The Employee Retention Credit (ERC) was a valuable tax credit that helped employers that kept workers on staff during the height of the COVID-19 pandemic. While the credit is no longer available, eligible employers that haven’t yet claimed it might still be able to do so by filing amended payroll returns for tax years 2020 and 2021.

However, the IRS is warning employers to beware of third parties that may be advising them to claim the ERC when they don’t qualify. Some third-party “ERC mills” are promising that they can get businesses a refund without knowing anything about the employers’ situations. They’re sending emails, letters and voice mails as well as advertising on television. When businesses respond, these ERC mills are claiming many improper write-offs related to taxpayer eligibility for — and computation of — the credit.

These third parties often charge large upfront fees or a fee that’s contingent on the amount of the refund. They may not inform taxpayers that wage deductions claimed on the companies’ federal income tax returns must be reduced by the amount of the credit.

According to the IRS, if a business filed an income tax return deducting qualified wages before it filed an employment tax return claiming the credit, the business should file an amended income tax return to correct any overstated wage deduction. Your tax advisor can assist with this.

Businesses are encouraged to be cautious of advertised schemes and direct solicitations promising tax savings that are too good to be true. Taxpayers are always responsible for the information reported on their tax returns. Improperly claiming the ERC could result in taxpayers being required to repay the credit along with penalties and interest.

ERC Basics

The ERC is a refundable tax credit designed for businesses that:

• Continued paying employees while they were shut down due to the COVID-19 pandemic, or
• Had significant declines in gross receipts from March 13, 2020, to September 30, 2021 (or December 31, 2021 for certain startup businesses).

Eligible taxpayers could have claimed the ERC on an original employment tax return or they can claim it on an amended return.

To be eligible for the ERC, employers must have:

• Sustained a full or partial suspension of operations due to orders from an appropriate governmental authority limiting commerce, travel, or group meetings due to COVID-19 during 2020 or the first three quarters of 2021,
• Experienced a significant decline in gross receipts during 2020 or a decline in gross receipts during the first three quarters of 2021, or
• Qualified as a recovery startup business for the third or fourth quarters of 2021.

As a reminder, only recovery startup businesses are eligible for the ERC in the fourth quarter of 2021. Additionally, for any quarter, eligible employers cannot claim the ERC on wages that were reported as payroll costs in obtaining Paycheck Protection Program (PPP) loan forgiveness or that were used to claim certain other tax credits.

How to Proceed

If you didn’t claim the ERC, and believe you’re eligible, contact us. We can advise you on how to proceed.

Contact us with any questions you may have about these or other tax matters.

The COVID-19 pandemic is still adversely affecting many businesses and not-for-profit organizations, but the effects vary, depending on the nature of operations and geographic location. Has your organization factored the effects of the pandemic into its financial statements? You might not have considered this question since last year if your organization prepares statements that comply with U.S. Generally Accepted Accounting Principles only at year end.

As we head into audit season for 2021, it’s time to evaluate whether your financial situation has gotten better — or worse — this year. Here are 10 financial statement areas to home in on:

1. Revenue recognition. Assess how changes in customer preferences, contract modifications, discounts, refund concessions, and changes in credit policies or payment terms impact the top line of the income statement. Also consider related collectability of accounts receivable.

2. Government grants. You may account for these grants as revenue or donor-restricted contributions. Government funding programs may have eligibility, documentation, expense tracking and other requirements (such as government audits) that you may need to address.

3. Estimates and fair values. These items are typically based on budgeting and forecasting of revenue, costs and cash flows. Uncertainty may increase the discount rates used in making estimates and decrease the fair values of certain balance sheet items.

4. Investments. Market changes caused by the pandemic may negatively affect the fair values of investments and financial instruments that qualify for hedge accounting.

5. Inventory. It’s possible that certain market conditions — including inflation, reductions in production and supply chain disruptions — may affect the value of raw materials, work-in-progress and finished goods inventory. Consider the need for write-offs due to obsolescence.

