Guide to Recovery Resources

Updated June 10, 2021

Estimated reading time: 57 minutes

Introduction

On December 27, 2020, the Economic Aid to Hard-Hit Small Businesses, Nonprofits and Venues Act became law. I’ll refer to this mouthful as the Act. The Act is part of the Consolidated Appropriations Act, 2021. This page is a guide to recovery resources, primarily for small businesses, made available by the Act.

By recovery resources, I am referring to the paycheck protection program, or PPP and the employee retention credit, or ERC. Although they are different programs, they interrelate and some entities may qualify for both. My intent is to give you, my readers, access to a summary of all of the information that you need to take advantage of available relief in one place.

To date, this guide has focused on the PPP loan application process. Now that the application window has closed, we will turn our attention to applying for loan forgiveness. We will also look deeper into the interaction between PPP loan forgiveness, and claiming the ERC.

The information incorporates guidance issued as of the date above, and reflects the announced changes to the PPP program as of March 3, 2021. This page will be continuously updated when necessary, so check back often as guidance can change. If you would like to be notified when revisions have been posted, consider subscribing to my updates. I promise I will not stuff your mailbox with promotional stuff, and will never share or sell your email address. Please contact me if you have any questions, suggestions or criticisms.

The U.S. Small Business Administration, or SBA has created a web portal for small business guidance and loan resources. I encourage you to visit it for more information.

Table of Contents

• Breaking News: Changes to PPP
• Current PPP Loan Status
• Paycheck Protection Program
• Qualifying Expenses
• Key Dates (revised March 30, 2021)
• Loan Necessity
• Forms
• First draw borrowers in 2021
  • Eligibility
  • Ineligible entities (revised March 3, 2021)
  • How to calculate maximum loan amount, and documentation required
    • Self-employed with no employees
    • Self-employed with employees
    • Self-employed farmer or rancher (Schedule F)
      • no employees
      • with employees
    • Partnerships
    • Corporations (S-Corporations or C-Corporations)
    • Nonprofit organizations
• Second draw borrowers in 2021
  • Eligibility
  • Ineligible entities
  • Gross receipts
  • How to calculate maximum loan amount and documentation required
    • Self-employed with no employees
    • Self-employed with employees
    • Self-employed farmer or rancher (Schedule F)
    • Partnerships
    • Corporations (S-Corporations or C-Corporations)
    • Nonprofit organizations
• Applying for Loan Forgiveness (first draw and second draw)
• Employee Retention Credit
  • Terms and Concepts
  • 2020 Credit, as amended
  • 2021 Credit
  • How to Claim the ERC

Breaking News: Changes to PPP

The PPP Extension Act was signed into law on March 30, 2021. It extends the application deadline for PPP loans to May 31, 2021, and also gives SBA authority to continue to process pending applications up to June 30. SBA has announced that the PPP general fund is exhausted as of Tuesday, May 4, 2021. The PPP application portal is now closed, and no longer accepting new applications.

On February 22, 2021, President Biden announced changes to the PPP. PPP applications will only be accepted from businesses with fewer than 20 employees and sole proprietors from Wednesday, February 24 through Wednesday, March 10, 2021. SBA issued a revised interim final rule for PPP loans on March 3, 2021, which was immediately effective. The IFR included three significant changes to the PPP, and applies to both first draw and second draw loans.

• Provides an alternative method to calculate maximum loan amount for independent contractors or sole proprietors who file an IRS Form 1040, Schedule C. At the time of this update, the alternative method is only available for loans approved after March 3, 2021. Previously approved loans cannot be increased to take advantage of the alternative method.
• Removes the eligibility restriction that prevents businesses with owners who have non-financial fraud felony convictions in the last year from obtaining PPP loans.
• Removes the eligibility restriction that prevents businesses with owners who are delinquent or in default on their Federal student loans from obtaining PPP loans.

Additionally, non-citizen small business owners who are lawful U.S. residents may apply for a PPP loan using their Individual Taxpayer Identification Number, or ITIN.

At the risk of being repetitious, I urge you to seek professional assistance. Talk to your CPA.

Current PPP Loan Status

The stated objective of the rule changes announced on February 22 was to increase loan availability to smaller borrowers. Looking at the individual weekly loan data, we can see the effect of the rule changes:

There have been several challenges in the first few weeks of the program. A very high number of applications have been denied acceptance due to various errors. The error correction process is largely manual, and can take more than a week.

On February 10, 2021, SBA announced more steps to improve the PPP loan process. Under the new rules, lenders were able to directly certify eligibility of PPP loan applications with validation errors. Lenders may upload supporting documentation of borrowers with validation errors during the forgiveness process instead of the loan approval process.

As discussed above, SBA has announced that the general fund is exhausted. Applicants have until May 31 to resolve any remaining validation errors. Between now and June 30, SBA will be working on processing the applications that are still pending.

Keep Calm, and Carry On.

Paycheck Protection Program

The PPP was created by the CARES Act in March 2020, but has been extended and improved by the Act.

The Act provides $284.5 billion of additional funding for the PPP. Under the PPP, SBA loans are made available to eligible entities to help pay for qualifying expenses. Under certain circumstances, the loan is forgivable, in effect making it a grant.

There are two types of PPP loans made available by the Act:

• For borrowers who did not receive a PPP loan under the CARES act in early 2020. These are called “first-draw” loans
• For eligible borrowers who did receive a PPP loan under the CARES act in early 2020, an additional PPP loan may be available. These are called “second-draw” loans

Qualifying Expenses

Costs eligible for forgiveness (Qualifying Expenses) include:

• Payroll costs. See the method to calculate payroll costs within the discussion on How to calculate maximum loan amount and documentation required. Payroll costs include:
  • Owner income (for self-employed borrowers or partnerships), up to $100,000 per owner whose principal residence is in the United States
  • Taxable Medicare wages and tips, up to $100,000 per employee whose principal residence is in the United States
  • Pre-tax employee contributions for health insurance or other fringe benefits
  • Employer contributions to certain employee benefit plans
  • Employer contributions to employee retirement plans
• Mortgage interest paid to unrelated parties, incurred before February 15, 2020
• Rent on leases dated before February 15, 2020
• Utilities for service that began before February 15, 2020
• Operations expenditures such as software, cloud computing and other HR or accounting costs
• Covered property damage costs related to 2020 public disturbances not covered by insurance or other compensation
• Expenditures to a supplier that is essential to the company’s current operation
• Worker protection expenditures such as personal protection equipment and costs to comply with COVID-19 federal health and safety guidelines.

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Key Dates

The SBA began accepting applications from smaller community-based lenders on January 11, 2021, and from all lenders on January 19, 2021. On February 22, 2021, SBA announced that it would only accept applications from employers with fewer then 20 employees during the two-week period from February 24, 2021 through March 10, 2021. All applications for PPP loans must be received by SBA no later than May 31, 2021. As discussed above, it is likely that funding will be exhausted before the application deadline, however, so applications should be submitted as soon as possible.

