Tax credits can be confusing. But for small businesses, every dollar counts, and tax credits and other incentives are a great way to maximize your bottom line. One tax credit you should be aware of?
The Employee Retention Tax Credit (ERTC).
But the ERTC—like many tax credits or government programs—can be tricky to navigate. Is your business eligible? When can you claim the credit? And how can you do so?
To make things simple, we’ve put together this comprehensive guide to the ERTC to help you understand what exactly it is—and how you can get your tax credit.
What is the Employee Retention Tax Credit (ERTC)?
The Employee Retention Tax Credit—sometimes referred to as the Employee Retention Credit (ERC) is a tax credit for businesses that paid employees during the COVID-19 pandemic. Eligible businesses that paid qualified wages throughout the program can receive a refundable tax credit to reduce their total taxes.
What is the purpose of the ERTC?
The Employee Retention Tax Credit was introduced in March 2020 under the Coronavirus Aid, Relief, and Economic Security Act (CARES Act). The purpose of the ERTC was to incentivize businesses that were shut down or had a decline in receipts—AKA revenue to keep their employees on payroll.
Due to the COVID-19 pandemic, many businesses were required to stay closed or significantly modify their business operations. Unfortunately, this meant many employees were laid off or furloughed. The ERTC was designed to keep individuals employed as much as possible during this time.
The ERTC has been updated multiple times since March 2020. These updates have made changes to eligibility requirements and credit maximums.
How does the Employee Retention Tax Credit work?
If the ERTC confuses you, you’re probably not alone. In fact, even the Internal Revenue Service (IRS) describes it as ‘complex’.
Here’s the gist.
With the ERTC, for every employee that you paid qualified wages to between March 31, 2020 and September 30, 2021, you can be eligible for a certain amount of refundable tax credits.
These refundable tax credits help reduce the amount of taxes you owe as a business—your tax liability. And if your credit is greater than your liability, you might even receive a refund.
By reducing the amount of taxes you owe, you can save some money to increase your profits or grow your business.
Who qualifies for the Employee Retention Tax Credit?
Not all businesses qualify for the ERTC. Eligibility is based on the impact that the pandemic had on your business.
There are generally three categories of employers who are eligible for the ERTC:
1. Businesses that were fully or partially closed due to government restrictions
During the pandemic, many businesses were limited to specific hours or shut down entirely to help prevent the spread of COVID-19. Businesses that weren’t able to operate remotely or impacted by these restrictions may be eligible for the ERTC.
For example, a restaurant that was ordered to stay closed by local authorities would be considered fully suspended. Businesses that voluntarily closed or during the restrictions would not be eligible under this category.
If your business doesn’t fall into this category, you still may qualify based on one of the other eligibility criteria.
2. Businesses with a significant decline in gross receipts
From mass lay-offs to stay-at-home orders, the pandemic changed consumer behavior. For many businesses, this meant they experienced significantly lower sales or revenue.
To offset the impact, businesses that saw a significant decline in gross receipts may be eligible for the ERTC. Gross receipts include all revenue you received in a year, before deducting any costs or expenses.
But how significant is significant? According to the IRS, it’s between a 50-80% decline from the same quarter in 2019. Specifically a 50% decline in 2020 and an 80% decline in 2021.
3. Recovery startup businesses
The last category is recovery startup businesses—AKA businesses that started operating after February 15, 2020 and had less than $1 million in annual gross receipts.
Keep in mind that there are some exceptions and nuances to each of these categories, which the IRS breaks down in this guide.
Summary of ERTC qualifications
Qualifying for ERTC isn’t just about being an eligible business. There are some other qualifications that your business will need to have met in order to qualify for the ERTC. But the two biggest ones?
- You must qualify as an eligible business or employer.
- You must have paid eligible wages between March 13, 2020 and December 31, 2021 during the quarter in which you qualified as an eligible business or employer.
Because the ERTC was a COVID-19 measure, you’re no longer able to pay out wages that would qualify you for the credit. However, if you’re an eligible business you can still look back on your 2020 and 2021 payroll to see if you paid qualified wages.
How to claim the ERTC: Step-by-step process
We get it—filing tax paperwork sucks. And if you’re reading this now, you’ve likely already missed claiming the credit with your original tax return.
The good news? You can still retroactively claim the credit. And that extra paperwork can put a large chunk of cash back in your pocket by reducing your business income taxes.
Here’s a step-by-step guide to help tackle the ERTC claim process that might even make it fun—or at least get it out of the way.
Step 1: Determine if you qualify
The first thing you should do is determine if you fall into one of the three categories of eligible employers we outlined earlier.
Your business should also have had less than 100 full-time employees in 2019 to qualify for the 2020 credit. Or less than 500 full-time employees to qualify for the 2021 credit.
Step 2: Gather your paperwork and employer information
The form most businesses will need is the Form 941-X, Adjusted Employer’s Quarterly Federal Tax Return or Claim for Refund. (There’s a different form for certain industries and employers that is outlined by the IRS here.)
But before you can fill it out, you’ll need the following information for the quarters where you were eligible for the ERTC:
- Your total revenue (including profit, loss, and other details)
- Summary of payroll costs (including healthcare costs, as they are considered qualified wages)
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Step 3: Calculate your tax credit per employee
For each W-2 employee, you’ll need to calculate the tax credit amount you’re eligible for.
