Overview: The Employee Retention Credit (ERC) – A Look Back and Forward
The Employee Retention Credit (ERC), also known as the Employee Retention Tax Credit (ERTC), was a critical refundable tax credit designed to encourage businesses to keep employees on their payrolls during the COVID-19 pandemic. While the period for claiming new credits has largely closed, understanding the ERC remains vital for businesses that previously claimed it, as well as for those navigating ongoing IRS compliance efforts. This guide provides a comprehensive overview of the ERC, its historical context, eligibility criteria, claiming procedures, and important considerations for the 2026 tax year.
What Was the Employee Retention Credit (ERC)?
The ERC was established under the Coronavirus Aid, Relief, and Economic Security (CARES) Act in March 2020 and subsequently expanded and modified by later legislation, including the Consolidated Appropriations Act, 2021, and the American Rescue Plan Act of 2021. It was a fully refundable payroll tax credit that eligible employers could claim against certain employment taxes. The credit was intended to help businesses retain employees and mitigate the economic impact of the pandemic.
Initially, the credit was equal to 50% of qualified wages paid to employees between March 13, 2020, and December 31, 2020, up to a maximum of $10,000 in qualified wages per employee for the year, resulting in a maximum credit of $5,000 per employee for 2020. For 2021, the credit was significantly enhanced, increasing to 70% of qualified wages, up to $10,000 per employee per quarter for the first three quarters of 2021, potentially yielding up to $21,000 per employee for that year.
Who Qualified for the ERC?
Eligibility for the ERC varied based on the period for which the credit was claimed. Generally, employers qualified if they:
- Experienced a significant decline in gross receipts during a calendar quarter compared to a corresponding quarter in 2019 (50% decline for 2020, 20% decline for 2021).
- Had their business operations fully or partially suspended due to a government order limiting commerce, travel, or group meetings due to COVID-19.
- Qualified as a "recovery startup business" for the third and fourth quarters of 2021 (for businesses that began operations after February 15, 2020, and met certain gross receipts thresholds).
It is crucial to note that businesses that received Paycheck Protection Program (PPP) loans were initially ineligible for the ERC but later became eligible due to legislative changes, provided they did not use the same wages for both programs.
How Was the ERC Claimed?
Eligible employers claimed the ERC by reporting their total qualified wages and the related health insurance costs for each quarter on their adjusted employment tax returns. The primary form used for this was Form 941-X, Adjusted Employer's Quarterly Federal Tax Return or Claim for Refund. Other forms, such as Form 943-X (for agricultural employers) and Form 944-X (for small employers), were also used depending on the employer's filing requirements.
The deadlines for claiming the ERC have passed for most employers. For 2020 tax periods, the deadline was generally April 15, 2024. For 2021 tax periods, the deadline was April 15, 2025. The IRS has also stated that new ERC claims stopped being accepted on January 31, 2024, for most claims, with some exceptions for specific periods.
2026 Limits, Amounts, or Rates
As of the 2026 tax year, the Employee Retention Credit is no longer available for new claims. The credit was applicable for qualified wages paid between March 13, 2020, and December 31, 2021. Therefore, there are no new limits, amounts, or rates for the ERC in 2026. The focus for businesses in 2026 regarding the ERC is primarily on compliance, potential audits, and, if necessary, the process of withdrawing an incorrect claim.
Businesses that previously claimed the ERC should maintain meticulous records to support their eligibility and the calculation of the credit, as the IRS has a six-year window to audit these claims. The IRS has also increased its enforcement efforts against fraudulent ERC claims and promoters.
Common Mistakes That Cost Taxpayers Money
Despite the ERC no longer being actively claimed, several common mistakes continue to impact taxpayers who previously sought the credit:
- Incorrect Eligibility Assessment: Many businesses claimed the ERC without fully understanding the complex eligibility rules, particularly regarding government orders or significant declines in gross receipts.
- Double-Dipping with PPP Loans: Using the same wages to claim both the ERC and for PPP loan forgiveness, which was prohibited.
- Improper Calculation of Qualified Wages: Including wages that did not qualify or miscalculating the maximum credit per employee per quarter.
- Failure to Reduce Wage Expense: Not reducing the deductible wage expense on their income tax return by the amount of the ERC received, leading to potential underpayment of income tax.
- Falling Victim to Aggressive Promoters: Engaging with third-party promoters who made misleading claims about eligibility or charged exorbitant fees, often leading to incorrect claims and subsequent IRS scrutiny.
- Inadequate Recordkeeping: Failing to retain sufficient documentation to substantiate the ERC claim, which is critical during an audit.
IRS Code Section Reference
The Employee Retention Credit was primarily governed by:
- Section 2301 of the CARES Act: Established the initial ERC for 2020.
- Section 206 of the Taxpayer Certainty and Disaster Tax Relief Act of 2020 (part of the Consolidated Appropriations Act, 2021): Extended and modified the ERC for the first two quarters of 2021.
- Section 9651 of the American Rescue Plan Act of 2021: Further extended the ERC to include the third and fourth quarters of 2021 and introduced the "recovery startup business" category.
These legislative acts amended various sections of the Internal Revenue Code, particularly related to employment taxes.
Need Assistance with Past ERC Claims or IRS Inquiries?
Navigating the complexities of past ERC claims, potential IRS audits, or understanding the implications for your business can be challenging. If you have questions about a previously filed ERC claim, need assistance with an IRS inquiry, or require expert guidance on other tax strategies, our team of experienced tax strategists and CPAs is here to help. Book a consultation with Uncle Kam today to ensure your compliance and optimize your financial position.