Loan Necessity

On the loan application, an authorized representative of the applicant must make a number of assertions in good faith. One of those assertions is that “Current economic uncertainty makes this loan request necessary to support the ongoing operations of the Applicant.” The loan necessity questionnaires are designed to facilitate the collection of supplemental information that will be used by SBA loan reviewers to assess the necessity of the loan. The Loan Necessity Questionnaire is required for loans of $2 million or more. Even if the questionnaire is not required, you should review the appropriate one to help document the necessity for your loan request.

The certification of loan necessity for loan amounts below $150,000 was automatically deemed to have been made in good faith (safe harbor). Under the revised IFR (March 3, 2021), however, if a Schedule C borrower takes advantage of the gross income method their certification of loan necessity could be subject to a review by SBA.

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Forms

PPP Borrower Application Forms

First draw borrower application form (Revised January 8, 2021)

Borrower Application for Schedule C Filers Using Gross Income (March 3, 2021)

For more information, see the information for first draw borrowers, below.

Second draw borrower application form (Revised January 8, 2021)

Second Draw Borrower Application Form for Schedule C Filers Using Gross Income (March 3, 2021)

For more information, see information for second draw borrowers, below.

Loan Necessity Questionnaires

For-Profit Borrowers

Not for Profit Borrowers

PPP Loan Forgiveness Applications

PPP Loan Forgiveness Application Form 3508S (Revised January 19, 2021)

Form 3508S, the simplified loan forgiveness application form, is available for loans of $150,000 or less. If the borrower has affiliates who are also PPP borrowers, the total for the group must be less than $2 million to use the simplified form.

PPP Loan Forgiveness Application Form 3508EZ (Revised January 19, 2021)

Form 3508EZ is for borrowers under the following set of circumstances:

• Loan amount is greater than $150,000 or borrower is part of an affiliate group with total affiliate loans greater then $2 million
• Borrower reduced the rate of pay of employees by more then 25% AND reduced number of full-time equivalent employees

For more information, see the information on loan forgiveness, below.

PPP Loan Forgiveness Application Form 3508 (Revised January 19, 2021)

Form 3508 is for borrowers with loan amount greater than $150,000 or who is part of an affiliate group with total affiliate loans greater then $2 million and:

• Borrower reduced the rate of pay of employees by more than 25% and
• Borrower reduced the number of full-time equivalent employees. The headcount reduction was not because of operating restrictions due to compliance with COVID requirements.

For more information, see the information on loan forgiveness, below.

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First draw borrowers in 2021

Eligible entities who did not receive a first draw PPP loan in 2020 may now apply under the same basic terms as the previous round. To be eligible, they must have been in operation on February 15, 2020. The PPP is designed to assist entities in operation prior to the COVID-19 pandemic.

In all cases, the amount of a PPP loan that can be forgiven will depend on the total amount spent on qualified expenses during the covered period.

Eligibility

The following entities may be eligible if they were in operation on February 15, 2020:

• a business
• 501(c)(3) nonprofit organization (including faith-based organizations)
• 501(c)(19) veterans organization
• Tribal business concern, as defined in section 31(b)(2)(C) of the Small Business Act
  • For any of the above entities, they must have no more than 500 employees, or they must meet the SBA industry or alternative size standard as a small business. The SBA has indicated that all employees, whether full-time, part-time or other basis are included in determining eligibility.
• Sole proprietors, independent contractors and self-employed persons
  • Partners in a partnership do not qualify for a PPP loan, but the partnership entity may qualify.
• Any business with a NAICS Code that begins with 72 (Accommodations and Food Services) that has more than one physical location and employs less than 500 per location
• 501(c)(6) nonprofits (such as chambers of commerce) with 300 or fewer employees
  • Subject to lobbying threshold. Lobbying must be less than
    • 15% of receipts
    • 15% of activities
    • $1 million lobbying costs
  • Professional sports leagues and organizations with the purpose of promoting or participating in a political campaign or other activity are not eligible.
• Destination marketing organizations with fewer then 300 employees
  • Subject to lobbying threshold. Lobbying must be less than
    • 15% of receipts
    • 15% of activities
    • $1 million lobbying costs
• Local newspapers, TV and radio stations (NAICS Code beginning with 51110 or 5151). Must make a good faith certification that PPP will be used to support expenses at the component of the organization that produces or distributes locally focused or emergency information.
• Housing cooperatives with 300 or fewer employees

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Ineligible entities:

The following is a partial list of ineligible entities. It includes some added in the Act along with subsequent guidance:

• An entity that has permanently closed
• Entities not in operation on February 15, 2020
• Entities receiving Shuttered Venue Operator (SVO) Grants such as theaters, museums and zoos. This is a separate program, described in Section 324 of the Act. SBA has recently released guidance on the SVO grant program, discussed in a recent blog post. The application portal for SVO grants is not open at this time, but there are things you should do to prepare if you might be eligible.
• Publicly traded businesses
• Lobbying organizations
• Hedge funds or private equity funds
• Entities affiliated with the People’s Republic of China
• Those registered under the Foreign Agents Registration Act
• Entities where at least 20% of any class of equity is owned by the President, Vice President, head of an Executive department, Member of Congress or their spouse.
• Entities listed in 13 C.F.R 120.110, unless otherwise made eligible. See pages 85 and 86 of the linked document.
• Household employers
• Entities in bankruptcy
• Other

Complete details on eligible and ineligible entities are provided in the Interim Final Rule on Paycheck Protection Program as Amended by Economic Aid Act. You should consult the IFR for definitive information.

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How to calculate maximum loan amount, and documentation required

Following is a summary of guidance issued by SBA on January 17, 2021, as updated by revised guidance issued on March 3, 2021. For additional information, refer to the SBA guidance document.

PPP first draw loan amounts are based on average monthly payroll costs. The maximum loan amount for all entities will be the lesser of $10 million or 2.5 times the company’s average monthly payroll costs.

The methodology to calculate total payroll costs and the documentation required varies, depending upon the tax filing status of the entity. Examples below illustrate how various types of entities should calculate their total payroll costs. Average payroll costs are then calculated by dividing total payroll cost by the number of months in the total. Average monthly payroll costs can be based on calendar 2019 or calendar 2020 or the 12-month period prior to the loan application.

An LLC owner may also be eligible for a PPP loan. The methodology to be used would be based on the tax filing status in the reference period used to calculate payroll costs. For example, an LLC who filed as a sole proprietor would use the sole proprietor guidance.

Seasonal employers should calculate average monthly payroll costs for any 12-week period between February 15, 2019 and February 15, 2020. A seasonal employee either operates for no more than seven months in a year or earns no more than 1/3 of its receipts in any six-months in the prior year.

