Originally enacted as part of the CARES Act in March 2020, and subsequently voted into law last December, the Employee Retention Credit (ERC) may now be claimed by eligible employers — and that includes tax-exempt nonprofit organizations — that previously received a Paycheck Protection Program (PPP) loan. Since most eligible employers opted for a PPP loan instead of claiming the ERC, this relief credit was generally off the radar of many eligible employers. December’s vote has changed that.
How does the ERC work in conjunction with a PPP loan?
If you previously received a PPP loan and have already applied for forgiveness of that loan, then no portion of the wages involved in that transaction are eligible for the ERC.
If you received a PPP loan and have not yet applied for forgiveness, be sure to identify and claim all eligible non-payroll costs (rent, mortgage interest, utilities, etc.) as part of the forgiveness application to better ensure maximum qualified wages are available for the ERC.
In addition, The American Recovery Plan (ARP), enacted on March 11, 2021 extends the ERC program through the end of 2021, and along with the CAA changes made in December, result in some favorable modifications for 2021 I will discuss in this article.
How much is the credit?
For 2020, the Employee Retention Credit equals 50% of the qualified wages (including qualified health plan expenses) that an eligible employer pays in a calendar quarter. The maximum amount of qualified wages taken into account for 2020 with respect to each employee for all calendar quarters is $10,000, so that the maximum credit for qualified wages paid to any employee is $5,000.
For 2021, the portion of qualified wages and health plan costs taken into account for each employee is increased to 70% of the first $10,000 of wages paid each quarter, resulting in a maximum quarterly credit of $7,000 and $28,000 for the year.
How is the ERC claimed?
The ERC reduces liability for employment taxes reported on IRS Form 941, Employer’s Quarterly Federal Tax Return. The resulting overpayment may be immediately refunded or applied to reduce federal employment taxes due in future quarters.
Since returns for 2020 have already been filed and taxes paid, you will need to claim the ERC by amending returns corresponding to the quarter(s) in which the eligible wages were paid, using Form 941X.
For wages paid in 2021, an employer that had an average of 500 or fewer full-time employees in 2019 may opt to obtain advance payment of the ERC, computed as 70% of average quarterly wages, by filing IRS Form 7200. On April 2, the IRS announced in Notice 2021-23 that the average quarterly wages is computed by totaling Medicare wages reported on Forms 941 for 2019 and dividing by 4. The advance payment is then reconciled with the actual credit calculated when Form 941 is prepared.
How do we qualify for the ERC?
Each employer must determine if it is eligible for the ERC based on facts and circumstances. Beyond highlighting basic eligibility requirements, this article explores guidance for those employers that experienced a partial or complete suspension of activities as an indirect result of governmental orders placed on other entities.
An employer may claim up to $10,000 of wages paid to each employee after March 12, 2020, and before January 1, 2022, that were paid in a calendar quarter in which:
- The employer experiences a significant decline in gross receipts
- The employer’s business operations are fully or partially suspended due to a governmental order
For wages paid in 2020, employers that averaged more than 100 full-time employees during 2019 may claim the ERC only for wages paid to employees for the time they are not providing services. For wages paid in 2021, this limitation only applies to employers that averaged more than 500 full-time employees in 2019.
What is a significant decline in gross receipts?
An employer is considered to have a significant decline in gross receipts for the period beginning with the first calendar quarter in 2020 for which its gross receipts are less than 50% of gross receipts from the same calendar quarter in 2019 and ending with the earlier of January 1, 2021, or the first calendar quarter after the quarter for which gross receipts are greater than 80% of gross receipts for the same calendar quarter in 2019. Don’t glaze over just yet! Keep reading.
For 2021, the 50% decrease in revenue test is relaxed to require a decrease in revenue to less than 80% of revenue for the corresponding quarter in 2019; i.e. only a 20% decrease in revenue is required. This should help bring many nonprofits that do not otherwise qualify under the suspension of operations test, discussed next, into the program in 2021.
In addition, an employer that doesn’t satisfy this test may elect to compare the prior calendar quarter with the corresponding quarter in 2019. For example, for ERC claimed on wages paid in the first quarter of 2021, you may alternatively elect to compare gross receipts for the fourth quarter of 2020 with gross receipts for the fourth quarter of 2019 if this enables you to meet the less than 80% test. The IRS announced on April 2, 2021, that an election to use an alternative quarter to calculate gross receipts is made by simply claiming the ERC for the quarter using the alternative quarter to calculate gross receipts. Of course, keep records supporting the method used.
You are not required to show that the decrease in revenue is due to COVID-19.
What is the definition of “gross receipts” for tax-exempt organizations?
