The CARES Act of March 2020, Relief Act of 2021, and American Rescue Plan Act of 2021 provided trillions of dollars in government-backed financial incentives to U.S. companies to help them weather the COVID-19 pandemic. These financial incentives proved extremely valuable at a time when uncertainty about the future of the economy was at its highest.
Estimates by U.S. Treasury Department economists indicate that as many as 19 million jobs were saved by these funding packages. Now that the dust has settled from the pandemic, CFOs may still have a challenge with one incentive still available — the Employee Retention Credit (ERC).
The Employee Retention Credit was created by the CARES Act and provided a refundable employment tax credit to help businesses with the cost of keeping staff employed. Originally, businesses could receive a maximum credit of $5,000 per employee in 2020. That was revised with the Relief Act of 2021 when it increased the maximum per-employee credit to $7,000 per employee per quarter in 2021. The American Rescue Plan Act of 2021 made additional changes by adding an additional incentive for “recovery startup businesses” eligible to claim a $50,000 credit per calendar quarter.
The potential tax savings for U.S. companies was tremendous so many took advantage of this credit. The challenge is Congress and the federal government kept making head-spinning changes to the rules surrounding the ERC every time it passed a new piece of legislation. For example, the Infrastructure Investment and Jobs Act passed in November 2021 limited the ability for businesses to claim the credit in the final quarter of 2021 even though the American Rescue Plan Act had outlined that the credit would be available for all of 2021. Eligible businesses may still file refund claims to obtain the credit for the impacted years and so businesses that were negatively impacted by the pandemic environment may still have opportunities.
Adding additional complexities, hundreds of “financial” advisory firms came out in 2020 and 2021 claiming they could assist companies with the paperwork necessary to claim the ERC. These advisory firms launched aggressive marketing campaigns and promoted the ERC as a way businesses could reduce their liability. Some of these firms offer to file the claims for a refund but do not seemingly do the underlying research on the strict and interpretive qualifications. They are not staffed by CPAs or lawyers, meaning they were just providing their opinions about how much of the ERC a business could take. These practices have raised the attention of the federal government.
While many of us were closing out our summer, the Treasury Inspector General for Tax Administration, an independent office that acts as a watchdog for the Internal Revenue Service, released a telling report that indicated that U.S. businesses have claimed more than $2 trillion in ERCs in their federal returns which they identify as “suspicious.” That finding only covered federal returns through March 10, 2022, meaning there is likely even more “suspicious” activity to be found when the IRS clears its backlog.
If upon further review, you are not comfortable with the credits taken, it is better to correct the matter proactively rather than to incur penalties upon examination.
This staggering $2 trillion figure would indicate that many businesses across the U.S. claimed the ERC when they may not have been eligible to do so. Now that the IRS has the funding it needs from the Inflation Reduction Act of 2022, businesses should expect it to launch a more aggressive compliance campaign, especially when it comes to pandemic-related relief programs.
If your company is still considering applying for the ERC, you should make sure that you and your advisers thoroughly evaluate the rules that are in place before making a refund claim. If you’re a businesses that has already filed for these credits, you should immediately begin gathering all the necessary paperwork needed to prove ERC eligibility for the credits claimed. That includes not only the necessary payroll forms, extensive documentation related to paid time off, family and medical leave, but also that eligibility is well documented and supported by the rules and regulations that exist.
It is critical that CFOs have appropriate support to make sure that they were compliant with the credit taken on their tax returns. If upon further review, you are not comfortable with the credits taken, it is better to correct the matter proactively rather than to incur penalties upon examination.
Based on recent legislation, it is clear that the IRS and Treasury Department are clamping down on fraud perpetrated by bad actors who took advantage of pandemic-related funding. After the bad actors are brought to justice, the IRS will undoubtedly focus more of its attention on businesses that took advantage of these funding packages.
CFOs should rest assured that if they have the appropriate documentation to demonstrate eligibility for the ERC, the business will be fine if the IRS does request more information. CFOs that don’t have that documentation should begin working with their legal and accounting professionals immediately to ensure compliance.
Gary Wallace, CPA, is the managing partner of Keiter. He has more than 30 years of federal, state, and local tax experience. Before joining Keiter, he was CFO of The Riverstone Group.