Business Finance

What is the Employee Retention Tax Credit (ERTC)?

Nov 18, 2022 • 9 min read
erc employee retention credit tax
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      Did your small business keep employees on your payroll through the pandemic? Congratulations! You may be eligible for a tax credit from the Internal Revenue Service, too.

      The Employee Retention Credit, or ERTC, was first launched in the early days of the COVID-19 pandemic as part of the CARES Act relief package. It was intended as an extra incentive for smaller businesses to retain their employees, although it was widely overshadowed by the Payment Protection Program.

      However, the ERTC is still available retroactively for both 2020 and 2021. Importantly, small businesses that received PPP loans are eligible to take the ERTC, too.

      ERTC is a credit, i.e., free money off your tax bill. Remember that unlike a deductible, which decreases a business’ taxable income, a credit reduces the amount of total tax owed to the IRS.

      By the end of tax season 2022, millions of dollars will be available in the form of ERTC—make sure you are getting the cash you deserve if you’re eligible.

      Just want to know if you qualify? Get started here.

      How The ERTC Works

      The employee retention credit is a refundable tax credit for qualifying employee wages. The credit is based on payroll taxes rather than income taxes, so you can still receive the credit even if you paid no income taxes in 2020 or 2021.

      The best part is because it is refundable, it’s possible to receive money back beyond what you originally paid in payroll taxes. So if you qualify for $50,000 under the ERC, but only paid $10,000 in payroll taxes, you would still receive the full $50,000 refund from the IRS. Bear in mind there is a small non refundable portion of the ERC that is limited to the amount you actually paid in employee Social Security and Medicare taxes.

      How Much Money Will My Small Business Get from the ERTC?

      For tax year 2020, eligible small businesses can claim 50% of the first $10,000 in wages per employee through the Employee Retention Credit. This adds up to a maximum of $5,000 per worker, and you can apply for this credit now in 2022.

      For the first 3 quarters of 2021, eligible small businesses can claim up to 70% of the first $10,000 in wages per quarter for each employee. This amounts to $21,000 per employee.

      Year Max per employeeHow the ERC is calculated
      2020up to $5,000 per employee50% of first $10,000 in wages per employee
      2021up to $21,000 per employee 70% of first $10,000 in wages per employee
      (quarters 1, 2, 3)
      total up to $26,000 per employee

      In total, a small business could potentially receive $26,000 in credits per employee kept employed through 2020 and 2021. Keep in mind that the IRS defines certain health care expenses as part of an employee’s wages.

      Is My Small Business Eligible for the ERTC?

      While businesses of all sizes can benefit from ERC, the program favors small businesses over larger employers. You can find out here if you qualify for the ERC and the fastest way to claim your credit.

      For tax year 2020, a small business is defined as a business that averaged 100 or fewer full-time monthly employees in 2019. For tax year 2021, the definition is expanded to include businesses that averaged 500 or fewer full-time monthly employees in 2019.

      Larger employers can claim the ERC but only for wages paid to employees not to work or for some qualified health costs.

      For small businesses, you can claim the credit for all employees whether they worked or not.  

      Now, to be eligible for the ERC, your business must have been rocked by either a government-mandated lockdown or a plunge in revenue.  

      If your business was impacted by a full or partial suspension of operations because of a government COVID-19 order during any quarter, you can qualify. This includes restrictions on hours or capacity.

      Your business can also qualify if it experienced a “significant decline” in gross receipts as defined by the IRS. For tax year 2020, a significant decline means gross receipts for a quarter are less than 50% compared to the same period in 2019. For the first 3 quarters in 2021, it means quarterly gross receipts are less than 80% compared to the same period in 2019.

      For the first 3 quarters of 2021, if your business did not see a 20% decline in gross receipts compared to 2019, businesses can also elect to use the immediately preceding quarter for comparison. This means that if a business’s Q2 of 2021 isn’t eligible compared to Q2 of 2019, they can instead use Q1 of 2021 and compare it to Q1 of 2019 to meet eligibility.

      If you have a newer business, the ERC was amended in 2021 by The American Rescue Plan to even let you gain access. So-called “recovery startup businesses” can apply for the credit for Q3 and Q4 of 2021. Recovery startup businesses are defined as ones that opened after February 15, 2020, and have annual gross receipts under $1 million. As long as you meet these two criteria and have one or more W2 employees, you don’t have to meet the other eligibility requirements. The maximum a recovery startup business can receive is $50,000 in ERC per quarter.  

      Do You Qualify for an Employee Retention Tax Credit?

      • Number of employees
        • Tax year 2020: 100 or fewer employees
        • Tax year 2021: Fewer than 500 employees
      • Impacted by pandemic
        • Meet one of the following conditions
          • Reduced revenue in 2020 or 2021 resulting from government mandates
          • Drop in revenue
            • Tax year 2020: less than 50% of 2019 receipts
            • Tax year 2021: less than 80% of 2019 receipts
      • Recovery startup business
        • Opened after February 15, 2020
        • Annual gross receipts under $1 million
        • Have one or more W2 employees

      How Do I Receive My Employee Retention Credit?

      First, before filling out any forms, consult your accountant or tax professional. They will help guide your business through this process. Because eligibility might be tricky to sus out, especially if you applied for PPP loan forgiveness, a tax professional that specializes in ERC will be well worth the cost.     

      Since you will need to claim the ERC retroactively, you can file Form 941-X to amend your previous return.

      What Is Considered Qualified Wages?

      Qualified wages vary based on the year and size of your business.

      In the following situations, all wages qualify regardless of whether employees worked or not

      • In 2020: 100 or fewer full-time employees
      • In 2021: Fewer than 500 full-time employees

      If you had more than 100 full-time employees in 2020 or more than 500 full-time employees in 2021, qualifying wages are wages paid to an employee while they were unable to work due to suspended operations or a substantial decline in revenue.

      A full-time employee is defined as any employee who worked more than 30 hours/week on average. In general the wages of the owner or family members of the company owner do not qualify.

      Cash tips greater than $20/month would be included as qualified wages.

      What Is The Deadline For Filing?

      Businesses have until April, 2024 to amend their 2020 tax filing and until April, 2025 to amend their 2021 filing to apply for the ERTC.

      Can I Get ERC if I Received PPP?

      Businesses can qualify for the ERTC even if they received 100% PPP loan forgiveness. However, the credit cannot be used on wages that were claimed in an application for PPP forgiveness. Know that you can count up to 40% of qualified expenses that aren’t payroll, like rent, for PPP forgiveness.

      Can Freelancers Receive ERC?

      Unfortunately, self-employed freelancers and the owners of LLCs are not eligible employees for receiving an ERTC. If your company is structured as an S-Corp or C-Corp, you may count as eligible if you are on the payroll and provide significant work for the business. 

      See If You Qualify For The ERC

      Lendio’s easy-to-use ERC application is designed to simplify the process at every step. 

      Disclaimer: The information provided in this post does not, and is not intended to, constitute business, legal, tax, or accounting advice and is provided for general informational purposes only. Readers should contact their attorney, business advisor, or tax advisor to obtain advice on any particular matter.
      About the author
      Barry Eitel

      Barry Eitel has written about business and technology for eight years, including working as a staff writer for Intuit's Small Business Center and as the Business Editor for the Piedmont Post, a weekly newspaper covering the city of Piedmont, California.

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