WHAT ARE THE UPDATES TO THE EMPLOYER TAX IMPLICATIONS OF RECENT COVID-19 LEGISLATION?
On March 18, 2020, the Families First Coronavirus Response Act (“the Families First Act”) requires certain employers to provide their employees with emergency paid sick leave and emergency paid family and medical leave for specified reasons related to COVID-19. On March 31, the IRS the Coronavirus Aid, Relief, and Economic Security Act (CARES Act) created an employee retention credit. These Acts were discussed in our previous alert entitled Employer Tax Implications of Recent COVID-19 Legislation.
This alert updates this legislation for new guidance, as follows:
Supplemental Guidance to Form 941 Form 941 instructions
Q: How did the IRS clarify Form 941?
The IRS released an update that supplements both Form 941 and Form 941 instructions (2020 versions). The guidance clarifies the refundable employee retention credit is available beginning the second quarter of 2020.
The IRS also clarified that employers that paid qualified wages from March 13, 2020, to March 31, 2020, are to include 50% of those wages and 50% of any qualified wages paid during the second three-month quarter of 2020 on the second-quarter Form 941 to claim the credit. The credit should NOT be included on the first-quarter Form 941. The rules equally apply to other form 94x family of forms.
Recall, under the CARES Act, eligible businesses may receive a refundable tax credit based on qualified wages paid to workers. The credit amount is equal to half the qualified wages that the employer paid to employees for that quarter. However, only up to $10,000 in wages paid to an employee for 2020 can be taken into account for determining the amount of the credit that may be received for 2020 based on compensation paid to that employee.
IRS Form 7200, Advance Payment of Employer Credits Due to COVID-19, and the related Instructions
Q: How do employers obtain advance payments of employer credits due to COVID-19?
Employers can be immediately reimbursed for the credit by reducing their required deposits of payroll taxes that have been withheld from employees’ wages by the amount of the credit.
Eligible employers will report their total qualified wages and the related health insurance costs for each quarter on their quarterly employment tax returns or Form 941 beginning with the second quarter. If the employer’s employment tax deposits are not sufficient to cover the credit, the employer may receive an advance payment from the IRS by submitting Form 7200, Advance Payment of Employer Credits Due to COVID-19.
What is Form 7200?
On April 1, 2020, the IRS finalized Form 7200 – Advance Payment of Employer Credits Due to COVID-19 and the accompanying instructions. The Form provides guidance for eligible employers to take advantage of refundable tax credits under the Families First Act and the CARES Act.
How do employers request advance payment credits?
Employers should use Form 7200 to request an advance payment of the qualified sick and family leave credits and the employee retention credit from the IRS. Prior to requesting advance payment, employers should utilize the credits by retaining employment taxes that they would otherwise deposit with the IRS, equal to the amount of qualified sick and family leave wages paid and their employee retention credit. The applicable employment taxes include the employer and employee shares of Social Security and Medicare taxes and any withheld federal income tax.
Employers filing Form 7200 will need to reconcile the credits and reduced employment tax deposits on its 2020 employment tax return (typically form 941).
Consider an employer allowed an employee retention credit of $5,000 and qualified family leave credit in the amount of $6,000. The total retained employment taxes are equal to $7,000. The employer may request advance payment of the credits in the amount of $4,000 by submitting Form 7200. If the amount of employment taxes retained was instead $15,000, the employer would not be eligible to submit Form 7200 and will need to deposit $4,000 in employment taxes with its next return.
What is the filing eligibility?
Eligible employers may only file after first reducing its employment tax deposits to zero.
In its discussion of “Who is an Eligible Employer?” the FAQs remind employers that an Eligible Employer must “carry on a business during the calendar year 2020.” The CARES Act does not discuss whether an employer is carrying on a business at any time during the calendar year 2020. Rather, it relies on existing law.
The FAQs do provide some guidance on when a business is treated as “partially suspended” for purposes of the employee retention credit. One example is a restaurant that normally serves food in a dining room on the restaurant premises that is required to restrict its operations to carry-out, drive-through, and delivery service only.
