Reporting ERC on Tax Returns: Step-by-Step Guide

Managing the financial aspects of a business can be one of the most challenging tasks for any business owner. The Employee Retention Credit (ERC) has provided essential relief to businesses affected by the COVID-19 pandemic.

As of September 2023, the Internal Revenue Service (IRS) had processed around 3.6 million ERC claims, highlighting the significance of this credit. Accurately reporting the ERC on your tax returns is vital for maximizing its benefits and ensuring compliance with IRS regulations.

This guide will simplify the process, helping you get through the steps efficiently so you can focus on growing your business.

What is Employee Retention Credit (ERC)?

A refundable tax credit called the Employee Retention Credit (ERC) was created to incentivize companies to keep their workers on staff during the COVID-19 pandemic. It offers financial relief by allowing businesses to claim a percentage of qualified wages paid to employees.

Who Can Claim the ERC?

Eligible employers can claim the ERC on an original or amended employment tax return for qualified wages paid between March 13, 2020, and December 31, 2021. To be eligible, employers must satisfy one of the following conditions:

  • Suspension of Operations: The business experienced a full or partial suspension of operations due to orders from an appropriate governmental authority limiting commerce, travel, or group meetings because of COVID-19 during 2020 or the first three quarters of 2021.
  • Significant Decline in Gross Receipts: The business experienced a significant decline in gross receipts during 2020 or a decline in gross receipts during the first three quarters of 2021.
  • Recovery Startup Business: The business qualified as a recovery startup business for the third or fourth quarters of 2021.

Note: Self-employed individuals with employees may also qualify based on wages paid to their employees, but they cannot include their own self-employment earnings or wages paid to related individuals.

Who Is Not Eligible to Claim the ERC?

You cannot claim the Employee Retention Credit (ERC) if you do not operate a business or a tax-exempt organization with employees. Here are some examples of taxpayers who do not qualify for the ERC and are often misled by ERC scam promoters:

  • Individual taxpayers who are not business owners
  • Employees
  • Retirees
  • Self-employed individuals without any employees
  • Household employers
  • Employers who did not pay wages to employees during the qualifying time periods
  • Employers who faced supply chain disruptions but did not have a full or partial suspension of operations due to a qualifying order
  • Government agencies

Other specific limitations or exceptions may apply to certain quarters or types of employers

How Much Money Could a Company Get from the ERC?

For 2020, the ERC provides a credit of 50% of qualified wages up to $10,000 per employee, resulting in a maximum credit of $5,000 per employee for the year. For 2021, the credit increases to 70% of qualified wages up to $10,000 per employee per quarter, yielding a maximum credit of $7,000 per employee per quarter.

Is It Still Possible to Claim the ERC in 2024?

Yes, businesses can still claim the Employee Retention Credit (ERC) for eligible periods in 2021. However, the deadline to claim the ERC for 2020 has passed.
Eligibility Periods:

  • 2020 ERC: The ERC could be claimed for wages paid between March 13, 2020, and December 31, 2020. This period is now closed, and businesses can no longer claim the 2020 ERC as the deadline was April 15, 2024.
  • 2021 ERC: You can still claim the ERC for wages paid during the first three quarters of 2021 (January through September).

Deadline to Claim the ERC:

For 2021: The deadline to claim the 2021 ERC is April 15, 2025.

Is ERC Taxable?

The ERC is not considered taxable income; however, the IRS requires that the amount of the credit received be deducted from the wages paid for tax purposes, reducing the wage expense deduction on the business’s tax return.

IRS Forms Associated with ERC

  • ERC Form 941: Employer’s Quarterly Federal Tax Return, used to claim the ERC.
  • Form 941-X: Adjusted Employer’s Quarterly Federal Tax Return or Claim for F-941 refund, used to amend previously filed returns to claim the ERC.
  • Worksheet 1: Used to calculate the amount of ERC for each quarter.

Step-by-Step Guide to Reporting ERC on Tax Returns

Understanding and claiming the Employee Retention Credit (ERC) involves a systematic process. Here’s a detailed guide to help businesses understand how to report ERC on tax returns:

Step 1: Obtain Your Original Form 941

To begin the process of reporting the ERC, retrieve your original Form 941, which was filed for the quarters during which you are claiming the credit. This ERC form is essential as it serves as the basis for any amendments.

