Employee Retention Credit – Early Termination Penalty Relief

By Stanley Rose December 7, 2021

In an article published on November 12, we explained that recent legislation set in motion an unexpected and early end to the Employee Retention Credit (“ERC”). Worse, it did so retroactively, and in a way that technically could create significant issues, including risk of penalties, for unsuspecting employers who legitimately claimed this credit. We speculated that the IRS might issue guidance that would neutralize this potentially harsh result. With this week’s issuance of Notice 2021-65, the IRS has created some relief – but only for employers who act in a timely manner.

Background

The ERC was created with the CARES Act and modified multiple times since then. It allows employers to reduce their payroll taxes and claim refunds if the reductions exceed the payroll taxes otherwise owed. At one point scheduled to expire by June 30 of this year, the American Rescue Plan extended it until December 31. However, last month the Infrastructure Investment and Jobs Act eliminated this credit for most employers (all but a subcategory of filers known as “recovery startup businesses”) retroactively by disallowing the credit for wages paid after September 30, 2021.

This reversal concerned many employers because a feature of the ERC allowed employers to claim the credit in advance by reducing deposits in anticipation of qualifying for the credit. When Congress retroactively pulled the plug on the ERC, it meant that many employers had requested advance use of the credit for wages paid through part of the fourth quarter – prior to the passage of the Infrastructure Act that eliminated the credit for that very quarter. It created the risk of penalties associated with failure to deposit payroll tax. Hot off the presses, Notice 2021-65 provides an escape hatch.

Notice 2021-65

Notice 2021-65 demands that beginning with payroll taxes due on or before December 21, 2021, deposits cannot be reduced (meaning the credit cannot be generated) for wages paid in the fourth quarter of the year (October 1 through December 31).

If a credit already was obtained for fourth quarter wages (i.e. via reduction of earlier deposits), that amount must be repaid. Regardless of the deposit frequency a company is using, the repayment date can occur no later than the deposit date that covers wages paid on December 31, 2021 (whether or not any wages are actually paid at that time).

This adjustment must be reported on the employment tax return filed by the employer that covers the period October 1 through December 31, 2021.

Conclusion

Notice 2021-65 represents the guidance that practitioners and employers hoped would follow the legislation that recently announced the abrupt (and inexplicably retroactive) end to the Employer Retention Credit. Without the concessions in its guidance, penalties mechanically could apply to anyone who had obtained advance benefit of the credit for wages paid in the fourth quarter of this year. Worse, the type of penalty that could apply can be imposed not only on the company, but personally on individuals within the company who are responsible for payroll deposits (the so-called “trust fund penalty”). The protocol for preventing the penalties (by “returning” the funds) is straightforward, but specific, and employers are encouraged to become familiar with the rules and act quickly.

For more information, please contact your BNN tax service provider at 800.244.7444.