Here’s a breakdown of how much you’re eligible to claim in each quarter of 2020 and 2021:
- Q2 2020 (March 13, 2020 – June 30, 2021): 50% of qualified wages. (Maximum credit of $5,000 per employee.)
- Q3 2020 (July 1, 2020 – September 30, 2020): 50% of qualified wages. (Maximum credit of $5,000 per employee.)
- Q4 2020 (October 1, 2020 – December 31, 2020): 50% of qualified wages. (Maximum credit of $5,000 per employee.)
- Q1 2021 (January 1, 2021 – March 31, 2021): 70% of qualified wages. (Maximum credit of $7,000 per employee.)
- Q2 2021 (April 1, 2021 – June 30, 2021): 70% of qualified wages. (Maximum credit of $7,000 per employee.)
- Q3 2021 (July 1, 2021 – September 30, 2021): 70% of qualified wages. (Maximum credit of $7,000 per employee.)
Here’s an example:
You’re filing a claim for Q4 in 2020.
You have 4 employees who were paid $10,000 in wages from October 1, 2020 to December 31, 2020. You’re eligible for $5,000 for each employee (50% of their qualified wages). So for Q4, your total ERTC is $20,000.
Tax credit tips: $10,000 is the maximum amount of eligible wages per employee. If you pay your employee more than this per quarter, you’re only able to claim an ERTC on the first $10,000. But if your employees are paid less than $10,000, you may be able to add eligible employer-provided healthcare expenses to maximize your credit.
Step 4: Fill out the form
Now that you’re armed with your eligible tax credit amount, it’s time to get to the paperwork.
Your Form 941-X will ask for the wage that you filed in your original Form 941 in Column 1. You’ll then use the amounts you calculated in Step 3 to fill out the adjusted wages.
Step 5: Submit your Form 941-X
Now all that’s left to do is grab a stamp and mail your Form 941-X to the IRS. Where should you address your form? Here’s a list based on your state of residence.
|ERTC errors: If you’ve submitted a claim for the ERTC, but you’ve since realized you’re no longer eligible—don’t panic. It’s still possible to withdraw your employee retention credit claim, assuming the IRS hasn’t paid out your claim.
Calculating your Employee Retention Tax Credit
The calculations for the ERTC can be a bit complex. But the simplest way is to calculate it by individual quarter and add up your total eligible benefits.
There are 6 quarters during 2020 and 2021 for which you can claim a credit under the ERTC. The amount of the credit is 50% of eligible wages for 2020 and 70% in 2021.
If you were eligible in all quarters and paid out the maximum eligible wages, the total refundable tax credit you can receive is $26,000 total per employee.
|Let’s say you were eligible for the ERTC in all quarters and you have 5 employees:
Your total tax credits for each quarter are as follows:
Your total ERTC tax credits across all quarters would be $144,000.
Don’t forget about the ERTC deadline
If you’ve been putting off your ERTC claim—don’t worry, you still have time.
For the 2020 tax period, the deadline to claim the credit is April 15, 2024. And for 2021 tax, periods, you have until April 15, 2025.
September 14th, 2023 ERTC moratorium: While most employers have the best of intentions, a surge in ineligible applications for the ERTC forced the IRS to hit pause on processing ERTC claims until December 31, 2023. The goal is to make sure that only eligible businesses will receive the credit.
In the meantime, you can still file your claim, but it might take some time before your claim is reviewed. With the pause, you should expect delays, so it’s best to file sooner rather than later. This way, you can sit back and relax instead of letting it sit on your to-do list.
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Employee retention tax credit FAQs
What businesses are eligible for the Employee Retention Tax Credit?
Businesses that paid eligible wages to employees between March 13, 2020 and December 31, 2021 who fall into one of the following categories may be eligible for the Employee Retention Tax Credit:
- Businesses were closed or partially suspended operations due to government restrictions in 2020 or 2021.
- Businesses that experienced a significant decrease in gross receipts in 2020 or 2021.
- Businesses that qualify as a recovery startup business.
How to claim the Employee Retention Tax Credit retroactively
For businesses that didn’t originally claim the credit with their tax returns, it’s possible to claim the ERTC retroactively. All you need to do is fill out Form 941-X, Adjusted Employer’s Quarterly Federal Tax Return or Claim for Refund. This form lets you file an adjustment to your tax returns for the quarters for which you qualified for the ERTC.
How does the Employee Retention Credit affect my tax return?
The Employee Retention Credit (or Employee Retention Tax Credit) affects your federal tax return by reducing the amount of payroll expenses you would otherwise deduct from your income taxes. This can reduce the amount of taxes you owe or even help you claim a refund.
What are qualified wages for the Employee Retention Tax Credit?
According to the IRS, qualifying wages are those that are subject to Social Security and Medicare taxes. There are certain business expenses, like employee health care expenses, that may also be eligible.
The amount of qualified wages per employee that businesses are eligible to claim also depends on the quarter that the wages were paid and the size of the business.
Are tips included in qualified wages for the ERTC?
Yes, tips are included as qualified wages for the Employee Retention Tax Credit, as long as tips amount to $20 or more per month per employee. So if an employee hasn’t reached the maximum $10,000 in qualified wages for a given quarter, you can include tips to increase the tax credit that you can claim.