Entities that did not exist for the full one-year period before February 15, 2020, should calculate the maximum loan amount using average monthly payroll costs over the number of months where costs were paid or incurred.

First draw borrowers who received an Economic Injury Disaster Loan, or EIDL between January 31 and April 3, 2020 can refinance the outstanding amount into the PPP loan at the time of the PPP loan application. This does not include EIDL emergency advances, only the EIDL loan. EIDL advances do not have to be repaid.

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Other Considerations

Shorter reference period

If an entity was in operation on February 15, 2020, but was not in operation during the period between February 15, 2019 and June 30, 2019, there is a choice of reference period to use to calculate payroll costs:

• Use all of year 2020
• Use January and February 2020 only.

In many cases, the two-month period will result in a higher average monthly payroll cost and a higher loan amount. If you elect to use the two-month period, the $100,000 compensation maximum per employee would also be prorated ($16,667). Also, if you elect the two-month period, submit payroll records for the two months along with IRS Form 941 for the first quarter to substantiate payroll costs.

Adjustments to Taxable Medicare Wages

All entities with employees use Taxable Medicare Wages as reported on IRS Form 941 as the starting point. Some, but not all pre-tax employee contributions toward benefit plans are not subject to the medicare tax, however, so an adjustment is necessary to arrive at total payroll costs.

In addition to pre-tax employee contributions for health insurance, you should evaluate:

• contributions to flexible spending arrangements (FSA)
• Nontaxable contributions to section 125 cafeteria plans
• Qualified transit or parking benefits (up to $270 per month per employee)
• Group life insurance (for up to $50,000 of coverage)

Pre-tax employee contributions toward retirement plans, however, are included in taxable medicare wages. Don’t add those back.

For example, assume an employee’s salary amount is $1,000 and they elected to have $100 deducted for health insurance, $50 for section cafeteria plan benefits and $100 contribution to a 401-K retirement plan. That employee’s taxable medicare wage would be $850, calculated as follows:

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Self-employed with no employees

The following applies if you are self-employed and have no employees, and your principal place of residence is in the United States. This applies whether you operate as an independent contractor or as a sole proprietorship, but not if you are a partner in a partnership.

For PPP loans approved after March 3, 2021, self-employed borrowers have the option of basing their loan amount on either their net income or gross income.

Your PPP loan amount is based on either:

• your net income, as reported on line 31 of your IRS Form 1040, Schedule C, OR
• your gross income, as reported on line 7 of your IRS Form 1040, Schedule C.

In either case, income (net or gross) is limited to a maximum of $100,000 per year. Note that if both your net income and gross income are less than zero (a loss) you are not eligible for a PPP loan.

Your loan amount is 2.5 multiplied by your average monthly income, plus any EIDL loan amount that you choose to refinance.

Figure 1 below illustrates the calculation method. For discussion purposes, I’ve assumed Schedule C net income of $125,000 in calendar year 2019, and that there was a $1,000 EIDL loan outstanding. Figure 1 also lists the required documentation to support the loan request.

While the illustration is based on 2019, you can also use 2020. You would substitute your 2020 Schedule C and any 2020 form 1099-MISC documents.

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Self-employed with employees

The following applies if you are self-employed and had employees, and your principal place of residence is in the United States, including if you are an independent contractor or operate a sole proprietorship, but not if you are a partner in a partnership.

Your loan amount is 2.5 X your average monthly payroll costs, plus any EIDL loan amount that you choose to refinance. See Figures 2 and 2a, below, for examples of how to calculate the maximum PPP loan amount using the net income method and the alternative gross income method.

Assumptions for the example in figure 2 and 2a:

• The company was in business for the entire year 2019, and had gross income of $675,000 and a net loss of $25,0000 for the year.
• Total taxable medicare wages and tips reported on the company’s form 941 was $250,000.
• In addition to Groucho, the owner, there were four employees (Moe, Larry, Curly and Alice). Moe, the manager was paid $145,000 in 2019. Curly, who lives in Canada, was paid a salary of $45,000.
• The four employees contributed $25,000 pre-tax for health insurance and other fringe benefits.
• The company contributed $12,000 during the year toward employee medical, disability, dental and vision insurance costs.
• The company contributed $6,000 to employee retirement plans
• State unemployment tax costs were $1,200.

Note that example refers to 2019 documents, but you can substitute your 2020 documents if you choose to. In most cases, the 2019 amounts will be more favorable.

Detail of Example 2 using Net Income method

Calculating total payroll costs begins with your IRS Form 1040, Schedule C net profit line 31, which represents your (the owner’s) compensation. Since the maximum allowable amount for salaries and wages for any individual is $100,000, your allowable amount from line 31 is the lesser of the line 31 amount or $100,000 (line 2 of our example). If your line 31 net income is less than zero (a loss) then line 2 should be zero.

The next step is to add wages and tips paid to employees. The SBA guidance is to use the taxable medicare wages and tips amount from your form 941, line 5c.

Add any pre-tax contributions made by employees for health insurance or other fringe benefits. This amount would have been excluded from the taxable medicare wages and tips amount.

Since the maximum allowable amount per employee is $100,000, reduce the total by the sum of any amounts paid to any employee over $100,000. In our example, Moe was paid $145,000 during the year which is included in the example line 3.

Reduce the total by any wages paid to an employee whose principle residence is outside the United States. In or example, Curly lives in Canada so we would subtract his entire salary of $45,000.

Next, analyze the amount reported on Schedule C line 14. Any amounts that represent employer payments for group health, disability, vision or dental insurance premiums should be included. Exclude anything else.

Next, add any contributions made by the employer toward employee retirement plans.

Finally, add state and local taxes on employee compensation that were paid by the employer. The SBA guidance mentions state unemployment taxes, but your specific state and locality might have others. Be sure to provide documentation to support any amount claimed.

Referring to Figure 2, total payroll costs are the sum of all of the above items (lines 2 through 8 in the example). The average monthly payroll cost is just total payroll costs divided by the number of months in operation (12 in our example).

Detail of Example 2a using Gross Income method

The gross income method for calculating total payroll costs is similar to the method used by self-employed farmers or ranchers, below.

Calculating total payroll costs begins with your IRS Form 1040, Schedule C gross income line 7. Gross income is reduced by payroll costs to arrive at “gross receipts adjusted for payroll costs”, which is a surrogate for owner’s compensation.

The rest of the computation is identical to Example 2, above.

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Self-employed farmer or rancher

Self-employed farmers or ranchers would report the net farm profit on IRS Form 1040 Schedule 1 and Schedule F instead of Schedule C. A significant distinction, however, is that farmers or ranchers base their loan amount on gross income, not net income. Self-employed farmers or ranchers method of calculating the maximum PPP loan amount is very similar to other self-employed individuals, substituting Schedule F for Schedule C.

