What would you do if I told you I could guarantee your small business a refundable tax credit of $26,000 per employee—without ever having seen your books?
I hope you’d run in the opposite direction.
But increasingly, employers are sticking around to hear more, and some have been convinced to claim the Employee Retention Credit, or ERC, when they might not qualify. This week, the IRS warned businesses to be cautious when third parties promise tax savings that are too good to be true.
The ERC was introduced in March 2020 as part of the CARES Act. It targeted businesses that continued paying employees while their doors were shut or while they were experiencing significant declines in gross receipts. For most businesses, the credit applies to wages paid between March 13, 2020 and Sept. 30, 2021. Generally, only recovery startup businesses can claim the ERC for wages paid after Sept. 30, 2021.
The credit is tied to payroll and is calculated quarterly. Businesses that claimed the ERC contemporaneously with their payroll tax returns could reduce the required deposits of payroll taxes by the amount of the credit.
Businesses that didn’t claim the credit when filing their original returns can file amended tax returns. The usual rules apply, which means that you typically must file Form 941-X within three years of filing or two years from the date the tax was paid, whichever is later.
Treasury Sees a Problem
All of this free money has proved to be a temptation. This summer, the Treasury Inspector General for Tax Administration reported concerns, including that “the IRS does not have processes to verify a recovery startup business or effective controls to deny the Employee Retention Credit for non-recovery startup businesses.” By March 10, 2022, the IRS had identified 11,096 suspicious returns claiming more than $2 trillion in credits.
ERC Mills Step Up
This wasn’t news to tax professionals, who have seen an uptick in solicitations to businesses. Most concerning are the aggressive stances ERC mills take—third parties chasing taxpayers and promising huge refunds.
I’ve been on the receiving end of those solicitations. Last month, I received several emails about the credit. The average credit was, one email claimed, over $50,000. And despite having no information about my business’ financials or employees, they promised that “as long as you had 3+ W-2 employees during 2020 and 2021(not including yourself), you ABSOLUTELY are eligible for the ERC.”
Spoiler alert: I was not eligible. When I reached out to the alleged high-level corporate partner—a well-known payroll company—I did not receive a response.
That tracks with what Kristen Yunker, a tax professional from Tampa, Fla., has witnessed. She said clients received solicitations primarily via email, although more recent ones also came by text.
Mailers are also popular. Tax professionals on social media, including Alexander Roytenberg, CPA, out of Brooklyn, NY, have voiced concerns about letters that appear to come from the IRS. Some even come with pre-printed checks attached.
Businesses are also the target of voice mails. Adam Markowitz, an enrolled agent and owner of Luminary Tax Advisors in Windermere, Fla., reported that one of his clients forwarded him a copy of an unsolicited voicemail that advised, “This is the credit your CPA doesn’t want you to know about.”
That last line feels harmless enough—but it’s proving problematic. Anne Bushman, partner at Washington National Tax with RSM US LLP, says it may create stress in the adviser relationship if taxpayers hear these claims and believe their tax professionals aren’t providing them with proper guidance.
The credit has been around for more than two years, yet the solicitations just now feel like a feeding frenzy. The economy may be playing a role. Neil Johnson, a tax professional in the Greater Chicago area, believes that “the feeling of uneasiness with high inflation and recession concerns” may make small business owners appealing targets.
IRS Sends Out a Warning
This month, the IRS warned that "[s]ome third parties are taking improper positions related to taxpayer eligibility for and computation of the credit.”
Taxpayers are always responsible, the IRS notes, for the information reported on their tax returns. Improperly claiming the ERC could result in repayment of the credit, plus penalties and interest. If you’re already out fees paid to a third party, it’s even more painful.
So what do taxpayers need to know to avoid a potential hit? Chrissy Green, a transactional tax attorney at Clark Hill PLC in Pittsburgh, Pa., says that it should be obvious, but not every business qualifies for the ERC. She urges taxpayers to ask their advisers questions, not only about eligibility but about any additional steps to take to avoid nasty surprises.
Johnson agrees. He says many employers see the outside credit limit and can’t shake that number, refusing to believe that, in many cases, any potential credit will be substantially less. Additionally, businesses working with a tax professional may not realize that their adviser might have already done an eligibility “eyeball test.” If you’re not sure about the credit, ask.
But, Yunker warns, be prepared to find out that you’re not eligible. If a business owner is already working with a qualified professional, they should, she says, question why they’re getting such big news from another source. Johnson suggests that having the first word come from an outside party likely means they’re selling you something you don’t need.
If you are eligible, don’t expect cash immediately. As of Oct. 12, 2022, the IRS had 3.4 million unprocessed Forms 941 and 219,000 unprocessed Forms 941-X. Some of those amended returns cannot be tackled until the original returns have been processed. And, the IRS notes that while not all of these returns involve the ERC, the inventory is being worked at two specific sites with Covid-credit trained staff, which could result in a delay.
With so much noise about ERC, it may be challenging to tell a mill from a legitimate offer to help. When evaluating the options, here are a few red flags to look out for:
- Solicitations like the one I received making promises without having access to financials or payroll information;
- Offers to file when your business doesn’t even run payroll;
- Refund numbers that exceed your total payroll;
- Initial eligibility determinations made without regard for affiliated or commonly controlled entities or the number and relationship of employees; and
- Fees based on a percentage of the recovery—Markowitz has seen some as high as 40%. While this is not necessarily indicative of an ERC mill, the IRS generally advises taxpayers to exercise care when working with tax professionals who base their fees on expected refunds since it can create an incentive to inflate numbers artificially.
Your tax professional wants you to get any money you’re entitled to receive. Bushman notes that there is a lot of information about the ERC—both good and bad—out there, and it can be hard to sift through. That’s why communication is critical: if you have specific questions about eligibility or costs, ask.
You also need to speak up if you believe that you have already been pulled into a potentially fraudulent scheme, since you may need to file corrected returns. If you have information about tax-related illegal activities relating to ERC claims, the IRS encourages you to submit Form 3949-A, and report fraud and IRS-related phishing attempts to TIGTA at 1.800.366.4484.
Finally, the IRS and tax professionals are quick to point out that if an offer sounds too good to be true, it probably is. There are, Yunker says as a reminder, no free money fairies out there.
This is a regular column from Kelly Phillips Erb, the Taxgirl. Erb offers commentary on the latest in tax news, tax law, and tax policy. Look for Erb’s column every week from Bloomberg Tax and follow her on Twitter at @taxgirl.
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