Regardless of where your organization operates globally, the business is more than likely eligible for one or more current tax programs, on top of the dozens of lesser-known and more complex tax credit and incentive opportunities. (A program can either be ongoing and current or can be expired.) In the case of an ongoing program, it can be taken advantage of in the current year assuming all prerequisites are met, and, in the case of an expired program, some are available to take advantage of retroactively by amending prior year(s’) tax filings (assuming all other prerequisites are met, and the amendment falls within the Internal Revenue Service (IRS) allotted timeline, typically three years after the date of filing particular year’s tax return). While many businesses are eligible for such credits, small businesses have a considerably disproportional need and are in the best position to benefit from taking advantage of such measures. The following items may drive decision making: capital reserves and the ability to stay afloat, industry, geographical location, timing, hiring trends, and more.
Starting in 2020, COVID-19 wreaked havoc on businesses, financially and operationally. Small businesses in particular experienced downtime, decreased demand, shortened working hours, issues with third-party logistics, and expenditure increases. All these factors led to significant negative operational and financial effects.
THE CARES ACT (COVID)
In the U.S., the Coronavirus Aid, Relief, and Economic Security (CARES) Act was passed by Congress and signed into law by the president in the first quarter of 2020. The CARES Act provides assistance to businesses (even tax-exempt organizations) that were negatively affected by the pandemic. Based on the definition of the Small Business Administration, approximately 99% or 30 million of all U.S. companies fall into this category. As such, CARES disproportionately affects small businesses. As it stands now, businesses that qualify for an employee retention credit (ERC) under CARES are eligible for up to $26,000 per employee. It’s a refundable tax credit against employer payroll taxes (excess of credit over payroll taxes owed for the given period is refunded via a check). That $26,000 is made up of two components, which are $5,000 for year 2020 and $21,000 for year 2021. The following is an overview of the breakdown of credit value:
- The credit can reach 50% of up to $10,000 in total wages earned per employee (including some health plan costs) for the period of April to December 2020. This equates to $5,000 of the $26,000 CARES ERC.
- The credit can reach 70% of up to $10,000 in wages earned per quarter per employee (including some health plan costs) applicable to the first three quarters of 2021. This equates to $21,000, or the remainder of the $26,000 CARES ERC.
The following is an overview of eligibility:
- Either: A partial suspension or adverse impact to the operation of business during any calendar quarter due to governmental orders limiting commerce, trade, functionality, operating hours, capacity, travel, meetings, supply chain management and logistics, among the other financial and operational factors.
- Or: Gross receipts in 2020 had to decline by 50% over 2019 in order to be eligible for the 2020 CARES credit.
- Gross receipts in 2021 had to decline by only 20% over 2019 in order to be eligible for the 2021 CARES credit.
- If your business participated in the Paycheck Protection Program, it’s still eligible.
- Timely capture of the CARES credit within the confines of the three-year IRS statute of limitations for amendments, which is approaching. This credit expired and can only be claimed via filing amended tax forms.
As an example, per CARES ERC, an eligible and qualified small business with 200 employees may generate a refundable credit of up to $5.2 million in accordance with CARES.
DISASTER EMPLOYEE RETENTION CREDIT
Millions of businesses are impacted by devastating natural disasters. In the U.S., businesses that are located in areas declared disasters by the Federal Emergency Management Agency (FEMA) qualify for a similar, but completely different employee retention tax credit, a relief program that’s been in effect since 2005 (but is periodically renewed by Congress to include most recent years). In essence, both the CARES and disaster ERC tax credit programs were put in place to reward business owners for retaining their employees during times of hardship.
The scope of the disaster ERC program is broad. From 2018 to 2020 in the U.S. alone, there have been approximately 50 different FEMA-declared disasters, which include approximately 450 impacted counties across a number of states. As an example, between California and Texas together, more than 40 counties were impacted by wildfires, ice storms, and floods during these years. Similar legislation for years 2021 and 2022 together was written, but not yet signed into law, in response to 29 disasters across 23 states, which included approximately 430 impacted counties. Every year, legislative action is taken in response to FEMA-declared disasters. Sometimes it has been signed into law with an annual delay, but it never failed to include a single year.
Each privately owned business within a declared disaster zone is eligible for the ERC if the business was impacted. Maximum credit can be up to $2,400 per employee multiplied by the number of employees at locations within the impacted counties. More often than not, key operational or financial metrics are utilized to evaluate the impact to the company. The $2,400 credit is 40% of employees’ first $6,000 of eligible wages. The disaster ERC is a nonrefundable tax credit against federal tax liability. But while this credit is nonrefundable, it has a 20-year carryforward (20 years to be used up). Similar to CARES ERC, where the years of the event have passed (2019 and 2020), the credit can only be claimed via filing an amended federal tax return. Once the three-year IRS statute of limitations passes, the opportunity to capture the credit is lost forever.
For example, per disaster ERC, a five-location business with 100 employees at each location may generate a tax credit of up to $1.2 million. The size of the credit depends on the evaluation, analysis, and documentation of pre-, during-, and post-disaster operations and/or financial performance, including discovery discussions with leadership and appropriate staff.
Eligibility for credit doesn’t necessitate the business to have been completely shut down, destroyed, or otherwise completely impaired. Eligibility for credit application does, however, require discovery of impact to operations and/or resultant effect on financial position, substantiating information, payroll credit calculation, and work product documenting such eligibility.
The Work Opportunity Tax Credit (WOTC) is a tax benefit against employers’ federal income taxes. WOTC is available to an employer that hires individuals from particular disadvantaged groups. In general, WOTC is equal to 40% of up to $6,000 of wages paid to, or incurred on behalf of, an individual who:
- Is in the first year of employment at a current employer;
- Is an individual who is a member of one of many disenfranchised groups; and
- Performs at least 400 hours of services for that employer.
Thus, the maximum tax credit is typically $2,400. A 25% credit is offered for individuals who work fewer than 400 but at least 120 hours for the employer. Up to $24,000 in wages may be taken into account in determining WOTC for certain qualified veterans. Thus, the potential maximum credit toward reducing federal taxes may be up to $9,600 per qualified hire. An employer can’t claim WOTC for employees who are rehired. In general, taxable employers may carry the current year’s unused WOTC back one year and then forward for 20 years. In order to capture the credit, strict state-level Department of Labor administrative processes and timelines must be followed. Employers rarely claim WOTC on their own and typically utilize a service provider that manages the program for them. It’s worth noting that a number of states have enacted their own state-based WOTC programs; these programs generally function and mimic the federally based program.
Tax credit and incentive legislation is periodically created, extended, terminated, or amended; as such, the framework of legislative process governing implementation and utilization of such tools has to be monitored and interpreted to be applied correctly. Final tax credit or related work product typically includes a detailed overview of event(s) or support of appropriateness, documentation of credit in question, itemization and breakout of supporting calculation schedules, potential reconciliations, and entity-related substantiating evidence, which may necessitate financials, payroll, other working papers and documentation, eligibility narratives, and any other element related to the final work product.
Unfortunately, these tax relief programs aren’t readily advertised and as such, are not well known. As a result, traditional accounting practitioners, CPAs, tax advisors, and similar tax service providers don’t always have experience in and/or systems in place that are necessary to evaluate, analyze, calculate, and process payroll, and prepare the necessary components of such products. These areas of concern may inadvertently lead to an incorrect calculation, insufficient or improper documentation, a significantly smaller credit than its potential, or worst of all an improper evaluation of eligibility, which leads to the small business not taking advantage of the resources it really needs. As with any tax matter, consult a service professional regarding eligibility, preparation, and application of such instruments to your particular situation.