The Consolidated Appropriations Act Extends and Expands the COVID-19 Employee Retention Credit
In December 2020, the enactment of the Consolidated Appropriations Act, 2021 (the “CAA”) provided additional tax and other economic relief in response to the Coronavirus (COVID-19) pandemic. In particular, the CAA made important changes to the employee retention credit (the “ERC”) enacted under the Coronavirus Aid, Relief, and Economic Security Act (the “CARES Act”). These changes should provide the opportunity for some employers to retroactively claim the existing credit in 2020 and to claim an expanded credit for a portion of the 2021 calendar year. Employers that are expecting their revenues to decline in the first two quarters of 2021, as compared to the equivalent quarter to 2019, or that are subject to COVID-19 governmental orders, should review their eligibility for the ERC under the CAA.
CARES Act ERC
As originally signed into law under the CARES Act, the ERC is a refundable payroll tax credit that can be claimed by an eligible employer in an amount equal to 50% of the first $10,000 in qualified wages paid to an employee after March 12, 2020, and before January 1, 2021. To qualify as an eligible employer, an employer must have carried on a trade or business during 2020 and either (i) its business operations were fully or partially suspended due to orders from an appropriate governmental authority limiting commerce, travel, or group meetings or (ii) experienced a “significant decline in gross receipts” (i.e., a year-over-year (comparing calendar quarters in 2020 to 2019) reduction in gross receipts of more than 50%).
Qualified wages for eligible employers with 100 or fewer full-time equivalent employees in 2019 include wages paid to all employees during the specified periods in which the employer is an eligible employer. For eligible employers with more than 100 full-time employees in 2019, qualified wages are wages paid to employees not providing services. Qualified wages also include an amount of qualified health plan expenses allocable to qualified wages paid to employees. The amount of qualified wages is subject to a cap, so that certain pay increases are not permitted to be treated as qualified wages. Employers receiving Payroll Protection Program (“PPP”) loans were not permitted to claim the ERC in 2020.
For purposes of applying the eligibility rules and determining, e.g., the number of employees, separate entities under common control or under affiliated service group arrangements are treated as a single employer. As a result, an entity could be denied eligibility for the credit because an aggregated affiliate received a PPP loan.
CAA Amendments to the ERC
The CAA made the following changes to the ERC:
Changes Retroactive to 2020
The CAA eliminated the requirement that receipt of a PPP loan renders an employer (or its aggregated affiliates) ineligible for the ERC. Therefore, employers that previously did not claim the ERC in 2020 because they (or an affiliate) had received a PPP loan are now potentially eligible to file for the ERC retroactive to 2020. However, there is a “double-dip” prohibition that disallows the ERC for wages that were taken into account in the forgiveness of the PPP loan.
Changes Applicable to Q1 and Q2 2021
The CAA made changes to the ERC that are applicable in the first two quarters of 2021.
Credit Amount. The amount of the ERC has been revised to 70% of the first $10,000 of wages per employee in each of the first two calendar quarters in 2021. This change significantly increases the potential amount of the ERC, especially when coupled with the change to the employee test noted below.
Gross receipts test. The requirement that quarterly gross receipts have decreased more than 50% compared to the prior year was revised to a more than 20% decrease in gross receipts. To determine eligibility, employers will compare their 2021 quarterly gross receipts to the comparable 2019 quarter. A special rule permits employers to qualify for the credit by testing the immediately preceding quarter as compared to the comparable quarter in 2019 (e.g., for the first quarter of 2021, comparing fourth quarter 2020 gross receipts to fourth quarter 2019 gross receipts).
Qualified Wages and Employee Count. The threshold number of employees has been increased from 100 to 500 for purposes of deciding which wages constitute qualified wages. This change will provide a significantly greater amount of ERC to eligible employers than was available in 2020. In addition, the CAA eliminated the cap on qualified wages under the CARES Act, so bonuses, hazard pay, and similar pay increases are now eligible to be treated as qualified wages for which the ERC can be claimed.
PPP Loans. To claim the ERC in 2021, the receipt of a PPP loan by an employer (or an affiliate) is no longer a disqualifying factor (subject to the “double-dip” prohibition). This change applies to PPP loans under the CARES Act and to PPP loans under the CAA.
In addition to the changes described above, the CAA provided additional clarifications to the application of the ERC to eligible employers and the tax treatment of borrowers under the PPP loan program, including with respect to the deductibility of PPP loan-funded expenditures. Please contact one of the attorneys in Honigman’s Tax Practice Group for further information on the ERC and how it may apply to your business.