Corona Virus Part 3: Tax Credits

Apr 23, 2020 | COVID-19, Tax Blog

In the previous blog post, we described one facet of the government’s efforts to aid businesses during this difficult time, loans.  In this blog post we’ll discuss another facet, tax credits.

Here is a quick refresher on what a tax credit is from Part 1 of this series

Think of a tax credit as a “substitute” for a cash payment to the government for taxes. So let’s say you owe the government $100.  You can either write them a $100 check, or you can utilize tax credits, which count as payments against that $100 all the same (in practice most people pay off their taxes by mixing the two methods).  In some cases, you might owe the government $100 in taxes but have $120 in credits, in which case you may actually get $20 back!  Not all credits work the same; when you can actually get back more than you owe, this is called a refundable tax credit.  There are many, many ways to get tax credits.

The main focus of the government’s tax credits as a vehicle to aid businesses suffering from the COVID 19 pandemic is to keep people employed.  Keep this in mind as we delve into some of the specifics of these tax credits; it will help you understand the type of behavior the government is encouraging and the mechanics of how the reward – ie the tax credit – works.

Please note that for the first two programs, the Paid Sick Leave Credit and the Childcare Leave Credit, an employer must be a business with less than 500 employees and mandated to provide sick/childcare leave under the Families First Coronavirus Response Act (FFCRA).  In practice, this is most small businesses, however, an exemption to providing mandatory sick/childcare leave is available for businesses with less than 50 employees.  For the Employee Retention credit, generally any employer who averaged less than 100 employees during 2019 will qualify.  The rules over who qualifies and who doesn’t can be a bit tricky, so seek advice from qualified representatives, such as a CPA, prior to making decisions here.

The Paid Sick Leave credit and Childcare Leave credit will be discussed jointly, as the calculation of the credit and how to claim them are relatively similar; the Employee Retention credit will be discussed later on as it has different mechanics.


Paid Sick Leave Credit

This credit is for those employees who cannot work because that employee is quarantined or is experiencing corona virus symptoms and is seeking a diagnosis. In such cases, when the employer pays this person sick leave while they are not working, the government will reimburse the wages paid to this person. The vehicle for the reimbursement is a tax credit.

There are limits to how much the government will reimburse for these situations.  The amount of wages eligible for reimbursement is limited to 80 hours’ (10 days) worth of wages, and there is a per-day limit of $511.  Thus, the total amount reimbursable per employee is $511/day x 10 days = $5,110.  If the employee normally makes less than $511/day, use the actual rate of pay to determine the reimbursement.

In addition to the reimbursement described above, if an employee is caring for someone who is diagnosed with the virus, or is caring for a child whose school is closed or normal childcare provider is unavailable, employers may claim a credit equal to 2/3rds of the employee’s normal rate of pay.  The limitations here are 80 hours (10 days), $200/day, and $2,000 in the aggregate.  If an employee makes an hourly wage such that 2/3rds of their wage x 8 hours would be less than $200/day, use that amount instead.

One final note here is that if the employer continues to pay health insurance for these employees, the cost of the health insurance can also be claimed as a credit.


Child Care Leave Credit

Before describing this credit, it should be noted that it would appear, at first glance, that this credit is duplicative of the one I just described above. Indeed, the criteria for qualifying is the same: the credit applies when an employer continues to pay people who cannot come in to work due to needing to care for a child whose school is shut down or whose normal childcare provider is unavailable.

The important thing to note is that this credit is in addition to the credit provided under the Paid Sick Leave credit.  So you can actually get more than one credit for paying people who are unable to work due to taking care of children.

The calculation is exactly the same – I will describe it again below – however, the difference is that instead of limiting the total credit to 80 hours (10 days) of pay, under the Child Care Leave credit, the limitation is 400 hours (ten weeks).

Employers may claim a credit equal to 2/3rds of the employee’s normal rate of pay.  As noted, the limitations here are 400 hours (ten weeks) at $200/day, meaning the aggregate limit is $10,000 per employee.  If an employee makes an hourly wage such that 2/3rds of their wage x 8 hours would be less than $200/day, use that amount instead.

Just like Paid Sick Leave credit, if the employer continues to pay health insurance for these employees, the cost of the health insurance can also be claimed as a credit.

Takeaways/Important Notes:

  • Relief is relatively limited for employees who are sick or have symptoms and seeking a diagnosis. While employers can continue to pay them their full rates (capped at $511/day) and have that cost reimbursed by the government, only ten days of payments are covered.
  • For employees who are caring for children who are out of school and whose childcare providers are unavailable, employers can continue to pay these people 12 weeks and have the cost partially covered by the government. The 12 weeks is broken down into two weeks under the Paid Sick Leave credit and ten weeks under the Child Care Leave credit.  However, the dollar limitation is much lower at $200/day limit, and that amount would reflect 2/3rds of the employee’s normal pay, meaning people who normally make $300+ day would be capped.