Self-employed farmer or rancher (no employees)

As illustrated in the example in Figure 3, a self-employed farmer or rancher would calculate their maximum PPP loan amount by multiplying their average monthly gross income times 2.5. They can also choose to refinance an outstanding EIDL loan.

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Self-employed farmer or rancher with employees

The example in Figure 4, below, illustrates how to calculate the maximum PPP loan amount for self-employed farmers or ranchers with employees. The assumptions in Figure 4 are substantially the same as in Figure 2, above.

The calculation for self-employed farmers or ranchers with employees is the same as for other self-employed filers with employees, with a few exceptions:

• Instead of starting with Schedule C line 31 (net profit), you start with Schedule F line 9 (gross income) less the sum of Schedule F lines 15, 22 and 23. Use the lesser of $100,000 or the calculated amount. See line 2 in the Figure 4 example.
• Amounts for employer contributions for retirement plans and benefits come from Schedule F instead of Schedule C. See Figure 4.

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Partnerships

While individual partners may not apply for PPP loans, the partnership entity may be eligible. Partners’ self-employment income should be included on the partnership’s PPP application. The methodology in the SBA guidance require that the K-1 income amount be adjusted to remove the “employer” portion of self-employment tax. This is accomplished by multiplying the K-1 amount times 0.9235. Of course, each individual partner’s payroll cost is limited to a maximum of $100,000. If the partnership reported a loss for the year, then set the total partners’ income amount to zero.

In the example below in Figure 5, there are three partners whose total self-employment income reported on the partnership form 1065 was $500,000. The partnership also had employees, one of whom was paid $145,000 and one of whom has a principal place of residence outside the United States and was paid a salary of $45,000.

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Corporations

The calculation for corporations is very similar to other entities with employees. The process to calculate total payroll cost begins with taxable Medicare wages and tips as reported on IRS form 941. An example follows in Figure 6.

Next, add pre-tax employee contributions for health insurance or other fringe benefits that were excluded from taxable Medicare wages. As with the other examples, reduce the total for any amount paid to an individual in excess of $100,000 and any amount paid to an employee whose principal residence is outside the United States.

Next, analyze any amounts reported on form 1120 line 24 or form 1120-S line 18. Any amounts that represent employer payments for group health, disability, vision or dental insurance premiums should be included. Exclude anything else. Note that employer contributions for group health, life, disability, vision and dental insurance for S-Corporation employees who own more than 2% of the business are not included in this figure as such contributions are already included in gross wages. This also applies to family members of such employees.

Add employer contributions to employee retirement benefits plans reported on form 1120 line 23 or form 1120-S line 17.

Finally, add state and local taxes on employee compensation that were paid by the employer. The SBA guidance mentions state unemployment taxes, but your specific state and locality might have others. Be sure to provide documentation to support any amount claimed.

Total payroll cost is the sum of the above.

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Not for Profit Entities

The methodology to calculate the maximum first draw PPP loan amount for all not for profit entities is the same. The source of the information, and supporting documents required, will depend upon whether the entity is subject to IRS Form 990 filing requirements.

The examples below in figure 9 illustrates the methodology for nonprofit entities who are subject to IRS Form 990 filing requirements. Other nonprofit entities, such as religious institutions, veterans organizations, and tribal businesses should look at the example in figure 10.

• The process to calculate total payroll cost begins with taxable Medicare wages and tips as reported on IRS form 941.
• Next, add pre-tax employee contributions for health insurance or other fringe benefits that were excluded from taxable Medicare wages. As with the other examples, reduce the total for any amount paid to an individual in excess of $100,000 and any amount paid to an employee whose principal residence is outside the United States.
• Next, analyze any employer payments for group health, disability, vision or dental insurance premiums.
• Add employer contributions to employee retirement plans.
• Finally, add state and local taxes on employee compensation that were paid by the employer. The SBA guidance mentions state unemployment taxes, but your specific state and locality might have others. Be sure to provide documentation to support any amount claimed.

Total payroll cost is the sum of the above.

Eligible nonprofit entities which file IRS Form 990

Eligible nonprofit religious institutions, veterans organizations and tribal businesses

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Second Draw Borrowers

The Act provides an opportunity for eligible borrowers to receive a second PPP loan. In general, the eligibility requirements for second draw PPP loans are narrower than for first draw loans. To be eligible, the entity must have had at least a 25% reduction in gross receipts. Additionally, second draw loans are reserved for borrower with fewer employees than first draw entities. For complete information, consult the Interim Final Rule for second draw loans and subsequent guidance. SBA also issued Second Draw Paycheck Protection Program(PPP) Loans: How to Calculate Revenue Reduction and Maximum Loan Amounts Including What Documentation to Provide. You should consult it for more information.

Eligibility

The following entities may be eligible if they were in operation on February 15, 2020 and had previously received a first draw PPP loan:

• No more than 300 employees. This is based on headcount and includes all full-time and part-time employees. Don’t confuse with full-time equivalent employees.
• 25% reduction in gross revenue between any comparable quarters in 2019 and 2020. This is not a requirement for first draw loans.
  • If a business was in operation throughout both 2019 and 2020 and gross revenues in year 2020 declined at least 25% compared with year 2019 the requirement would be satisfied.
  • If gross revenues in year 2020 did not decline at least 25% compared with year 2019, the business could still qualify if gross revenues in any one quarter in 2020 declined at least 25% compared with the same quarter in 2019
  • Forgiveness of a first draw loan is excluded from gross revenues
• Have used or will use all first draw PPP loans on eligible expenses on or before the expected date of the second draw loan disbursement.
  • A second draw loan application can be submitted and approved before all first draw funds have been used, but the second draw loan funds cannot be released until the borrower attests to the lender that the full amount of first draw funds (including any increases) were used for eligible expenses.
  • It is not a requirement that forgiveness of the first draw loan has been applied for or approved. Some lenders are requiring that the application for forgiveness of the first draw has been submitted, but that is not an SBA requirement.
• Businesses with NAICS code 72 ((Accommodations and Food Services) that have more than one physical location and employ no more than 300 per physical location

Ineligible entities

The list of ineligible entities for second draw PPP loans is the same as for first draw loans. See above.

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Gross receipts

For-profit business

For a for-profit business, gross receipts generally are all revenue in whatever form received from whatever source. Gross receipts are calculated using the entity’s normal accounting method (cash or accrual) and would include:

• sales of goods or services
• interest
• dividends
• rents
• royalties
• fees
• commissions
• reduced by returns and allowances

Gross receipts would exclude:

• Capital gains and losses
• taxes collected for and remitted to a taxing authority if included in gross income. Sales tax collected, for example, should be removed from gross receipts
• proceeds from transactions between a concern and its foreign or domestic affiliates
• amounts collected for another by a travel agent, real estate agent, advertising agent, conference management service provider, freight forwarder or customs broker.

