Employee Retention Credit Checklist

It clicked for me a few days ago. We need an employee retention credit checklist. For when we prepare the tax returns of small business owners next year.

And then why I bring this up, even though tax season only ended a couple of weeks ago? That checklist? It probably belongs in the organizers we tax accountants send our business clients in just a few weeks.

So, in an effort to help tax accountants and small businesses everywhere? I present the employee retention credit checklist shown below.

Note that the checklist items appear in the headings. Those go on your organizer.

The text under the headings? Those explain why you and I want to ask the questions. And how we process client answers.

Did your firm suffer  a 50% decline in 2020 or a 20% decline in 2021 in quarterly gross receipts?

A first task? Because many people thought (correctly at the time) that they could not receive both Paycheck Protection Program loans and take employee retention credits? Lots of people missed getting employee retention credits. Even though they qualified.

Accordingly, we need to check to see if folks qualified for employee retention credits. And the easiest way to qualify? Due to a substantial decline in quarterly gross receipts as compared to (usually) 2019.

Specifically, we should double-check if an employer suffered either more than a 50% decline in 2020 as compared to 2019 or more than a 20% decline in 2021 as compared to 2019.

If an employer did get that beat up? Bingo. They probably qualify for employee retention credits. If some employer does qualify, you probably want to extend the 2021 tax return. And then file employee retention credit refund claims as soon as you can. Then, after that work is done, return to the 2021 income tax return.

Two reasons for this suggestion. First, as you already know, those credits can add up to big numbers. Up to $5,000 per employee for 2020. And up to $7,000 per employee for each quarter in 2021. (But clients don’t always know that. So we ought to double-check.)

And then, a second reason for this suggestion: If you should file employee retention credit refund claims? You need to finish  that work in order to know what deductions you take for wages on the tax return. A taxpayer needs to reduce its wages deductions for employee recention credits.

The upshot of all this? If a client is eligible for employee retention credits, first get the 2020 941 payroll returns amended. As soon as possible. Start the long slow wait for the refunds. And then pivot to the income tax returns.

Did COVID-19-related state or local government orders close your business or part of your business?

A related point? Verify an employer didn’t have its operations either fully or partially suspended by state or local government orders related to the COVID-19 pandemic.

This is the harder way to gain eligibility. But if such a suspension did occur? Check to see whether the employer qualifies for an employee retention credit on that basis.

A full suspension in operations should qualify an employer for employee retention credits for the duration of the suspension.

A partial suspension in operations qualifies an employer for credits if the part of the operation suspended amounts to more than a nominal chunk of the business. Nominal in this context means ten percent or more of gross receipts or ten percent or more of hours of service.

Note: We’ve got a longer discussion about how suspension triggers employee retention credit eligibility here: Solving the Employee Retention Credit Partial Suspension Puzzle.

Again, however, if you or I do find ourselves with clients who deserve but didn’t get employee retention credits? Probably we immediately extend all the affected tax returns. Then do the employee retention credit refund claim. Probably after tax season ends? And then, after that, finish the 2021 tax returns. And maybe amend the 2020 tax returns.

Did you start another trade or business sometime after February 15, 2020?

Many small business employers who began the “carrying on” of a new trade or business after February 15, 2020 qualify for employee retention credits for the third and fourth quarters of 2021. Automatically. (The only real requirements? The employer needs average gross receipts to not exceed $1,000,000 over the three preceding tax years.)

This is a little absurd. As a policy thing. But your clients will want to know about this. Recovery startup business employee credits run as much as $50,000 for the third quarter of 2021 and $50,000 again for the fourth quarter of 2021. So dig into this wrinkle when you go to prepare your first business entity return for a taxpayer.

Note: We’ve got a longer discussion here of how the recovery startup business employee retention works. See that to get up to speed.

Did you invest in rental property sometime after February 15, 2020?

Even more curious–to me, at least? If a business owner happened to buy a rental property sometime after February 15, 2020? That new rental property counts possibly as beginning to carry on a new trade or business. Which means some business owner who’s bought a rental as a personal investment may inadvertently qualify for recovery startup business employee retention credits.

In other words, the guy who owns an S corporation with employees? If he bought rental property in late 2020, he probably qualifies for up to $100,000 of employee retention credits for 2021. And you need to know that before you do the 2021 tax return.

Note: We’ve got a longer discussion of how real estate recovery startup business credits work here: The $100,000 Real Estate Employee Retention Credit Windfall.

Have you amended 941 returns for 2020 or 2021 for employee retention credits?

You want to know whether an employer amended 941 tax returns for employee retention credits. And for this reason.

If a firm has amended a 941 for employee retention credits, it needs to reduce its wages deduction for the credit. And that accounting may not have gotten done right. So you need to check that.

Example: Some client amended 2020 941 payroll tax returns, claimed a $50,000 refund, but then recorded the $50,000 refund as a reduction in 2021 wages when it got the check in 2021. That sounds right. But it puts the $50,000 reduction in wages into the wrong year. (You need to show the employee retention credit as a reduction in the wages to which the credit applies.)

Have you received employee retention credit refunds?

You probably also want to check on whether an employee has received her, his or their employee retention credit refund claims if they’ve already applied.

One issue here is same one as just discussed. You want to check that the refund transaction gets treated correctly on the tax return.

But a second issue pops up here, too. Those employee retention credits were often tricky to calculate. Especially for small business owners. Accordingly, a good possibility exists that the IRS changed the refund amount once it got around to processing the amended 941-X return.

You and I therefore probably want to use the appearance of the actual refund to double-check the accounting. And to maybe identify when an incorrect amount needed to be fixed.

Example: The client with your help filed a tax return for 2020 that either didn’t reduce the wages deductions for employee retention credits (because you didn’t know then you should do that) or that reduced wages for the wrong amount. In either case, the time to double-check on this? And make any necessary corrections? When the refunds arrive.

Have you applied for Paycheck Protection Program forgiveness?

The PPP loan a client may have gotten only indirectly connects to the employee retention credit.

That connection? An employer can’t use wages it paid with forgiven PPP loan money for employee retention credits.

But the thing is, the PPP forgiveness application provides flexibility to PPP loan borrowers. And a borrower can gain forgiveness for spending that doesn’t “use up” wages that could also plug into the employee retention credit calculations.

Accordingly, you and I probably want to check on whether PPP loan forgiveness has been applied for. And if it hasn’t, we may want to help clients optimize their PPP forgiveness application.

The obvious tricks? Get as much forgiveness as possible for non-payroll-spending. The rules allow a borrower to spend up to 40 percent of the PPP money on things like mortgage interest, rent, utilities, and other items.

Then for the remaining 60 percent that must be spent on payroll? Get as much forgiveness as possible for payroll costs that count toward PPP loan forgiveness but which don’t lead to employee retention credits. So retirement benefits, state and local payroll taxes, group life insurance benefits, owner payroll, owner family payroll and so on.

This approach means you use the least possible amount of payroll that would otherwise produce employee retention credits… Specifically wages for non-owner and non-family employees. And group health insurance benefits for non-owner, non-family members.

Need More Information or ERC Training for Staff?

If you realize some of your staff need more training about how the employee retention credits work, no problem.

We’ve got economical $14.95 paperback book that represents a great way for staff, managers and partners to learn how employee retention credits work: Maximizing Employee Retention Credits.

We’ve also got a number of related articles and blog posts about the employee retention credit and many may be useful for folks still getting up to speed.