Our own Lynn Mucenski-Keck has been selected as a Forbes contributor and writes guest articles on changes and developments in the federal tax law on a regular basis. The below article discusses critical items to review in order to properly claim the ERC in the first quarter of 2021.
While many businesses are excited that the American Rescue Plan Act extended the Employee Retention Credit (“ERC”) for the entire 2021 calendar year for eligible employers, it is critical to review two important items in order to properly claim the ERC in the first quarter of 2021.
Important Items to Evaluate Prior to March 31st
For a quick ERC recap, a business is deemed an eligible employer in the first quarter of 2021 if they had a full or partial federal, state, or local shutdown between January 1, 2021, through March 31, 2021, or had a significant decline in gross receipts. For the first quarter of 2021, a significant decline in gross receipts can be calculated by either:
Comparing the 2021 first quarter to the first quarter of 2019 and determine whether a greater than 20% receipts decline occurred OR
Prior Quarter Election: Comparing the 2020 fourth quarter to the 2019 fourth quarter and determine whether a greater than 20% receipts decline occurred.
The ERC has provided a significant cash impact to many businesses, especially those deemed to be a small employer. For the 2021 calendar year, a business will be deemed a small employer if it averaged 500 or fewer full-time employees in 2019. This test does not seem to require full-time employee equivalents, or part-time employees, to be included.
If an eligible employer is considered small, they are able to evaluate all wages paid, increasing those wages by employer qualified health plan expenses, for the entire first quarter if a significant decline in gross receipts occurred or evaluate the wages paid for the time period in which there was a full or partial shutdown. The maximum amount of qualified wages that can be evaluated are $10,000 per employee, creating a maximum ERC of $7,000 per employee. But how do companies claim the ERC and receive the cash as quickly as possible?
The ERC is a credit applied against payroll taxes. While payroll taxes are submitted every pay period, employers are required to file Form 941, Employer’s Quarterly Federal Tax Return, every quarter. If an employer pays wages subject to federal income tax withholding or social security and Medicare taxes, they are required to file Form 941. ERC eligible employers will report their total qualified wages for purposes of the ERC for each calendar quarter on their Form 941.
It is important to work with your payroll provider to ensure that the proper ERC is included on the first quarter 2021 Form 941 and confirm how the credit will be received by the company.
Item 1: Make Sure to Communicate the Amount of ERC with Your Payroll Company Prior to March 31st
Many payroll providers have automated processes surrounding the preparation and filing of Form 941’s. It is important to notify your payroll company prior to March 31, 2021 if you are intending to claim an ERC for the first quarter of 2021. While some businesses have already been working with their payroll providers in order to stop federal deposits (including employee withholding taxes, employee and employer social security, and Medicare taxes) in order to recoup the ERC faster, an equal amount of employers have waited until filing their first quarter Form 941 before requesting the 2021 first quarter ERC. Make sure to reach out to your payroll provider now to alert them of your desire to claim the ERC for the first quarter, and ensure the ERC will be reflected on the Form 941. If it is not reflected on the originally filed Form 941, an amended Form 941 will be necessary and most likely will result in a longer waiting period for a refund.
Item 2: Make Sure to Assess Whether the Business will Request a Refund on Form 941 or Apply the Credit, and Communicate the Decision with Your Payroll Provider Prior to March 31st
Cash, cash, cash! Businesses throughout the pandemic have been exploring ways to keep cash in the business and accelerate cash deposits. The decision whether to request a refund on the first quarter Form 941 or apply the overpayment to the next return may significantly change the timing in which cash will be received by the company. This can affect businesses who stopped paying employment taxes to recoup the ERC in the first quarter and businesses who waited to claim the ERC until the first quarter was complete. Regardless, any business reflecting an overpayment at the end of the first quarter will want to review their options. The box checked on question 15 on Form 941 is extremely important.
As many businesses have learned when filing their amended 2020 Form 941’s, actual receipt of the cash refund has been delayed. Many in the accounting world have been advising clients that a refund from an amended 2020 Form 941 may take up to 10 months to receive. While the 2021 Form 941 may be reflected on an originally filed return, there is still uneasiness regarding the ability of the IRS to process refunds promptly. We have already seen a delay for tax year 2020 individual income tax refunds. The IRS is grappling with law changes, reduced staff, and most recently the task of paying out stimulus checks.
Let’s show the cash impact of Form 941, question 15 in an example. Assume Company A has calculated an ERC of $95,000 for the first quarter of 2021 and stopped paying federal payroll deposits amounting to $26,400 which would have been due had the ERC not been available. This most likely will result in an overpayment of $68,600 (95,000-26,400). If Company A checks the box for a refund to be received for that overpayment, it’s possible the business will not receive the $68,600 refund until January of 2022. However, if Company A instead selects to apply the refund to the next tax return, and the federal withholding payments remain the same, the company could offset the federal employment taxes in the second, third, and part of the fourth quarter with the overpayment. This would result in $26,400 being refunded in the second quarter, again in the third quarter, and the remaining balance of $15,800 being applied in the fourth quarter.
Businesses should consider the realistic possibility of an IRS delay in processing Form 941 refund requests and evaluate a more conservative approach by applying the credit to the next quarter. However, if businesses decide to address this, they should work closely with their accountants and payroll providers when determining the amount of qualified wages in order to ensure proper reporting on the Form 941. While many are excited to see that the ERC stimulus was expanded to businesses who received PPP and extended to December 31, 2021, the intricacies surrounding the ERC appear to be endless.
This article originally appeared on Forbes: click here.
The information and advice we are providing for this matter relates to COVID-19 legislative relief measures. Because legislative efforts are still ongoing, we expect that there may be additional guidance and clarification from regulators that could modify some of the advice and information provided to you, after the conclusion of our engagement. We, therefore, make no warranties, expressed or implied, on the services provided hereunder.