The FAQs also explain when an employer’s gross receipts significantly decline. A significant decline first exists for a 2020 calendar quarter for which the employer’s gross receipts are less than 50 percent of the gross receipts for the same quarter in 2019. The “significant decline” ends with the quarter after a 2020 quarter for which the gross receipts exceed 80% of the gross receipts for the corresponding quarter in 2019. In the example, the gross receipts for each of the first three quarters of 2020 were respectively, 48%, 83%, and 92% of the gross receipts for the corresponding quarter in 2019. Accordingly, the employer had a significant decline in gross receipts beginning on the first day of the first quarter and ending on the first day of the third quarter. Although the significant decline exists for the entire first quarter, only wages from March 13 are eligible for the employee retention credit.
When can form 7200 be filed?
Form 7200 may be filed at any time during the month following the quarter in which the qualified wages were paid. If needed, the Form may be filed multiple times during a given quarter. Employers should not file Form 7200 after filing Form 941 for Q4 of 2020.
The tax credits for qualified sick and family leave wages apply to wages paid from April 1, 2020, to December 31, 2020. The employee retention tax credit available due to suspension of operations, government shutdown or significant reduction in gross receipts applies to wages paid after March 12, 2020, and before January 1, 2021. Employers may take advantage of the credit for significant decline in gross receipts for the period beginning with a quarter in which gross receipts are less than 50 percent of what they were in that quarter in 2019 and ending with the quarter that begins after a quarter in which gross receipts were greater than 80 percent of what they were in that quarter in 2019.
Finally, the instructions to Form 7200 direct the employer to claim the credit arising from wages paid for the period from March 13, 2020 to March 31, 2020 on a Form 7200 filed for the second calendar quarter of 2020.
Can employers who use third-party payers benefit?
Yes. Employers that utilize a third-party payer, such as a Professional Employer Organization, to report and pay their federal employment taxes are entitled to the tax credit if they are otherwise eligible. Such an employer may file its own IRS Form 7200 to request an advance refund of the tax credit but must provide a copy of the form to its third-party payer so the credit can be properly reported.
Are the qualified wages included as gross income by the employee?
Yes. From an employee’s perspective, qualified wages are generally treated as any other wages the employee may receive. Accordingly, qualified wages are subject to income and employment tax withholding, and any salary reduction agreements the employee has in place with the eligible employer are treated as ordinary wages for purposes of benefits the eligible employer provides, such as contributions to 401(k) plans.
Are there restrictions on obtaining the refundable tax credit?
Yes. Some restrictions apply, including, but not limited to:
- Self-employed individuals cannot request an advance payment of credits for sick and family leave.
- An employer that receives a Small Business Interruption Loan under the CARES Act cannot claim the employee retention credit.
- An employer can receive tax credits for qualified leave wages under the Families First Act and a Small Business Interruption Loan under the CARES Act; however, these wages do not qualify as “payroll costs” for purposes of loan forgiveness under the CARES Act.
- If an employer receives a credit for qualified leave wages under the Families First Act, those wages do not count as qualified wages under the CARES Act. An employer cannot receive a double-credit on wages.
IRS Notice 2020-22: Relief from Penalty for Failure to Deposit Employment Taxes
Q: What is IRS Notice 2020-22; Relief from Penalty for Failure to Deposit Employment Taxes and Why Is it Important?
Notice 2020-22 provides penalty relief for employers who fail to deposit employment taxes in anticipation of the allowance of the new tax credits provided under the Families First Act and the CARES Act.
The relief provided means that employers may pay qualified sick leave wages and qualified family leave wages (as required by the Families First Act) or qualified wages (pursuant to the CARES Act) using employment taxes that otherwise would be required to be deposited, but without incurring a failure to deposit penalty. That is, employers will not be penalized in 2020 if they have payroll-related balance due payments related to amounts as calculated under the above Acts. The normal deposit penalties are deferred to December 31, 2021 (50%) and to December 31, 2022 (the remaining 50%).
