The Internal Revenue Service (IRS) just released its annual “Dirty Dozen” list of common tax scams and opened this year’s installment with a warning about aggressive Employee Retention Credit (ERC) promoters. In recent months, the IRS has repeatedly warned businesses of ERC scams and abuse, which ultimately leave taxpayers solely responsible for repaying the credit, along with potential penalties and interest if the return is audited.1 The IRS noted that “third party promoters of the ERC often don't accurately evaluate and explain eligibility for, and computation of, the credit. They may make broad arguments suggesting that all employers are eligible without evaluating an employer's individual circumstances.”2
Significantly, we want our readers to know that such notorious tactics are especially evident in the context of the third quarter of 2021. This is primarily due to the fact that many promoters are misleading employers by incorrectly claiming that the business experienced a qualifying partial suspension of operations. As we discuss below, most businesses will not be ERC eligible under that test in the third quarter of 2021. In this article, we want to briefly outline the basics of the three legitimate methods an employer may be able to use to claim ERC and highlight this trending and aggressive tactic impacting the third quarter of 2021. Our goal is to help you protect yourself and encourage all employers claiming ERC for the third quarter of 2021 to ask their preparers how they determined the business was eligible to claim the credit.
A business may qualify to claim ERC by using one of three methods:
1. The Business Qualifies as a Recovery Startup Business
A business may qualify for ERC for the third or fourth quarters of 2021 if the business qualifies as a “Recovery Startup Business.” A Recovery Startup Business is defined as an employer that: (1) began operations after February 15, 2020; (2) did not have three-year average revenues exceeding $1,000,000 per year; and (3) does not qualify under either the decline in gross receipts or the full or partial suspension of operations tests.3
2. The Business Experienced a Significant Decline in Gross Receipts
Another way a business may be able to claim ERC for 2021 is by showing that it experienced a decline in gross receipts of at least 20 percent when compared to the same quarter in 2019.4
3. The Business was Subject to a Full or Partial Suspension of Operations
Finally, a business may qualify for ERC if the business experienced a full or partial suspension of operations due to a COVID-19-related governmental order. This includes actual closures of all or part of trade or business operations,5 as well as restrictions that have a more than nominal effect on a business’ ability to operate in a manner comparable to pre-pandemic operations.6
Although many businesses may qualify under the Partial Suspension method, it’s much more difficult to meet its requirements in the third quarter of 2021 within the continental United States. Remember, in even the most restrictive jurisdictions, the majority of businesses were able to resume normal operations as late as June of 2021. There may be special circumstances for certain industries (such as healthcare) or businesses affected by longer restrictions, but these are exceptions—not the rule.
IRS guidance has noted several scenarios that do not qualify a business for ERC, such as reliance on state of emergency proclamations, orders unrelated to the employer’s business that simply reduce the demand for their services or alter customer behavior, or businesses that were able to perform comparable operations virtually or via telework.
Unfortunately—and as the IRS has noted—aggressive promoters all too often fail to evaluate the facts and circumstances in light of the applicable rules and guidance. In other words, they are neglecting to engage in the necessary comprehensive analysis of complex IRS guidance and careful application to each employer’s particular set of facts and circumstances. And this in turn requires compilation and review of various records. As clarified by the IRS, an eligible employer needs to maintain such records to ensure that the employer is able to adequately substantiate their ERC eligibility.7 For example, if an employer’s eligibility claim rests on a partial suspension, that position and substantiating records (often compiled in a “memo”) must include: (1) the relevant government order(s), and (2) a precisely tailored narrative as to how the order(s) directly impacted the business. Disturbingly, we see that aggressive promoters generally do not inform businesses which were able to resume normal operations in the third quarter of 2021 that they are ineligible under the Partial Suspension method.
Many unscrupulous preparers who fail to perform the complex analysis necessary to prepare an accurate ERC claim are taking improper and aggressive positions and putting businesses at unnecessary risk of an audit. Our team at Frost Law has a sophisticated process in place which helps businesses claim the maximum accurate amount of ERC, as quickly and smoothly as possible. If you have any questions regarding filing for the ERC or have concerns about previously filed returns, please call us at (410) 497-5947, or you can schedule a confidential consultation here.