The IRS has yet to provide guidance about the changes made by the American Rescue Plan Act (ARP) to the employee retention credit for the third and fourth quarters of 2021. Until the passage of the ARP, the ERC was only available for wages paid before July 1, 2021. In addition to extending the ERC through the end of the year, the ARP made additional changes, some of which were detailed in an earlier post.
We have received our first clues about what this forthcoming guidance might include with the publication of draft revised instructions for form 7200. The following are some insights gleaned from the draft.
The ARP includes a new, third definition of eligible employer. Besides the existing pathways of partial suspension due to government orders or significant decline in gross receipts, an employer may be eligible for ERC—only during the third and fourth quarters of 2021—if they are a “recovery startup business.” While the draft instructions make clear that this new eligibility is only available for those two quarters, it doesn’t yet help explain the most confusing component of the new eligibility standard. The draft more or less repeats the statutory language and says, “A recovery startup business is an employer that: Began carrying on a trade or business after February 15, 2020; Had average annual gross receipts of $1 million or less for the 3 tax years ending with the tax year before the calendar quarter in which the employee retention credit is claimed; and isn’t otherwise eligible for the third or the fourth quarter, as applicable, for the employee retention credit because business operations aren’t fully or partially suspended due to a governmental order or because gross receipts…aren’t less than 80%…” The first and third requirements are clear, but it is not yet clear how to calculate the average annual gross receipts for the 3 tax years etc. for businesses started after February 15, 2020. There is one clue on page 9 where the phrase, “Aggregation rules apply,” is added when referencing the recovery startup business. This indicates that the recovery startup business eligibility will be limited to those with average annual gross receipts under $1 million even if they were not in existence for three years, and if the new entity is part of an aggregated group, then the 3-year average gross receipts will be measured at the aggregated group level.
The third requirement, that the business “isn’t otherwise eligible for the third or the fourth quarter“ based on the government orders or gross receipts tests is notable. In several places, the draft emphasizes that employer is only eligible as a recovery startup business if they qualify for the ERC “solely because the business is a recovery startup business.” This idea is also reflected in the latest draft form 941 released on May 25 (see line 18b). Of course, it’s very likely that a business might simultaneously meet the requirements of the recovery startup business and also the significant reduction in gross receipts. The guidance being provided in these draft instructions is to first establish if the business is eligible because of government orders or a reduction in gross receipts and only if those don’t apply to consider if they are a recovery startup business, because the recovery startup business is limited to a cap of $50,000 per quarter in credit even if they have qualified wages that would otherwise exceed that amount. By indicating on form 7200 or 941 that the eligibility is solely based on the recovery startup business criteria, reporting more than $50,000 in credit will automatically invalidate the form. Therefore, a business that meets the criteria of the recovery startup business, but also has a significant decline in gross receipts should not indicate that they are eligible based on the recovery startup business criteria.
There are also changes in the ARP to the rules governing the interaction of ERC with other credits. For ERC generated in the third and fourth quarters only, credit cannot be claimed for wages used as payroll costs in connection with a Shuttered Venue Operator Grant or a Restaurant Revitalization Grant. Even though the Consolidated Appropriations Act disallowed “double dipping” ERC and PPP retroactively, the ARP did not retroactively disallow double dipping ERC with these new grant programs (see page 8).