FAQs: Employee Retention Credit under the CARES Act
Q: What Information did the IRS provide in its Frequently Asked Questions?
The IRS posted 66 detailed FAQs regarding the COVID-19-related tax credits for small and midsize businesses under the Families Act, which provides new employee leave benefits, including paid sick leave options for certain employers. The FAQs relate to:
- Basic Questions (Q1-19)
- Determining the amount of the tax credit for qualified sick leave wages (Q20-24)
- Determining the amount of the tax credit for qualified family leave wages (Q25-30)
- Determining the amount of allocable qualified health plan expenses (Q31-36)
- How to claim the credits
- How should an employer substantiate eligibility for tax credits for qualified leave wages (Q44-46)
- Periods of time for which credits are available (Q47-48)
- Various special issues for employers (Q49-59)
- Specific issues related to self-employed individuals (Q-60-66)
The following summarizes key points from the FAQs.
Who does the law apply to?
The paid sick leave and expanded family and medical leave provisions of the Families First Act apply to certain public employers, and private employers with fewer than 500 employees. For additional information, see Q5.
What is the amount of the refundable tax credits?
The credits cover 100% of up to ten days of qualified sick leave wages and up to ten weeks of qualified family leave wages (and any qualified health plan expenses allocable to those wages) that an eligible employer paid during a calendar quarter, plus the amount of the eligible employer’s share of Medicare taxes imposed on those wages. Qualified sick leave and qualified family leave under the Families First Act are in addition to an employee’s preexisting leave entitlements.
An eligible employer pays $10,000 in qualified sick leave wages and qualified family leave wages in the second quarter of 2020. It does not owe the employer’s share of Social Security tax on the $10,000, but it will owe $145 for the employer’s share of Medicare tax. Its credits equal $10,145, which include the $10,000 in qualified leave wages plus $145 for the eligible employer’s share of Medicare tax (this example does not include any qualified health plan expenses allocable to the qualified leave wages). This amount may be applied against any federal employment taxes that the eligible employer is liable for on any wages paid in the second quarter of 2020. Any excess over the federal employment tax liabilities is refunded in accordance with normal procedures. Eligible employers must still withhold the employee’s share of Social Security and Medicare taxes on the qualified leave wages paid. For additional information, see Q6.
How do employers claim the credit?
Eligible employers can claim the credits on their federal employment tax returns (e.g., Form 941, Employer's Quarterly Federal Tax Return), but they can benefit more quickly from the credits by reducing their federal employment tax deposits. For additional information, see Q12.
What are the requirements for waiver of penalty for reduced employment tax deposits?
An eligible employer will not be subject to a penalty under section 6656 of the Internal Revenue Code for failing to deposit federal employment taxes relating to qualified leave wages in a calendar quarter if:
How do employers request an advance of the credits?
- The eligible employer paid qualified leave wages to its employees in the calendar quarter before the required deposit.
- The amount of federal employment taxes that the eligible employer does not timely deposit is less than or equal to the amount of the Eligible Employer’s anticipated tax credits for these qualified leave wages for the calendar quarter as of the time of the required deposit, and
- The eligible employer did not seek payment of an advance credit by filing Form 7200, Advance Payment of Employer Credits Due to COVID-19, with respect to any portion of the anticipated credits it relied upon to reduce its deposits. For additional information, see Q17.
If the federal employment taxes that would otherwise be deposited by an eligible employer are less than the available tax credits for qualified sick and qualified family leave, an eligible employer may request an advance payment of the excess credits from the IRS by submitting a Form 7200, Advance Payment of Employer Credits Due to COVID-19. The IRS expects to begin processing these requests during April 2020.
