The IRS has posted two new employee retention credit (ERC) FAQs on its website addressing the interaction of the ERC and Paycheck Protection Program (PPP) loans in the context of mergers and acquisitions (M&A). The FAQs provide taxpayer-favorable answers to questions that have been plaguing employers for months, clarifying the conditions under which the ERC would remain available following the acquisition of a target company that previously received a PPP loan.

Background

The Coronavirus Aid, Relief, and Economic Security Act (CARES Act), which was enacted on March 27, 2020, included both PPP loans and the ERC. The Small Business Administration and private lenders administer PPP loans, which are available to smaller employers for payroll and other expenses. If certain conditions are met, the debt can be forgiven. The ERC is a refundable employment tax credit of up to $5,000 per employee for eligible employers paying qualified wages and health plan expenses.

The ERC was enacted under Section 2301 of the CARES Act. Under CARES Act Section 2301(j), an eligible employer receiving a PPP loan may not claim the ERC. CARES Act Section 2301(d) includes an aggregation rule under which all persons treated as a single employer under IRC Sections 52(a) or (b) or 414(m) or (o) are treated as a single employer for purposes of the ERC. Thus, if multiple entities are treated as a single employer under the aggregation rule and only one of them receives a PPP loan, none of the entities in the group may claim the ERC. This result was confirmed in FAQ 80, which was posted on the IRS website in April 2020. CARES Act Section 2301(l)(3) instructs the Treasury Secretary to issue such forms, instructions, regulations and guidance as needed to recapture the ERC if the credit is claimed by a taxpayer that receives a PPP loan during a subsequent quarter.

FAQs 81a and 81b

FAQs 81a and 81b were added on November 16, 2020, to provide rules for the interaction of PPP loans and the ERC in the M&A context.

The rules in FAQ 81a dictate how to determine whether an employer (Acquiring Employer) that acquires the stock or other equity interests of an entity (Target Employer) is eligible for the ERC on and after the acquisition closing date if (1) the acquisition results in Target Employer becoming a member of an aggregated group; and (2) Acquiring Employer is treated as a single employer under the aggregation rules (the Aggregated Employer Group). The rules differ depending on the status of the PPP loan at the time of the acquisition.

If the PPP loan is fully satisfied or an escrow is established before the transaction, FAQ 81a considers members of the Aggregated Employer Group, including the Target Employer, eligible for the ERC under the following conditions:

If the Target Employer had received a PPP loan, but prior to the transaction closing date, the Target Employer fully satisfied the PPP loan in accordance with paragraph 1 of the Small Business Administration Notice effective October 2, 2020 (the SBA October 2 Notice), or submitted a forgiveness application to the PPP lender and established an interest-bearing escrow account in accordance with paragraph 2.a of the SBA October 2 Notice, then, after the closing date, the Aggregated Employer Group will not be treated as having received a PPP loan, provided that the Acquiring Employer (including any member of the Acquiring Employer's pre-transaction Aggregated Employer Group) had not received a PPP loan before the closing date and no member of the Aggregated Employer Group receives a PPP loan on or after the closing date. In this case, any employer that is a member of the Aggregated Employer Group, including the Target Employer, may claim the Employee Retention Credit for qualified wages paid on and after the closing date, provided that the Aggregated Employer Group otherwise meets the requirements to claim the Employee Retention Credit. In addition, any Employee Retention Credit claimed by the Acquiring Employer's pre-transaction Aggregated Employer Group for qualified wages paid before the closing date will not be subject to recapture under [Section] 2301(l)(3) of the CARES Act.

If the PPP loan is not fully satisfied and no escrow is established before the transaction, the results are the same for the members of the Aggregated Employer Group other than the Target Employer, which may not claim the ERC for any wages paid to any employee of the Target Employer before or after the closing date.

FAQ 81b addresses asset acquisitions and has different rules depending on whether the PPP loan obligations are assumed in the transaction. If there is no assumption of PPP loan obligations, the Acquiring Employer is eligible for the ERC under the following conditions:

An Acquiring Employer that acquires the assets of a Target Employer that had received a PPP loan will not be treated as having received a PPP loan by virtue of the asset acquisition, provided that the Acquiring Employer does not assume the Target Employer's obligations under the PPP loan. In this case, the Acquiring Employer will be eligible for the [ERC] after the transaction closing date if the employer otherwise meets the requirements to claim the credit. In addition, any [ERC] claimed by the Acquiring Employer for qualified wages paid before the closing date will not be subject to recapture under [Section] 2301(l)(3) of the CARES Act.

If the PPP loan obligations are assumed, the Acquiring Employer is eligible for the ERC, with certain limitations on which wages will be treated as qualified, as follows:

If, as part of the acquisition of the Target Employer's assets and liabilities, the Acquiring Employer assumes the Target Employer's obligations under the PPP loan, then after the transaction closing date, the Acquiring Employer generally will not be treated as having received a PPP loan, provided that the Acquiring Employer had not received a PPP loan before or on or after the closing date; however, the wages that may be treated as qualified wages after the closing date will be limited. Specifically, the wages paid by the Acquiring Employer after the closing date to any individual who was employed by the Target Employer on the closing date shall not be treated as qualified wages. Subject to this limitation, the Acquiring Employer may claim the [ERC] for qualified wages paid on and after the closing date, provided that the employer otherwise meets the requirements to claim the [ERC]. In addition, any [ERC] claimed by the Acquiring Employer for qualified wages paid before the closing date will not be subject to recapture under [Section] 2301(l)(3) of the CARES Act.

Like all the other ERC FAQs on the IRS website, FAQs 81a and 81b are preceded by a legend that states: "This FAQ is not included in the Internal Revenue Bulletin, and therefore may not be relied upon as legal authority. This means that the information cannot be used to support a legal argument in a court case."

Implications

Many employers that were otherwise eligible for the ERC have been concerned that their ERC claims might be jeopardized — perhaps even retroactively and regardless of whether the PPP borrower repaid or received forgiveness of the loan before the transaction — by engaging in M&A activity with PPP loan recipients. These employers will find great comfort in the specificity and common-sense approach the IRS has taken in the new FAQs. It remains to be seen whether legislation will be enacted, such as Section 90005 of the HEROES Act, which would address these issues by retroactively amending the relevant provisions of the CARES Act.

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