In addition, travel and work restrictions may delay, restrict or prevent year-end physical inventory counts. Your external auditors may have to observe counts remotely, which, in turn, may require additional testing procedures during audit fieldwork.

6. Property, plant and equipment. Evaluate changes in useful lives and related deprecation due to changes in business plans. There may also be potential impairment of long-lived assets and leased assets.

7. Goodwill and other intangible assets. Because of COVID-19 triggering events, these items may require impairment testing and write-offs may be needed.

8. Deferred tax assets. Consider the realizability of these assets in light of current year losses and uncertainty about future events, including the impact of possible federal tax law changes.

9. Accrued liabilities. You may need to book additional liabilities this year for employee terminations, changes in benefits and payroll tax payment deferrals. Also consider whether existing contingency accruals are still adequate.

10. Long-term debt. You may have debt classification issues for existing loans if your organization fails to meet its debt covenants. Financial difficulties may result in debt modification or extinguishment. Also evaluate the compliance requirements of the Paycheck Protection Program (PPP) loans and the probability of forgiveness.

This list is a useful starting point for discussions about how the pandemic has affected financial results in 2021. If you have questions about how to report the effects, contact us for guidance. Your preparedness will help facilitate audit fieldwork and minimize adjustments to your in-house financial reports.

Forgiveness basics

PPP loans generally are 100% forgivable if the borrower allocates at least 60% of the funds to payroll and eligible nonpayroll costs. Borrowers may apply for forgiveness at any time before their loans’ maturity date. Loans made before June 5, 2020, generally have a two-year maturity; loans made on or after that date have a five-year maturity.

However, if a borrower fails to apply for forgiveness within 10 months after the last day of the “covered period,” its PPP loan payments will no longer be deferred. (The covered period is eight to 24 weeks following disbursement during which the funds must be used.) Such loans will become standard loans, and borrowers will be responsible for repaying the full amount plus 1% interest before the maturity date — unless the loan is subsequently forgiven. The 10-month period soon will expire for many so-called “first-draw” borrowers.

SBA’s process improvements

The popularity of the PPP, as well as the requirement that lenders make forgiveness determinations within 60 days of receiving an application, has left many smaller lenders overwhelmed. Some are even limiting the time periods during which they’ll accept forgiveness applications. This, in turn, has created confusion and concern among borrowers.

In response, the SBA recently issued an Interim Final Rule (IFR). The rule streamlines the forgiveness process for smaller loans through two avenues:

1) Direct borrower forgiveness. The SBA is providing a direct borrower forgiveness process for lenders that choose to opt in. At the time the guidance was released, more than 600 banks had opted in, enabling more than 2.17 million borrowers to apply through a new online portal scheduled to launch on August 4, 2021.

Participating lenders will receive notice when a borrower applies through the SBA platform and will review applications and issue forgiveness decisions inside the platform. The SBA hopes this will reduce the wait time and uncertainly associated with applying through lenders.

2) COVID Revenue Reduction Score. The IFR also creates an alternative process for “second-draw” borrowers with loans of $150,000 or less to document their reduced revenue. To qualify for such loans, a borrower must have experienced a revenue reduction of at least 25% during one quarter of 2020 compared with the same quarter in 2019. If a borrower didn’t produce the necessary documentation when applying for the loan, it must do so on or before the date of application for forgiveness.

To make the revenue reduction confirmation process easier for such loans, an independent SBA contractor will assign every eligible second-draw loan a score based on several factors, including industry, geography, business size and current economic data. The score will be stored in the forgiveness platform and visible to lenders to document revenue reduction. If a borrower’s score doesn’t meet the value required to confirm the reduction, the borrower must provide documentation. If it does, no documentation is required.

Appeals and deferments

The IFR also extends the loan deferment period for borrowers who timely appeal a final SBA loan review decision. Under the previous rule, an appeal didn’t extend the period so borrowers had to begin making payments of principal and interest on the unforgiven amount.

