Biden Infrastructure Law Ends Employee Retention Credit Early for Most Employers

Author: Rena Pirsos, Brightmine Legal Editor

November 18, 2021

On November 15, President Joe Biden signed the Infrastructure Investment and Jobs Act (P.L. 117-58) into law, eliminating the Employee Retention Credit (ERC) three months early, retroactive to September 30, 2021 - the end of the third quarter. As a result, wages paid after that date are not eligible for the ERC. The law does not provide employers with any relief from potential penalties they may incur due to the early repeal of the credit.

Impact of Retroactive Expiration

The Coronavirus Aid, Relief, and Economic Security (CARES) Act, as modified by the American Rescue Plan Act, created and then amended the ERC. The ERC is a fully refundable payroll tax credit available to eligible employers that suffered economic hardship during the coronavirus pandemic but nevertheless continued to pay employees and/or provide them with health benefits.

For most employers, the ERC amount for 2021 was 70% of qualified wages, including health plan expenses allocable to those wages, up to $10,000 per quarter, per employee. The maximum credit per employee was $7,000. For the first two quarters of 2021, the credit could be taken against the employer's share of Social Security taxes. For the third quarter, the credit could be taken against the employer's share of Medicare taxes.

Although employers could claim the ERC on their quarterly Form 941, they could also prefund their credit, by reducing their payroll tax deposits by the amount of their expected credit, or by applying for an advance of the ERC on Form 7200, Advance Payment of Employer Credits Due to COVID-19. Retained payroll tax deposits and advances from Form 7200 were reconciled when employers filed their Form 941 for the quarter.

Not anticipating the ERC's early and retroactive repeal, employers eligible for the credit for the fourth quarter of 2021 most likely already reduced their payroll tax deposits after September 30, 2021. However, these employers are now technically delinquent in making those tax deposits and, theoretically, are subject to IRS failure-to-deposit penalties. Such penalties would begin at 10% of the underpayment amount since the deposits are now more than 15 days late.

The IRS has yet to provide guidance to employers that reduced their payroll tax deposits or obtained ERC advances after September 30, 2021. As a result, employers must make up their underdeposits in full.

Under Internal Revenue Code (IRC) § 3134, the IRS may have some flexibility to grant reasonable cause relief from failure-to-deposit penalties to employers that held back their payroll tax deposits in anticipation of taking the ERC in the fourth quarter of 2021. To facilitate reasonable cause relief, such employers should document the reason for those underdeposits.

Employers that reduced their payroll tax deposits, and also deferred the deposit of their share of Social Security taxes during 2020, should now bear in mind the impact on their cash flow for the remainder of the year. These employers may have to adjust their budget projections to account for the increased tax deposits, as well as for the make-up deposits for their deferred Social Security taxes, half of which is due to the IRS by January 3, 2022.

Some Employers Are Still Eligible for the ERC

Private employers classified as recovery startup businesses remain eligible for the ERC through December 31, 2021. A recovery startup business is a business whose operations began after February 15, 2020, with average annual gross receipts not exceeding $1 million. The amount of creditable wages is $50,000 per employee.

For the fourth quarter of 2021, recovery startup businesses that are also considered small eligible employers may treat all wages paid during the quarter as qualified wages. However, whether an employer is a recovery startup business is determined separately for each calendar quarter. Thus, the $50,000 wage limit may apply for the third quarter, but not for the fourth quarter.

Employers Still Have Options

Employers that took the ERC couldn't use ERC wages for any other tax purpose. The ERC's retroactive repeal, however, allows these employers to again take the following actions with respect to the wages and health benefits that are no longer subject to the ERC, beginning with the fourth quarter of 2021:

  • Deduct the wages and benefits on their Forms 1120, U.S. Corporation Income Tax Return, as compensation expenses;
  • Take corporate tax credits for providing paid family and medical leave to qualified employees under IRC § 45S (an employee must have earned no more than $78,000 in the preceding year to be a qualified employee in 2021 or 2022); and
  • Take the Work Opportunity Tax Credit for wages paid to qualifying employees.