The IRS has issued a safe harbor allowing employers to exclude several sources of government support from their gross receipts calculation when determining eligibility for the Employee Retention Credit (ERC). In related guidance, the agency clears up important questions it has received on claiming the credit for the last two quarters of 2021.
Revenue Procedure 2021-33 allows employers to exclude the following items from the gross receipts calculation:
- The amount of PPP loan forgiveness
- Shuttered Venue Operators grants
- Restaurant Revitalization grants
An employer elects the safe harbor by excluding these amounts when determining eligibility for a calendar quarter. Employers claiming the credit must apply the safe harbor to all employers treated as a single employer under the aggregation rules. Note that employers are not required to adopt the safe harbor, but if they do, they must apply it consistently to each calendar quarter.
Credit Rules Depend on Year, Quarter
Eligibility for the credit is based on an employer’s decline in gross receipts for a calendar quarter compared to a prior calendar quarter. However, the amount of the percentage decline depends on which quarters the employer is measuring. An employer has a significant decline in gross receipts for 2020 if 2020 gross receipts are less than 50% of gross receipts for the same calendar quarter in 2019.
For 2021, the determination of eligibility is based on a decline in gross receipts of 80% for the same calendar quarter in 2019. If an employer was not in existence for the quarter to be measured from 2019, the employer compares gross receipts based on 2020 quarters, with some alternative measures allowed. Also, for the last two quarters of 2021, employers use the credit against the Medicare tax instead of the employer’s share of social security taxes.
ERC for Last Two Quarters of 2021
The IRS also explained the following special rules for employers who pay qualified wages after June 30, 2021, and before January 1, 2022, in Notice 2021-49.
Recovery Startup Business: The definition of eligible employer is expanded to include “recovery startup businesses.” A recovery startup business is an employer: (1) that began the business after February 15, 2020; (2) with average annual gross receipts for the previous 3 years that do not exceed $1,000,000; and (3) is not otherwise an eligible employer due to a full or partial suspension of operations or a decline in gross receipts.
Severely Financially Distressed Employers: The definition of wages is modified for “severely financially distressed employers,” defined as large employers that have a decline in gross receipts of less than 10% of the gross receipts as compared to the same calendar quarter in the calendar year 2019 (instead of less than 80%). For the third and fourth calendar quarters of 2021, these employers may treat all wages paid during quarters of financial distress as qualified wages without regard to whether the employee was providing services when paid. This rule allows some employers to claim more of a credit than they would have under previous guidance.
Shuttered Venue and Restaurant Revitalization Grants. The credit does not apply to wages taken into account as payroll costs in connection with a shuttered venue grant or a restaurant revitalization grant.
Tough Rules for Majority Shareholders
The IRS disappointed many commentators by imposing rigid rules regarding the wages of majority owners and related parties. The issue is whether wages paid to a more than 50% owner of a corporation and the owner’s spouse are eligible to be treated as qualified wages for purposes of the ERC.
Those wages will not be available for the credit if the majority owner has a brother or sister, ancestor or lineal descendant. If the majority owner has no brother or sister, ancestor or lineal descendant, then wages paid to the owner and spouse will qualify for the credit. The emerging consensus is that these related party rules are unduly harsh and prevent family members from qualifying for the credit.
IRS Answers Questions for 2020 and 2021 ERC
The IRS also has answered questions on several other issues that apply to both 2020 and 2021 relating to:
- The definition of a full-time employee and whether that definition includes full-time equivalents.
- The treatment of tips as qualified wages and the interaction with the Section 45B credit for social security taxes paid on employee cash tips.
- The timing of the qualified wages deduction disallowance and whether taxpayers that already filed an income tax return must amend that return after claiming the credit on an adjusted employment tax return.
In short, the ERC rules are technical and always evolving. Consult your Frazier & Deeter tax professional to determine your eligibility status and to assist with your claims.