Step 2: Fill Out Form 941-X

With your original Form 941 in hand, you can start filling out Form 941-X. This form is used to correct the original return and claim the ERC.

What to Include?

  • Company Information: Your business name, address, and Employer Identification Number (EIN).
  • Details of the Return Being Corrected: Specify the quarter and year.
  • Date of ERC Eligibility Discovery: The date when you determined your business was eligible for the ERC.

Note: If you file Form 941-X to claim the Employee Retention Credit, you need to reduce your deduction for wages by the amount of the credit for that tax period. This may require amending your income tax return (for example, Forms 1040, 1065, 1120, etc.) to reflect the reduced deduction.

Step 3: Use Separate Forms for Each Quarter

You need to complete a separate Form 941-X for each quarter that requires correction. This helps maintain clarity and ensures that the IRS can accurately process your claim.

Step 4: Calculate Qualified Wages

In Part 3 of ERC Form 941-X, you need to calculate the corrected amounts for various types of wages, including qualified wages eligible for the ERC.

  • Assess All Wages: Include wages and health plan expenses relevant to the ERC.
  • Qualified Sick Leave Wages: Calculate any applicable sick leave wages.

Step 5: Determine Recovery Startup Eligibility

If your business started operations after February 15, 2020, you might qualify as a recovery startup. This status can unlock additional ERC tax refund opportunities.
Eligibility Criteria:

  • Startup Date: Must be after February 15, 2020.
  • Gross Receipts: Average annual gross receipts must be less than $1 million.

Step 6: Include an Explanation and Double-Check Accuracy

When you’re ready to submit your amended returns, include a clear explanation of why you are making these amendments. Ensure all calculations are accurate and that the forms are complete to avoid delays.

Final Steps:

  • Explanation: Clearly state why the amendments are being made.
  • Check: Review all information for accuracy.
  • Submit: File the amended returns with the IRS.

Step 7: Stay Updated on Legislative Changes

ERC provisions and guidelines may change, so it’s important to stay updated on the latest IRS information. Regularly check IRS updates and consult with a tax professional.

By following this step-by-step guide and ensuring your documentation and calculations are accurate, you can effectively claim the ERC and maximize your financial relief.

Who Can Withdraw an ERC Claim?

You can withdraw your Employee Retention Credit (ERC) claim if all the following conditions are met:

  • Filed on an Adjusted Return: You made the claim on an adjusted employment tax return (Forms 941-X, 943-X, 944-X, CT-1X).
  • Claim Only for ERC: You filed your adjusted return solely to claim the ERC, without making any other adjustments.
  • Full Withdrawal: You wish to withdraw the entire amount of your ERC claim.
  • IRS Payment Status: The IRS has either not paid your claim, or the IRS has paid your claim but you haven’t cashed or deposited the refund check.

It is important to note that if you willfully filed a fraudulent ERC claim or were involved in such activities, withdrawing the fraudulent claim will not protect you from potential criminal investigation and prosecution.

If you cannot withdraw your claim, you can still file another adjusted return to:

  • Reduce Your Claim: Reduce the amount of your ERC claim.
  • Make Other Adjustments: Make other adjustments to your amended return.

You can also submit a request to withdraw the full amount of your ERC claim, even if you are under audit.

What Are Qualified Wages for the ERC?

Qualified wages for the Employee Retention Credit (ERC) are those wages subject to Social Security and Medicare taxes that are reported on a Form W-2. These wages can also include certain health care expenses paid for employees. However, payments made to independent contractors or reported on Form 1099-NEC do not qualify as they are not subject to Social Security and Medicare taxes.

It is important to note that not all wages you pay to employees qualify for the ERC. Be cautious of claims that all wages are eligible. Different dollar limits and rules apply depending on the quarter for which you are claiming the ERC.

Factors Influencing Qualified Wages for ERC Calculation

  • Average number of employees in 2019: This helps determine if you qualify as a small or large employer.
  • Wages paid during suspension or decline: Whether employees were paid during the suspension of operations or during a significant decline in gross receipts.
  • Application of related individual rules: How the rules related to ownership and family members apply to your situation.
  • Use of wages for other credits: Whether the wages were used to claim other tax credits.
  • Use of wages for specific programs: Whether the wages were used as payroll costs for programs like the Paycheck Protection Program or other relief grants.

These rules have evolved through 2020 and 2021.