The IFR amends that rule to extend the deferment period until the SBA’s Office of Hearings and Appeals issues a final decision. Appeals must be filed within 30 calendar days of receipt of the final SBA loan review decision, and borrowers should notify their lenders of appeals.

More to come

The SBA will release additional guidance regarding both the direct borrower forgiveness option and the COVID Revenue Reduction Score. We can help with your forgiveness application process and answer any questions you may have about your PPP loan.

For more of our COVID-19 Resources, click here.

Paycheck Protection Program

The CAA includes another $284 billion in funding for forgivable loans through the Paycheck Protection Program (PPP), for both first-time and so called “second draw” borrowers. New loans can be made through March 31, 2021, or until the funding is exhausted. The new law expands the allowable uses for PPP funds, provides a simplified forgiveness process for smaller loans, and clarifies the proper tax treatment of loan proceeds and forgiven amounts.

The second draw loans are intended for smaller and harder hit businesses. Eligible borrowers include businesses, certain nonprofits, self-employed individuals, sole proprietors and independent contractors.

To qualify for a second draw, a borrower must have no more than 300 employees and have used (or will use) all of the proceeds of its first PPP loan. Borrowers generally also must demonstrate at least a 25% reduction in gross receipts in one quarter of 2020 compared with the same quarter in 2019. For loans of $150,000 or less, a borrower can submit a certification attesting that it meets the revenue loss requirements on or before the date it submits its loan forgiveness application.

Loans are limited to 2.5 times average monthly payroll costs in the year prior to the loan or the calendar year, up to $2 million. Accommodation and food service businesses may receive loans for up to 3.5 times their average monthly payroll. Businesses can obtain only a single second draw loan, and businesses with multiple locations that are eligible under the initial PPP requirements can have no more than 300 employees per physical location.

The CARES Act, which created the PPP, limited the funds to payroll, mortgage, rent and utility payments. The CAA allows businesses to also apply the funds to:

• Covered operating expenses, including software or cloud computing services that facilitate business operations, product and service delivery, payroll processing, human resources, sales and billing, accounting or tracking supplies, inventory, records, and expenses,
• Uninsured costs related to property damage, vandalism or looting during 2020 public disturbances,
• Supplier costs according to a contract, purchase order or order for goods, in effect before taking out the loan, that are essential to the borrower’s operations, and
• Worker protection expenses incurred to comply with federal or state health and safety guidelines related to COVID-19 (for example, personal protective equipment, ventilation systems and drive-through windows).

As with the first round of PPP loans, full forgiveness requires a 60/40 cost allocation between payroll and nonpayroll costs. In other words, you must spend at least 60% of the funds on payroll over your covered period, which may range from eight to 24 weeks.

The CAA creates a simplified forgiveness application for loans up to $150,000. Such loans will be forgiven if the borrower signs and submits to the lender a one-page certification form from the Small Business Administration (SBA). The certification requires a description of the number of employees retained due to the loan, the estimated total amount of funds spent on payroll and the total loan amount. Borrowers must retain relevant records regarding employment for four years and other records for three years.

The CAA also eliminates the previous requirement that borrowers deduct the amount of any SBA Economic Injury Disaster Loan (EIDL) advances from their PPP forgiveness amount.

Additionally, the CAA addresses some of the confusion that had arisen regarding PPP tax issues. It specifies that a borrower need not include any forgiven amounts in its gross income. And — contrary to the position taken earlier by the IRS — it states that borrowers can deduct otherwise deductible expenses paid with forgiven PPP proceeds. The CAA also provides that tax basis and other attributes aren’t reduced by loan forgiveness (special rules apply to partnerships and S corporations). These tax provisions apply to second draw loans, too.

Other financial assistance

The CAA provides $20 billion for new EIDL grants for businesses in low-income communities and $15 billion for live venues, independent movie theaters and cultural institutions.

On the tax front, it states that a borrower’s gross income doesn’t include forgiveness of certain loans, emergency EIDL grants and certain loan repayment assistance provided by the CARES Act. As with PPP loans, you can deduct your otherwise deductible expenses paid with such forgiven amounts, and forgiveness won’t reduce your tax basis and other attributes (special rules apply to partnerships and S corporations). Similar treatment applies to targeted EIDL advances and Grants for Shuttered Venues.

