The President signed the Coronavirus Aid, Relief and Economic Security Act or the CARES Act (the “Act”), on March 27, 2020. The CARES Act provides for a refundable payroll tax credit of 50 percent of qualifying wages paid by eligible nongovernmental employers during the COVID-19 crisis, capped at $10,000 per employee (the “Retention Credit”) is provided as follows:
- For employers with more than 100 employees, only wages paid to employees who are not providing services count toward the credit; and
- For employers with 100 or fewer employees, all wages are counted for the period of time the employer is considered an eligible employer.
Employers are considered eligible for the Retention Credit during any calendar quarter in 2020 in which (1) operations were fully or partially suspended due to a COVID-19-related shut-down order (referred to as the “Business Suspension Eligibility” provision below), or (2) gross receipts declined by more than 50 percent when compared to the same quarter in the prior year (referred to as the “Gross Receipts Eligibility” provision below).
The credit is available for wages paid or incurred from March 13, 2020 through December 31, 2020. Although a news item from the IRS suggested that this will only apply beginning April 1, 2020, subsequent guidance confirms that the credit is available for wages paid or incurred from March 13, 2020 through December 31, 2020 (to the extent the eligibility requirements are met).
More details on the major elements of the Retention Credit are set forth below:
1. What are the eligibility requirements for the Retention Credit?
Eligibility is determined on a quarterly basis, and in all cases the employer must be carrying on a trade or business in 2020. Once that requirement has been met, there are two ways to become eligible:
- Business Suspension Eligibility: An employer is eligible for any calendar quarter during which the employer’s business is fully or partially suspended during the calendar quarter due to orders from an appropriate governmental authority limiting commerce, travel, or group meetings (for commercial, social, religious, or other purposes) due to the coronavirus disease (“COVID-19”).
- The IRS has provided the following example in its FAQs: A state governor issues an executive order closing all restaurants, bars, and similar establishments in the state in order to reduce the spread of COVID-19. However, the executive order allows those establishments to continue food or beverage sales to the public on a carry-out, drive-through, or delivery basis. This results in a partial suspension of the operations of the trade or business due to an order of an appropriate governmental authority with respect to any restaurants, bars, and similar establishments in the state that provided full sit-down service, a dining room, or other on-site eating facilities for customers prior to the executive order.
- Gross Receipts Eligibility: An employer is also eligible for any calendar quarter in which they experience a significant decline in gross receipts. More specifically, Gross Receipts Eligibility starts with any quarter beginning after 2019 in which the employer’s gross receipts for the calendar quarter are less than 50 percent of the gross receipts for the same quarter in the prior year. Gross Receipts Eligibility ends with the first calendar quarter following after the employer’s gross receipts are greater than 80 percent of gross receipts for the same calendar quarter in the prior year.
- The IRS has provided the following example in its FAQs: An employer’s gross receipts were $100,000, $190,000, and $230,000 in the first, second, and third calendar quarters of 2020, respectively. Its gross receipts were $210,000, $230,000, and $250,000 in the first, second, and third calendar quarters of 2019, respectively. Thus, the employer’s 2020 first, second, and third quarter gross receipts were approximately 48%, 83%, and 92% of its 2019 first, second, and third quarter gross receipts, respectively. Accordingly, the employer had a significant decline in gross receipts commencing on the first day of the first calendar quarter of 2020 (the calendar quarter in which gross receipts were less than 50% of the same quarter in 2019) and ending on the first day of the third calendar quarter of 2020 (the quarter following the quarter for which the gross receipts were more than 80% of the same quarter in 2019). Thus, the employer is entitled to a retention credit with respect to the first and second calendar quarters.
2. If an employer is eligible, what wages are considered qualifying wages?
Qualifying wages are determined differently depending on whether the employer’s average number of full-time employees in 2019 was greater than 100. What is unclear under the statutory language is what point in time in 2019 controls (e.g., any time or a specific date, such as 12/31/19).
- Large Employers (Greater than 100 Employees in 2019). For Large Employers, qualifying wages include only those wages paid with respect to which an employee is NOT providing services due to the circumstances that gave rise to the employer’s eligibility for the Retention Credit. In addition, wages paid or incurred with respect to an employee may not exceed the amount such employee would have been paid for working an equivalent duration during the 30 days immediately preceding such period with respect to which the employee is not providing services.
