The Employee Retention Credit (“ERC”) is a beneficial stimulus to small business, but only if the credits immediately provide cash flow to the employer. Understanding this, the government provides four different ways to enable an eligible employer to realize the benefits: an advance credit, an immediate benefit, a quarterly benefit, and a benefit realized through an amended employment tax return. Small businesses should evaluate these different methods and use the one that is the easiest and most advantageous.
An Advance Credit
Small eligible employers can realize the benefits of an ERC even before qualifying wages are paid by filing Form 7200 and claiming a credit of no more than the average quarterly wages paid during 2019. Employers need to reduce employment tax deposits in anticipation of the credit before requesting an advance.
An employer’s average quarterly wages are defined as an employer’s Social Security wages determined without regard to the Social Security wage base. The amount is determined by averaging the amount reported on line 5c of all Forms 941 filed for 2019 and dividing that amount by four. Special rules apply for seasonal employers and for employers not in existence in 2019 or who were not in existence for the entire quarter during the period used for the calculation. An employer determines the average quarterly wages on an aggregated employer basis.
The Form 7200 is faxed to the Internal Revenue Service (IRS). Once received, it is processed with other tax forms and takes at least 30 days for a check to be sent to the employer. Form 7200 is due prior to the end of the quarter for which the credit is being claimed and the amount of the credit claimed on the Form 7200 will be reported on the Form 941 for that quarter. This advance credit may be in excess of the ERC to which the employer will be entitled for the quarter.
The quarterly Form 941 is used to reconcile an employer’s payroll tax liability, deposits made and credits claimed, in some cases resulting in the employer being required to repay amounts to the government at the end of a quarter.
An Immediate Credit
The quickest and recommended way to monetize the ERC is to reduce federal payroll tax deposits the employer would otherwise make. Thus, as employee pay is determined and federal income and employment tax withholding and payments would otherwise be deposited through EFTPS, the Electronic Funds Tax Payment System, the employer should reduce those deposits for the amount of credit earned on wages paid or to be claimed as an advance credit.
This results in an immediate cash flow benefit equal to the amount that would otherwise be paid to the IRS. Note that even though the ERC is a refundable credit based on wages which offsets an employer’s Social Security or Medicare taxes, the offset can be for all taxes that would otherwise be deposited. The quarterly Form 941 is used to reconcile an employer’s payroll tax liability, deposits made and credits claimed.
A Quarterly Benefit
Some eligible employers choose to determine the amount of credit to which they are entitled, taking into account gross wages and allocable health care costs that are not used for CARES Act PPP loan forgiveness before claiming the credit. Those employers can use either the Form 941 of the Form 7200 to claim the credit.
Form 7200 is due prior to the end of the quarter for which the credit is being claimed and the amount of the credit claimed on the Form 7200 will be reported on the Form 941 for that quarter. Form 941 allows employers to choose whether to get a refund of any overpayment or apply the refund as a credit to the following quarter’s employment tax returns. If the overpayment is claimed as a credit on the subsequent quarter’s employment tax return, the employer can reduce payroll tax deposits that would otherwise be made during that subsequent quarter, resulting in an immediate tax benefit.
An Amended Employment Tax Return
If an employer has already filed its Form 941 for a calendar quarter, the employer has at least three years to file a Form 941-X, an amended Form 941, to claim the credit. Form 941-X can be filed any time before expiration of the refund statute of limitations for that year’s quarterly employment tax returns. In general, the statute of limitations for a quarterly Form 941 expires, absent an agreement by the taxpayer and the IRS to extend the statute, on April 15th three years after the year following the due date for the quarterly Form 941’s. The American Rescue Plan of 2021, enacted March 11, 2021, extended this period to five years for credits claimed on wages paid after June 30, 2021, and before January 1, 2022.
A Penalty Relief
Allowing taxpayers a myriad of ways to claim the ERC and realizing that taxpayers and their advisors may inadvertently misapply the rules, Congress specified that penalties for failure to deposit payroll taxes should be waived. Notice 2020-20 applies to 2020 ERCs and Notice 2021-24 extends this credit to 2021 ERCs. These notices eliminate the penalty if the amount of taxes not timely deposited is less than or equal to the employer’s anticipated ERC reduced by credits available for emergency paid sick and FMLA leave, as long as the employer did not seek an advance credit for the same amount.
Cherry Bekaert is ready to assist you in claiming the ERC. We have a proprietary technology platform that allows us to provide an audit-ready deliverable in which we document your status as an Eligible Employer, calculate the credit from your wage data, maximize the wages treated as Qualified Wages, and allocate PPP loan forgiveness proceeds across the eligible payroll quarters. For questions or guidance, contact your Cherry Bekaert tax advisor or Martin Karamon.