Employee Retention Credit

To encourage businesses to maintain their workforces, the CARES Act created the Employee Retention Credit, a refundable credit against payroll tax for employers whose:

• Operations were fully or partially suspended due to a COVID-19-related governmental shutdown order, or
• Gross receipts dropped more than 50% compared to the same quarter in the previous year (until gross receipts exceed 80% of gross receipts in the earlier quarter).

Employers with more than 100 employees could receive the credit if they closed due to COVID-19. Those with 100 or fewer employees received the credit regardless of whether they were open for business.

The credit equaled 50% of up to $10,000 in compensation — including health care benefits — paid to an eligible employee from March 13, 2020, through December 31, 2020. The CAA extends the credit for eligible employers that continue to pay wages during COVID-19 closures or reduced revenue through June 30, 2021.

Notably, as of January 1, 2021, the CAA hikes the credit from 50% of qualified wages to 70%. It also expands eligibility by reducing the requisite year-over-year gross receipt reduction from 50% to only 20% and raises the limit on per-employee creditable wages from $10,000 for the year to $10,000 per quarter.

In addition, the threshold for a business to be deemed a “large employer” — and thus subject to a tighter standard when determining the qualified wage base — is lifted from 100 to 500 employees.

The CAA includes some retroactive clarifications and technical improvements regarding the original credit, as well. For example, it provides that employers that receive PPP loans still qualify for the credit for wages not paid with forgiven PPP funds.

Deferred payroll taxes

Businesses were given the option to withhold their employees’ share of Social Security taxes from September 1, 2020, through December 31, 2020. Those that did were originally directed to increase the withholding and pay the deferred amounts on a prorated basis from wages and compensation paid between January 1, 2021, and April 30, 2021.

Under the CAA, such employers now have all of 2021 to withhold and pay the deferred taxes.

Non-COVID-19 disaster relief

The CAA also acknowledges the recent disasters not related to the pandemic (for example, wildfires). Among other things, it provides a tax credit of up to $2,400 (40% of up to $6,000 of wages) per employee, to employers in qualified disaster zones.

The credit applies to wages paid, regardless of whether services were actually performed in exchange for those wages. The CAA also modifies the CARES Act to allow corporations to make qualified disaster relief contributions of up to 100% of their 2020 taxable income.

Business meals deduction

For 2021 and 2022, you can deduct 100% (up from 50%) for food and beverages as long as they’re “provided by a restaurant.” The IRS will likely issue guidance on the deduction, particularly the meaning of the term “provided by a restaurant.”

Retirement plans

The tax code allows “qualified future transfers” of up to 10 years of retiree health and life costs from a company’s pension plan to a retiree’s health benefits or life insurance account within the plan. These transfers must meet certain requirements (for example, the plan must be 120% funded) that pandemic-related market volatility has made too difficult to meet in some cases.

In response, the CAA allows employers to make a one-time election on or before December 31, 2021, to end any existing transfer period for any taxable year beginning after the election in certain circumstances.

The law also includes a partial termination safe harbor for retirement plans in light of 2020’s pandemic-related workforce fluctuations. Plans won’t be treated as having a partial termination (which would trigger 100% vesting for affected participants) if the number of active participants on March 31, 2021, is at least 80% of the number covered by the plan on March 13, 2020. The safe harbor applies to plan years that include the period beginning on March 13, 2020, and ending on March 31, 2021.

Charitable deductions

The CAA extends, through 2021, the CARES Act provision that increases the limitation on corporations’ cash charitable contributions from 10% of taxable income to 25%. Any excess corporate cash contributions will be carried forward to subsequent tax years. The limitation on deductions for donations of food inventory, which the CARES Act increased to 25% for 2020, is similarly extended through 2021.