- Small Employers (100 or Fewer Employees in 2019). If the Small Employer is eligible based on Business Suspension Eligibility, then the wages that are counted as qualifying wages are those wages paid during the suspended period within the quarter. If the Small Employer is eligible based on Gross Receipts Eligibility, then all wages paid by the Small Employer during a quarter in which the Small Employer is eligible are considered qualifying wages.
In addition, the amounts of qualifying wages are subject to important limitations:
- $10,000 Per Employee Limit. The amount of qualified wages with respect to any employee which may be taken into account for all calendar quarters may not exceed $10,000 (meaning that the credit may not exceed $5,000 per employee).
- FFCRA Paid Leave is Not Considered Qualifying Wages. Qualifying wages do not include any wages taken into account for Emergency Paid Sick Leave or Extended Family and Medical Emergency Leave under the Families First Coronavirus Response Act (the “FFCRA”). Please see our summary of these provisions here.
- Wages of Related Parties Excluded. Wages paid to certain familial relations of the employer, or if the employer is an entity, to any individual who is a more than 50 percent owner of the entity, are not counted for purposes of the Retention Credit. These familial relations that are covered are very broad, extending to children, parents, aunts, uncles, certain cousins and more. Special rules also apply to trusts and estates. Family businesses will need to be very careful about claiming the proper amount.
Qualified wages also include the eligible employer’s “qualified health plan expenses” as are properly allocable to such wages.
3. What are qualified health plan expenses and how are they allocated to the employees’ wages?
Qualified health plan expenses are the amounts paid or incurred by the employer to provide and maintain a group health plan, but only to the extent that such amounts are excluded from the gross income of employees (which generally includes all employer-provided coverage under a group health plan).
Until the Secretary of the Treasury provides additional rules, the allocation may be made on the basis of being pro rata among employees and pro rata on the basis of periods of coverage (relative to the periods to which such wages relate).
4. If I am a Large Employer and I have employees who are providing some services, but not the same amount or level of services they were previously providing, are their wages still qualifying wages?
This is a bit unclear, but the most recent IRS guidance (which is informal) indicates that, “…qualified wages are the wages paid to an employee for time that the employee is not providing services due to either (1) a full or partial suspension of operations by order of a governmental authority due to COVID-19, or (2) a significant decline in gross receipts.” [Emphasis added]. This language strongly suggests that any pay for time not providing services is qualified wages, even if the employee is also paid for some working time.
5. For what time period does the Retention Credit rule apply?
The Retention Credit rules apply to wages paid (not earned) from March 13, 2020 through December 31, 2020 (if the other qualification and eligibility requirements are met).
6. How are related employers treated for purposes of determining whether the employer is a Small Employer or a Large Employer?
Strict aggregation rules (similar, but not identical, to those applied for qualified retirement plan purposes) apply to determine whether employers are over the 100-employee threshold. This means that, in many cases, companies owned in common, even at relatively low levels, will be considered a single employer for purposes of this tax credit. Similarly, the affiliated service group rules apply, which can often result in treatment as a single employer in unexpected situations.
Any employer taking the position that they are a Small Employer (with 100 or fewer employees) is urged to review the application of these rules very carefully.
7. How are Employees counted for purposes of determining whether the employer is a Small Employer or a Large Employer?
The Act refers to full-time employees within the meaning of Code section 4980H (which was passed as part of the Affordable Care Act, also known as Obamacare). Under Code section 4980H, the term “full-time employee” means, with respect to any month, an employee who is employed on average at least 30 hours of service per week. It remains to be seen whether the IRS will pull in the same counting rules as those that have been promulgated for the same question under the Affordable Care Act, but we would assume that they are likely to do so (except with respect to the relatedness of the employers, which is specified in the CARES Act as described above).
8. Are governmental employers eligible for the Retention Credit?
No. Specifically, the credit does not apply to the Government of the United States, the government of any State or political subdivision thereof, or any agency or instrumentality of any of the foregoing.
