The IRS recently issued sub-regulatory guidance about how employers may access the retention tax credit newly created by the Coronavirus Aid, Relief, and Economic Security Act (CARES Act).
The purpose of this new tax credit is to help businesses pay wages and group health insurance costs during the COVID-19 economic crisis. The new guidance comes via detailed answers to 94 frequently asked questions and covers issues like determining eligibility, calculating eligible wages and group health insurance costs, claiming the credit, and interaction between the retention credit and other federal COVID-19 economic relief programs. We strongly suggest that every employer read these FAQs carefully.
Some of the interesting points clarified in the guidance include:
- Employers must fall into one of two categories:
- The business is wholly or partially suspended by government order due to COVID-19; or
- The employer’s gross receipts were below 50% of the comparable quarter in 2019.
- The only businesses that do not qualify are:
- State and local governments and any agency or instrumentality of those governments
- Self-employed individuals, concerning their self-employment earnings
- Household employers
- Any company that gets a CARES Act Small Business Administration (SBA) loan
Credit Amount and Duration
- The amount of the credit is 50% of qualifying wages paid up to $10,000, and wages can include salary and allocated group health benefit costs.
- The credit can apply to wages paid after March 12, 2020, and before January 1, 2021.
- Credit eligibility ends after the quarter when the employer’s gross receipts exceeded 80% of the revenue from the comparable quarter in 2019.
Eligible Wages and Number of Employees
- Qualified wage payments for retention credit purposes depend on the size of the employer.
- There are different standards for employers that averaged 100+ full-time (FT) employees during 2019 and those that averaged <100 employees.
- To count employees, use the same counting method as when determining applicable large employer status under the Affordable Care Act (ACA)
- Just like with the ACA, the IRS controlled group rules apply when counting employees.
- The retention credit splits amongst controlled group companies based their proportionate share of the qualified wages.
What Counts as Eligible Wages?
- For businesses with 100 or more FT employees in 2019, wages only qualify if they are paid to employees when they are not providing services due to COVID-19 qualifying circumstances.
- Example: Restaurant Chain A is subject to a partial closure order has 200 employees. Most of the employees are working 25% of their typical hours to handle take-out orders, but 20 managers and chefs are working FT. The business owner continues to pay every employee 100% of their normal wages, regardless of the hours worked. The employer can claim 75% of the wages paid to the employees working the reduced schedule for retention tax credit purposes. The employer cannot claim any retention credit dollars for the employees working their FT schedules.
- For companies that averaged 100 or fewer FT employees in 2019, qualified wages are those paid to any employee during COVID-19 qualifying circumstances.
- Example: Restaurant B is subject to the same partial closure order, but has only 80 employees. Just like with Restaurant Chain A, most of the employees are working 25% of their typical hours to handle take-out orders. Ten managers and chefs are working FT. The business owner continues to pay every employee 100% of their normal wages, regardless of the hours worked. The employer can claim 100% of the wages paid for all employees for retention tax credit purposes.
Calculating and Allocating Group Health Insurance Costs
- If an employer lays off or furloughs employees and pays them no wages, but continues their group health care coverage, the employer cannot count any portion of health plan expenses for retention credit purposes. The reason why is no portion of the health plan expenses would be allocable to wages paid to the employees. This stipulation applies regardless of employer size.
- Employers with less than 100 FT equivalent employees can reduce employee wages and days or hours of work and still claim a proportional amount of employee salary and group health plan expenses for retention credit purposes.
- Example: Employer N has 60 FT equivalent employees and is subject to a governmental order that partially suspends the operation of its trade or business. Employer N reduces every employee’s hours and salaries by 50 percent but continues to provide the employees with full health care coverage. Employer N can claim the reduced wages they are paying these employees and 100% of the health plan expenses allocable to wages paid during the government order as qualified wages for purposes of the retention credit.
- Employers with more than 100 FT equivalent employees cannot reduce wages and days or hours of work equally and then claim any portion of group health plan expenses for retention credit purposes. The reason why is they are not paying wages to its employees for the time that the employees are not providing services.
- Example: Employer P has 10,000 FT employees and is in a highly affected industry, so gross receipts in 2Q 2020 are 10% of what they were in 2Q 2019. Employer P furloughs 9000 employees with no salaries but pays for their group health insurance expenses. Employer P keeps people 1000 actively working just four days a week instead of five and imposes a 20% salary cut to go along with the reduced schedule. Since Employer P is not paying any wages to its employees for the time they are not working, Employer P may not claim a retention credit for any portion of its employees’ salaries or health plan expenses.
