Could the Employee Retention Credit Get an Early Retirement?

The COVID-19 pandemic spurred multiple changes in the tax code to help businesses. The Employee Retention Credit (“ERC”) was created under the CARES Act as one of these relief programs. Employers who kept employees on their payroll during a downturn in gross receipts compared to the same quarter in 2019 or 2020, or during a governmental shutdown order, could qualify for the relief.

The credit is applied directly against the employer’s portion of payroll taxes (Social Security or Medicare). Any amount of the credit that is greater than the taxes owed per employee can be claimed as a refundable credit by the employer. Effectively, the credit could be viewed as subsidy for employers who kept staff on their payroll during COVID. Because of the large sums of money that could potentially be available (up to $26,000 per employee), the credit was, and still is, ripe for abuse.

The IRS has released a number of warnings about potential scams and recently added the ERC to its annual “Dirty Dozen” list, while also increasing enforcement efforts against fraudulent claims. On July 25, IRS Commissioner Werfel stated that in addition to these measures, he was working with Treasury to come up with legislative options for Congress to help curb fraudulent ERC claims – including a proposal to limit employers’ ability to file a return claiming the ERC.

Under the law, taxpayers generally have three years from the original filing due date of a return to file an amended return. This means an employer who qualified for the ERC in 2021 would have until April 15, 2025 to file an amended return and claim the credit. Commissioner Werfel’s comments regarding a possible legislative fix indicate it would contain a proposal that would prevent employers from doing so. How exactly such a legislative provision that only precludes an employer’s ability to retroactively claim the ERC would be structured remains to be seen.

Any proposal will face strong headwinds in Congress. On July 27, just two days after Commissioner Werfel’s comments, the House Ways and Means Oversight Committee held a hearing on the taxpayer experience with the ERC. The testimony and lines of questioning at the hearing indicated that Congress is not open to the idea of cutting off employers’ ability to claim the credit before the 2025 deadline. Representatives from both sides of the aisle were sympathetic to the idea that small businesses and nonprofits in particular need the time to file amended claims for the credit due to the complexity of the rules and lack of guidance early on.

Congress has previously extended the penalty statute of limitations for other COVID-19 relief programs, such as the PPP and EIDL. It is possible that that the same could happen with the ERC. This would allow small businesses, nonprofits, and others to claim the credit through 2025 while allowing the IRS additional time to bring assessments against fraudulent claims. This would still require a change from Congress, however, and is not currently in discussion.

Commissioner Werfel also indicated that greater “IRS oversight of return preparers” could also be included in the legislative proposal, something that the IRS and the National Taxpayer Advocate office have been recommending for years. The IRS’s ability to enforce standards on practitioners was severely limited after two 2014 decisions restricting the application of Circular 230. However, it seems highly unlikely that the IRS will be granted more regulatory authority at this time.

While it is not likely that Congress will end the ERC before 2025; one thing is certain – the IRS will continue to ramp up their enforcement against fraudulent claims. Employers should be wary of ERC solicitations and engage a trusted tax professional to determine if they are eligible for the credit and ensure the proper processes are followed.