The Employee Retention Tax Credit (“ERTC”), under the CARES Act, is a refundable tax credit filed against a company’s payroll taxes. The ERTC was enacted to incentivize employers to maintain their employee base during the COVID-19 pandemic. Recently, the ERTC has been highly scrutinized by the IRS, citing fraudulent claims facilitated by third-party tax credit promoters. On December 20, 2023, the IRS released Notice 2024-3, which announced a Voluntary Disclosure Program (“VDP”). The VDP allows a taxpayer who believes it may have filed an inaccurate claim to return 80% of their ERTC to avoid a subsequent audit by the IRS.

ERTC DEVELOPMENTS PRIOR TO THE VDP

On September 14, 2023, the IRS announced a temporary moratorium on processing new ERTC claims until at least December 31, 2023. The IRS cited extreme backlog (more than 600,000 claims), as the purpose for the moratorium. The IRS stipulated that the existing backlog was due to many fraudulent claims, focusing on ERTC submissions where: (1) no entity was in existence during the ERTC eligibility period; or (2) there were no paid employees during the ERTC eligibility period. The IRS reported that 20,000 letters were sent out to taxpayers between September 14 to December 31, 2023. To this date, the IRS has not officially lifted the moratorium on processing ERTC claims.

The moratorium on processing was the latest in a series of announcements that focused on the ERTC. On April 20, 2023, the IRS listed the ERTC on their annual “Dirty Dozen” list. The IRS warned that certain third-party tax credit promoters were using the ERTC as a possible “scam” to collect fees from companies that do not otherwise qualify for the ERTC, flooding the IRS with ERTC claims, and resulting in many businesses being audited. The IRS cautioned businesses to carefully consider their ERTC service providers before claiming the ERTC. The Dirty Dozen list was preceded by similar warnings from the IRS.

WHAT TO KNOW ABOUT THE VDP

Notice 2024-3 announced the framework for the VDP. The VDP “includes the settlement of the ERC for purposes of a participant’s employment tax obligations by eliminating their eligibility for the ERC while allowing a participant to retain 20% of the claimed ERC amount.” The VDP application deadline is March 22, 2024. The VDP is not available to taxpayers under employment tax examination or audit.

The Notice also “resolves the issue of the corresponding adjustment to income tax expense for participants.” Upon filing the ERTC, a taxpayer is required to reduce wage expense in the context of income tax. The VDP stipulates that the taxpayer will have no income tax obligation as a result of settlement, regardless of whether the taxpayer reduced their wage expense after filing the ERTC. If the taxpayer already amended their income tax return to reduce wages, they may file an Administrative Adjustment Request (“AAR”) to reclaim wage expense originally reduced by the ERTC.

In short, the VDP allows taxpayers to retain 20% — an amount that many third-party tax credit promoters charged as their contingency fees for preparation. The VDP relinquishes a taxpayer’s eligibility for the ERTC. When submitting the VDP, the taxpayer must provide the taxpayer’s name, the tax periods the ERTC was claimed, and the name of any third-party preparer used when claiming the ERTC. The ERTC is available on a quarter-by-quarter basis, but the taxpayer must give up the entirety of their ERTC benefit in the quarter in which they are applying.

WHAT TO KNOW ABOUT THE ERTC IN THE CONTEXT OF THE IRS DEVELOPMENTS

If you have filed for the ERTC, but have not received the refund, it does not mean that your business should be concerned. Upon announcing the temporary moratorium on the ERTC, the IRS warned that the ERTC processing period could exceed the normal processing time (180 days). Additionally, it does not mean that the VDP is the only option for your business.

For businesses under audit for their ERTC, the VDP is not available. If your business has been audited, it does not mean that it does not qualify for the ERTC. Winthrop & Weinstine, P.A.’s Specialty Tax & Incentives Group has extensive experience with the ERTC and the IRS audit framework. Our attorneys can assist in an analysis of the ERTC, whether your company is under audit or considering the VDP settlement option.

January 9, 2024