All other items, such as subcontractor costs, reimbursements for purchases a contractor makes at a customer’s request, investment income, and employee-based costs such as payroll taxes may not be excluded from gross receipts.

Nonprofit Entities

This section applies to:

• nonprofit 501(c)(3) organization
• a 501(c)(19) veterans organization
• an eligible nonprofit news organization
• an eligible 501(c)(6) organization or
• an eligible destination marketing organization.

Gross receipts would be comprised of the gross amount received by an organization during its annual accounting period from all sources without reduction for any costs or expenses. Gross receipts would include:

• contributions, gifts, grants and similar amounts without reduction for the expenses of raising and collecting such amounts
• gross amount received as dues or assessments from members or affiliated organizations without reduction for expenses attributable to the receipt of such amounts
• gross sales or receipts from business activities (including unrelated business activities)
• gross amount received from the sale of assets without reduction for cost or other basis and expenses of sale and
• gross amount received as investment income, such as interest, dividends, rents and royalties.

Return to ERC

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Gross receipts reduction test

To qualify for a second draw PPP loan, an applicant must demonstrate that gross receipts in any 2020 calendar quarter declined at least 25% compared with a previous quarter.

• If applicant was in operation during all four quarters of 2019 and 2020:
  • Compare any calendar quarter in 2020 with same quarter of 2019 or
  • Compare total year 2020 with total year 2019
• If applicant was not in operation during the first and second quarters of 2019, but was in operation during the third and fourth quarters of 2019:
  • Compare any calendar quarter in 2020 with either the third or fourth quarter of 2019
• If applicant was not in operation during first, second and third quarter of 2019, but was in operation in the fourth quarter of 2019:
  • Compare any calendar quarter in 2020 with fourth quarter of 2019
• If applicant was not in operation during 2019, but was in operation on February 15, 2020:
  • compare second, third or fourth quarter of 2020 with first quarter of 2020.

Documentation required for gross receipts reduction

The following are the primary sets of documentation applicants can provide to substantiate their certification of a 25% gross receipts reduction. Only one set is required. For loan requests greater then $150,000 the applicant must provide the documentation with its application form (SBA form 2483-SD or lender’s equivalent form). For loans requests of $150,000 or less the documentation must be submitted when the borrower seeks loan forgiveness, or upon SBA request.

• Quarterly financial statements for the entity. If the financial statements are not audited, the applicant must sign and date the first page of the financial statement and initial all other pages, attesting to their accuracy. If the financial statements do not specifically identify the line item(s) that constitute gross receipts, the applicate must annotate which line item(s) constitute gross receipts.
• Quarterly or monthly bank statements for the entity showing deposits from the relevant quarters. The applicant must annotate, if not clear, which deposits listed on the bank statements constitute gross receipts and which do not.
• Annual IRS income tax filings of the entity. This is required if using an annual reference period. If the entity has not yet filed a tax return for 2020, the applicant must fill out the return forms, compute the relevant gross receipts value, and sign and date the return, attesting that the values that enter into the gross receipts computation are the same values that will be filed on the entity’s tax return.
  • The amounts required to compute gross receipts varies by the entity tax return type. See figure 11, below.

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How to calculate maximum loan amount, and documentation required

On January 19, 2021, the SBA released guidance on how to calculate revenue reduction and maximum loan amounts including what documentation to provide. The following is a summary of the IFR along with the subsequent guidance.

Second draw loans for borrowers with employees are calculated at 2.5 times average monthly payroll costs, up to $2 million. Second draw borrowers (but not first draw borrowers) with a NAICS code that begins with 72 (Accommodations and Food Services) are eligible for loans up to 3.5 times average monthly payroll costs.

Average monthly payroll costs are calculated using substantially the same methodology as for first draw loans. However there are some differences:

• Borrowers cannot include a refinancing of an EIDL loan in a second draw PPP loan
• There is a limit of $4 million in the aggregate group for second draw PPP loans that are part of a single corporate group.

Borrowers can choose to calculate average monthly payroll based on 2019, 2020 or the 12-month period prior to when the loan is made.

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Self-employed with no employees

The following applies if you are self-employed and have no employees, and your principal place of residence is in the United States, including if you are an independent contractor or operate a sole proprietorship, but not if you are a partner in a partnership.

Your PPP loan amount is based on either:

• your net income, as reported on line 31 of your IRS Form 1040, Schedule C, OR
• your gross income, as reported on line 7 of your IRS Form 1040, Schedule C.

Net or gross income is limited to a maximum of $100,000 per year. Note that if your gross income was not greater than zero you are not eligible for a PPP loan.

Your maximum loan amount is calculated by multiplying average monthly income times 2.5, or 3.5 if your company operates in the Accommodation and Food Services sector and has a NAICS Code starting with 72.

Figure 12 below illustrates the calculation method. For discussion purposes, I’ve assumed Schedule C net income of $125,000 in calendar year 2019. Figure 12 also lists the required documentation to support the loan request.

While the illustration is based on 2019, you can also use 2020. You would substitute your 2020 Schedule C and any 2020 form 1099-MISC documents.

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Self-employed with employees

The following applies if you are self-employed and had employees, and your principal place of residence is in the United States, including if you are an independent contractor or operate a sole proprietorship, but not if you are a partner in a partnership.

Your maximum loan amount is calculated by multiplying average monthly payroll costs times 2.5, or 3.5 if your company operates in the Accommodation and Food Services sector and has a NAICS Code starting with 72.

Payroll costs are comprised of schedule C net income for the entity, which is the owner’s payroll, plus total taxable medicare wages with some adjustments.

Assumptions for the example in figures 13 and 13a

• The company was in business for the entire year 2019, and had a gross income of $675,000 and a net loss of $25,0000 for the year.
• Total taxable medicare wages and tips reported on the company’s form 941 was $250,000.
• In addition to Groucho, the owner, there were four employees (Moe, Larry, Curly and Alice). Moe, the manager was paid $145,000 in 2019. Curly, who lives in Canada, was paid a salary of $45,000.
• The four employees contributed $25,000 pre-tax for health insurance and other fringe benefits.
• The company contributed $12,000 during the year toward employee medical, disability, dental and vision insurance costs.
• The company contributed $6,000 to employee retirement plans
• State unemployment tax costs were $1,200.

Note that example refers to 2019 documents, but you can substitute your 2020 documents if you choose to. In most cases, the 2019 amounts will be more favorable.

Details of example 13 , net income method

Calculating total payroll costs begins with your IRS Form 1040, Schedule C net profit line 31, which represents your (the owner’s) compensation. Since the maximum allowable amount for salaries and wages for any individual is $100,000, your allowable amount from line 31 is the lesser of the line 31 amount or $100,000 (line 2 of our example). If your line 31 net income is less than zero (a loss) then line 2 should be zero.

