Brotman Law May 13, 2024 20 min read

An Arkansas Employee Retention Tax Credit Attorney's Guide

How to Execute Strategic ERTC Audit Defense for Arkansas Businesses

In Arkansas, where the economy is supported by diverse sectors including agriculture in the Delta, major retailers like Walmart in Bentonville, and a growing tech presence in Little Rock, the Employee Retention Tax Credit (ERTC) has provided crucial financial support during the COVID-19 pandemic. This federal initiative aids businesses that have managed to keep their workforces intact despite experiencing economic hardships. However, the receipt of ERTC funds also opens businesses up to the possibility of IRS audits. For Arkansas businesses, a thorough understanding of ERTC compliance is essential to continue benefiting from the program and to handle potential audits effectively.

This guide will outline effective strategies for ERTC audit defense suitable for Arkansas's varied business environment, emphasizing the importance of thorough preparation and the role of specialized legal expertise.

Overview of the ERTC in Arkansas's Economic Context

The ERTC offers a refundable tax credit to employers who sustained employment despite facing significant operational disruptions or declines in gross receipts due to COVID-19. For businesses across Arkansas, particularly those impacted by state and local restrictions, understanding how to document these effects is crucial.

Arkansas Statewide Orders That May Have Impacted Their Business

Below is a detailed summary of ten significant COVID-19 orders issued in Arkansas during 2020 and 2021 under Governor Asa Hutchinson, highlighting how these directives impacted businesses, particularly in relation to the Employee Retention Tax Credit (ERTC) Audit.

  • State of Emergency Declaration (March 2020) - Governor Asa Hutchinson declared a state of emergency, which mobilized state resources and set the regulatory framework for subsequent COVID-19 orders. This foundational declaration signaled significant operational changes for businesses, setting the stage for ERTC claims due to initial disruptions.

  • Closure of Non-Essential Businesses (April 2020) - Non-essential businesses were mandated to close temporarily, halting operations and severely impacting revenue streams. This direct government-imposed closure qualifies affected businesses for the ERTC, as they experienced full suspension of operations.

  • Mandatory Face Masks in Public Spaces (July 2020)** - The state required face masks in all public spaces where social distancing was not possible. This added operational challenges and costs for businesses, which had to enforce the mandate and possibly faced reduced customer foot traffic as a result.

  • Phased Reopening Plan (May 2020)- Arkansas initiated a phased reopening of businesses under specific health guidelines, including capacity limits and enhanced sanitary practices. Despite reopening, these restrictions continued to limit business operations and customer interactions, relevant for ERTC eligibility due to partial operational suspension.

  • Directive for Remote Work (Ongoing from March 2020) - Where possible, businesses were encouraged to maintain remote work. This shift required significant adjustments in operations and could lead to ERTC eligibility by demonstrating how businesses continued to incur costs to keep employees actively employed despite reduced physical operations.

  • Temporary Suspension of Evictions and Foreclosures (April 2020) - This order provided temporary relief for business property rentals, indirectly supporting businesses by reducing operational costs during critical periods of revenue loss.

  • Extension of Unemployment Benefits (2020) - Enhanced unemployment benefits were extended, impacting businesses’ workforce decisions and operational capabilities, particularly as they struggled to bring back furloughed employees.

  • Financial Aid for Small Businesses (2020 and 2021) - Arkansas rolled out several financial aid programs aimed at supporting small businesses facing operational and financial strain. Documentation of receiving such aid can support ERTC claims by illustrating the need for additional financial support to retain employees.

  • Limitations on Large Public Gatherings (2020 and 2021) - With restrictions on the size of public gatherings, businesses involved in entertainment, events, and hospitality were particularly affected, substantiating ERTC claims due to restricted operations and impacted revenues.

  • End of Statewide Public Health Emergency (May 2021) - The conclusion of the public health emergency did not immediately end the economic difficulties for businesses. Many continued to face challenges in returning to pre-pandemic levels of operation and profitability. Documenting the ongoing impacts post-emergency is essential for businesses claiming the ERTC for periods of extended disruption.

