IRS Issues Final and Proposed Guidance on Recapturing Excess Employment Tax Credits

(Parker Tax Publishing July 2020)

The IRS issued temporary and proposed regulations which deal with the reconciliation of advance payments of refundable employment tax credits, which were enacted by the Families First Coronavirus Response Act and the Coronavirus Aid, Relief, and Economic Security Act, and the recapturing of the benefit of these credits when necessary. The regulations also authorize the assessment of erroneous refunds of the credits paid under both the Families First Coronavirus Response Act and Coronavirus Aid, Relief and Economic Security Act. T.D. 9904; REG-111879-20.

Background

The Families First Coronavirus Response Act (Families First Act) (Pub. L. 116-127) was enacted on March 18, 2020, and the Coronavirus Aid, Relief, and Economic Security Act (CARES Act) (Pub. L. 116-136) was enacted on March 27, 2020. These new laws were enacted to provide relief to taxpayers from economic hardships resulting from the Coronavirus Disease 2019 (COVID-19).

The Families First Act, through the enactment of the Emergency Paid Sick Leave Act (EPSLA) and the Emergency Family and Medical Leave Expansion Act (EFMLEA), generally requires employers with fewer than 500 employees to provide paid sick leave for up to 80 hours and paid family leave for up to 10 weeks if the employee is unable to work or telework due to COVID-19 related reasons. Eligible employers are entitled to fully refundable tax credits to cover the cost of the leave required to be paid. The CARES Act provides an additional credit for employers experiencing economic hardship due to COVID-19. Eligible employers who pay qualified wages to their employees are entitled to an employee retention credit.

Sections 7001 and 7003 of the Families First Act generally provide that employers subject to the paid leave requirements under EPSLA and EFMLEA (i.e., eligible employers) are entitled to fully refundable tax credits to cover the cost of the leave required to be paid for those periods of time during which employees are unable to work or telework for reasons related to COVID-19.

Eligible employers are entitled to receive a refundable credit equal to the amount of the qualified sick leave wages and qualified family leave wages (collectively "qualified leave wages"), plus allocable qualified health plan expenses. Under the respective provisions, qualified leave wages are defined to mean wages (as defined in Code Sec. 3121(a)) and compensation (as defined in Code Sec. 3231(e)) paid by an employer which are required to be paid under the EPSLA and EFMLEA. The credit is allowed against the taxes imposed on employers by Code Sec. 3111(a) (the social security tax), first reduced by any credits claimed under Code Sec. 3111(e) and (f) and Code Sec. 3221(a) (the Railroad Retirement Tax Act Tier 1 tax), on all wages and compensation paid to all employees. Under the Families First Act, the qualified leave wages are not subject to the taxes imposed on employers by Code Sec. 3111(a) and Code Sec. 3221(a). In addition, the credits under Sections 7001 and 7003 of the Families First Act are increased by the amount of the tax imposed by Code Sec. 3111(b) (employer's share of Medicare tax) on qualified leave wages.

The CARES Act provides an additional credit for employers experiencing economic hardship related to COVID-19. Under Section 2301 of the CARES Act, certain employers who pay qualified wages to their employees are eligible for an employee retention credit. Employers eligible for the employee retention credit are employers that carry on a trade or business during calendar year 2020 and tax-exempt organizations that either have a full or partial suspension of operations during any calendar quarter in 2020 due to an order from an appropriate governmental authority limiting commerce, travel, or group meetings (for commercial, social, religious, or other purposes) due to COVID-19, or experience a significant decline in gross receipts during the calendar quarter.

The employee retention credit is a fully refundable tax credit for employers equal to 50 percent of qualified wages. Because the maximum amount of qualified wages taken into account with respect to each employee is $10,000, the maximum employee retention credit for an eligible employer for qualified wages paid to any employee is $5,000. The credit is allowed against the taxes imposed on employers by Code Sec. 3111(a), first reduced by any credits allowed under Code Sec. 3111(e) and (f) and Sections 7001 and 7003 of the Families First Act, and the taxes imposed under Code Sec. 3221(a) that are attributable to the rate in effect under Code Sec. 3111(a), first reduced by any credits allowed under Sections 7001 and 7003 of the Families First Act, on all wages and compensation paid to all employees. The same wages or compensation cannot be counted for both the Families First Act leave credits and the CARES Act employee retention credit.

Refundability of Credits

Sections 7001(b)(4) and 7003(b)(3) of the Families First Act provide that if the amount of the paid sick and family leave credits under these sections exceeds the taxes imposed by Code Sec. 3111(a) or Code Sec. 3221(a) for any calendar quarter, such excess is treated as an overpayment that is refunded under Code Sec. 6402(a) and Code Sec. 6413(b). Section 2301(b)(3) of the CARES Act provides that if the amount of the employee retention credit exceeds the taxes imposed by Code Sec. 3111(a) or Code Sec. 3221(a) (limited to the portion attributable to the rate in effect under Code Sec. 3111(a)) for any calendar quarter, such excess is treated as an overpayment that must be refunded under Code Sec. 6402(a) and Code Sec. 6413(b).

Code Sec. 6402(a) provides that, within the statute of limitations period, overpayments may be credited against any liability in respect of an internal revenue tax on the part of the person who made the overpayment and any remaining balance refunded to such person. Code Sec. 6413(b) provides that if more than the correct amount of employment tax imposed by Code Secs. 3101, 3111, 3201, 3221, or 3402 is paid or deducted and the overpayment cannot be adjusted under Code Sec. 6413(a), the amount of the overpayment shall be refunded (subject to the applicable statute of limitations) as the IRS may prescribe in regulations.

IRS Revises Tax Forms For Reconciling Advance Payments of Refundable Credits

The IRS has revised Form 941, Employer's Quarterly Federal Tax Return, and is revising Form 943, Employer's Annual Federal Tax Return for Agricultural Employees, Form 944, Employer's Annual Federal Tax Return, and Form CT-1, Employer's Annual Railroad Retirement Tax Return, so that employers may use these returns to claim the paid sick and family leave credits under the Families First Act and the employee retention credit under the CARES Act. The revised employment tax returns will provide for any credits in excess of the taxes imposed under Code Sec. 3111(a) or Code Sec. 3221(a) (for the employee retention credit, only the taxes imposed under Code Sec. 3221(a) that are attributable to the rate in effect under Code Sec. 3111(a)) to be credited against other employment taxes and then for any remaining balance to be refunded to the employer (per Code Sec. 6402(a) or Code Sec. 6413(b)).

To implement the advance payment provisions of the Families First Act and the CARES Act, the IRS has created Form 7200, Advance Payment of Employer Credits Due To COVID-19, which employers may use to request an advance of the paid sick or family leave credits under the Families First Act, the employee retention credit under the CARES Act, or two or more of them. Employers are required to reconcile any advance payments claimed on Form 7200 with total credits claimed and total taxes due on their employment tax returns.

Observation: A refund, a credit, or an advance of any portion of these credits to a taxpayer in excess of the amount to which the taxpayer is entitled is an erroneous refund for which the IRS must seek repayment. Under the temporary and proposed regulations, such an erroneous refund is treated as an underpayment of tax which is subject to IRS assessment and administrative collection procedures.

For a discussion of the employer credit under the Families First Act for paid sick leave, see Parker Tax ¶106,410 and ¶106,430. For a discussion of the employee retention credit under the CARES Act, see Parker Tax ¶106,460.

Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. The information contained herein is general in nature and based on authorities that are subject to change. Parker Tax Publishing guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. Parker Tax Publishing assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein.

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