The next step is to add wages and tips paid to employees. The SBA guidance is to use the taxable medicare wages and tips amount from your form 941, line 5c.

Add any pre-tax contributions made by employees for health insurance or other fringe benefits. This amount would have been excluded from the taxable medicare wages and tips amount.

Reduce the total by any wages paid to an employee whose principle residence is outside the United States. In or example, Curly lives in Canada so we would subtract his entire salary of $45,000.

Next, analyze the amount reported on Schedule C line 14. Any amounts that represent employer payments for group health, disability, vision or dental insurance premiums should be included. Exclude anything else.

Next, add any contributions made by the employer toward employee retirement plans.

Finally, add state and local taxes on employee compensation that were paid by the employer. The SBA guidance mentions state unemployment taxes, but your specific state and locality might have others. Be sure to provide documentation to support any amount claimed.

Referring to Figure 13, total payroll costs are the sum of all of the above items (lines 2 through 8 in the example). The average monthly payroll cost is just total payroll costs divided by the number of months in operation (12 in our example).

Details of example 13a , gross income method

The gross income method for calculating total payroll costs is similar to the method used by self-employed farmers or ranchers, below.

Calculating total payroll costs begins with your IRS Form 1040, Schedule C gross income line 7. Gross income is reduced by payroll costs to arrive at “gross receipts adjusted for payroll costs”, which is a surrogate for owner’s compensation.

The rest of example 13a is identical to example 13 above.

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Self-employed farmer or rancher

Self-employed farmers or ranchers would report the net farm profit on IRS Form 1040 Schedule 1 and Schedule F instead of Schedule C. A significant distinction, however, is that farmers or ranchers base their loan amount on gross income, not net income. Self-employed farmers or ranchers method of calculating the maximum PPP loan amount is very similar to other self-employed individuals, substituting Schedule F for Schedule C.

Self-employed farmer or rancher (no employees)

As illustrated in the example in Figure 14, a self-employed farmer or rancher would calculate their maximum PPP loan amount by multiplying their average monthly gross income times 2.5.

Self-employed farmer or rancher (with employees)

The example in Figure 15, below, illustrates how to calculate the maximum PPP loan amount for self-employed farmers or ranchers with employees. The assumptions in Figure 15 are substantially the same as in Figure 13, above.

The calculation for self-employed farmers or ranchers with employees is the same as for other self-employed filers with employees, with a few exceptions:

• Instead of starting with Schedule C line 31 (net profit), you start with Schedule F line 9 (gross income) less the sum of Schedule F lines 15, 22 and 23. Use the lesser of $100,000 or the calculated amount. See line 2 in the Figure 15 example.
• Amounts for employer contributions for retirement plans and benefits come from Schedule F instead of Schedule C. See Figure 15.

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Partnerships

While individual partners may not apply for PPP loans, the partnership entity may be eligible. Partners’ self-employment income should be included on the partnership’s PPP application. The methodology in the SBA guidance require that the K-1 income amount be adjusted to remove the “employer” portion of self-employment tax. This is accomplished by multiplying the K-1 amount times 0.9235. Of course, each individual partner’s payroll cost is limited to a maximum of $100,000. If the partnership reported a loss for the year, then set the total partners’ income amount to zero.

In the example below in Figure 16, there are three partners whose total self-employment income reported on the partnership form 1065 was $500,000. The partnership also had employees, one of whom was paid $145,000 and one of whom has a principal place of residence outside the United States and was paid a salary of $45,000.

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Corporations

The calculation for corporations is very similar to other entities with employees. The process to calculate total payroll cost begins with taxable Medicare wages and tips as reported on IRS form 941. An example follows in Figure 17.

Next, add pre-tax employee contributions for health insurance or other fringe benefits that were excluded from taxable Medicare wages. As with the other examples, reduce the total for any amount paid to an individual in excess of $100,000 and any amount paid to an employee whose principal residence is outside the United States.

Next, analyze any amounts reported on form 1120 line 24 or form 1120-S line 18. Any amounts that represent employer payments for group health, disability, vision or dental insurance premiums should be included. Exclude anything else. Note that employer contributions for group health, life, disability, vision and dental insurance for S-Corporation employees who own more than 2% of the business are not included in this figure as such contributions are already included in gross wages. This also applies to family members of such employees.

Add employer contributions to employee retirement benefits plans reported on form 1120 line 23 or form 1120-S line 17.

Finally, add state and local taxes on employee compensation that were paid by the employer. The SBA guidance mentions state unemployment taxes, but your specific state and locality might have others. Be sure to provide documentation to support any amount claimed.

Total payroll cost is the sum of the above.

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Not For Profit Entities

The methodology to calculate the maximum second draw PPP loan amount for all not for profit entities is the same. The source of the information, and supporting documents required, will depend upon whether the entity is subject to IRS Form 990 filing requirements.

The examples below in figure 18 illustrates the methodology for nonprofit entities who are subject to IRS Form 990 filing requirements. Other nonprofit entities, such as religious institutions, veterans organizations, and tribal businesses should look at the example in figure 19.

• The process to calculate total payroll cost begins with taxable Medicare wages and tips as reported on IRS form 941.
• Next, add pre-tax employee contributions for health insurance or other fringe benefits that were excluded from taxable Medicare wages. As with the other examples, reduce the total for any amount paid to an individual in excess of $100,000 and any amount paid to an employee whose principal residence is outside the United States.
• Next, analyze any employer payments for group health, disability, vision or dental insurance premiums.
• Add employer contributions to employee retirement plans.
• Finally, add state and local taxes on employee compensation that were paid by the employer. The SBA guidance mentions state unemployment taxes, but your specific state and locality might have others. Be sure to provide documentation to support any amount claimed.

Total payroll cost is the sum of the above.

Eligible nonprofit entities which file IRS Form 990

Eligible nonprofit religious institutions, veterans organizations and tribal businesses

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Loan Forgiveness

As of now, lenders and the SBA are overwhelmed with PPP loan applications. I will expand this section in more detail in the near future, but in order to timely publish the information on applying for PPP loans and the ERC, I am only going to briefly summarize the loan forgiveness process.

The amount of a PPP loan that can be forgiven depends on several factors:

• Were the funds spent on qualifying expenses over the covered period
• Did the entity maintain its headcount during the covered period, compared with a chosen “reference period”
  • The borrower can choose either:
    • February 15, 2019 through June 30, 2019 or
    • January 1, 2020 through February 29, 2020
    • Seasonal employers can choose either period above, or a consecutive 12-week period between February 15, 2019 and February 15, 2020.
  • The options for choices of reference periods are the same for both first draw and second draw loans, and for loans taken in 2020 and 2021.

The result is that headcount reductions that took place before a borrower took a 2021 first or second draw loan could reduce forgiveness.

