In the previous article “How to Calculate the Employment Retention Credit”, we discussed what the Employment Retention Credit (ERC) is and how to calculate this very valuable credit. In this article, we will address a business’s eligibility for the Employee Retention Credit (ERC).
As a reminder, non-profits were discussed in a previous article: “Employment Retention Credits and Non-Profits.” However, this article is focused on for-profit businesses. Note that the concepts of gross receipts reduction and partial suspension are the same for both for-profit businesses and non-profit 501(c ) organizations.
In order to receive the employee retention credit, a business must:
- Be carrying on a trade or business in the year 2020, and
- Must have employees
An activity does not qualify as a trade or business unless the business’s primary purpose is to make a profit, and the business must be carried on with regularity and continuity. Most companies have no issues meeting this requirement.
The best way to understand these limitations is to look at entities that are specifically excluded from the ERC.
- A company has to have wages to qualify for the Employee Retention Credit (ERC). Sole proprietors and contractors will be unable to claim the ERC unless they paid wages to an unrelated individual. The related individual exclusion was discussed in the article “How to Calculate the Employee Retention Credit (ERC).”.
- Federal, state, or local government entities cannot claim the Employee Retention Credit (ERC).
- Persons or companies cannot claim an Employee Retention Credit (ERC) for their household employees.
- Investment or activities that do not rise to the level of an active trade or business cannot claim the Employee Retention Credit.
Though not excluded, companies having more than 100 full-time employees for 2020, or more than 500 full-time employees for 2021 can only claim the Employee Retention Credit (ERC) to the extent of wages that were paid to employees for the time they were not working whatsoever.
If not automatically excluded, a company is eligible for the ERC if its:
- Operations are fully or partial suspended due to a government order, or
- The company has a significant decline in gross receipts.
For Employee Retention Credit (ERC) purposes, a significant decline in gross receipts is as follows:
- For the Employee Retention Credit 2020, a company must have a 50% decrease in gross receipts for a quarter when compared to the same quarter in 2021.
- For the Employee Retention Credit 2021, a company must have a 20% decrease in gross receipts to receive a credit for that quarter as compared to the same quarter in 2019.
If the company does not meet the gross receipts test for a quarter, it can look to the previous quarter to meet the test. This is discussed extensively in the previous article: “Gross Receipts Test for the Employment Retention Credit (ERC).” Gross receipts are a safe harbor, meaning that if a company meets this test, the IRS will not challenge its right to the credit. This is a form test, meaning it is a mechanical calculation, so a company does not need to prove the decrease in gross receipts was related to COVID-19 or any action of the government.
If a business fails the gross receipts test, it will have to prove full or partial suspension of operations. To determine a full or partial suspension of operations, a company needs to look at what government orders the company was forced to comply with. Specifically, per IRS Notice 2021-20, proclamations, or decrees, from the federal government, or any state or local government are considered to be orders from an appropriate government authority, “if they limit commerce, travel, or group meetings due to COVID-19 in a manner that affects an employer’s operation of its trade or business, including orders that limit hours of operation.”
Examples of orders that limit commerce per IRS Notice 2021-20:
- “An order from the city’s mayor stating that all non-essential businesses must close for a specific period.”
- “A state’s emergency proclamation that residents must shelter in place for a specific period, other than residents who are employed by an essential business and who may travel to and work at the workplace location.”
- “An order from a local official imposing a curfew on residents that impacts the operating hours of a trade or business for a specific period.”
- “An order from a local health department mandating a workplace closure for cleaning and disinfecting.”
Notice 2021-20 specifically notes scenarios that are not considered government orders.
- “Statements made by government officials, including comments made during press conferences, are not considered to be government orders.”
- “Government orders requiring individuals to stay at home (leading to a reducing in demand for the business) are not deemed to be full or partial suspension of business operations.”
- “Employers electing to limit business hours or suspend operations voluntarily due to Covid-19 do not qualify as a full or partial suspension.”
A business that becomes eligible for the ERC because of a shutdown resulting from a government order can only claim the credit for wages paid during the time that the business was totally or partially suspended.
The credit is very limited if the business is attempting to meet the full suspension criteria, but companies that qualify for full suspension can likely meet the partial suspension test when they look at the effect of these orders on operations.
A good summary of the IRS’s current opinion of what partially suspended means is listed in Notice 2021-20:
“. . . a partial suspension is considered to have occurred if under the facts and circumstances, more than a nominal portion of its business operations are suspended by government order. This may occur if as a result of an order a business is required to close for a period of time during working hours, a portion of the business is limited even if others are operating at full capacity (such as a restaurant that has limited indoor seating but is able to provide full outdoor seating and takeout orders, a supplier of the business is shut down by government order and the business is unable to obtain critical goods or materials from the supplier, or a trade or business that operates in multiple jurisdictions has one location subject to a shutdown order but not others.”
Note that I have discussed partial suspension in depth in another article: “Employee Retention Credit (ERC) and Partial Suspension.”