- Alternative Scenario #1: Employer P does not require all working employees to take a salary cut, but does allow the 1000 staff members still actively employed to work four days a week due to limited business opportunities. Since Employer P is not paying wages to its employees for 20% of their time that these employees are not providing services, it can treat that 20% of their salaries as qualified wages for retention credit purposes. Employer P can also claim 20% of their health plan expenses as qualified wages for retention credit purposes because that is what is allocable to time when employees were paid but not providing services.
- Alternative Scenario #2: Employer P furloughs 9000 employees, but continues to pay them 20% of their salary and pays for their group health insurance expenses. Employer P keeps people 1,000 actively working just four days a week instead of five, due to reduced business, but pays these 1,000 their full normal wage. Employer P can treat 20% of salaries paid to all employees (furloughed and still working) as qualified wages for retention credit purposes. Employer P can also claim 20% of the actively working employees’ health plan expenses and 100% of the furloughed employee’s health plan expenses as qualified wages for retention credit purposes because that is allocable to time when employees were paid but not providing services.
What Are Qualified Health Plan Expenses for Retention Tax Credit Purposes?
- The definition of the group health plan used for retention tax credit purposes comes from 26 IRC 5000 (b). It means “a plan (including a self-insured plan) of, or contributed to by, an employer (including a self-employed person) or employee organization to provide health care (directly or otherwise) to the employees, former employees, the employer, others associated or formerly associated with the employer in a business relationship, or their families.”
- If a group plan includes multiple options or different choices for an employee to elect, the employer needs to allocate costs for each plan option and then use the costs related to each qualified employee’s elections on a case-by-case basis.
- Qualified expenses include both the portion of the cost paid by the employer and the part paid by the employee with pre-tax salary reduction contributions.
- Qualified expenses do not include employee after-tax payments.
- Qualified expenses do not include employer contributions to an employee’s health savings account, Archer medical savings account, or qualified small employer health reimbursement arrangement.
- Qualified expenses do include contributions to a traditional health reimbursement arrangement, individual coverage health reimbursement arrangements, or a health flexible spending arrangement.
How to Allocate Health Plan Expenses for Retention Tax Credit Purposes
- Employers may use any reasonable method to determine and allocate plan expenses.
- For fully insured plans, the IRS gives three examples of reasonable methods.
- The COBRA applicable premium for the employee typically available from the insurer
- One average premium rate for all employees
- A substantially similar method that takes into account the average premium rate determined separately for employees with self-only and other than self-only coverage.
- For self-insured plans, the IRS gives two examples of reasonable methods.
- The COBRA applicable premium for the employee.
- Any reasonable actuarial method to determine the estimated annual expenses of the plan.
- When using the average premium rate or estimated annual expenses as the method, the employer divides by the number of employees covered by the plan. That amount is divided by the average number of workdays during the year by the employees. The resulting amount is the health plan expense allocated to each day of qualified wages.
- Employers treat days of paid leave and any day on which an employee performs any work as workdays.
How to Access the COVID-19 Retention Tax Credit
- A business that wants to access the credit immediately does not need to send the IRS their share of affected employee’s social security taxes. The company can also access and keep other payroll taxes it collects for all employees (including employee income taxes) to recoup the amount of retention credit funds due to them.
- If the amount of the credit exceeds their employment tax liability, then the excess is fully refundable. Employers file Form 7200, Advance Payment of Employer Credits Due to COVID-19, to get a refund.
- Employers document their credit on their quarterly income tax filing, generally via Form 941.
- Eligible employers still have to withhold the employee’s share of income taxes, social security, and Medicare taxes on any qualified wages paid.
Retention Credit and Other Forms of COVID-19 Economic Relief
- A business cannot get a Paycheck Protection Program Loan or other COVID-19 SBA Loan and qualify for the retention credit. If even one company in a controlled group gets a CARES Act SBA loan, the whole group is disqualified from the retention credit.
- An employer can get a tax credit for qualified sick and family leave wages as established by the Families First Coronavirus Response Act and the retention credit too. However, they cannot claim the same wages and group health plan expenses for both credits.
- An employer can still defer payroll taxes as allowed by the CARES Act and also qualify for the retention credit.