Throughout the pandemic, Governor Asa Hutchinson's administration implemented measures aimed at balancing public health safety with economic impacts. For Arkansas businesses preparing for an Employee Retention Tax Credit Audit, it is crucial to document how each state order impacted their operations, financial health, and employment practices.

Detailed records should include timelines of government orders, descriptions of how these orders influenced operational capacities, financial impacts, and efforts to retain employees under challenging conditions. This comprehensive documentation will be key to demonstrating the necessity of the ERTC during periods of significant operational disruption and recovery.

Impact of COVID-19 on Key Arkansas Industries

The COVID-19 pandemic deeply influenced the economic landscape of Arkansas, impacting varied sectors from retail and corporate services in Bentonville and Northwest Arkansas, to the tech and service industries in Little Rock, and the agricultural operations in the Delta region. Each area faced unique challenges that reshaped their business operations and profitability, making the accurate documentation of these impacts crucial for establishing eligibility for the Employee Retention Tax Credit (ERTC) and preparing for potential IRS audits.

  • Bentonville and Northwest Arkansas: Retail and Corporate Disruptions - In Bentonville and the broader Northwest Arkansas area, known as a major retail and corporate hub due to the presence of major corporations like Walmart, the pandemic introduced significant disruptions. Supply chain challenges emerged early in the pandemic, as global lockdowns affected the movement of goods and materials, leading to shortages and delays. Concurrently, consumer spending patterns shifted dramatically from in-store shopping to online purchases, requiring businesses to enhance their e-commerce capabilities and adjust their logistical operations quickly. This sudden pivot strained resources and altered profit margins, impacting overall company operations and profitability. For businesses in this region, documenting the extent of supply chain disruptions, changes in consumer behavior, and their impacts on sales and operations is essential. These details not only demonstrate the pandemic's direct effects on business performance but also support claims for the ERTC by illustrating the necessity of retaining staff amidst operational upheavals.
  • Little Rock: Tech and Service Sector Evolution -  In Little Rock, the capital city's burgeoning tech and service sectors were notably affected by the shift to remote work. As companies transitioned away from office-centric models, team interactions, project management, and service delivery dynamics were transformed. This shift required significant investments in technology and training to support effective communication and maintain productivity. Moreover, the move to remote work altered traditional business models, potentially reducing the need for physical office spaces and reshaping the commercial real estate market in the area. Businesses in Little Rock must thoroughly document these transitions, detailing the investments made to support remote work and the subsequent effects on their operational models. This information is crucial for substantiating ERTC claims, as it highlights how businesses continued to employ and adapt their workforce to new working conditions imposed by the pandemic.
  • Little Rock: Healthcare Services Strain - In Little Rock, a significant healthcare hub, hospitals and healthcare facilities faced overwhelming demands due to the COVID-19 outbreak. Elective procedures were postponed or canceled to free up resources for COVID-19 patients, resulting in significant revenue losses for medical practices. Healthcare providers had to quickly adapt by expanding telehealth services and reallocating resources, incurring additional costs. For ERTC claims, these medical institutions would need to document operational changes, financial impacts, and how they managed to retain staff during these challenging times.
  • Fort Smith: Manufacturing and Industrial Slowdown - Fort Smith, known for its robust manufacturing sector, saw significant disruptions as factories had to reduce operations or shut down temporarily to comply with social distancing mandates. This slowdown affected the entire supply chain, from production to distribution. Manufacturing businesses faced challenges in managing workforce logistics while ensuring safety, often leading to reduced hours or furloughs. To support ERTC claims, companies in this sector should maintain detailed records of shutdown periods, workforce adjustments, and measures taken to mitigate the impact on employees.
  • Springdale: Food Processing and Agricultural Challenges - In Springdale, a key city for the poultry industry, food processing plants faced outbreaks among workers, leading to reduced production capacities and temporary closures. These disruptions not only affected the plants but also had a ripple effect on local agriculture and related industries. Businesses in this sector need to compile records showing the extent of operational disruptions, health and safety expenditures, and employee retention efforts during periods of reduced activity to support their ERTC claims.
  • Jonesboro: Retail and Service Industry Hardships - Jonesboro's retail and service sectors were hit hard by mandatory closures and capacity restrictions. Local stores, restaurants, and service providers saw a steep decline in customer foot traffic, forcing many to enhance their online presence or pivot to curbside pickup and delivery models. These adaptations often came with significant investment in digital infrastructure and safety measures. Retailers and service providers in Jonesboro should keep thorough documentation of these changes, including financial records of expenditures and strategies implemented to retain employees during this period

