By Brock Blake, CEO of Lendio
The Employee Retention Tax Credit (ERC or ERTC) was originally passed as part of the CARES Act, which provided a tax credit to eligible small businesses that retained employees during the height of the Covid-19 pandemic in 2020. The ERC was later expanded twice in 2021 to include eligible small businesses that retained employees in the first three quarters of 2021 and to include recovery startup businesses that started business on or after February 15, 2020.
Unfortunately, the opportunity and positive intent of the ERC have become mired with bad actors looking to take advantage of honest small business owners. The IRS recently released yet another warning about fraudulent Employee Retention Credit claims stating the agency would be increasing scrutiny on questionable submissions.
Common types of ERC fraud
One sure sign of a fraudster is any vendor who requires an upfront fee to see if you qualify for the ERC. Legitimate vendors will only charge a fee after determining your eligibility and assisting you in compiling your filing for the IRS.
Other fraudsters will make false or exaggerated claims on who can qualify or for how much. Bold statements like “Everyone qualifies” or promises of a vast tax return regardless of the size of your business are inaccurate and misleading.
ERC qualification requirements
On the surface, eligibility requirements for the ERC can seem relatively simple, but determining eligibility is more complicated than some vendors advertise.
To qualify, a business must first have paid “qualifying wages” to full or part-time W-2 employees. What is considered “qualifying wages” varies by year and the size of the business. In 2020, businesses with 100 or fewer employees can count 100% of wages paid. In 2021, businesses with fewer than 500 employees can count 100% of wages paid. If a business falls above those thresholds, then only wages to employees who were unable to work and still were paid are considered qualified.
In addition to paying “qualifying wages” a business must also meet one of the following criteria:
- Demonstrate a significant decline in gross receipts
- OR, experience a full or partial suspension of operations due to a government order
Businesses are also eligible to apply if they meet the following criteria as a “recovery startup business.”
- The business was started on or after February 15, 2020
- Annual gross receipts didn’t exceed $1 million in 2020 and 2021
- The business employed one or more W2 employees excluding family members
How to avoid ERC scams
The ERC is still a valuable opportunity for small businesses, and by taking proper precautions, business owners can still claim the credit while avoiding potential scams.
Start by looking for a reputable vendor with a reputation in the industry. Then, watch for the following red flags before signing on the dotted line.
- Lack of government order research: A solid vendor will do thorough research into both your revenue reduction and how government orders impacted your business. This not only ensures you have proper documentation supporting your claim but also increases your likelihood of qualifying since most businesses qualify based on being impacted by a government order, not revenue reduction alone.
- Focus on supply chain disruption: “Everyone was impacted by Covid-19!” may be a marketing message you hear. While it’s true the pandemic impacted all of our daily lives, that doesn’t automatically qualify a business for the ERC. Though supply chain disruptions may have impacted all of us, to qualify for the ERC based on a supply chain disruption you must be able to prove that: your supplier was fully shut down by a government mandate and that you couldn’t reasonably find another supplier that could provide the same goods at a reasonable cost. When done right, supply chain disruptions tend to be the hardest way to qualify for ERC, though some advertisers will make you believe you are auto-qualified because of supply chain impacts.
- Lack of document collection: Determining eligibility for the ERC requires a thorough review of business and financial documents including payroll reports, gross receipts, tax filings, and any other grants, credits, or PPP assistance received during the same period. Be wary of any company that claims to not need this information to assist you with your filing.
Still a valuable opportunity
Despite bad actors, the ERC is still an incredible opportunity for small businesses struggling through an unpredictable economy. On average, businesses that apply through Lendio receive more than $70,000 through the ERC. Based on several variables including the number of government mandates in certain states and how broadly those mandates impacted certain industries, small businesses in the following states and industries are more likely to qualify for the ERC.
States: New York, Michigan, New Jersey, Washington, Colorado, California, and New Mexico
Industries: Gyms, Amusement/Recreation, Churches, Beauty Salons, Restaurants, Real Estate and Retail.
Currently, businesses can claim the Employee Retention Credit via an amended tax return until April 15, 2024, for 2020 filings and until April 15, 2025, for 2021 filings. However, the IRS has indicated they may seek legislation to enact an earlier end date. For qualifying businesses, applying sooner rather than later will ensure you meet deadlines and receive your refund in a timely manner.