While the employee retention credit eligibility is seemingly straightforward, applying it to your situation can be difficult.
If you’ve experienced a “significant decline” in gross receipts in any quarter of 2020 or 2021 compared to the previous year’s quarter, you’re entitled to an ERC refund.
In addition, you meet the eligibility requirements if your business has suffered a partial or full suspension due to a government order related to COVID-19.
Sounds simple, right? And you can go ahead and claim the credit?
Well, there's a bit more nuance to the above, and the rules changed slightly between 2020 and 2021.
We recommend you check out our entire guide below on the employee retention credit 2021 qualifications, and we can also discuss your situation in more detail if needed.
Firstly, what's the situation for 2023?
Can I still apply for the employee retention credit in 2023?
Yes, you can still apply for the employee retention credit in 2023. The employee retention credit continues to be available for employers in 2023 if the employer had qualified wages and benefits disbursed between March 13, 2020 through the end of 2021.
Employee retention credit eligibility 2021 (ERC): Brief overview
Small businesses are eligible for the ERC for all four quarters of 2021, with up to $7,000 per quarter or $28,000 per year.
Under the Relief Act of 2021, the amended rules for ERC qualifications in 2021 required a showing of an 80% decline in gross receipts from a given 2021 quarter compared to the same quarter in 2019.
So, if your business earned $100,000 in gross receipts in 2019’s Q1, you would need to show that you only earned $20,000 (or 80% less) in Q1 of 2021 to be eligible for ERC.
In terms of business organizations’ employee retention tax credit eligibility, the ERC credit qualifications for 2021 expand upon the 2020 rules when it comes to ERC applications.
Fortunately, the rule changes conclude at the end of the 2021 fiscal year, as December 31, 2021 is the last day of the applicable period for employers who disbursed wages and benefits to employees to be eligible for the ERC.
Employee retention credit 2022 qualifications
The employee retention credit does not have different qualifications for 2022. Instead, what remains from the end of 2021 to present is the employers’ ability to apply for, and receive benefits of, the ERC for the wages and benefits they disbursed from March 2020 through the end of 2021.
(Don't forget to check our guide on how to apply for the employee retention credit!)
So, who is eligible for the employee retention credit 2021?
To be eligible for the credit, the employer must have experienced a significant decline in gross receipts during a calendar quarter in 2020 and 2021 (at least 50% compared to the same quarter in the previous year) or been partially or fully suspended from a government order related to COVID-19.
In 2021, the IRS expanded the types of businesses that are eligible for the ERC to include certain governmental employers, organizations described in section 501(c)(1) and tax exempt under section 501(a), as well as colleges and universities whose primary purpose is to provide medical or hospital care.
Examples of section 501(c)(1) and tax exempt section 501(a) businesses are ones that:
Operate exclusively for religious, charitable, scientific or educational purposes
Foster national or international amateur sports
Advocate against cruelty to children or animals
Many other tax-exempt organizations organized under the act of Congress
To provide more context on the law surrounding the eligible organizations, we must first understand what Section 501 of the Internal Revenue Code (IRC) states.
At its core, the law states that there are certain types of organizations that simply do not pay federal income tax due to their purpose or service to the public. These are groups that contribute to education, the arts, religions, among many other areas.
So, who qualifies for the employee retention tax credit, exactly?
The following section will discuss the different types of eligible organizations under Section 501 and how to tell they are eligible for ERC, namely:
- Churches, integrated auxiliaries and conventions/associations
- Corporations (S and C)
- Professional employer organization
- Educational institutions
- Other tax-exempt organizations
1. Churches, integrated auxiliaries and conventions/associations
The first type of organization that comes to mind as it relates to Section 501 are religious institutions, such as churches and “integrated auxiliaries.”
The legal definition of an integrated auxiliary is a separately formed legal entity that operates as a ministry extension of a church or house of worship. These can range from afterschool programs or services or more complex housing programs with a religious bent.
To qualify as a tax-exempt religious institution under the IRS’s definition, the church must satisfy having:
Distinct legal existence
Recognized form of worship with a distinct ecclesiastical governing structure
Formal code of doctrine
Distinct and established religious history
Established places of worship with regular congregations and religious services
Sunday schools for religious instruction of the young
Schools that prepare its members for the practice
While these factors need not all be satisfied, the IRS will analyze the totality of the factors listed, together with the circumstances and related facts.
It will then make its determination of whether or not the church or religious institution is a legitimate one.
2. Corporations (S and C)
The next organization that qualifies for the ERC is the corporation.
However, not all types of corporations are necessarily eligible as the IRS is keen to ensure that employers are overcompensated.
The following employee retention credit rules must be covered by the shareholders:
- S and C corporation shareholders may qualify for the ERC if they are minority shareholders that own less than 2% of the company.
- The shareholder must also work for the company; that is, they must be paid for their services and report their income on their personal tax returns.
- Finally, if you’re a minority shareholder and are related to the majority owner (e.g. a child, sibling, parent, stepparent, aunt, etc.), you do not qualify, even if you work for the business.
Keep in mind that a majority owner is defined by the IRS as someone with more than 50% in value of the outstanding stock of the corporation.
3. Professional Employer Organization
Professional employer organizations (PEOs) handle payroll administration and tax reporting for their clients, which are usually businesses and are typically paid a fee based on the overall payroll costs.