Avoiding ERC Scams

With the availability of the Employee Retention Credit (ERC), businesses need to be vigilant about potential scams. Here’s how to protect yourself from fraudulent schemes:

  • Beware of Unsolicited Offers: Be cautious of unsolicited calls, emails, or texts promising large ERC tax refunds quickly.
  • Verify Promoter Credentials: Ensure the promoter is a reputable tax professional with a valid Preparer Tax Identification Number (PTIN).
  • Understand Eligibility: Do not count on aggressive marketing tactics that promise eligibility without a detailed review of your financial situation.

Avoiding ERC scams can protect your business and ensure you receive the correct credit. If you need assistance, the Hopkins CPA Firm can help with accurate claims. Additionally, we provide services to resolve taxes using options like offers in compromise with the IRS, innocent spouse relief IRS, and penalty abatement IRS.

Protecting Yourself from ERC Scam Promoters

The IRS advises businesses, tax-exempt groups, and other organizations approached by promoters to take simple steps to protect themselves from making an improper Employee Retention Credit (ERC) claim:

  • Request Detailed Worksheets: Obtain a detailed worksheet that explains your ERC eligibility and the computations used to determine your ERC amount.
  • Verify Government Orders: Do not accept generic documents about government orders from third parties. If told you qualify for the ERC based on a government order, request a copy of that order and review it carefully to ensure it applies to your business or organization.
  • Only Apply if Legitimately Qualified: Do not apply for the ERC unless you are certain you qualify for it.

How Does Employee Retention Credit Affect Tax Returns?

The Employee Retention Credit (ERC) impacts tax returns in several significant ways. Here’s how it affects your tax filings:

  • Reduction in Wage Deductions: The ERC requires businesses to reduce their wage expense deductions by credit, lowering the deductible amount on tax returns.
  • Refundable Tax Credit: As a refundable credit, the ERC can result in a tax refund if it exceeds payroll tax liability. Any excess credit is refunded to the business.
  • Amended Returns: Businesses that didn’t initially claim the ERC can file amended returns to claim it retroactively.
  • Coordination with PPP: The ERC cannot be claimed on wages used for Paycheck Protection Program (PPP) loan forgiveness, preventing benefit overlap. Ensure different wages are used for ERC and PPP.
  • Record-Keeping Requirements: Maintain proper documentation, including payroll records, proof of gross receipts decline, and relevant government orders, to substantiate ERC claims and comply with IRS requirements.

Voluntary Disclosure Program for Incorrect ERC Claims

The IRS has established the Employee Retention Credit Voluntary Disclosure Program (ERC-VDP) for businesses that claimed and received the ERC but are ineligible and need to repay it. This program allows you to correct your claim by repaying the ERC at a discounted rate. Here are the key details:

How Does the ERC-VDP Work?

  • Eligibility: This program is for businesses that received the ERC but later found they were ineligible.
  • Requirements:

By participating in the ERC-VDP, businesses can resolve any discrepancies in their ERC claims and avoid potential penalties and interest.

Final Thoughts

The ERC is more than just a tax credit; it’s a tool for enhancing your business’s financial health and operational efficiency. By strategically using the funds from the ERC, businesses can not only weather the current economic challenges but also position themselves for sustained growth and success.

The IRS has been actively addressing fraud related to the ERC. The IRS Criminal Investigation Division has reported about $3.4 billion in fraud from over 300 cases. Since last fall, these efforts have protected over $1 billion in revenue. The Voluntary Disclosure Program (VDP) has recovered more than $225 million from over 500 taxpayers, with additional submissions still being processed. Additionally, the ongoing claim withdrawal process has led to 1,800 entities withdrawing $251 million in erroneous claims.

Contact the Hopkins CPA Firm today to ensure you are fully leveraging the ERC and other tax strategies to secure your business’s future. Beyond ERC, we also provide insurance planning services, tax preparation for businesses, retirement planning services, and unfiled tax returns help.

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Joe Hopkins

Joe has 25+ years as a Certified Public Accountant licensed in the State of Texas and solving IRS problems. Current member with the American Institute of Certified Public Accountants (AICPA), Texas Society of CPA’s (TSCPA), National Society of Accountants (NSA), Bachelor’s degree in accounting (BBA), Master’s degree in Business Administration (MBA) at Texas A&M Corpus Christi. Experience in a variety of industries as Controller, CFO and tax resolution issues for both business and personal tax cases.