non-taxable wages
Employers must make sure their wages paid qualify for the tax credit. To qualify for the Employee Retention Credit, wages must meet two criteria:
- They must be paid between March 13 and December 31 of this year.
- They must be non-taxable to the employee. This includes things like tips, unreimbursed employee expenses, educational assistance, and group term life insurance payments up to $50,000 per year ($100,000 if married).
In addition to these requirements, employers may not claim the Employee Retention Credit if they get a Small Business Interruption Loan or have other certain types of access to capital that is not repaid during the calendar year in which it was received.
For employers who choose to offer non-taxable wages instead of taxable wages under Section 3121(a) of the Internal Revenue Code (IRC), there are certain additional rules that must be complied with in order to claim the Employee Retention Credit:
- Employers are responsible for paying all applicable FICA taxes on behalf of employees on these non-taxable wages (including both Social Security and Medicare taxes).
- Non-taxable wages may only be claimed by employers who report employee wages using Form 941 rather than Form 1099-MISC; thus these rules only apply to employees classified as “employees” versus those classified as “freelancers” or independent contractors for income tax purposes.
- The definition of “non-taxable” does not necessarily mean that an employer could deduct such amounts from a payroll provider/vendor’s federal income tax returns; any potential deductibility would depend on facts and circumstances specific to any particular employer reporting period/filing date within a given calendar year. For more details & examples please consider consulting with your tax professional or professional payroll provider if you have questions regarding how this law could affect your business in particular.
Maximum Credit Amount
The Employee Retention Credit (ERC) is a refundable payroll tax credit that was made available by the Coronavirus Aid, Relief, and Economic Security (CARES) Act to help businesses and non-profits financially affected by the COVID-19 pandemic. The maximum credit amount is equal to 50 percent of qualified wages paid to eligible employees, including healthcare benefits for up to $5,000 per employee for up to 500 full-time equivalent employees. However, the total refundable amount cannot exceed $10,000 per employee.
The ERC applies only towards federal payroll taxes; it does not cover state or local taxes. Furthermore, the credit is refundable only if there is sufficient tax liability due from other sources such as income or self-employment taxes.
It is important to note that the ERC qualifying wages are not considered taxable for federal income tax purposes; therefore any qualified wages taken into account when calculating the ERC are not subject to any type of payroll withholding or federal income tax on employees’ W-2s. It should also be noted that employers receiving an eligible employer retention credit are still required to pay Medicare and Social Security payroll taxes on its qualified wages used in calculating the credits regardless of whether they receive an eligible employer retention credit or not.
Conclusion
In conclusion, the Employee Retention Credit (ERC) is generally tax-free. It allows eligible employers to claim a credit against employment taxes equal to the applicable percentage of qualified wages paid to each employee. This credit can be used to defray some or all of the costs associated with paying employees during times of economic hardship caused by COVID-19.
However, it is important for employers to understand that there are certain requirements and limitations for claiming this credit, as outlined by the IRS and other government organizations. Employers should consult with professionals and/or review official IRS materials in order to gain a full understanding of eligibility requirements and related guidance.