Can You Deduct Employee Retention Credit?

Learn about deducting Employee Retention Credit from your taxes with this expert guide from Chittenden.

Can You Deduct Employee Retention Credit?

The Employee Retention Credit (ERC) under the CARES Act encourages businesses to keep their employees on their payroll. Section 2301(e) of the CARES Act states that rules similar to those in Section 280C(a) of the Internal Revenue Code (the Code) will apply for the purpose of applying the ERC. Section 280C(a) of the Code generally does not allow a deduction for the portion of salary paid equal to the sum of certain credits determined for the tax year. Consequently, a similar denial of deduction would apply under the ERC, so that the employer's total deductions would be reduced by the amount of the credit as a result of this denial rule. The client employer is responsible for avoiding a “double benefit” with respect to the Employee Retention Credit and the Credit under Section 45S of the Internal Revenue Code.

The client employer cannot use the wages that were used to claim the ERC and declared by the third-party payer on behalf of the client employer to request the $45 credit on their income tax return. Any eligible employer can choose not to apply the ERC for any calendar quarter by not requesting the credit on their payroll tax return. The salaries for which an eligible employer can apply for the ERC do not include qualified wages for sick leave or qualified family leave for which they apply for credit under the FFCRA. This exclusion also applies to qualified health plan expenses that are allocated to these qualified leave salaries. The ERC is not a tax; it's a refundable tax credit for eligible employees' salaries.

The eligible employer must provide a copy of any Form 7200 that they submitted as an advance to the PEO so that the PEO can correctly declare the ERC on Form 941. The IRS recognized that treating these amounts as gross income would defeat Congress's clear intention to allow employers to take advantage of the ERC, in addition to other COVID-19 relief measures, subject to certain restrictions that prohibit double accomplice. It now appears that, according to recent IRS guidelines, employers should record their ERC on Form 1120-S, line 13g, Annex K and Form 5884. The Infrastructure Investment and Employment Act significantly modified the ERC. If an ordinary employee qualifies for it, they are entitled to do so regardless of whether they declare and pay their federal payroll taxes through a third-party payer. The ERC is a tax credit that is 100% refundable for companies that meet its requirements and can keep employees on their payroll. FAQ 86 states that employers who receive a tax credit for eligible wages and health care expenses do not include it in their gross income for federal income tax purposes. In cases where an employee participates in more than one plan, expenses allocated to each plan in which they participate are added up for that employee. If a third-party payer applies for the ERC on behalf of the client employer, they must, at the request of the IRS, be able to obtain from them and provide records that prove their eligibility to receive it.

Neither part of the credit that reduces employment taxes applicable to employers nor its refundable part are included in employers' gross income. Businesses with more than 500 employees are not eligible for prepayment for a qualifying property with several hours of service. Chittenden advises large employers on their payroll tax obligations, including special FICA and FUTA rules for unqualified deferred compensation, rules for successor employers, voluntary correction of errors in payroll tax, and reduction of penalties for late deposit and reporting. The Section 199A deduction was introduced in Tax Reduction and Employment Acts (TCJA) as a compromise for business owners transferred in response to substantial public uproar over expected drop in corporate tax rate from 35% to 21%. An employer who receives a tax credit for qualified wages, including attributable expenses of qualified health plan, does not include it in gross income for federal income tax purposes.

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