Self-Study CPE: 1 Article, 5 Questions, 1 Hour of Credit

November 24, 2022

Employee Retention Credit claims: Facts vs. Fraud

By: Kurt Oestriecher, CPA

This self-study's CPE exam questions and submission instructions are located at the end of this article.

The Employee Retention Credit (ERC) has created a cottage industry that is providing misleading and false information to employers. Tax credit recovery companies have been in business for years and, for the most part, have done a credible job in recovering tax credits that were not properly claimed on original tax returns.

However, many of these companies, and some new entrants to the marketplace, have been using deceptive advertising and practices to convince companies to claim the ERC when the companies do not qualify when properly applying IRS guidance.

This cottage industry has caused conflict between CPA firms and their clients as companies have been directly contacting clients to inform them they do qualify for the ERC even though their existing CPA has concluded that they do not qualify. This practice leads to distrust between the CPA firm and the client because often the CPA firm has performed procedures and properly concluded that the client does not qualify. One particular ERC promotional flyer sent out to all of the customers of a bank that had partnered with a credit recovery firm stated, “You can still qualify even if your CPA didn’t think you would qualify.”

Much of this conflict is related to when, and if, a government order allows an entity to qualify for the ERC. If a credit recovery company cites an order as an eligible order, the first item to address is the start and end date of that order. If there is no start or end date, then the proclamation or guidance cited by the credit recovery company cannot be considered an appropriate government order.

The employer is only eligible for the ERC for wages paid during the effective date of the order, so if there is no effective beginning or ending date of the order, logic dictates that no appropriate order exists. An oft-cited misrepresentation is that guidance issued by the CDC promoting social distancing or other COVID-related procedures is a qualifying government order. This position is not supported by any specific IRS guidance and is in fact refuted by IRS Notice 2021-20.

If a client informs you they have been contacted by a credit recovery company and requests you to review your conclusions or the conclusions of the credit recovery company, the author recommends the following course of action:

  • Make an inquiry to determine why the credit recovery company believes your client qualifies for the ERC.
  • Evaluate the position of the credit recovery company with your prior research and authoritative guidance issued by the IRS.
  • Determine whether the information provided by the credit recovery company provides new information, which changes your opinion on the potential ERC claim.
  • Inform your client of the conclusion you reach. If you still believe the client does not qualify for the ERC, it is recommended that you inform your client in writing, so that your position is clear.

Authoritative guidance

The IRS has issued the following notices that provide guidance on the application of the ERC:

  • IRS Notice 2021-20
    Guidance on Section 2301 of the CARES Act and amended by Section 206 of the Relief Act. This guidance applies to the ERC for wages paid between March 12, 2020, and Dec. 31, 2020. This guidance is similar to the information initially provided by the IRS in the Employee Retention Credit FAQs, but this notice includes clarifications related to expanded eligibility for the credit. This notice should be used in lieu of the FAQs when trying to determine eligibility.
  • IRS Notice 2021-23
    Amplifies the guidance in Notice 2021-20 and provides additional guidance for the ERC related to wages paid between Jan. 1, 2021 and June 30, 2021.
  • IRS Notice 2021-49
    Updated guidance related to the extension of the ERC enacted by Section 9651 of the American Rescue Plan Act. This notice amplifies the guidance in Notice 2021-20 and Notice 2021-23 and provides additional guidance on the ERC applicable to the third and fourth quarters of 2021. Note: The ERC was subsequently rescinded for the fourth quarter of 2021.

The majority of the issues at conflict related to the ERC are differences in interpretation as to what qualifies as a government order that fully or partially suspends operations. IRS Notices 2021-23 and 2021-49 are silent on this issue. Therefore, the guidance in IRS Notice 2021-20 related to government orders is the relevant guidance regardless of what year or quarter you are attempting to determine eligibility due to a government order.

Eligibility myths

In order to qualify for the ERC, an employer must demonstrate eligibility. This determination is where there are some very questionable positions that are taken by credit recovery companies. The following eligibility issues have been the source of conflict between the author and credit recovery companies.

Gross receipts test

Myth

Some credit recovery companies claim an employer may use an accounting method in calculating gross receipts that differ from the method used by the employer when filing its tax return.

IRS guidance

IRS Notice 2021-20, Part III E, Question 24, states the term “gross receipts” has the same meaning when used under section 448(c) of the code. Therefore, the employer must use its tax method when determining the decline in gross receipts.

Supply chain interruptions

Myth

Credit recovery companies often claim any interruption in the supply chain will automatically qualify an employer for the ERC. The position that any interruption will qualify a business for the ERC is not supported by IRS guidance.