An eligible employer paid $10,000 in qualified leave wages (and allocable qualified health plan expenses and the eligible employer’s share of Medicare tax on the qualified leave wages) and is otherwise required to deposit $8,000 in federal employment taxes, including taxes withheld from all of its employees, on wage payments made during the same quarter. The eligible employer can keep the entire $8,000 of taxes that the eligible employer was otherwise required to deposit, without penalties, as a portion of the credits it is otherwise entitled to claim on the Form 941. The eligible employer may file a request for an advance credit for the remaining $2,000 by completing Form 7200. For additional information, see Q40.
What documentation do employers need to substantiate eligibility for credits?
An eligible employer must substantiate eligibility for the sick leave or family leave credits by receiving a written request for such leave from the employee in which the employee provides:
- The employee’s name;
- The date or dates for which leave is requested;
- A statement of the COVID-19 related reason the employee is requesting leave and written support for such reason; and
- A statement that the employee is unable to work, including by means of telework, for such reason. For additional information, see Q44.
In the case of a leave request based on a quarantine order or self-quarantine advice, the statement from the employee should include the name of the governmental entity ordering quarantine or the name of the health care professional advising self-quarantine, and if the person subject to quarantine or advised to self-quarantine is not the employee, that person’s name and relation to the employee.
What are qualified health plan expenses?
"Qualified health plan expenses” are amounts paid or incurred by the eligible employer to provide and maintain a group health plan (as defined in section 5000(b)(1) of the Internal Revenue Code), but only to the extent that those amounts are excluded from the gross income of employees. For additional information, see Q9.
How do employers determine the amount of allocable qualified health plan expenses?
Generally, the tax credits for qualified sick leave wages and qualified family leave wages are increased by the qualified health plan expenses allocable to each type of qualified leave wages. Qualified health plan expenses are properly allocated to the qualified sick or family leave wages if the allocation is made on a pro rata basis among covered employees (for example, the average premium for all employees covered by a policy) and pro rata on the basis of periods of coverage (relative to the time periods of leave to which such wages relate).
An eligible employer sponsors an insured group health plan that covers 400 employees, some with self-only coverage and some with family coverage. Each employee is expected to work 260 days a year. (Five days a week for 52 weeks.) The employees contribute a portion of their premium by pretax salary reduction, with different amounts for self-only and family. The total annual premium for the 400 employees is $5.2 million. (This includes both the amount paid by the eligible employer and the amounts paid by employees through salary reduction.)
For an eligible employer using one average premium rate for all employees, the average annual premium rate is $5.2 million divided by 400, or $13,000. For each employee expected to have 260 work days a year, this results in a daily average premium rate equal to $13,000 divided by 260, or $50. That $50 is the amount of qualified health expenses allocated to each day of paid sick or family leave per employee. For additional information, see Q31-33.
What credits are available to self-employed individuals?
The Families First Act provides a refundable payroll tax credit, allowed against regular income taxes, for eligible self-employed individuals, for up to ten days of sick leave. The credit covers 100% of a self-employed individual’s wages for sick leave (individuals who are under self-quarantine or getting tested for COVID-19), up to $511 per day. In order to determine the limit on the credit for sick leave wages, the number of days the self-employed individual is unable to work must be multiplied by the lesser of (1) 100% of the taxpayer’s daily self-employment income or (2) $511. For additional information, see Q61.
The Families First Act also provides a refundable payroll tax credit, allowed against regular income taxes, for self-employed persons, for up to 50 days of family leave. This credit covers 67% of the self-employed individual’s wages for family leave (caring for a family member affected by the coronavirus or a child following the child’s school closing), up to $200 per day. The limit on the credit for family leave wages is determined by multiplying the number of days the self-employed individual is unable to work by the lesser of (1) 67% of the taxpayer’s daily self-employment income or (2) $200. For additional information, see Q61.
How do the Families First Act tax credits interact with other tax credits?
Any qualified leave wages taken into account for the tax credits may not be taken into account for the purpose of determining a credit under section 45S, Employer Credit for Paid Family and Medical Leave, of the Internal Revenue Code. An eligible employer may not claim a credit under section 45S with respect to the qualified sick leave wages or qualified family leave wages for which it receives a tax credit under Families First Act, but may be able to take a credit under section 45S with respect to any additional wages paid, provided the requirements of section 45S are met with respect to the additional wages. For additional information, see Q52.
