June 25, 2020
IRS updates Employee Retention Credit FAQs, affecting tax-exempt organizations
On June 19, 2020, the IRS updated 10 of its frequently asked questions (FAQs) on the Employee Retention Credit under the CARES Act. Three of the new FAQs pertain expressly to tax-exempt organizations: FAQ 34 (Example 4), FAQ 46 and FAQ 58 (Example 1). The IRS periodically updates their FAQs and uses the FAQs as a flexible tool to communicate important tax information. While these FAQs are not binding on the IRS or taxpayers, they do reveal the current thinking of the Treasury Department and the IRS.
The Employee Retention Credit (ERC) is a refundable employment tax credit for qualified wages paid from March 13, 2020, through December 31, 2020, by employers that (1) fully or partially suspend operations during any calendar quarter in 2020 due to governmental orders concerning COVID-19, or (2) experience a greater than 50% decline in gross receipts during any calendar quarter in 2020 compared to the same calendar quarter in 2019. The credit equals 50% of qualified wages up to $10,000, for a maximum credit of $5,000 per employee. (See Tax Alert 2020-0761.)
For eligible employers with more than 100 full-time employees during 2019, qualified wages are generally those wages paid to an employee for "not providing services" because operations were suspended or due to a decline in gross receipts. These employers can only count wages up to the amount that the employee would have been paid for working an equivalent duration during the 30 days immediately preceding the period of economic hardship. For eligible employers with 100 or fewer employees, qualified wages are wages paid to any employee during the period operations were suspended or the period of the decline in gross receipts, regardless of whether its employees are providing services
FAQ 34: If a governmental order requires an employer to close its workplace for certain purposes, but the workplace may remain operational for limited purposes, is the employer considered to have a suspension of operations?
In FAQ 34, the IRS concludes that an "employer's operations would be considered to be partially suspended" if a government order has required the employer to close its workplace but the workplace continues to operate on a limited basis. For a business's operations to be considered partially suspended, the applicable government order must have "more than a nominal effect on the business operations under the facts and circumstances." The IRS recently added Example 4 to FAQ 34 that illustrates this concept with regard to a hospital.
Example 4 states that Employer H, a hospital, is considered to be operating an essential business under a government order with respect to its emergency department, intensive care and other services for conditions requiring urgent medical care. However, the government order treats Employer H's elective and non-urgent medical procedures as non-essential business operations and prevents Employer H from performing these services. Employer H suspends operations related to elective and non-urgent medical procedures. Although Employer H is an essential business, Employer H is considered to have a partial suspension of operations due to the government order that prevents Employer H from performing elective and non-urgent medical procedures.
FAQ 46: What are "gross receipts" for a tax-exempt employer?
In FAQ 46, the IRS defines a tax-exempt employer's "gross receipts," exclusively for purposes of determining eligibility for the ERC, as including all income from all sources and not just from activities that constitute unrelated trades or businesses. For ERC purposes, a tax-exempt organization's gross receipts include:
A tax-exempt employer can determine whether it has experienced a significant decline in gross receipts by computing its gross receipts for the calendar quarter in 2020 and comparing that figure to its gross receipts for the same quarter in 2019.
FAQ 58: If an amount an Eligible Employer pays to an employee is exempt from social security and Medicare taxes, can the Eligible Employer still claim the Employee Retention Credit on the amount paid to that employee?
FAQ 58 sets out several fact patterns to illustrate that an eligible employer may not claim the ERC on an amount paid to an employee who is exempt from social security and Medicare taxes. The IRS notes that the ERC is allowed on qualified wages, within the meaning of IRC Section 3121(a). Example 1 of FAQ 58 applies this concept to a church employee.
Example 1 of FAQ 58 depicts a church that employs an ordained minister, a common law employee of the church, who continues to get paid even when Sunday services are suspended because the government has had to limit gatherings to 10 people. The minister's salary and housing allowance do not constitute wages under IRC Section 3121(a) and therefore are not qualified wages for ERC purposes.
For tax-exempt organizations that are operating an essential business, Example 4 of FAQ 34 supports the position that you may still have a partial suspension of operations for that portion of your operations that were deemed non-essential. Organizations with a similar fact pattern as that in FAQ 34, Example 4, should review their facts to determine whether the Example supports the inclusion of those qualified wages paid to eligible employees who were impacted by the partial shutdown.
Another notable clarification provided by the FAQs is that, when determining eligibility for the ERC, a tax-exempt organization should calculate its decline in gross receipts from all its activities and not solely from its unrelated trade or business activities. This clarification will require organizations that were relying solely on a decline in unrelated business gross receipts to reevaluate whether they are eligible for the ERC, either under the expanded definition of gross receipts used to determine a decline in gross receipts or due to a government order.
For tax-exempt organizations that included wages that are exempt from social security and Medicare taxes in their calculation of the ERC, FAQ 58 Example 1 will require such organizations to revalue the ERC without the inclusion of such wages.
By providing such additions and examples, the IRS has shown its willingness to address questions raised by tax-exempt organizations regarding their eligibility for the Employee Retention Credit. Tax-exempt organizations should continue to raise issues and provide comments as this and other guidance is reviewed and adapted to their particular situation.
Please contact your EY Tax professional with any questions.
— For more information about EY's Exempt Organization Tax Services group, visit us here.