The IRS urges businesses to review ERC claims for 7 common red flags

Executive summary

The Service is urging businesses to revisit their eligibility for any ERC claims filed to ensure they were in compliance with the program requirements before a key March 22, 2024 deadline. The agency encourages businesses to look for seven common signs that their claims may be incorrect.

The Employee Retention Credit (ERC) provided a refundable employment tax credit for eligible employers experiencing economic hardship, generally for wages paid between March 13, 2020 through Sept. 30, 2021. While the program provided necessary economic relief for employers experiencing financial hardship related to COVID-19, the Service was eventually inundated with claims by applicants that were either not eligible for relief or claimed an excessive amount of ERC. Many applicants were misled into claiming ERC because of aggressive marketing by third party promoters.

The Service is responding to the influx of dubious claims by aggressively targeting ERC claims for audit, placing a moratorium on the processing of new claims and launching criminal investigations on promoters and businesses associated with improper claims. 

The Service recently advised businesses to revisit their eligibility before March 22, 2024. The more beneficial ERC Voluntary Disclosure Program remains open only until March 22, 2024 for taxpayers that previously claimed and received the ERC but have now determined they were ineligible for some or all quarters. The voluntary disclosure program gives taxpayers an opportunity to repay only 80% of the erroneous ERC received and avoid certain penalties and interest while providing protection against future audit of the employment tax returns at issue. 

An employer may enter the ERC Withdrawal Program to avoid potential penalties and interest if the ERC refund has not yet been paid by the IRS but the employer now believes it is ineligible (or partially ineligible). An employer may only withdraw a claim if it has not been selected for an IRS examination. The ERC withdrawal program continues to be effective even after March 22, 2024.

With the March 22, 2024 deadline quickly approaching, the Service encourages employers to carefully review their ERC claims while there is still time to voluntarily disclose errors under the most beneficial program. 

The agency also alerted employers of seven common signs that a claim may be incorrect:

1. Too many quarters being claimed.  It is uncommon for a taxpayer to qualify for ERC for all quarters that the credit was available. Employers are urged to carefully review their eligibility for each quarter, especially if they are asserting eligibility under the government orders test rather than the gross receipts test. Even employers satisfying the gross receipts test may need to examine eligibility if they are a large employer who must establish wages claimed for ERC were paid for the nonperformance of service.
2. Government orders that do not qualify. To claim the ERC under the government order test,
   1. The government orders impacting the employer’s operations must have been in effect and the operations must have been fully or partially suspended because of the government order during the period for which they are claiming the credit,
   2. The government order must be due to the COVID-19 pandemic, and
      
   3. The order must be a government order, as opposed to guidance, a recommendation or statement.
      
3. Too many employees and wrong calculations.  Employers need to meet certain rules for wages to be considered qualified wages, depending on the tax period. As the law changed throughout 2020 and 2021, the credit is likely to be overclaimed if the same credit amount is used across multiple tax periods for each employee. In addition, large eligible employers must follow a set of additional rules when calculating eligible wages that can be complex. 
4. Business citing supply chain issues. A supply chain disruption alone does not qualify an employer for ERC. Employers need to carefully review the rules on supply chain issues to ensure eligibility.
   
5. Business claiming ERC for too much of a tax period. Businesses should review their claim for overstated qualifying wages as it is uncommon to qualify for ERC for the entire calendar quarter if their business operations were suspended due to a government order during only a portion of a calendar quarter.
   
6. Business did not pay wages or did not exist during eligibility period. Employers can only claim ERC for tax periods in which they were in existence and paid wages to employees. Businesses should confirm they only submitted claims for tax periods for which they can verify that employees were paid and the business was ongoing.
   
7. ERC promoter claims there is nothing to lose.  Businesses that were told applying for the ERC presented no risk should carefully review their claims for eligibility. Incorrect ERC claims risk repayment, penalties, interest, and audit.
   

If an employer determines their claim was ineligible or partially ineligible, they should consult with a tax professional about taking advantage of the ERC Voluntary Disclosure Program or the ERC Withdrawal Program as soon as possible.