The Coronavirus Aid, Relief, and Economic Security Act (CARES Act) established several new programs to encourage businesses to keep employees on their payroll during the economic downturn caused by the Coronavirus (COVID-19) pandemic. The PPP Loan program (Paycheck Protection Program) received the most publicity and hundreds of thousands of businesses applied for PPP loans. However, the CARES Act also created a new tax credit for businesses that maintain their employee payrolls: The Employee Retention Credit.
For many businesses, this credit can be as good or better than a PPP loan, and it is much easier to obtain. Moreover, Congress created an expanded new retention credit that lasts through December 31, 2021. In contrast, the PPP loan program expires May 31, 2021.
Originally, you couldn't obtain both a PPP loan and employee retention credit, which caused many businesses to avoid the credit. However, Congress changed this rule. You can obtain both a PPP loan and employee retention credit retroactive back to 2020. But employee wages used to obtain PPP loan forgiveness can't be used to determine the employee retention credit amount.
The old employee retention credit began March 13, 2020 and expired December 31, 2020. It was available to all private employers (including nonprofits) that experienced an economic hardship in 2020 due to the Coronavirus (COVID-19) pandemic. This includes any business:
The old employee retention tax credit is equal 50% of up to $10,000 in qualified wages paid to full-time employees during all eligible calendar quarters beginning March 13, 2020 and ending December 31, 2020. An eligible calendar quarter is one in which the employer experiences economic hardship as defined above. Qualified wages include the cost of employer-provided health care. The maximum credit is $5,000 per employee per quarter. Thus, the maximum credit for 2020 is $20,000 per employee.
Example: ABC, Inc. paid Brian $8,000 in wages during the first quarter of 2020 (January through March); $10,000 during the second quarter (April through June); $12,000 during the third quarter (July through September); and $14,000 during the fourth quarter (October through December). ABC qualifies for an employee retention credit of $4,000 for the second quarter (50% of $8,000), and $5,000 for the second, third, and fourth quarters. ABC's total 2020 credit for Brian is $20,000.
Starting January 1, 2021, a business or nonprofit is eligible for the new employee retention credit if it:
The new credit is equal to 70% of wages paid to each employee, including health benefits, during an eligible quarter in 2021. The maximum credit is $7,000 per employee per quarter. Thus, the maximum credit for 2021 is $28,000 per employee.
Example: ABC, Inc. paid Brian $10,000 in wages during the first and second quarters of 2020. ABC qualifies for an employee retention credit of $14,000 (70% of what Brian was paid).
What if your business began after 2019? It doesn't qualify for the regular employee retention credit. But there is a special employee retention credit for "recovery startup businesses." These are businesses that:
A recovery startup business may claim a 2021 employee retention credit of up to $50,000 per quarter after applying the$10,000 wage limit per employee.
The employee retention credit is designed to encourage employers to keep employees on the payroll even if they are not working due to the Coronavirus pandemic. Larger employers are denied the credit for employees who are still actively working in the business. The rules differ for 2020 and 2021.
For employers who averaged more than 100 full-time employees in 2019, the old employee retention credit for 2020 may only be claimed for wages paid to employees for time they did not work. However, if a business had 100 or less full-time employees on average in 2019, the credit is based on wages paid to all employees, regardless of whether they worked or not. This made the credit much more attractive for smaller employers with less than 100 full-time employees.
For purposes of the new employee retention credit for 2021, employers with less than 500 full-time employees may claim the credit for all their employees, even those who are still working. Only businesses with more than 500 employees are denied the credit for employees still providing services. But even these larger business can count all their employees, including those working, if they suffered a 90% or more decline in gross receipts compared to the same quarter in 2019.
One of the best things about the employee retention credit is that it is easy to claim. There is no need to file an application with a bank as with a PPP loan and wait for it to be approved and funded. Instead, employers can immediately claim the credit by reducing by the amount of their employer share of payroll taxes on employee wages. Ordinarily, employers must pay these taxes every quarter. This reduction should be accounted for in the quarterly employment tax return filed by the employer, usually IRS Form 941, Employer's Quarterly Federal Tax Return.
For March 13, 2020 through June 30, 2021, employers may immediately claim the credit by reducing by the amount of their employer share of Social Security taxes--a 7.65% tax on employee wages up to an annual ceiling. For July 1, 2021 through December 31, 2021, the credit may only be deducted from the employer portion of the Medicare tax paid for each employee (a 1.45% tax on all employee wages).
Example: ABC, Inc. paid $10,000 in qualified wages during the first quarter of 2021 and is therefore entitled to a $7,000 employee retention credit. ABC may keep up to $7,000 of the employer Social Security taxes it was going to deposit with the IRS. It will not be charged a penalty for doing so. ABC will claim the credit when it files Form 941 with the IRS by April 30, 2021.
If an employer does not owe enough payroll taxes to cover the amount of the credit, it may request an advance payment of the credit from the IRS by faxing IRS Form 7200, Advance Payment of Employer Credits Due to COVID-19. However, in 2021, advances are not available for employers with more than 500 employees.
The employee retention credit is a refundable credit; thus, the employer may collect the full amount from the IRS even if it reduces its tax liability below zero.
If your busienss qualified for the employee retention credit for 2020 but didn't claim it, you may still do so by amending your payroll tax returns using IRS Form 941-X.