Like the religious institutions’ ERC requirements for 2021, the ERTC eligibility for the PEO is also a factor-based test with many distinct qualities that the IRS looks for, such as whether or not:
The PEO is an actual business entity
There’s at least one physical business location within the United States
The organization has a clean history of financial responsibility, organizational integrity and tax compliance at the federal, state, and local levels
The organization is managed by U.S. citizens who have knowledge of the relevant tax laws for their business practice.
Finally, unlike religious institutions, PEOs must apply to qualify for a “PEO certification” through the IRS’s website. Once the IRS reviews the application, it will either confirm or deny the application for PEO certification.
5. Educational institutions
The majority of both public and private educational institutions, such as universities and colleges, are tax-exempt institutions under the IRC Section 501 definition.
This tax-exempt status is due to their primary purpose–education–which the federal government has recognized as in the public’s interest.
To be deemed tax-exempt under the IRS’s definition per Section 501, educational institutions must comply with the following:
Universities and colleges regulated by the Federal Government and/or state governments must demonstrate their compliance with federal and state laws, as they pertain to tax filings, audits, and public reports
Private universities and public charitable foundations related to universities must submit an IRS Form 990 each year and report revenue, expenses, endowments and payroll of top officials on their mission statement
The private and public universities and colleges must pay payroll taxes for their employees, as well as other taxes aside from income taxes
However, educational institutions are not confined to merely universities or colleges. Other types of educational institutions include museums.
The museum, like the universities and colleges, must have the primary purpose of education.
While the museum may be privately owned or run publicly by a government entity, they must have nonprofit status. In other words, the institution must not rely on commerce for its ability to operate.
6. Other tax-exempt organizations
Besides educational, religious or certain types of corporate entities, other organizations that qualify for ERC eligibility for 2021 include:
Who is not eligible for ERC?
While anyone who doesn’t fall into the criteria we’ve mentioned, one of the major ineligible groups include majority shareholders of S or C corporations, as well as their relatives or lineal descendants. This is primarily because the IRS generally doesn’t provide ERC benefits to owners or majority owners’ wages.
For example, if corporation X is owned 65% by the CEO and 35% by the CFO, then the CEO is a majority shareholder. Further, say the CEO and CFO each has a son, Arnold and Ben, respectively, who work for corporation X.
Arnold would not be able to receive ERC for his wages due to his father’s status as a majority shareholder. In contrast, Ben’s wages would qualify for ERC since his father, the CFO, is not a majority shareholder.
Now let’s assume that corporation X is equally owned four ways by A, B, C, and D; i.e., A, B, C, and D each have a 25% stake in the corporation. Let us also assume that A, B, C, and D are siblings.
Under the IRS’s ERC rules, even though A, B, C, and D are minority shareholders individually, together, they’re treated as 100% owners due to their lineage. Therefore, they do not qualify for ERC.
Can I get ERC with no employees?
You can’t get the ERC without any employees. To qualify for the ERC, you need at least one full-time employee that you pay wages on a payroll. Sole proprietorships are ineligible to receive ERC benefits because the IRS doesn’t count owners’ wages as qualifying wages for the ERC.
Do employees have to be full time for ERC credit?
No, employees don’t have to be full-time for your business to qualify for the ERC credit. While the ERC distinguishes between large and small businesses based on the number of full-time employees, this doesn’t mean that non-full-time employees aren’t eligible for ERC.
In other words, an employer is actually allowed to include wages paid to part-time and even seasonal employees as part of their qualified wages calculations.
Again, the limitation to this calculation is that an employer may only use ERC toward the first $10,000 of wages and health plan costs for each employee per quarter.
(Check out our guide on how to calculate the employee retention credit for more guidance!)
This brings us neatly into discussing “qualified wages” and what part they play in ERTC qualifications.
What are qualified wages for the employee retention credit 2021
Qualified wages for the employee retention credit in 2021 are wages paid to employees during the time in which business operations for the company were either completely or partially shut down due to government COVID-19 orders: cash, hourly, salary and vacation wages, plus medical benefits and other taxable wages.
How to qualify for ERC in 2021
To qualify for the ERC in 2021, there are still steps that you can take today to ensure that you qualify and can receive your ERC benefits, such as keeping a record of any governmental orders and keeping records that the government order significantly altered your business’ operations.
For keeping a record of any governmental orders, store information as to whether they were received in the mail, online or other format, proving that the order impacted the area in which your company physically resides.
Examples of records to keep proving that the order altered your operations include:
Instructions for social distancing, demonstrating a significant need for material alterations to your business’s operations or setup
Documentation showing that remote work or other COVID-19 safety compliant alternatives were unavailable for your business without incurring significant costs
Financials from quarters 1-4 for 2019, 2020, and 2021, as the IRS will look into whether your gross receipts and revenue declined significantly during the shutdown as to require assistance through ERC
Payroll records, tax records or any other documentation showing which employees received qualified wages, as well as how much they received
Copies of tax returns
Ultimately, the IRS will analyze the totality of these factors and make a determination. While the records may be years old, don’t be discouraged from submitting them, as the more relevant evidence provided, the more likely that your business will receive a positive adjudication.
Don’t be scared of an audit & not apply
Once we’ve discussed your situation, our team here at Brotman Law can provide you with a memo that you can show to the IRS proving your employee retention credit qualifications and the specific reason(s).
Getting in touch with us sooner rather than later will help confirm your ERC tax credit eligibility, get your affairs in order quicker and avoid any potential ERC audit further down the line.