Tax extenders

The CAA incorporates several “extenders” of tax breaks. For example, it extends both the New Markets Tax Credit and the Work Opportunity Tax Credit through 2025. The employer credit for paid family and medical leave is extended through 2025 for wages paid in tax years after 2020.

The law extends through 2025 the period for which an empowerment zone designation is in effect. But the enhanced expensing rules and nonrecognition of gain on rollover of empowerment zone investments are terminated for property placed in service in tax years beginning after December 31, 2020. Empowerment zone tax-exempt bonds and employment credits also weren’t extended beyond December 31, 2020.

A loaded law

At almost 5,600 pages, the CAA contains many more components that could impact your business and personal taxes. Please contact us if you have any questions about these or other provisions.

Read more here.

To read further details, please see this Journal of Accountancy article.

The new law follows the May 22, 2020, release of an interim final rule from the U.S. Department of Treasury and the Small Business Administration (SBA) on PPP loan forgiveness requirements. Among other areas, that guidance addresses the calculation of full-time employees and total salary or wages for purposes of loan forgiveness reductions.

The PPP in a nutshell

The Coronavirus Aid, Relief and Economic Security Act (CARES Act) established the PPP to help employers cover payroll during the ongoing COVID-19 pandemic. The program is open to U.S. businesses with fewer than 500 employees — including sole proprietors, self-employed individuals, independent contractors and nonprofits — affected by COVID-19. The loans may be used to cover payroll, certain employee health care benefits, mortgage interest, rent, utilities and interest on any other existing debt for the “covered period.”

Under the CARES Act and subsequent guidance, the covered period ran for eight weeks after loan origination. The PPP Flexibility Act extends that period to the earlier of 24 weeks after the origination date or December 31, 2020.

PPP loan proceeds applied to cover payroll, mortgage interest, rent and utilities are subject to 100% forgiveness if certain criteria are met. Earlier Treasury Department regulations indicated that eligible nonpayroll costs couldn’t exceed 25% of the total forgiveness amount, but the PPP Flexibility Act raises the threshold to 40%.

At least 60% of the loan must be spent on payroll costs to qualify for any forgiveness. For unforgiven costs, the new law extends the repayment period from two years to five years. However, employers are still required to maintain their staff headcount and payroll to qualify for full forgiveness.

Loan forgiveness may be reduced if:

• The average weekly number of full-time equivalent (FTE) employees is reduced, or
• Salaries and wages are cut by more than 25% for any employee who made less than $100,000 annualized in 2019.

Borrowers originally had until June 30, 2020, to restore full-time employment and salary levels from reductions made between February 15, 2020, and April 26, 2020, and avoid reductions in the forgiveness amount. The PPP Flexibility Act extends that deadline to December 31, 2020.

The covered period

Although the CARES Act provides that the covered period runs for eight weeks from the date of origination, the May 22 guidance lays out an alternative covered period. Borrowers with a biweekly, or more frequent, payroll schedule can elect to base their calculations on the eight-week period beginning on the first day of their first pay period following the disbursement date.

Note that the alternative covered period is available only for calculating payroll costs; it doesn’t apply to calculating mortgage interest, rent or utilities. And, if a borrower does use the alternative period to compute payroll costs, it also must use that alternative period to calculate FTE employees and salary or wage reductions.

Eligible amounts

The May 22 guidance clarifies that payroll costs paid or incurred during the covered period are eligible for forgiveness. Nonpayroll costs are eligible for forgiveness if paid during the covered period or incurred during that period and paid on or before the next regular billing date, even if the billing date is after the covered period.

According to the guidance, payroll costs include bonuses and hazard pay, as well as salary, wages and commission payments to furloughed employees (as long as they don’t exceed an annual salary of $100,000, as prorated for the covered period). They’re considered paid on the day paychecks are distributed.

Payroll costs are deemed to be incurred on the day the employee’s pay is earned. Payroll costs incurred but not paid during the borrower’s last pay period in the covered period are eligible for forgiveness if paid on or before the next regular payroll date. An eligible nonpayroll cost must be paid during the covered period or incurred during the period and paid on or before the next regular billing date, even if the billing date is after the covered period.