In our article on the loan programs, we noted that the Payroll Protection loans are forgivable if the employer spends the loan proceeds on paying people in the eight weeks following the loan. It is very important to note that any payroll for which the two credits we just talked about is claimed cannot be counted towards loan forgiveness under the PPP.  That would essentially be realizing two benefits for the same wages paid, and the government is not allowing that.


How to Claim These Credits

Some of you may be wondering at this point what you’re supposed to do if cash is tight. Obviously paying employees requires cash, so the promise of some far-off tax credit is of little comfort in such situations.  Fortunately the government has provisioned for such cases.The first way the credit can be realized is by reducing your employment tax deposits with the government.  These are also called 941 taxes.  These taxes are a combination of the income taxes and payroll (social security and Medicare) taxes you withhold from your employees’ paychecks as well as the employer’s share of payroll taxes (for every $1 you withhold in social security and Medicare taxes from your employees’ checks, you must deposit $1 yourself).  Depending on the size and frequency of your payrolls, you may be required to deposit these taxes within one day of your payroll, within 3-4 business days of your payroll, by the 15th of the month following your payroll, or by the end of the month following the quarter end.So the first mechanism the government is allowing you to utilize to realize these credits we have been discussing is by reducing your deposit.  In other words, if you would normally have $500 of 941 taxes that are due to the government for a payroll, you can instead remit zero, in effect claiming this credit.  That is good, but it’s still not going to provide immediate cash flow to offset the payments you have made to your employees for sick and/or child care leave.  In such situations, the second mechanism to realizing this credit is to ask the government for an advance.  The advance amount would be equal to the cost of the payroll less the 941 taxes that were due but which you did not remit.  The government has pledged to turn these requests, filed via Form 7200, within two weeks, which appears to be an understanding on their part that cash is king and that during these times, businesses cannot afford to wait until the end of the year, or even the end of the quarter, to get reimbursed for paying their employees.

Click Here for more information on the Sick Leave credit, the Child Care Leave credit, and the funding mechanisms.


Employee Retention Tax Credit

The final tax credit that the government has offered is the Employee Retention tax credit. With a name like that, it may shock you to find out that the government is incentivizing…retaining employees.This credit is based on wages a business pays to its employees during a certain window.  I’ll describe what this window is in a moment.  The credit is 50% of the wages paid during this window to employees, with a maximum amount of $10,000 of wages – meaning the maximum credit is $5,000.  These are per employee values, so if you have 100 employees, you can see that these numbers could get big in a hurry.In addition, healthcare costs paid by the employer may be included and do not count against the $10,000/employee limit.

Now, on to the window.  As I mentioned, the credit is based on 50% of wages while the window is open.  What triggers the opening of the window?  The window opens when your 2020 quarterly sales drop below 50% of the same quarter in 2019.  This is a retroactive calculation, a concept best explained by the IRS’ own example:

“An employer’s gross receipts were $100,000, $190,000, and $230,000 in the first, second, and third calendar quarters of 2020, respectively.  Its gross receipts were $210,000, $230,000, and $250,000 in the first, second, and third calendar quarters of 2019, respectively.  Thus, the employer’s 2020 first, second, and third quarter gross receipts were approximately 48%, 83%, and 92% of its 2019 first, second, and third quarter gross receipts, respectively.  Accordingly, the employer had a significant decline in gross receipts commencing on the first day of the first calendar quarter of 2020 (the calendar quarter in which gross receipts were less than 50% of the same quarter in 2019”

So in this example, the window opens the first day of the first quarter, since 1Q 2020 sales were less than 1Q 2019 by 50% or more.

The window closes when quarterly sales recover to 80% of 2019, or January 1, 2021, whichever is earlier.  The closing of the window would be the last day of the quarter in which 2020 sales are equal to or greater than 80% of 2019.  So in the above example, the window would close June 30, 2020 since 2Q sales in 2020 are more than 80% of 2Q sales in 2019.

It should be noted that since this legislation is new in 1Q 2020, the earliest the window opens is March 13, 2020, not January 1, 2020.

The mechanism for getting the credit is the same as the paid leave and childcare credits described earlier.  First an employer will reduce the amount of 941 taxes they deposit to zero.  If there are additional credits anticipated, the employer may file Form 7200 to receive an advance.

One last caveat of this credit is that an employer may not receive both the employee retention credit and the PPP loan described in part two of this series.  This is an important consideration because both of these programs can make a lot of sense, but important analysis work should be performed to determine which makes the most sense.

Click Here for more information on the Employee Retention tax credit.

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