  • Agricultural Challenges in the Delta: In the agricultural heartlands of the Delta, farmers and agribusinesses contended with both market volatility and logistical challenges that severely impacted production and sales. Fluctuating demand, particularly from disrupted supply chains to food service providers like restaurants and schools, posed significant hurdles. Additionally, logistical issues due to transport restrictions and safety regulations affected the distribution of agricultural products, leading to both surpluses and shortages. For these agricultural businesses, compiling detailed records of market conditions, sales impacts, and logistical challenges is vital. This data substantiates ERTC claims by showing how the pandemic directly disrupted normal agricultural operations and necessitated maintaining a workforce in the face of decreased and erratic revenue streams.

For businesses across Arkansas, the narrative of navigating through the pandemic involves significant adaptation and resilience. Detailed documentation of economic impacts and operational changes is not just about historical record-keeping; it is essential for accessing vital financial support mechanisms like the ERTC. This comprehensive approach ensures businesses are well-prepared to demonstrate to the IRS the full extent of the pandemic's impact and their ongoing efforts to sustain operations and retain essential staff.

Consequences of an Employee Retention Tax Credit Audit

Navigating an Employee Retention Credit (ERC) audit can be a critical challenge for any business that has taken advantage of this relief measure. The consequences of such an audit can vary widely depending on the findings of the IRS, ranging from minor adjustments to significant financial penalties and legal repercussions. Understanding these potential outcomes is crucial for businesses to prepare and respond appropriately.

Adjustment of the Credit

The most common outcome of an ERC audit is the adjustment of the credit amount. If the IRS finds discrepancies between claimed credits and allowable amounts based on their audit, they may adjust the credit downwards. This often happens if there was a miscalculation of qualifying wages or if the business did not meet eligibility criteria as rigorously as required. Such adjustments usually result in a reduced credit, and the business may have to repay the excess received.

Repayment with Interest

If a business is found to have significantly overclaimed the ERC, not only will the credit be adjusted, but the excess amount will need to be repaid. This repayment could also include interest from the date the original credit was received. Interest rates can vary, but they are typically compounded daily, which can significantly increase the total amount owed.

Penalties for Noncompliance

Depending on the nature and extent of the noncompliance found during an ERC audit, the IRS may impose additional penalties. These penalties can be severe, especially if the IRS believes the inaccuracies in the credit claim were due to negligence, significant understatement of income, or fraud. Penalties can range from 20% to 75% of the underpaid tax, which can represent a substantial financial burden.

Beyond immediate financial repercussions, undergoing an ERC audit can bring a business under increased scrutiny from the IRS and other regulatory bodies. This could lead to more frequent audits in the future, requiring the business to allocate more resources to compliance and record-keeping. Such scrutiny can also impact a business's reputation, potentially affecting relationships with investors, financial institutions, and customers.

Operational Disruptions

The audit process itself can be disruptive to normal business operations. The need to gather extensive documentation and communicate with tax advisors and the IRS can divert attention from daily business activities. This disruption can affect productivity and focus, especially for smaller businesses with limited administrative resources.

Conclusion: What Arkansas Businesses Can Do To Protect Themselves

The potential consequences of an ERC audit underscore the importance of accurate and compliant initial filings. Businesses should ensure meticulous record-keeping, seek expert advice when applying for the credit, and prepare for the possibility of an audit by understanding the rules and requirements of the ERC thoroughly. Engaging with professionals like tax attorneys or accountants can provide the necessary guidance and support to navigate the complexities of the ERC and mitigate the risks associated with an audit.

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-Aileen Dwight, Licensed Clinical Social Worker & Psychotherapist

Last updated: May 18, 2024

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