IRS guidance

IRS Notice 2021-20 provides specific guidance on this topic in Section III Part D, question 12. Per this guidance, the employer must establish the supplier had to suspend operations due to a government order and that the employer’s business operations were fully or partially suspended. Based on this guidance, an employer should document the specific government order that caused the supplier to suspend operations. If no such order can be found, the employer is not eligible for the ERC under this provision.

Further, if the supplier is subject to the order, the employer must establish facts and circumstances that its operations were fully or partially suspended as a result of the inability to obtain critical goods or materials. In the example that supports this guidance, the IRS Notice explains that to qualify for the ERC, the employer must also demonstrate it was unable to procure such raw materials from an alternate supplier.

Cutting back on your hours of operation or decrease in demand

Myth 1

If COVID-19 or government orders caused the customers of a business to stay at home or otherwise caused a reduction in demand, an employer will qualify for the ERC.

IRS guidance

IRS Notice 2021-20 Section III Part D, question 13, clearly states that such a scenario will not qualify an employer for the credit under the government order rule. This section refers the employer to the gross receipts test to determine eligibility. If the reduction in demand does not reduce revenue below the statutory decline of 50% in 2020 or 20% in 2021, the employer is not eligible under the government order rule.

Myth 2

An employer that decides to reduce hours, even though not subject to a government order that fully or partially suspends operations, qualifies for the ERC.

IRS guidance

IRS Notice 2021-20 Section III Part D, question 14, addresses this issue and states an employer does not qualify for the ERC if there is a voluntary full or partial suspension of operations. Therefore, the employer would not be eligible for the ERC using this rationale.

Telework – School closings

Myth

If an employer incurs a partial or full suspension of operations due to a government order—such as a private school being closed—the employer is automatically eligible for the ERC.

IRS guidance

IRS Notice 2021-20 Section III Part D, question 15, states if an employer is able to continue operations comparable to its operations prior to the closure, including telework, the employer’s operations are not considered to have been fully or partially suspended. Therefore, the employer is not eligible for the ERC. If the employer’s school went to an online learning platform and had no substantial withdrawals (and related refunds of tuition), it is the opinion of the author the employer does not qualify for the ERC.

Limitation of group meetings

Myth

If an employer must cancel any meeting or conference, the employer is automatically eligible for the ERC and no further analysis of the facts and circumstances is necessary.

IRS guidance

IRS Notice 2020-10 Section III Part C, question 10, provides guidance and numerous examples of what constitutes a government order that could qualify an employer for the ERC.

The appropriate government order must limit commerce, travel or group meetings and relate to the suspension of an employer’s operations of its trade or business. The guidance further states that “such a declaration that limits commerce, travel, or group meetings, but does so in a manner that does not relate to the suspension of an employer’s operation of its trade or business does not rise to the level of a government order for purposes of the employer’s determination of its eligibility for the employee retention credit.”

The author has concluded it is paramount that the employer demonstrates how the declaration that limited such activities actually led to a suspension of the operation in order to be eligible for the ERC.

Throughout the pandemic, the CPA profession has stood out as the leader in assisting our clients and companies in determining the most appropriate, and legal, course of action related to government programs. The CPA’s obligation to protect the public, our clients and their companies is being put to the test because of the tactics used by many credit recovery companies.

It is very easy for the management of a company to want to believe they are eligible for the ERC based on the very dubious interpretations that are offered by credit recovery companies, and we must do our best to evaluate each claim. If an employer is eligible for the ERC based on the facts and supported by IRS guidance, the author strongly urges the employer to apply for all credits to which they are legally entitled. Conversely, if the facts do not support eligibility, the CPA should clearly communicate his or her position to management and cite IRS guidance to the extent possible to support his or her conclusion.

Kurt G. Oestriecher, CPA, is a partner with Oestriecher & Company CPAs in Alexandria, La., and is the partner in charge of accounting and auditing. He is past president of the Louisiana Society of CPAs (LCPA) and has served on numerous LCPA and AICPA Committees. He has facilitated CPE courses since 1992 and has received the AICPA Outstanding Discussion Leader Award 13 years and the LCPA Outstanding Discussion Leader Award four times.

Please complete and mail a copy of this exam along with your payment information to: Oklahoma Society of CPAs / CPAFOCUS Self-Study / 5201 N. Shartel Ave. / Oklahoma City, OK 73118-6026 by December 31Note: The magazine self-study is $25 for members and $40 for nonmembers