The Employee Retention Tax Credit: Everything You Need to Know
As a small business owner, you’ve likely heard the term “Employee Retention Tax Credit” being used over the past few years. From accountants and new outlets to other small business owners, this government credit has been a hot topic of debate.
In this article, we’ll explore the basics of the Employee Retention Tax Credit, including which small businesses are eligible, the claiming process, potential pros and cons, and tax implications you can expect.
If you have any questions regarding your individual eligibility or claiming process, reach out today to schedule your free consultation.
What is the Employee Retention Tax Credit?
The Employee Retention Tax Credit, known as the ERTC, is a refundable payroll tax credit that organizations impacted by COVID-19 can claim. This credit is applicable to 2020 and 2021 tax years, with the ability to retroactively claim the credit by filing amended 941s.
The first round of the ERTC was signed into effect under the CARES Act of March 2020. The Relief Act of 2021 extended the credit through Q2 2021 and the American Rescue Plan Act of 2021 further extended the eligibility period through the end of 2021. With each regulation passage, the credit was slightly altered to become more inclusive.
Who is Eligible for the Employee Retention Tax Credit?
There are a few different ways you can become eligible for the ERTC. First, you would have needed to pay qualifying wages between March 12, 2020 and December 31, 2021. This does include health insurance premiums.
The next component of eligibility is the impact of the pandemic. For 2020 ERTC claims, your business would have needed to experience a full or partial shutdown of operations due to government orders or a 50% decline in gross receipts from the same calendar quarter in 2019.
However, for 2021 ERTC claims, your business only needed to experience a 20% decline in gross receipts from the same quarter in 2019. This means most small businesses will qualify for 2021 provisions.
What is the Credit Amount?
The ERTC amount you can claim does differ between 2020 and 2021. For 2020 credit claims, the maximum credit is 50% of $10,000 in qualifying wages and healthcare expenses per employee, up to $5,000 for the year. For 2021, this limit is expanded to 70% of $10,000 in qualifying wages and healthcare expenses, up to $7,000 per employee per quarter. This means that employers can claim up to $28,000 per employee for 2021 ERTC claims.
How Do You Claim the Employee Retention Tax Credit?
The ERTC is time sensitive. You have until April 15, 2024 to file 2020 credit claims and until April 15, 2025 for 2021 credit claims. Putting together the ERTC computation can take time, meaning you want to get started right away if you think you are eligible for this credit.
You should have already filed your 941 forms for 2020 and 2021. This results in the need to amend these payroll forms by filing a 941-X. A 941-X will be mailed to the IRS for each quarter that you are claiming the ERTC. If you are eligible for Q1, Q2, and Q3 of 2021, you will put together a 941-X for each of these periods.
What are the Pros and Cons of the Employee Retention Tax Credit?
There are pros and cons to claiming the ERTC. First, the ERTC has the potential to put a significant amount of money back into your account for wages and healthcare costs you have already paid. For example, if you are eligible for Q1 and Q2 2021 and have five employees that made $10,000 each, you could see $70,000 come back to you.
One of the main disadvantages is processing time. The IRS will take anywhere from six to nine months to process your ERTC requests, so don’t plan on having the money back into your account the next week. However, the IRS does pay you interest on your refund amount. A credit claim of $50,000 from 2020, will have additional interest income tacked onto the refund from 2020 to the check issuance date.
In addition, the IRS doesn’t allow you to double-dip on wages used to claim Paycheck Protection Loan forgiveness. Keeping the same example in mind, let’s say that you used $5,000 from each employee each quarter to claim PPP forgiveness. You would now only be able to claim $35,000 in credits.
Moreover, amending 941s and computing your ERTC amount can be expensive. Many companies specializing in claiming the ERTC assess a flat fee based on your credit amount, which can be around 20%.
What are the Tax Implications of the Employee Retention Tax Credit?
The ERTC isn’t free money. Wages used to claim the ERTC cannot be included as a business deduction on the tax return. This means you may need to go back and amend business tax return filings to increase taxable income, paying any additional tax due.
For example, let’s say you previously claimed $100,000 in salaries and wages on your tax return and used $60,000 in wages to claim the ERTC. You would need to increase your taxable income by $60,000 to reduce your salaries and wage expenses by the amount “used” by the ERTC.
For business owners that pass down income through a Schedule K-1, you will need to amend both the business and your personal return to account for the ERTC. Since you won’t be receiving your ERTC refund for months after filing, you will need to have cash on hand to pay the increase in your tax liability.
Next Steps
Does it sound like you qualify for the ERTC? The ERTC can be a great way to improve your cash flow, but it can come with a tedious claim process. Don’t wait until the deadline is approaching to start amended 941s. Act now and secure your refund. For more information surrounding tax tips, tricks, and savings, check out our other posts or reach out to www.redswan-fs.com to schedule your free consultation.