covering changes to the credit for quarters three and four of 2021, as well as general guidance for all quarters on a few gray areas. Additionally, Rev. Proc. 2021-33
was also released to provide a new safe harbor for calculating gross receipts that would otherwise contain Paycheck Protection Program (PPP) loan forgiveness, Shuttered Venue Operators Grants (SVOG), or Restaurant Revitalization Fund (RRF) awards.
These pieces of guidance accompany two prior pieces of ERC guidance:
- Notice 2021-20 which provides broad ERC guidance, in addition to specific insight for 2020 quarters, and
- Notice 2021-23 which generally covers 2021 Q1 & Q2 ERC changes including the alternative quarter election.
The ERC is available as a payroll tax credit to eligible employers in 2020 and 2021 who experience either a qualifying drop in gross receipts OR a full/partial shutdown of operations due to COVID-19 in a calendar quarter. The credit has differing components depending on the quarter, explained in greater detail here, with 2021 calendar quarters three and four having the addition of recovery startup businesses (RSBs) and severely financially distressed employers.
Changes Specific to 2021 Q3 & Q4
Recovery Startup Businesses (RSBs)
RSBs are a third option to qualify for the ERC in Q3 & Q4 of 2021, when neither the decline in gross receipts or full/partial shutdown eligibility requirements are met. Additional requirements to qualify as an RSB are that they are an employer who began carrying on any trade or business after 2/15/20, with average annual gross receipts of $1M or less. The determination of being an RSB is made separately for each quarter and for those who do qualify, the ERC is limited to $50,000 per quarter (a limitation that otherwise doesn’t exist for employers qualifying under the decline in receipts or shutdown options).
Example: Employer A is a recovery startup business in 2021 Q3 but in Q4 qualifies under either the decline in gross receipts or full/partial suspension tests so it is not a recovery startup business in Q4. Employer A’s ERC is limited to $50,000 in Q3, but not in Q4.
Note that aggregation rules explained in Notice 2021-20 apply when determining if an employer is a recovery startup business and with respect to the $50,000 credit limitation per quarter. This likely deters large businesses from claiming the credit using small startups.
Severely Financially Distressed Employers
Severely financially distressed employers are also created for 2021 Q3 & Q4, but are not another eligibility option. Rather, if a large employer (with greater than 500 employees in 2019 or 2020 if not in existence in 2019) otherwise qualifies for the ERC and they are deemed a “severely financially distressed employer” for that quarter, they may follow the small employer rules and use all qualifying employee wages towards the ERC, rather than just those wages paid for employees to not provide services.
This test is met in a quarter if an eligible employer’s gross receipts are less than 10 percent of the gross receipts for the same calendar quarter in 2019 (or 2020 if not in existence in 2019). Notice 2021-49 clarifies that the alternative quarter election to determine a decline in gross receipts also applies in determining whether an employer is severely financially distressed.
Example: Employer B is an eligible employer with gross receipts of just 5% in Q2 of 2021 when compared to Q2 of 2019, but in Q3 of 2021 its receipts equal 15 percent of those in Q3 or 2019. Employer B is not a severely financially distressed employer in Q3 when comparing that quarter’s receipts, but can use the alternative quarter election to be deemed a severely financially distressed employer for Q3 of 2021.
Clarity on Issues Affecting All Quarters
Notice 2021-49 also brings needed clarity to the following areas affecting all ERC quarters:
- Full-time equivalents are not included in determining the average number of full-time employees for the purposes of the ERC. This means that part-time employees with less than 30 hours per week (or 130 hours per month on average) in 2019 are not included in the full-time employee test on a partial “equivalent” basis to determine whether an eligible employer is a large employer who is limited to using only those wages paid to employees who did not provide services. This also means those same part-timers’ pay can be used as qualified wages.
- Employee cash tips of $20 or more per employee, per month are qualified wages for the ERC. The Notice also confirms an employer may claim both the ERC and the §45B tips credit on the same wages.
- Timing of the wage deduction disallowance in the amount of the ERC is confirmed as occurring in the quarter that qualified wages were paid or incurred. This is important as many employers are filing amended payroll tax returns to claim the ERC for past quarters, in large part due to the retroactive law passed in December of 2020 allowing PPP borrowers to claim the ERC. This means that federal income tax returns will need to be amended (or administrative adjustment request “AAR” as applicable to partnerships) as well for the taxable year that wages are paid or incurred to claim the ERC, to reduce the amount of deductible wages.
- Employee-owners with more than 50 percent ownership (directly or indirectly) cannot count their own wages towards the ERC unless the employee-owner has no living brothers, sisters, ancestors (parents/grandparents), or lineal descendants (children/grandchildren).
- Notice 2021-49 clarifies that an eligible employer is not required to use the alternative quarter election consistently for all future quarters once the election has been made. The determination of whether an employer is an eligible employer based on the decline in gross receipts test is made separately for each calendar quarter.
- Example: Employer A may be an eligible employer due to a decline in gross receipts for the second quarter of 2021 if its gross receipts for the second quarter are equal to 75 percent of its gross receipts in the second quarter of 2019 (i.e., the employer does not rely on the alternative quarter election for the second quarter); the employer could then use the alternative quarter election to be an eligible employer for the third quarter of 2021 if it’s Q3 gross receipts do not meet the 20 percent reduction threshold.
- However, the employer is not required to continue to use the alternative quarter election in Q4 of 2021, and in this case would not qualify for the ERC using the election given that Q3 of 2021 gross receipts reduction is not at least 20 percent.
New Safe Harbor for Gross Receipts Test
Rev. Proc. 2021-33 provides a new safe harbor when calculating if an employer has met the ERC’s decline in gross receipts threshold. Employers are able to choose to exclude the following proceeds from gross receipts in any ERC calendar quarter:
- PPP Loan Forgiveness;
- Shuttered Venue Operator grants; and
- Restaurant Revitalization grants.
The guidance confirms that the IRS’s position is that while these amounts are not included in taxable income, they would otherwise be includable in “gross receipts” for the both taxable entities and not-for-profit organizations.
The bipartisan infrastructure bill which recently passed the Senate contains yet another change to the ERC in that only RSBs would be eligible for the credit in Q4 of 2021. The bill has to be passed by the House of Representatives though, which at this point is still uncertain, before it can be signed into law. We will continue to monitor the situation and any future ERC guidance that may arise.
In the meantime, please reach out to your RubinBrown representative with questions on how to claim this lucrative tax credit!
By: Tony Nitti, CPA, MST
By: Amie Kuntz, CPA, MA
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Long-awaited additional guidance on the Employee Retention Credit (ERC) was recently provided in