The Employee Retention Credit (ERC) has been a hot topic since its creation in the CARES Act back in 2020. Rules and guidance have changed along the way and new players (aka ERC mills) have entered the fray along the way to add more hiccups to the process. The program has been the victim of fraud due to some of these ERC mills asserting paths to qualification that don’t truly exist, with many taxpayers unknowingly being confused or even filing erroneous claims as a result.
Background
This article is not intended to get into the specific details and qualifications needed for the credit. Much of that can be found here. However, some background is likely needed to provide some context. There are a few ways to qualify for the credit. There is a gross receipts test that is mechanical in nature. There is also a special rule for some recovery startup businesses. However, the qualification that many are latching onto relates to full or partial suspension of business. The rules seem clear in concept but can be more gray and certainly more prone to argument, especially as it pertains to partial suspensions.
These qualifications have not changed per se since the CARES Act, but their interpretation and application have evolved over time through IRS and Treasury guidance and FAQs. One major change occurred at the end of 2020. Originally, businesses that took a Paycheck Protection Program (PPP) loan were not eligible to utilize the ERC. However, the Consolidated Appropriations Act of 2020 passed at the end of 2020 changed that so that a business could still take the ERC even if they took a PPP loan. This change opened the ERC program to a whole slew of new businesses. That one change really ramped up the activity in the ERC space.
Current Program Status
Currently the program is on a moratorium. The IRS put a halt to the program as of 9/14/2023 to better deal with the backlog they had and address fraud concerns. The program is set to resume with new applicants after 12/31/2023 (they are still processing claims filed prior to 9/14/2023). The IRS plans to do more thorough reviews of claims in hand currently and those going forward. There is widespread belief that many of the claims in hand are fraudulent and/or involve aggressive positions. The IRS needs time to sort that out.
Additionally, the IRS issued a General Legal Advice Memorandum (aka GLAM, which is a favorite acronym of many accountants) on October 18, 2023, that sets forth the IRS position regarding qualifying for the ERC based on full or partial suspension of business. The GLAM in general distinguishes between CDC and OSHA guidance vs. state and local orders, noting that the federal guidance does not constitute an order for purposes of the ERC credit. Instead, the third path to the ERC credit – consisting of the suspension of business due to a government order – generally must come from a true, legally enforceable, state, or local order. Many ERC promotors have asserted, incorrectly, that suspensions resulting from CDC and OSHA guidance can be viewed as “orders.” However, claims using that basis should be revisited.
As part of the moratorium, the IRS provided a withdrawal process for those who applied for the ERC but have yet to receive or cash refund checks. This offramp could be useful if you were relying on CDC or OSHA guidance and no longer feel comfortable with that position after the IRS GLAM. The IRS also is working on a settlement program for those who already have received refunds but may have been led astray by bad actors.
Bank Considerations – for the bank itself
A bank’s qualification for the ERC is extremely facts and circ*mstances driven. The gross receipts test can be difficult for most banks to meet given the increased business resulting from PPP activity and other considerations. The partial suspension rules can also be tough to meet as most banks were considered essential businesses and therefore not subject to most orders that impacted many other types of businesses. That said, based on IRS guidance to date, we recommend that banks consider the following for their own qualifications:
- Can I meet the gross receipts test?
- If I can’t meet the gross receipts test, then what specific orders can I point to that show a suspension of business?
- Given the most recent IRS GLAM on CDC and OSHA guidance, you should focus on state and local orders.
- If I can find orders that appear to have impacted bank operations, can we show that they had a more than nominal impact to business?
- Transition to remote work often will not qualify, if remote work can be done nearly as effectively as in-person.
- Additionally, the IRS has defined “nominal” for essential businesses using a 10% test. You can find more out on Q5 of the Qualifying government orders section on the IRS FAQ page here.
- Have I done my due diligence on the qualifications of a third-party vendor assisting with our credit? Avoid red flags such as contingent fees or businesses with limited or no operational history. (Many “fly by night” companies sprang to life solely to help taxpayers claim this credit.)
- Lastly – take a holistic view. Does this story accurately reflect our business and do you feel comfortable with all positions?
Bank Considerations – for bank customers
One of the more forgotten aspects of the ERC might be that many of the bank’s customers have also applied for and received the credit. Looking at things from that perspective creates the following considerations for bankers:
- Are these hot deposits? Is it likely these claims will be clawed back by the IRS with potentially more for interest and penalties?
- Were customer claims filed by known ERC mills? If so, how likely is any ERC deposit to stick? Size of claim and materiality may come into play as well.
- Should we provide our customers with any resources to verify claims or provide more education on the topic?
- Do we need to quantify the total risk of these deposits and/or potential deposits?
Concluding Thoughts
Whether the bank is considering the ERC for itself, for a customer, or both, careful consideration is needed. The IRS is likely to scrutinize many of these claims in the future and the risk in this area is growing so ducks really need to be in a row. The IRS is almost certain to ask about qualification first and foremost and will ask for the gross receipts calculation or identification of the orders, with specific focus on what portions of the orders are applicable and legitimate – as distinguished from guidance and suggestions. The turnaround time can be tight too, so we recommend having these orders and eligibility in place in such a manner that if the IRS were to ask for them you could produce them almost immediately with context.
This has been a sort of roller coaster ride of a program. If nothing else perhaps we may see a good Netflix documentary on the subject someday with all the twist and turns!
Please reach out to Adam Aucoin or your BNN advisor with any questions or concerns.
Disclaimer of Liability: This publication is intended to provide general information to our clients and friends. It does not constitute accounting, tax, investment, or legal advice; nor is it intended to convey a thorough treatment of the subject matter.