There are some exceptions to the impact of headcount reductions:

• Borrowers with loans of $50,000 or less for an individual first draw or second draw loan are exempt from reductions in forgiveness due to headcount reductions. A borrower with loans under $50,000 cannot receive this exception if they are part of an affiliated group with loans over $2 million.
• There is a safe harbor for reductions caused by government ordered operating restrictions
• There can be circumstances where the headcount was restored that would eliminate the reduction in loan forgiveness.

The bottom line right now: a borrower may have to decide whether they want to maximize their loan amount, or have the loan be completely forgiven. To the extent that a loan is not forgiven, however, it converts to a five-year loan with interest at 1%. You should discuss this with your financial advisors and determine what the best approach is for you and your company.

I will update this discussion with more details and examples in the near future, so please check back or consider subscribing to be notified when updates are posted.

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Employee Retention Credit

The Act also made important changes to the employee retention credit, or ERC. The ERC was created under the CARES Act, and allowed qualified employers a refundable credit against payroll tax amounts. Under the CARES Act, the ERC was not available to PPP borrowers, and expired December 31, 2020. However, the Act retroactively allows PPP borrowers who are eligible to take advantage of the ERC for 2020, and extends the credit with important changes through June 30, 2021.

The ERC is a refundable credit against payroll tax payments for eligible employers. As discussed above, the ERC contained in the CARES act in early 2020 was not available to PPP borrowers and expired December 31, 2020. The Act retroactively makes the ERC available to entities who otherwise qualify even if they have previously received a PPP loan. The Act also extends the ERC to June 30, 2021, with different (more generous) requirements to qualify.

Refer to IRS Notice 2021-20 for complete details how to calculate and claim the ERC. This page summarizes Notice 2021-20, but obviously does not contain all of the details from the notice.

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Terms and Concepts

To understand the ERC we first need to define and understand some terms and concepts. Unless otherwise noted, these terms apply equally to the 2020 ERC and the 2021 ERC.

Aggregated Rules for Related Employers

Aggregated employers are treated as a single employer for all aspects of the ERC. Generally, an entity is part of an aggregated group if it is more than 50% owned by another entity. Figure 20, below offers a few examples.

• Entities A, B and C would be an aggregated group. If any one of those entities applied for the ERC, they would include all three entities in their group.
• Entity D is not part of any aggregated group and if filing for the ERC would only include its own operations. This assumes that there are no owners of D with more than 50% ownership.

Full or Partial Suspension

In a partial suspension, an eligible employer would continue some, but not all of a trade or business operation. A few things to consider:

• Partial suspension is a concept of disrupted supply, not diminished demand. In other words, distinguish whether the government order reduces the entity’s ability to supply its customers versus whether the order reduces customers’ demand for goods or services.
• If an entity’s employees are able to work remotely, or telework, then there is no partial suspension.
• Operations must not be able to be continued in a manner comparable to operations before COVID
• Modifications to operations must have more than a nominal effect on business operations
• Some examples:
  • A restaurant was ordered to operate at no more than 50% capacity. This would qualify as a partial suspension as the restaurant’s ability to supply customers was disrupted.
  • A car dealer was open, but had fewer customers due to the COVID-19 lockdowns. This would not qualify as a partial disruption. The dealership was still operating normally.
  • An accounting firm’s office was closed due to a government order. All of the accounting firm’s employees are teleworking. This would not qualify as a partial suspension since all of its employees are able to telework.
  • A meat packing plant normally operates three shifts per day. Local health officials requires cleaning and disinfecting procedures each day resulting in the elimination of one shift. This would qualify as a partial suspension of operations.

Government Order

Some examples of a government order:

• An order from a city mayor requiring non-essential businesses to close
• A state emergency proclamation that residents must shelter in place, other than those working for essential businesses
• A curfew order from a local official that impacts the operating hours of a business
• An order from a local health department mandating workplace closure for cleaning or disinfecting

Gross Receipts

Refer to the discussion of gross receipts as it relates to second-draw PPP loans above.

Full-Time Equivalent Employees

A full-time equivalent, or FTE is an employee who in 2019 averaged at least 30 hours of service per week or 130 hours of service in a month. The average number of FTEs is determined by taking the number of FTEs in each calendar month and dividing by 12.

Special rules apply if an employer was not in business for all of 2019 or started business in 2020

ERC and Other Credits

In addition to the ERC, there are two other leave credits available. The details of the leave credit programs are beyond the scope of this site, but I’ve included links that should be helpful if you want to know more about them:

• Families First Coronavirus Response Act
• Family Medical Leave Act of 1993

Generally, it is advantageous to take advantage of the leave credits, then the ERC.

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2020 Employee Retention Credit

The 2020 ERC as amended by the Act is available to employers of any size, including tax-exempt organizations, but not to government entities. The employer must be engaged in a trade or business.

If you received a PPP loan in 2020 and have not yet applied for loan forgiveness, you should evaluate your eligibility for the ERC before you submit your forgiveness application. If you received a PPP loan in 2020 and have already applied for loan forgiveness, your options may be more limited but you still might be able to take advantage of the ERC.

You cannot use the same expenses for PPP and ERC, but by using other eligible expenses such as rent instead of payroll costs on your PPP forgiveness application, the unused payroll costs could be eligible for the ERC. Remember, payroll costs must be at least 60% of total expenses on your forgiveness application. As of the date of this article, it is unclear whether or not you can amend your already filed loan forgiveness application. Guidance is still pending on this topic, so keep checking back (or subscribe to be notified). You should consult with your CPA to see if you might qualify.

To be eligible, in addition to the above, an employer must meet one of the following two requirements:

• Business operations are fully or partially suspended due to a government order limiting commerce, travel or group meetings due to COVID-19
  • The credit applies for the period of full or partial suspension
• The business suffered a decline in gross receipts in a 2020 calendar quarter greater then 50% compared to the same quarter in 2019.
  • The credit applies to the first quarter in 2020 experiencing a greater than 50% reduction in gross receipts and continues until the quarter following the quarter when gross receipts were greater than 80% of the same quarter in 2019.
  • The reduction in gross receipts does not have to be COVID-19 related.

Example of government order

A restaurant is ordered to operate at no more than 50% capacity from April 1 through June 30. The order was lifted on July 1. The restaurant would be eligible for the ERC for the period April 1, 2020 through June 30, 2020.

Examples of significant reduction in gross receipts

A business experiences a reduction in gross receipts contained in Figure 21. In this example, the business would qualify for the ERC beginning on April 1, 2020 through January 1, 2021. The fourth quarter (Oct – Dec) is the first quarter where gross receipts were greater than 80% of the same quarter in 2019, so the eligibility period would extend to the beginning of the next quarter (January 1, 2021).

