If you’re a business owner who’s struggling to make ends meet, tax credits like the Employer Retention Credit (ERC) might be the answer. It’s more accessible than many other relief options like grants or loans.
However, understanding how tax credits work can be confusing—don’t worry; we’ll explore everything you need to know about the ERC tax credit, including how to calculate it.
Related: R&D Tax Credit Guide
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Employee Retention Credit Calculator
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What Is the ERC Tax Credit? How Can It Help?
The Employer Retention Credit is a refundable credit that helps business owners keep their employees on payroll through tough times and minimizes how many workers file for unemployment.
Unlike other small business relief options—like Paycheck Protection Program (PPP) loans—businesses of all sizes can apply for and receive the ERC. And because it’s not a loan, business owners never need to seek forgiveness or worry about repaying the ERC funds they receive.
How to Calculate the ERC Tax Credit
First, let’s talk about the requirements to qualify for the ERC.
For 2020, the ERC is equal to half of the qualified employee wages you paid in a calendar quarter. It applies to any wages paid after March 12th and before January 1st of the following year. The eligible wages max out at $10,000 per employee, meaning that the maximum eligible wages you paid to any of your employees in 2020 is $5,000.
For 2021, the ERC is equal to 70% of those wages instead of 50%. Eligible wages now max out at $10,000 per quarter, meaning that the maximum credit you can receive per employee is $7,000.
If your business recovered from a decline in gross receipts and you haven’t claimed the credit previously, you can still claim it in 2022. Businesses can apply for the ERC three years after the program ends and look back at the wages they paid after March 12, 2020, to determine their eligibility.
Here’s how to calculate the ERC tax credit:
1. Confirm Your Eligibility
The first eligibility situation for the Employer Retention Credit is when a state or local government puts out a formal order that limits travel, meeting, or commerce. There are two ways you can get the ERC during these times:
- You experienced a significant decline in gross receipts for any quarter in 2020 or 2021 compared with the same quarter in 2019
- Your business had a full or partial suspension of operations due to a COVID government order
A significant decline in gross receipts is if your business declined by at least 50% in a given quarter in 2020 compared to the same quarter in 2019. The same rule applies if gross receipts dropped 20% in a given quarter in 2021 compared to the same quarter in 2019.
2. Pinpoint Your Eligible Time Frame
If your company qualifies based on its drop in gross receipts, your eligibility time frame is based on where you started and stopped meeting the requirements for the ERC.
You either need to:
- Determine which 2020 calendar quarter where your gross receipts were 50% or less than the same time in 2019; or
- Determine which 2021 calendar quarter where your gross receipts were 80% or less than the same time in 2019.
Next, identify when your gross receipts went back up over 50% in 2020 or 80% in 2021, depending on your business’s situation. Your ERC eligibility ends on the final day of that quarter (or the end of the calendar year)
3. Determine Your Qualified Wages
When applying for the ERC credit, it matters if you’re a small or large employer—in 2020, the IRS considered small employers as companies with fewer than 100 employees in 2019. For 2021, they raised the number to 500.
Related: Guide to Qualified Expenses
We discussed the maximum qualified wages above; however, it’s important to note that employer healthcare contributions (including those for furloughed employees) count toward those wages.
Small employers can include all wages for every eligible employee. Otherwise, you can only include idle wages from when you paid employees while they weren’t working.
Large companies cannot count wages for paid time off—instead, those are considered employee benefits.
Qualifying wages are the most subjective part of calculating your ERC. They’re also the most likely thing the IRS will challenge during an audit. However, the IRS doesn’t impose penalties for mistakes in these calculations (as long as they weren’t intentional).
4. Calculate your Tax Credit Amount
If you’re going off of 2020 wages, your ERC is 50% of the qualified wages discussed above—you can get a maximum ERC of $5,000 per employee (per quarter).
On the other hand, if you’re going off of 2021 wages, your ERC is 70% of those qualified wages, allowing for a maximum of $7,000 per employee (per quarter).
5. Eliminate Overlap With Other Tax Credits
The IRS typically only lets you use qualified wages for a single tax credit, meaning you can’t use them for ERC and other options, like the R&D tax credit.
You also cannot take a payroll tax deduction for any wages you used to qualify for the Employer Retention Credit.
In addition, if you’re the majority business owner, there are restrictions regarding the wages you pay to relatives.
We recommend working with a tax expert to help you determine the best tax credit to apply your qualified wages to—it may not be the ERC.
6. Review and Organize
Finally, you’ll want to pull together your documentation, leaving no question about why you made the decision to apply for the ERC. Ideally, it should read like an instruction manual that the IRS can follow to see how you determined your final calculation.
For example, if you qualify due to government orders, include a copy of the order that impacted your business, detailing and outlining how it affected you. On the other hand, if you qualify due to a decline in gross receipts, document those numbers.
The ERC won’t be available forever—if your business qualifies, you want to calculate and apply for the Employer Retention Credit ASAP.
And while you can file yourself, the ERC is a complex program, and a tax professional can likely help you get the highest credit that you’re eligible for.
Should you use your qualified wages for the ERC or the R&D tax credit? We can help determine how much you can get back from filing for the R&D tax credit—Get in touch today.
Related: How to Easily Calculate CAC