The guidance makes clear that costs related to personal property (for example, office equipment) are eligible nonpayroll costs. Mortgage interest payments for real or personal property are included, as well as rent or lease payments for real or personal property. Advance payments on mortgage interest, however, aren’t eligible for forgiveness. Utility payments include payments for electricity, gas, water, transportation, telephone or internet access.

The FTE reduction

The May 22 guidance spells out that when determining whether an adjustment in the forgiveness amount is necessary due to an FTE reduction, the number of FTE employees is calculated using a 40-hour workweek. For each employee, the average number of hours paid (not worked) per week is divided by 40. The maximum for each employee is capped at 1.0 FTE employee.

For employees who were paid for less than 40 hours per week, borrowers can calculate the average number of hours the employee was paid per week during the covered period. The guidance also provides a simplified method, under which employees who work 40 hours or more per week are assigned a 1.0, and those who work less are assigned a 0.5. Borrowers must select one of these two approaches and apply it consistently to all part-time employees.

The amount of loan forgiveness may be reduced if the average weekly FTE during the covered period is less than its average FTE in 1) the period of February 15, 2019, through June 30, 2019, 2) the period of January 1, 2020, through February 29, 2020, or 3) in the case of seasonal employers, either of the preceding periods or a consecutive 12-week period between May 1, 2019, and September 15, 2019. The borrower can elect which period to use as its reference period. The good news is that the comparison isn’t made against the last full quarter worked, as some borrowers feared.

The May 22 guidance also includes exceptions for employees who:

• Reject a good faith offer to return at the previous pay and hours (borrowers must maintain documentation of the offer and rejection and notify the state unemployment office of an employee’s rejected offer within 30 days of the rejection), and
• During the covered period, were fired for cause, voluntarily resigned or voluntarily requested and received a reduction in hours.
  Any FTE reductions due to these reasons won’t reduce the forgiveness amount.

The PPP Flexibility Act adds a new exemption based on employee availability. For the period from February 15, 2020, through December 31, 2020, the amount of loan forgiveness won’t be reduced due to a reduction in the number of FTE employees if a borrower 1) is unable to rehire an individual who was an employee on or before February 15, 2020, or 2) can demonstrate an inability to hire similarly qualified employees on or before December 31, 2020.

The exemption also applies if the employer is unable to return to the same level of business activity it was operating at before February 15, 2020, due to governmental requirements or guidance issued from March 1, 2020, through December 31,2020, related to COVID-19 safety standards.

The salary/wage reduction

The CARES Act indicates that the forgiven loan amount may be reduced if the total salary or wages of any applicable employee is reduced more than 25% of the “total salary or wages” in the “the most recent full quarter during which the employee was employed before the covered period.” With the covered period running only eight weeks, borrowers fretted that the total wages in the covered period would almost certainly fall more than 25% compared to a full quarter.

The PPP Flexibility Act doesn’t address this concern, but the SBA’s loan forgiveness application does. In making the determination of whether salary or wages were reduced 25%, it compares “average annual salary or hourly wage” for the relevant periods — not total wages.

In addition, to ensure that borrowers aren’t doubly penalized, the May 22 guidance directs that the salary/wage reduction applies only to the portion of the decline in employee salary and wages that isn’t attributable to the FTE reduction.

Delayed payment of payroll taxes

The PPP Flexibility Act also takes steps to ensure borrowers have full access to the CARES Act’s payroll tax deferment, which is intended to provide businesses with adequate capital to withstand the COVID-19 pandemic. The new law provides that the delayed payment of employer payroll taxes on top of the receipt of a PPP loan doesn’t constitute impermissible double dipping.

Fast and furious

The rules for the PPP — whether in legislative, regulatory or other forms — continue to emerge at a brisk pace, often updating previous guidance. We can help ensure you’re satisfying all of the requirements to obtain a loan and secure full forgiveness.

Click here to access the application and connect with us to further discuss the specific needs of your business during this time.