IRS amplifies and updates ERC for second half of 2021

The IRS issued Notice 2021-49 that includes guidance on the extension and modification of the employee retention credit (ERC) under Sec. 3134, added by the American Rescue Plan Act (ARPA), P.L. 117-2. The notice amplifies Notices 2021-20 and 2021-23 (see also Schreiber, “IRS Issues Employee Retention Credit Guidance,” The Tax Adviser (March 2, 2021), and Schreiber, “How to Claim the Employee Retention Credit for the First Half of 2021,” The Tax Adviser (April 5, 2021)) by providing additional guidance on claiming the ERC in the third and fourth calendar quarters of 2021.

As amplified by Notice 2021-49, the rules set out in Notices 2021-20 and 2021-23, which provided guidance under the ERC as enacted by the Coronavirus Aid, Relief, and Economic Security (CARES) Act, P.L. 116-136, and amended by the Consolidated Appropriations Act, 2021, P.L. 116-260, will continue to apply to the third and fourth calendar quarters of 2021.

Under Notice 2021-49, an ERC may be claimed by an eligible employer for qualified wages paid in the third and fourth calendar quarters of 2021. An eligible employer is an employer carrying on a trade or business (1) whose trade or business’s operation is fully or partially suspended due to orders from a governmental authority limiting commerce, travel, or group meetings due to COVID-19; or (2) that experiences a decline in gross receipts (as defined in Notices 2021-20 and 2021-23); or (3) is a recovery startup business.

A recovery startup business is an employer that (1) is not otherwise an eligible employer under conditions (1) or (2) of the preceding sentence; that (2) began carrying on a trade or business after Feb. 15, 2020; and (3) has average annual gross receipts for the three tax years preceding the quarter in which it claims the credit of no more than $1 million (with rules under Sec. 448(c)(3) for their calculation if the entity has not been in existence for three years and by reference to the entity’s predecessor).

One change under the ARPA rules for the ERC under Sec. 3134 is that, for the third and fourth quarters of 2021, eligible employers claim the credit against the employer’s share of Medicare tax (or equivalent portion of Tier 1 tax under the Railroad Retirement Tax Act) rather than, as previously, against the employer’s share of Social Security tax (or its equivalent Railroad Retirement Tax Act portion).

Although the limit on the maximum ERC in the first half of 2021 of 70% of up to $10,000 of an employee’s qualified wages per calendar quarter (i.e., $7,000) continues to apply to the third and fourth calendar quarters of 2021, the notice notes that a separate credit limit of $50,000 per calendar quarter applies to recovery startup businesses (after application of the $10,000 wage limit).

Also, the notice states that although Sec. 3134(c)(2)(C) (which prescribes how organizations exempt from tax under Secs. 501(a) and (c) may qualify for the ERC) does not specifically provide that these organizations can be an eligible employer due to being a recovery startup business, the IRS and Treasury have determined it is appropriate to treat them as eligible employers if they meet the requirements to be a recovery startup. Similarly, although the statute does not specifically state that recovery startup businesses may be treated as small eligible employers (those with 500 employees or fewer), the notice provides that Treasury and the IRS have concluded it is appropriate to read the small eligible employer rule in Sec. 3134(c)(3)(A)(ii)(II) as if it applies to recovery startup businesses.

The notice also provides guidance on several miscellaneous ERC concerns, including whether wages paid to an employee who is a majority owner of a corporation and/or that individual’s spouse may be treated as qualified wages for purposes of the credit. The notice applies the constructive ownership rules of Sec. 267(c) to conclude that a majority owner’s ownership of a corporation is attributed to each of the owner’s family members with a relationship described in Sec. 267(c)(4). And because each of these family members is considered to own more than 50% of the corporation’s stock after applying Sec. 267(c), the majority owner would have a relationship as defined in Secs. 152(d)(2)(A) through (H) to the family member who is a constructive majority owner. Therefore, the majority owner would be a related individual for purposes of the ERC. Specifically, the notice states that:

• A majority owner of a corporation is a related individual whose wages are not qualified wages for purposes of the ERC if the majority owner has a brother or sister (whether by whole or half blood), ancestor, or lineal descendant;
• The spouse of a majority owner of a corporation is a related individual for purposes of the ERC, whose wages are not qualified wages, if the majority owner has a family member who is a brother or sister (whether by whole or half blood), ancestor, or lineal descendant, and the spouse bears a relationship described in Secs. 152(d)(2)(A) through (H) to the family member; and
• Neither the majority owner of a corporation nor his or her spouse is a related individual whose wages are not qualified wages for purposes of the ERC if the majority owner has no brother or sister (whether by whole or half blood), ancestor, or lineal descendant.

Other miscellaneous concerns addressed in the notice include the definition of full-time employees for purposes of the ERC (full-time equivalents need not be included in determining whether an employer is large or small, and the notice notes that full-time status is irrelevant to identifying qualifying wages); treatment of tips as qualified wages (included, if treated as wages under Sec. 3121(a) or compensation under Sec. 3231(e)(3) and they otherwise meet the requirements for qualified wages); the timing of the disallowance of a deduction for wages by the amount of the ERC; the alternative-quarter election in determining whether there has been a decline in gross receipts; and how to calculate gross receipts of employers that came into existence in the middle of a calendar quarter for purposes of the gross-receipts safe harbor in Section III.E of Notice 2021-20.