A business experiences a reduction in gross receipts contained in Figure 22. In this example, the business would qualify for the ERC beginning on April 1, 2020 through October 1, 2020. The third quarter (July – Sept) is the first quarter where gross receipts were greater than 80% of the same quarter in 2019, so the eligibility period would extend to the beginning of the next (fourth) quarter, October 1, 2020.

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Qualified Wages

Qualified Wages for the ERC includes gross wages subject to social security taxes and allocable group health care benefits:

• Qualified wages includes premiums for high deductible health policies, or HDHPs
• Includes health reimbursement arrangements, or HRAs
• Includes flexible spending arrangements, or FSAs.
• Does NOT include contributions to health savings accounts, or HSAs
• Does NOT include contributions to qualified self-employment health reimbursement arrangements, or QSEHRAs

There may be other limitations on qualified wages:

Small Employers

Small employers average 100 or fewer full-time employees in 2019.

• Qualified wages would include either:
  • all wages paid to employees while a governmental order is in place or
  • all wages paid to employees in the quarter(s) in which there has been a significant decline in gross receipts. See discussion above how to determine the qualifying quarters.
  • Exclude wages paid due under the Families First Coronavirus Response Act, Family Medical Leave Act, or wages eligible for other tax credits.

Large Employers

Large employers average more than 100 full-time employees in 2019

• Qualified wages would include only wages paid to employees not performing services during the qualifying period:
  • while a governmental order is in place or
  • during the quarter(s) in which there has been a significant decline in gross receipts. See discussion above how to determine the qualifying quarters.
• Qualified wages for large employers exclude:
  • Pre-existing paid time off
  • Severance and other post-termination payments
  • Wages for which leave credits were taken under the Families First Coronavirus Relief Act
  • Wages for which a work opportunity tax credit or paid family medical leave was taken
  • Employer payroll taxes
  • The wage rate used is the rate paid during the 30 days immediately preceding the qualified period (government order or quarters with significant decline in gross receipts)
• Allocable group health care benefits are also for large employers.
  • Include health plan expenses for employees laid-off or furloughed with no pay, but where the employer continues to cover the employees’ health insurance costs
  • Exclude health plan costs allocable to the period of time when the employee is providing services, and amounts paid by employees with after-tax dollars
    • Costs should be determined actuarially, by premiums paid or by using COBRA costs
    • Any reasonable allocation method can be used

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Credit

The refundable credit amount is 50% of qualified wages during the qualified period. This applies to wages paid on or after March 13, 2020 through December 31, 2020. The credit is limited to a maximum of $5,000 per employee for the year, based on maximum qualified wages of $10,000 per employee for the year.

2021 Employee Retention Credit

The 2021 ERC is available to employers of any size, including tax-exempt organizations, colleges, universities, hospitals and medical care providers. PPP loan recipients are also eligible for the 2021 ERC. However, an entity cannot include the same wages in Qualified Wages for the ERC and for forgiveness of a PPP loan.

Recall that at least 60% of the proceeds of a PPP loan must be used for payroll costs and the remainder can be for other eligible expenses. Accordingly, up to 40% of payroll costs are available to include in Qualified Wages for the purpose of the ERC.

To be eligible, in addition to the above, an employer must meet one of the following two requirements:

• Business operations are fully or partially suspended due to a government order limiting commerce, travel or group meetings due to COVID-19
  • The credit applies for the period of full or partial suspension
  • The government order rule is unchanged from the 2020 ERC, discussed in more detail above.
• The business suffered a decline in gross receipts in a 2021 calendar quarter greater then 20% compared to the same quarter in 2019. For the first quarter of 2021, an entity has the option of comparing against the fourth quarter of 2019 if that is more advantageous.
  • The reduction in gross receipts does not have to be COVID-19 related.

Example of significant reduction in gross receipts

In the example in Figure 23, below, having the option to compare the first quarter of 2021 with the fourth quarter of 2019 instead of the first quarter of 2021 may allow an entity to qualify for the ERC.

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Qualified Wages

Qualified Wages for the ERC includes gross wages subject to social security taxes and allocable group health care benefits:

• Qualified wages includes premiums for high deductible health policies, or HDHPs
• Includes health reimbursement arrangements, or HRAs
• Includes flexible spending arrangements, or FSAs.
• Does NOT include contributions to health savings accounts, or HSAs
• Does NOT include contributions to qualified self-employment health reimbursement arrangements, or QSEHRAs

There may be other limitations on qualified wages:

Small Employers

Small employers are employers with 500 or fewer full-time employees. Recall that the limit was 100 employees for the 2020 credit.

Qualified wages would include either:

• all wages paid to employees while a governmental order is in place or
• all wages paid to employees in the quarter(s) in which there has been a significant decline in gross receipts. See discussion above how to determine the qualifying quarters.
• Exclude wages paid due under the Families First Coronavirus Response Act, Family Medical Leave Act, or wages eligible for other tax credits.

Large Employers

Large employers average more then 500 full-time employees during 2019. Recall that the limit was 100 full-time employees for the 2020 ERC.

• Qualified wages would include only wages paid to employees not performing services during the qualifying period:
  • while a governmental order is in place or
  • during the quarter(s) in which there has been a significant decline in gross receipts. See discussion above how to determine the qualifying quarters.
• Qualified wages for large employers exclude:
  • Pre-existing paid time off
  • Severance and other post-termination payments
  • Wages for which leave credits were taken under the Families First Coronavirus Relief Act
  • Wages for which a work opportunity tax credit or paid family medical leave was taken
  • Employer payroll taxes
  • The wage rate used is the rate paid during the 30 days immediately preceding the qualified period (government order or quarters with significant decline in gross receipts)
• Allocable group health care benefits are also for large employers.
  • Include health plan expenses for employees laid-off or furloughed with no pay, but where the employer continues to cover the employees’ health insurance costs
  • Exclude health plan costs allocable to the period of time when the employee is providing services, and amounts paid by employees with after-tax dollars
    • Costs should be determined actuarially, by premiums paid or by using COBRA costs
    • Any reasonable allocation method can be used

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Credit

The refundable credit amount is 70% of qualified wages during the qualified period. This applies to wages paid on or after January 1, 2021 through June 30, 2021. The credit is limited to a maximum of $7,000 per employee per quarter, based on maximum qualified wages of $10,000 per employee for the quarter.

How to claim the credit

There are several ways to claim the ERC:

• Reduce payroll tax deposits for
  • federal income taxes withheld from employees, and
  • social security and medicare taxes withheld from employers, and
  • employer match of social security and medicare taxes
• Claim on Form 941
  • To claim the 2020 ERC, it may be necessary to amend one or more quarterly 941 filings for 2020.
• Claim the 2021 credit in advance by filing IRS Form 7200.
  • The instructions for Form 7200 explain how to complete the form.
  • You would true-up on Form 941

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