Economic uncertainty affects everyone starting from those at the top up to those in the bottom. Businesses worry about the uncertainty of the future and end up having to let go of workers. The loss of income force employers to reduce spending, which in turn cause businesses to lose even more revenue. To prevent this from happening, especially during the COVID-19 pandemic where many businesses were forced to suspend or shut down operations, the ERC credits was created.
What is an ERC Credit?
The ERC credit or Employee Retention Credit was created to serve as a lifeline for small businesses that were seriously affected by the shutdowns and suspensions during the start of the pandemic. It is a refundable credit that employers can claim for some payroll taxes.
There’s no need for businesses to wait to file a payroll tax return in order to claim the ERC credit. They can immediately access it by reducing their payroll deposits. They can also request an advance payment from the IRS. The best part of this all is that you don’t have to pay back ERC credits.
Although the ERC officially concluded in 2021, many businesses can still claim the credit retroactively. Usually the IRS gives businesses three years from when they file their return (or two years from when they pay their taxes) to make changes. If you think your business qualifies for the credit, all you have to do is to file amended payroll tax returns using Form 941X.
Once the IRS is done processing the amended return, it will mail a refund check to the address on file.
If you want to learn more about the Employee Retention Credit, how it works and who qualifies for it, then continue reading.
Overview of the Employee Retention Credit
The US Congress created the Employee Retention Credit as part of the Coronavirus Aid, Relief, and Economic Security (CARES) Act of 2020. This tax credit had to go through several expansions, extensions, and changes before it officially concluded towards the end of 2021. Compared to other pandemic relief programs, the ERC is not a loan, and those who avail it do not have to pay it back.
Here’s how eligible employers benefited from ERC Credits:
- 50% percent of qualified wages paid to each employee (up to $10,000 in wages) for a maximum tax credit amounting to $5,000 per employee.
- 70% of qualified wages paid to each employee per quarter for Q1 to Q3 (up to $10,000 in wages). A maximum credit amounting to $21,000 granted per employee.
Next, we’ll look into what how an employer qualifies for the ERC, as well as what is considered “qualified wages”. We’ll also be providing examples on how to calculate ERC credits below.
What are Qualified Wages for ERC?
When we talk about qualifying wages, we mean to include any salary or wages paid to workers/employees during a particular quarter. This also includes health plan expenses paid to workers.
Calculating Your ERC
The best and easiest way to know how to calculate your ERC is by taking a look at the example below:
For example, Andy’s Hair Cutters has five employees, and each of them earns around $40,000 a year. The company qualified for the ERC in 2020, as well as in the first three quarters of 2021.
Each quarter, Andy’s employees earn $10,000 each, with a combined total of $50,000. In 2020, the ERC paid 50% of their salary, therefore Andy’s tax credit for 2020 is calculated at:
$50,000 x50% = $25,000
Keep in mind that the ERC only paid Andy $5,000 per employee PER YEAR in 2020. Thus, the maximum amount that Andy could claim for 2020 was $25,000.
For 2021, the ERC was at 70% of their pages paid to them for each quarter. This is a lot bigger compared to what they could claim from 2020.
For 2021, the ERC would be:
$50,000 x 70% = $35,000
$35,000 x 3 = $105,000
This clearly shows that the ERC can be very helpful for employers who qualify and meet the eligibility requirements.
Do You Qualify for the Employee Retention Credit?
In order to qualify for the ERC, your business or non-profit organization must meet any of the following requirements within the given quarter they want to use the credit:
- Your business was completely or partially shut down due to a government mandate due to the Covid-19 pandemic, or
- Your business suffered a significant decline in gross receipts
It should be noted that “significant decline in gross receipts” are quite different for 2020 compared to the 2021 calendar year.
For 2020, your business must have experienced a 50% decrease in gross receipts for the quarter, unlike the corresponding quarter in 2019. You must also have 100 or fewer employees working full-time, excluding the owners.
For 2021, your business must have witnessed a decline of 20% or more in gross receipts for the quarter compared to the same quarter in 2019. You must also have between 1 to 500 full-time W-2 employees, excluding the owners.
A full-time employee is defined by the ERC as an employee that works a minimum of 30 hours per week or 130 hours a month.
The IRS allows new businesses—those that were established after 2019—to use the gross receipts for the quarter they started their operations as a reference point for any quarter they don’t have figures for 2019.
How Can Businesses Claim ERC Credits?
Compared to other tax credits offered to small business owners, the ERC doesn’t make up for income taxes. What it does instead is reduce the employer’s portion of Social Security tax.
Taxpayers have two options for claiming the credit:
- Lower the employment tax deposits by the amount of their expected credit. If the expected credit was higher than their payroll deposits, taxpayers can file Form 7200 and ask for an advance payment.
- Claim the ERC on Form 941, Employer’s Quarterly Federal Tax Return, and be granted a refund of tax deposits paid previously.
Because the ERC officially concluded at the end of 2021, the only way for business owners to apply for it is to file an amended Form 941X for a previous quarter where they qualified for the payroll tax credit but didn’t claim it.