|Calculation of the Credit
The ERC is calculated as 50% of qualified wages (discussed below) paid to an employee in a calendar quarter. Qualified wages are limited to $10,000 in all calendar quarters combined in 2020 and $14,000 in each calendar quarter in 2021. In 2020, the result is a maximum credit of $5,000 per employee ($10,000 of qualified wages in the year x 50% credit rate). In 2021, the maximum credit is $28,000 per employee ($14,000 of qualified wages in a calendar quarter x 50% credit rate x 4 quarters). For calendar quarters 2, 3, and 4 in 2020 and calendar quarters 1 and 2 in 2021, the employer takes the ERC against the employer portion of federal Social Security and Medicare taxes. For calendar quarters 3 and 4 in 2021, the employer takes the ERC against the employer portion of federal Medicare taxes only.
By way of example, if an eligible employer pays $8,000 in qualified wages to an employee in each of quarters 2 and 3 in 2020, the ERC is $4,000 in quarter 2 and $1,000 in quarter 3. $4,000 is the maximum amount in quarter 2 because the ERC is 50% of the qualified wages paid in quarter 2 ($8,000 x 0.50). In quarter 3, the employer may only claim $1,000 of the available $4,000 ($8,000 x 0.50) of credit available in that quarter due to the overall limitation of $5,000 of credit per employee in 2020.
For any calendar quarter in 2020 and 2021 (except quarter 1 in 2020), eligible employers may claim the ERC. Eligible employers are employers engaged in an active trade or business that are either fully or partially shut down by government orders related to COVID-19 or that suffer a significant decline in gross receipts. Tax-exempt organizations also qualify because the law deems them to be engaged in active trade or business for the purpose of claiming the ERC. Self-employed business owners are not eligible employers with respect to their own compensation. However, they are eligible employers with respect to compensation paid to other individuals.
Fully or Partially Shutdown
A full or partial shutdown of a business qualifies for the ERC if it occurs because of a government order that limits commerce, travel, or group meetings due to COVID-19. The portion of the business that is shutdown must be more than a nominal portion (10% measured by gross receipts).
Whether a business is fully or partially shut down depends on the circumstances. If a business remains fully open, even with a requirement to wear face masks, it is not fully or partially shut down. However, for example, a business is partially shut down in the following circumstances:
(i) if it remains open, but it is required to close for periods of time during normal working hours;
(ii) if it is unable to obtain critical goods or materials from its suppliers who are partially shut down; and
(iii) if it closes its workplace and cannot carry on business in a manner comparable to how it previously carried on business before the shutdown (for example, a computer software development company working from home is not partially shut down).
A reduction in demand for a business’s product is not a partial shutdown, though the reduction may cause the business to suffer a significant decline in gross receipts.
Significant Decline in Gross Receipts
An employer that suffers a significant decline in gross receipts in a particular quarter is eligible to claim the ERC. For 2020, the period for measuring a significant decline in gross receipts starts with the quarter in 2020 where gross receipts in that quarter are less than 50% of gross receipts in the same quarter in 2019. The period ends either on January 1, 2021 or beginning in the quarter following the quarter in 2020 where gross receipts are 80% or more of gross receipts in the same quarter in 2019. For 2021, an employer may claim the ERC for any quarter in which gross receipts are less than 80% of gross receipts in the same quarter in 2019.
Employers claim the ERC for qualified wages paid in an eligible quarter in 2020 or 2021. Qualified wages are remuneration for employment services and amounts paid by an eligible employer to provide and maintain a group health plan, as long as those amounts are excluded from the employee’s gross income. Qualified wages do not include wages for which the employer received a tax credit for paid sick and family leave under the Families First Coronavirus Response Act or paid family and medical leave under section 45S of the Internal Revenue Code. Employees are not counted if the employer is allowed a Work Opportunity Tax Credit under section 51 of the Internal Revenue Code for the employee.
Additionally, whether wages are qualified wages depends on the number of full-time employees employed in 2019. If an employer employed more than 100 full-time employees in 2019, the employer may only claim the ERC in 2020 for quarters when the employees were not providing services. However, if the employer employed 100 or fewer full-time employees in 2019, the employer may claim the ERC in 2020 regardless of whether the employees were providing services in the eligible quarter. For 2021, the measurement of the average number of full-time employees employed in 2019 increases from 100 to 500.
Claiming the Credit
An eligible employer reports qualified wages and claims the ERC on the employer’s quarterly Form 941 federal employment tax return. Eligible employers may reduce required deposits of federal employment taxes up to the amount of the ERC claimed. They may also request an advance by filing Form 7200 of an anticipated ERC amount that exceeds required employment tax deposits.
If you or your clients have any questions regarding Employee Retention Credit, visit our Tax Team webpage or contact us here.