To determine whether there has been a significant decline in gross receipts, a tax-exempt employer computes its gross receipts received from all of its operations during the calendar quarter and compares those gross receipts to the same gross receipts received for the same calendar quarter in 2019.
Solely for purposes of determining eligibility for the Employee Retention Credit, gross receipts for a tax-exempt employer include gross receipts from all operations, not only from activities that constitute unrelated trades or businesses.
For example, gross receipts for this purpose include amounts received by the organization from total sales (net of returns and allowances) and all amounts received for services, whether or not those sales or services are substantially related to the organization’s exercise or performance of the exempt purpose or function constituting the basis for its exemption. Gross receipts also include the organization’s investment income, including from dividends, rents, and royalties, as well as the gross amount received as contributions, gifts, grants, and similar amounts, and the gross amount received as dues or assessments from members or affiliated organizations.
What is a qualifying suspension of operations?
If you did not experience a qualifying decline in revenue, you may still be eligible for the ERC under the suspension of operations test if your activities were fully or partially suspended during a calendar quarter as a result of “orders from an appropriate governmental authority limiting commerce, travel, or group meetings (for commercial, social, religious, or other purposes)” due to COVID-19.
For example: If you conduct activities in public spaces or other venues that were closed or that limited group meetings as a result of government orders, or experienced supply chain interruptions resulting from such orders placed on other entities, you may nevertheless be regarded as having to suspend activities as an indirect result of government orders and eligible for the ERC under your facts and circumstances. It is not necessary that all activities are suspended but rather only more than a “nominal amount” as explained in FAQs 17 and 18 found in IRS Notice 2021-20.
Of course, there is no discussion that directly addresses a particular employer’s unique situation, so good faith judgment must be exercised in order to properly analogize to your facts and circumstances.
To help guide you and your advisors, peruse the updated FAQs contained in IRS Notice 2021-20 released on March 1, 2021. In particular, read the following Q&As: Questions 12, 13, 16, 17, 18, 70, 71.
Comment on Q&A 12: One might view the prohibition of gatherings at public venues where operations regularly take place as a reduction, and in some instances the elimination, of the supply of previously available facilities critical for the conduct of your program activities. (Note: The use of such terms as business and operations applies to a tax-exempt organization in the same manner as a for-profit business for purposes of applying the ERC.)
Comment on Q&A 70: Documentation of specific activities that were suspended as a result of government orders should be prepared, addressing the basic “5 W’s,) i.e. who, what, when, where, and why. Orders later removing such restrictions should be retained as well so that a date range of government orders that directly or indirectly resulted in suspension of operations can be established.
Comment on Q&A 71: The more recently enacted ARP added a special five-year statute of limitations pertaining to the audit of ERC claims.
If you outsource payroll and employment tax return preparation, check with the vendor to see if it is assisting clients with documenting wage data and preparing amended Forms 941 to claim the ERC for 2020, as well as processing current claims for 2021 as part of your quarterly Form 941 preparation. Alternatively, you may wish to seek the services of a qualified tax professional.
Qualification for the ERC depends on each employer’s specific facts and circumstances. You should seek the services of qualified professionals as needed to help you assess your eligibility and claim the credit where appropriate.
In addition, there is only limited guidance available from the IRS at this time on how to apply the ERC. In particular, regarding excerpts from IRS frequently asked questions cited in this document, the IRS states that these FAQs are not included in the Internal Revenue Bulletin, and therefore may not be relied upon as legal authority. This means that the information cannot be used to support a legal argument in a court case.
The Employee Retention Credit may provide much needed financial help if your nonprofit has been adversely impacted by COVID-19. Be sure to get technical help if needed. The cost may be very small relative to the benefits. Most important, don’t miss out if you qualify.
About the Author
Dennis Walsh, CPA, volunteers his post-retirement time helping North Carolina nonprofits with accounting concerns, work for which he recently received the Community Service Award from the Guilford Nonprofit Consortium. He shares his expertise nationally with nonprofits through Blue Avocado. Through the Deborah and Dennis Walsh Foundation, he has also published “Legal & Tax Issues for North Carolina Nonprofits” and Man From Macedonia, a memoir by civil rights leader Aaron Johnson. Dennis also authored the Blue Avocado article Nonprofit Bookkeeping Test, which is one of the ten most viewed Blue Avocado articles of all time. Dennis can be reached through the Micah Project. A version of this article was published by the Planned Giving Design Center.
Articles on Blue Avocado do not provide legal representation or legal advice and should not be used as a substitute for advice or legal counsel. Blue Avocado provides space for the nonprofit sector to express new ideas. Views represented in Blue Avocado do not necessarily express the opinion of the publication or its publisher.