The American Rescue Plan Act of 2021 (ARP), signed into law on March 11, does much for many, but one of the key parts is the material extension and expansion of the Employee Retention Credit (ERC).
The ARP is the most recent, but probably not last, COVID-related recovery legislation. It follows the Taxpayer Certainty and Disaster Tax Relief Act of 2020 (Disaster Relief Act) included in the Consolidated Authorizations Act, 2021, enacted on December 27. The Disaster Relief Act made changes to the ERC, which are discussed here, including retroactively allowing recipients of Paycheck Protection Program (PPP) loans to also claim the ERC for 2020 and expanding the ERC for 2021. ARP builds on that to make the credit even more attractive.
ERC in a Nutshell
The ERC provides a refundable payroll tax credit to employers (i) whose operations were fully or partially suspended due to government orders or (ii) who experienced a quarterly decline in gross receipts compared to the same quarter in 2019 (a 50 percent decline for the 2020 ERC; a 20 percent decline for the 2021 ERC). The nature, amount and availability of the credit depends on the year because the 2020 ERC differs materially from the 2021 ERC, as we summarized here.
For 2020, eligible employers are entitled to a credit equal to 50 percent of qualified wages up to $10,000 per employee paid in 2020 during qualifying quarters — i.e., a total credit in 2020 of up to $5,000 per employee. The definition of qualifying wages (i.e., whether an employer can claim a credit for all wages or only wages paid for not providing services) depends on whether the employer had 100 or fewer full-time employees in 2019.
For 2021, Congress materially expanded the ERC, raising the 2019 full time employee threshold for qualifying wages to 500 employees and increasing the amount of the credit to 70 percent of qualified wages up to $10,000 per employee paid in each of the first and second quarters of 2021, which effectively translated into a credit of up to $14,000 per employee ($7,000 each quarter). Regardless of the year, the ERC always requires thoughtful coordination with PPP forgiveness.
New and Improved 2021 ERC
As changed by the Disaster Relief Act, an employer could claim the ERC only for the first two fiscal quarters of 2021. The ARP expanded the 2021 ERC to all four quarters and increased the maximum amount of the credit. Specifically, for quarters starting after June 30, 2021, the ARP codified the ERC into new Section 3134 of the Internal Revenue Code of 1986, as amended (IRC). IRC § 3134 extends the availability of the ERC through December 31, 2021. Thus, qualifying employers who continue to qualify for all four quarters of 2021 can now receive up to $28,000 in ERC per employee ($10,000 quarterly wage cap times 70 percent times four quarters).
IRC § 3134 also expands eligibility by enabling two new classes of business to qualify for the ERC:
- Recovery Startup Business (RSB): An RSB is an
employer (i) which began carrying on a trade or business after
February 15, 2020, (ii) for which the average annual gross receipts
do not exceed $1 million, and (iii) which otherwise does not meet
the ERC eligibility tests (partial shutdown from government order
or significant revenue drop). The $1 million gross receipts test
looks at a three-taxable-year period ending with the taxable year
that precedes the calendar quarter for which the company is
applying for the ERC.1 Prior to the ARP, an RSB
could not claim a 2021 ERC because it did not satisfy either
eligibility requirement. For the third and fourth quarters of 2021,
an RSB can now claim an ERC of 70 percent of wages paid in each
quarter, capped at $10,000. However, IRC § 3134 imposes a
total quarterly cap of $50,000 for an RSB. For example, if an
RSB has 10 employees and pays each $10,000 or more in the quarter,
the ERC for the RSB would be $50,000, rather than $70,000
- Severely Financially Distressed Employer: A severely financially distressed employer is an employer whose gross receipts in the third or fourth quarter of 2021 are no more than 10 percent of the gross receipts in the same quarter in 2019. Similar to the 80 percent gross receipts test for general ERC eligibility, an employer may elect to use the immediately preceding calendar quarter for purposes of this 10 percent gross receipts test. For example, for purposes of determining eligibility for the third quarter of 2021 under the gross receipts decline test, an employer may elect to compare the second quarter of 2021 to the second quarter of 2019. A severely financially distressed employer may treat all wages paid to employees during the applicable quarter as qualified wages, even if it had more than 500 full-time employees in 2019.
Because the ERC is so valuable, and likely to be misunderstood and misapplied, Congress took the unusual step of extending the statute of limitations for the IRS to assess amounts attributable to the ERC from the normal three years to five years. The statute of limitations begins to toll on the later of either the filing date of the original tax return that includes the calendar quarter with respect to which the credit is determined, or April 15 of the succeeding calendar year.
1 This three-year period cannot exist for an employer that began operating after February 15, 2020. However, IRC § 3134(c)(5)(B) references the special rule in IRC § 448(c)(3), which concerns electing cash-method accounting for determining the average three-year amount for a business not in existence for the referenced three-year period.
Originally published March 18, 2021
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