We previously issued a Legal Update about the new SBA loans provided by the CARES Act (the PPP loan and the EIDL), and a spreadsheet for calculating the amount of the PPP loan you can receive and the amount that can be forgiven. In general, most businesses will find the SBA loans, especially the PPP, more valuable than the employee retention credit discussed here, though each business should make its own determination because you cannot claim both.
However, the SBA loans generally are not available to you if you have over 500 employees (determined after application of the affiliation rules described here). We also fear that the banks may quickly burn through the $349 billion Congress appropriated for the SBA loans. The new employee retention credit under Section 2301 of the CARES Act provides relief and liquidity for those who cannot get an SBA loan.
The employee retention credit provides an “eligible employer” with a credit against “applicable employment taxes” for each quarter of 50 percent of “qualified wages” paid to each employee. (CARES Act Section 2301(a).) However, qualified wages taken into account are limited to $10,000 per employee. (CARES Act Section 2301(b)(1).)
To understand what this means, we need to unpack those terms.
Eligible employer means any employer that was carrying on a trade or business during 2020 that had a period either:
- For which operations were fully or partially suspended by government order due to COVID-19, or
- Beginning with the first calendar quarter starting after December 31, 2019, in which gross receipts dropped by more than 50 percent compared to the same quarter in the prior year and ending with the calendar quarter in which gross receipts are greater than 80 percent of the same gross receipt for the same quarter in the prior year. (CARES Act Section 2301(c)(2)(A).)
Tax-exempt organizations described in IRC § 501(c) are automatically treated as both carrying on a trade or business in 2020 and has having operations fully or partially suspended by government order due to COVID-19. (CARES Act Section 2301(c)(2)(C).)
Comment: Employers reaching the $10,000 per employee wage limit generally renders the end of an employer’s status as an “eligible employer” largely academic.
Applicable employment taxes means:
- The taxes imposed under IRC Section 3111(a) (employer portion of social security taxes),
- So much of the taxes imposed under IRC Section 3211(a) as are attributable to the rate in effect under IRC Section 3111(a), and
- So much of the taxes imposed under IRC Section 3221(a) as are attributable to the rate in effect under IRC Section 3111(a) (RRTA taxes). (CARES Act Section. 2301(c)(1).)
The meaning of qualified wages depends on whether the average number of full-time employees of the qualified employer exceeds 100. For this purpose, the aggregation rules of IRC Section 52(a) or (b) or IRC Section 414(m) or (o) apply. (CARES Act Section 2301(d).)
- 100 or Fewer: All wages paid to an employee during the periods the employer is an “eligible employer.” (CARES Act Section 2301(c)(3)(A)(ii).)
- Exceeds 100: Wages paid to an employee during the periods the employer is an “eligible employer” with respect to which the employee is not providing services. (CARES Act Section 2301(c)(3)(A)(i).)
Comment: Many eligible employers with more than 100 employees are having their employees work from home, even equipping the employees with computers and other tools to facilitate such work. At the same time, the distraction and inefficiencies of working from home, coupled with a possible decrease in work that can be handled remotely, has meant that some of these employees may not be actually providing services at expected performance levels. Eligible employers with more than 100 employees planning to obtain the employee retention credit should consider adopting a formal policy of reduced hours with no concomitant reduction in pay for those employees.
In addition, the wages paid by an eligible employer for which the average number of full-time employees exceeds 100 cannot exceed the amount such employee would have been paid for working an equivalent duration during the 30-day period immediately preceding when the employer became an eligible employer. (CARES Act Section 2301(c)(3)(B).)
Comment: The meaning of this limitation is unclear. However, it appears that you cannot get to the $10,000 of wages faster by increasing the pay beyond the average wage that was paid during the 30-day period.
- Qualified Health Plan Expenditures: Qualified wages include certain health care costs of the employer associated with amounts treated as qualified wages. (CARES Act Section 2301(c)(3)(C)(ii).) This would include all qualified health plan expenditures by an eligible employer with 100 or fewer full-time employees. For eligible employees with more than 100 full-time employees, however, the “not providing services” limitation applies.
- Wages described in IRC Section 51(i) (related individuals) and IRC Section 280C (wages for which certain other credits are taken) are excluded from qualified wages. (CARES Act Section 2301(c)(3)(A)(ii).)
In effect, eligible employers are entitled to claim a tax credit of up to $5,000 per employee. However, the credit is reduced by credits against the employer portion of the social security tax allowed by IRC Section 3111(e) (employing veterans), IRC Section 3111(f) (research expenditures), Families First Coronavirus Response Act Section 7001 (required paid sick leave), and Families First Coronavirus Response Act Section 7003 (required paid family leave). (CARES Act Section 2301(b)(2).)
The allowed credit is treated as an overpayment and is refunded to the employer (CARES Act Section 2301(b)(3). Treating the entire amount of the credit as an overpayment, rather than first applying it to the amount owed by the employer, makes sense given the extended due date for all social security taxes, which we discussed in a prior Legal Update.
Other limitations apply, including:
- No credit is allowed for a business that receives a PPP loan. (CARES Act Section 2301(j).)
- No wages paid to an employee are taken into account if the employer is allowed an IRC Section 51 credit (work opportunity credit) with respect to the employee for the period. (CARES Act Section 2301(h)(1).)
- An IRC Section 45S credit (paid family and medical leave credit) is not allowed for any wages used to calculate the employee retention credit. (CARES Act Section 2301(h)(2).)
- The credit is only allowed for wages paid after March 12, 2020, and before January 1, 2021. (CARES Act Section 2301(m).)