Q: What Clarifications Do theCOVID-19 Temporary Regulations Provide?
On April 1, 2020, the U.S. Department of Labor (DOL) issued temporary regulations interpreting the Families First Coronavirus Response Act (the Families First Act) and the Emergency Paid Sick Leave Act (EPSLA). In general, the Acts provides certain employees who are unable to work due to the COVID-19 pandemic emergency paid sick leave and paid family and medical leave. Although the rules largely track the guidance DOL has posted on the Questions and Answers page of its website, there are a few clarifications to highlight.
What employee notice and documentation of leave is required?
Employees are generally not required to provide employers with advance notice of their need to take Families First Act leave. An employer may only require notice after the employee takes their first day of leave. After that first missed workday, the employer may require that the employee provide notice as soon as practicable given the particular circumstances. If, however, the employee is taking leave for childcare related reasons, the employee must provide advance notice where the need for leave is foreseeable. Even if the employee fails to give such notice, the employer cannot deny the leave request without first giving the employee an opportunity to provide the necessary documentation.
Employees must provide employers with documentation sufficient to justify their need to take Families First Act leave. This includes a signed statement containing the following information: (1) the employee’s name; (2) the date(s) for which leave is requested; (3) the COVID-19 qualifying reason for leave; and (4) a statement representing that the employee is unable to work or telework because of the COVID-19 qualifying reason. Notably, an employer may not require documentation beyond what is provided for in the regulations. Therefore, an employee does not need to provide a doctor’s note advising self-quarantine or official documentation that their child’s school or daycare center is closed.
What are the employer recordkeeping obligations?
An employer is required to retain all documentation related to leave requests for four years, regardless of whether leave was granted or denied. If an employer denies an employee’s request for leave pursuant to the small business exemption, the employer must document its authorized officer’s determination that granting such leave would jeopardize the viability of the business and retain such documentation for four years. The employer does not need any prior approval from the DOL to reject requested leave under the small business exemption.
For tax purposes, the employer should retain the IRS Forms 941 and 7200 (and any other applicable forms) filed with the IRS with respect to the tax credits claimed for qualified sick leave wages and qualified family leave wages.
What does subject to quarantine or isolation order mean?
An employee is eligible to take paid sick leave if the employee is unable to work due to a Federal, State, or local COVID-19 quarantine or isolation order. Quarantine or isolation orders include a broad range of governmental orders, even local and statewide “stay at home” orders.
Limitations: Business Closures, Furloughs, Telework
Employees are not entitled to Families First Act leave benefits if their employer has no work for them to do. If a non-essential business is required to shut down or employees are furloughed due to COVID-19, employees who are out of work will not be eligible for Families First Act paid sick leave or extended family and medical leave. An employee in this situation may be eligible for expanded unemployment benefits under the CARES Act.
Additionally, employees who are unable to report to work because, for example, they are required to self-isolate or their child’s school is closed, but can nonetheless telework, will not be eligible for paid Families First Act leave. In a departure from the continuous work rule, employers must pay for telework only for hours actually worked. If telework is impossible—the regulations provide the example of a person working from home during a stay at home directive who loses electricity—then the employee could receive paid Families First Act leave for those hours they were unable to work.
What are other additional considerations?
Payments of qualified wages (as well as the employer’s share of Medicare tax with respect to such wages and allocable qualified health plan expenses) are generally deductible by the employer. The IRS FAQ makes clear, however, that the full amount of the tax credit must be included in the employer’s gross income (thereby effectively offsetting the deduction). In addition, any qualified wages taken into account in determining tax credits under the Families First Act are excluded when determining tax credits under Section 45S of the Code related to paid family and medical leave. Similarly, qualified wages that give rise to a tax credit under the Families First Act are not eligible for the payroll tax credit provided by the Coronavirus Aid, Relief, and Economic Security (CARES) Act.