Section 2301 of the Coronavirus Aid, Relief, and Economic Security Act (the “CARES Act”) (H.R. 748) offers a refundable credit against an eligible employer’s share of Social Security payroll taxes (6.2%) for 50% of up to $10,000 in qualified wages paid to each employee between March 13 and December 31, 2020, while the employer is forced to partially or fully suspend operations, or has decreased gross receipts due to the COVID-19 epidemic (the “Employee Retention Credit”).

In addition, Section 2302 of the CARES Act offers certain employers the ability to defer payment of the 6.2% employer’s share of the Social Security payroll tax on wages paid, and self-employed individuals the ability to defer payment of 50% of the 12.4% self-employment tax on self-employment income received, from March 27, 2020 through December 31, 2020. In each case, 50% of the deferred tax is due by December 31, 2021, and the remaining 50% is due by December 31, 2022.

Section 2301 Employee Retention Credit

Eligibility

To receive the Employee Retention Credit for a calendar quarter, an employer must be an “eligible employer” carrying on a trade or business, including a tax-exempt organization, in 2020 that either:

1. Was fully or partially suspended during one or more calendar quarters due to orders from an appropriate governmental authority limiting commerce, travel, or group meetings due to COVID-19 (a “Shutdown”); or

2. Experienced a significant and continuing decline in gross receipts^[1] for one or more calendar quarters in which the trade or business remained open. A significant decline in gross receipts occurs in a calendar quarter, beginning after December 31, 2019, when gross receipts of the trade or business are fewer than 50% of the gross receipts for the same calendar quarter in the prior year. So long as the business satisfies the other requirements of the credit, the significant decline in gross receipts continues for each calendar quarter until gross receipts exceed 80% of the gross receipts for the same calendar quarter in the prior year.

“Qualified wages” eligible for the Employee Retention Credit under the CARES Act depend on an employer’s number of employees:

1. If the employer’s average number of full-time employees^[2] in 2019 was 100 or fewer, qualified wages will include (1) wages paid during a Shutdown; or (2) wages paid during a significant decline in gross receipts, without regard to whether the employee provided services to the employer during this time or not.

2. If the employer’s average number of full-time employees in 2019 was greater than 100, qualified wages will include (1) wages paid during a Shutdown; or (2) wages paid during a significant decline in gross receipts, but only for wages paid while the employee was not providing services to the employer in either circumstance.

Limitations on Qualified Wages

• Qualified wages include “qualified health plan expenses” paid or incurred by an eligible employer to provide and maintain a group health plan, to the extent excluded from the gross income of the employee under section 106 of the Code, and as allocated to the wages paid. Qualified health plan expenses are included in qualified wages for purposes of the $10,000 limitation on qualified wages paid.

• Qualified wages do not include any wages taken into account under (1) Section 7001 (Qualified Sick Leave Wages) or Section 7003 (Qualified Family Leave Wages) of the Families First Coronavirus Response Act, or (2) paid to an employee for whom the employer is allowed a Work Opportunity Tax Credit under Section 51 of the Internal Revenue Code (the “Code”).

• If wages will be taken into account for purposes of determining the Employee Retention Credit, they cannot be taken into account for the employer-paid family and medical leave credit allowed under Section 45S of the Code.

• For an employer with more than 100 full-time employees on average in 2019, the total amount of qualified wages for an employee may not exceed the amount that employee would have been paid for working an equivalent duration during the immediately preceding 30-day period.[3]

Other Key Aspects of the Employee Retention Credit

• The Employee Retention Credit is refundable if it exceeds the employer’s Social Security payroll tax liability for the calendar quarter.

• Those treated as a single employer for purposes of the Work Opportunity Tax Credit,[4] and for purposes of affiliated service group status (including certain separate organizations, employee leasing, or other arrangements),[5] are treated as a single employer for purposes of the Employee Retention Credit. This can have profound implications for determining whether a Shutdown or a significant and continuing decline in gross receipts has occurred, and whether an employer will be treated as having more than 100 full-time employees.

• The Employee Retention Credit is not available to employers that receive a covered loan under Paragraph (36) of Section 7(a) of the Small Business Act (15 U.S.C. 636(a)), as added by Section 1102 of the CARES Act (a “Small Business Interruption Loan”).

• Combined with Section 2302 of the CARES Act (the delay of payment of employer payroll tax benefit) it appears that eligible employers may be able to defer the payment of the 6.2% Social Security payroll tax for the period provided, while still having the opportunity to claim a refund, under Section 2301, for the taxes not yet paid.

• The Treasury will waive any penalty for the failure to make a deposit of the employer’s applicable employment taxes for the period at issue if the failure to deposit was in reasonable anticipation of this credit.

• The Employee Retention Credit is not available to the government of the United States, the government of any state or political subdivision thereof, or any agency or instrumentality of any of such entities.

The United States Treasury is required to provide further guidance with respect to: (1) advance payment of the Employee Retention Credit, (2) reconciliation of advance payments and tax returns, (3) the recapture of credits if the taxpayer receives a credit and subsequently receives a Small Business Interruption Loan under Section 1102 of the CARES Act, (4) application of the credit to third-party payors, and (5) application of the tax credit in the case of an employer who was not carrying on a trade or business. However, these are only a few of the many issues for which businesses will need guidance in applying the tax credit in section 2301 of the CARES Act.

Section 2302 Payroll Tax and Self-Employment Tax Deferral

Exceptions

Nearly all employers and self-employed individuals liable for Social Security payroll tax or self-employment tax are eligible for the deferral under Section 2302 of the CARES Act. An employer or self-employed individual may not defer tax payments under Section 2302 if it takes advantage of the small business loan forgiveness provisions of the CARES Act, including:

1. Electing to have debt forgiven under section 1106 of the CARES Act with respect to a loan under Section 7(a) of the Small Business Act (15 U.S.C. 636(a)), added by Section 1102 of the CARES Act, or

2. Electing to have debt forgiven under Section 1109 of the CARES Act. 

Other Key Aspects of the Delay of Payment of Employer Payroll Taxes

• Section 2302 of the CARES Act offers protections for third-party payroll agents such as (1) Section 3504 agents, and (2) certified professional employer organizations (“PEOs”), by making the employer solely liable for payment of the deferred taxes if the employer directs the Section 3504 agent or certified PEO to defer payment.

The CARES Act directs the Treasury Secretary to adopt rules for the administration and enforcement of the third-party provisions. Employers are also eager to receive further guidance from the Treasury on how the deferral interacts with other aspects of the CARES Act, particularly the Employee Retention Credit.

Dinsmore lawyers are carefully monitoring tax legislation, regulatory activity, and interpretive guidance relating to the COVID-19 pandemic, and will post more information as it becomes available on the Dinsmore COVID-19 Business Strategies Hub. If you have questions about how your business can take advantage of tax laws or incentives to respond to the COVID-19 pandemic, please contact any of Dinsmore’s tax attorneys.

[1] “Gross receipts” has the meaning used in 26 U.S.C. § 448(c).

[2] “Full-time employee” has the meaning as set forth in 26 U.S.C. § 4980H, generally an employee working 30 or more hours per week on average.

[3] See Section 2301(c)(3)(B) of the CARES Act.

[4] See Section 52(a) or (b) of the Code.

[5] For purposes of  Section 414(m) and (o) of the Code