9. How does an employer access the Retention Credit?
The IRS has made it clear that the credit is fully refundable and can be used to reduce any deposits of other employment taxes in addition to the employer’s portion of social security taxes. Specifically, the employer can reduce social security tax deposits, Medicare tax deposits, and income tax withholding deposits that it would normally in the quarter in which the qualified wages are paid. The total amount of any reduction in any required deposits may not exceed the total amount of the credit in that quarter. In recent guidance, the IRS has provided the following helpful example:
Example: An Eligible Employer paid $10,000 in qualified wages (including qualified health plan expenses) and is therefore entitled to a $5,000 credit, and is otherwise required to deposit $8,000 in federal employment taxes, including taxes withheld from all of its employees, for wage payments made during the same quarter as the $10,000 in qualified wages. The Eligible Employer has no paid sick or family leave credits under the FFCRA. The Eligible Employer may keep up to $5,000 of the $8,000 of taxes the Eligible Employer was going to deposit, and it will not owe a penalty for keeping the $5,000. The Eligible Employer is required to deposit only the remaining $3,000 on its required deposit date. The Eligible Employer will later account for the $5,000 it retained when it files Form 941, Employer's Quarterly Federal Tax Return, for the quarter.
10. Since some employers may not have sufficient federal employment taxes set aside for deposit to the IRS to fund their qualified wages, the IRS has established a procedure for obtaining an advance of the refundable credits. If the anticipated credit exceeds the remaining federal employment tax deposits for that quarter, an employer can file a Form 7200 (Advance Payment of Employer Credits Due to COVID-19), to claim an advance refund. Must an employer take the Retention Credits?
No. The IRS has issued guidance that an eligible employer may elect not to claim the Retention Credit. The IRS has not stated whether this needs to be an affirmative election or if the employer will opt out by simply not claiming the credit on its quarterly payroll filings.
11. How does this provision coordinate with the Work Opportunity Credits under Code section 51?
The Work Opportunity Tax Credit (WOTC) is a Federal tax credit available to employers for hiring individuals from certain targeted groups who have consistently faced significant barriers to employment. Note that an employee is “not included for purposes of” the Retention Credit section of the law for any period with respect to any employer if such employer is allowed a credit under the WOTC with respect to such employee for such period. It is not clear whether this is meant to exclude such employee’s wages (probably yes) and/or whether it is meant to exclude the employee from the number of employees counted when determining Small Employer status (possibly).
12. How does this provision coordinate with the employer credit for paid family and medical leave under Code section 45S?
Any wages taken into account in determining the Retention Credit may not be taken into account for purposes of determining the credit allowed employer credit for paid family and medical leave under Code section 45S. This is a no “double-dipping” provision.
13. Are tax exempt organizations eligible for the Retention Credit?
Yes, but in determining eligibility for the Retention Credit the tax exempt organization must have been operating in 2020 and the Business Suspension Eligibility rule is applied to all operations of the tax-exempt organization (as opposed to just those operations that constitute a trade or business)
14. If we receive loans under the Paycheck Protection Program (the SBA Loan program) will we also be able to participate in the Employee Retention Tax Credit or the Social Security Tax Deferral Program?
No. The Act employers provides for a refundable payroll tax credit of 50 percent of qualifying wages paid by eligible employers during the COVID-19 crisis, capped at $10,000 per employee (the “Retention Tax Credit”). The credit is subject to detailed eligibility requirements and other limitations that are outside of the scope of this discussion. Similarly, the Act allows employers to defer the employer portion of social security taxes, fifty percent to December 31, 2021 and fifty percent to December 31, 2022 (the “Social Security Tax Deferral”). Both the Retention Tax Credit and the Social Security Tax Deferral are NOT available to the employers who receive loans under the Paycheck Protection Program.
15. If we participate in the Employee Retention Tax Credit or the Social Security Tax Deferral Program, can we subsequently receive loans under the Paycheck Protection Program?
The answer is unclear. At best, we expect that an employer who participates in the Employee Retention Tax Credit or the Social Security Tax Deferral Program would be required to disgorge the credit and cease the deferral. At worst, participation in the Employee Retention Tax Credit or the Social Security Tax Deferral Program could potentially disqualify the employer from participation in the Paycheck Protection Program. Based on how the law is written, we do not think the “worst” interpretation is correct, but we cannot guarantee that lenders or the SBA will not interpret the law that way. Given the significance of these programs to many small businesses, we hope that the SBA issues clarifications on this issue.