IRS Updates on ERC Claims Processing

Summary of Internal Revenue Service (IRS) Bulletin on Employee Retention Credit (ERC) Processing (IR-2024-263)

The IRS announced progress on processing about 400,000 Employee Retention Credit (ERC) claims, with $10 billion in eligible claims under review (an average of about $25,000 per claim). The IRS continues to work through the backlog, which resulted from a surge in claims during aggressive marketing campaigns. Many of these claims have been found ineligible due to confusing practices from ERC promoters, who misled taxpayers on the premise that the credit was a “grant” or “stimulus,” or who misrepresented how taxpayers could qualify for the credit.

IRS Commissioner Danny Werfel emphasized the importance of the ERC for struggling small businesses, noting that efforts are being made to process eligible claims quickly while safeguarding against fraudulent submissions. A significant challenge has been distinguishing legitimate claims from the wave of improper ones.

To accelerate processing, the IRS launched a consolidated claim method for Third-Party Payers (TPPs); also known as Professional Employer Organizations (or PEOs). TPPs handle payroll and tax reporting for multiple employers and can now withdraw incorrect claims for specific clients while retaining valid ones.

The ERC program, initially introduced during the pandemic to aid businesses, including TPPs, has since become a source of fraudulent claims. The IRS is intensifying audits and investigations into such claims while urging businesses to ensure their eligibility before submitting a claim.

Options with ERC Claims – Voluntary Disclosure or Withdrawal

Voluntary Disclosure. The IRS has reopened the ERC Voluntary Disclosure Program (VDP), allowing businesses to self-correct improper 2021 ERC claims. The VDP is available for employers that have already filed their ERC claim and received their refund. Running through November 22, 2024, the second ERC VDP offers businesses a chance to repay the ERC at a 15% discount and also avoid penalties and interest on their ERC claim. Businesses that received ERC refunds are encouraged to recheck their eligibility for the ERC, as well as their supporting documentation, and consider the VDP program.

Withdrawal. The IRS also provides an ERC withdrawal program for businesses whose claims have not yet been paid, allowing them to avoid potential compliance issues. Again, businesses that have filed for an ERC refund, but the refund has not yet been paid, should review their ERC claim and supporting documentation. If they determine their claim is deficient, the employer should consider the withdrawal option.  

Verifying ERC Claim Documentation

To ensure proper documentation for the ERC claim, business owners need to follow specific IRS guidelines. It’s important to understand IRS Letter 105-C, which outlines steps to correct or defend disallowed ERC claims. Employers must retain documentation to support existing ERC claims, regardless of payment status. The documentation should include the ERC eligibility method followed (“full/partial suspension of operations due to a government order” or “reduction in gross receipts”) and any supporting calculations and analysis. This analysis could also include the complex aggregation rules when applicable; review and exclusion of related-party wages; and other relevant support. Further, the documentation should contain detailed reports showing that wages reported for other benefits (like PPP loan forgiveness) are not included in the ERC calculation. For larger employers, only wages paid to non-working employees are entitled to the ERC. Be sure to retain the worksheets used in these ERC calculations to provide clarity on how the credit was computed.

Full or Partial Suspension: If the ERC claim is based on a full or partial suspension of business operations due to a government order, the IRS expects documentation to include copies of the government order(s) affecting operations, along with a written explanation detailing how the order suspended business for each claimed quarter. Additionally, supporting documents like internal communications and financial records should be maintained to substantiate the claim.

Decline in Gross Receipts: For businesses claiming the ERC based on a significant decline in gross receipts, documentation must include a written explanation of how the decline was calculated, along with business records showing gross receipts for each quarter of the tax year in question. Comparable data from the baseline year (usually 2019) should also be provided to demonstrate the percentage decline necessary for eligibility. Furthermore, a statement confirming that ineligible wages (such as those paid to related individuals, wages used for PPP forgiveness or wages paid for services from large employers) were excluded from the ERC calculation is crucial.

A comprehensive written summary of the business’s operations and an explanation of why the business qualifies for the ERC should also be included. This helps ensure that the IRS understands the business’s specific circumstances and eligibility. By compiling these records, businesses can better defend their ERC claims in case of audits or challenges from the IRS.

Other ERC Considerations for Business Owners

Business owners should regularly assess the financial health of their business, especially when relying on government aid programs, to ensure long-term stability. It is also crucial to review tax compliance and stay updated on changes in tax policy that may impact operations. Engaging with trusted advisors, such as reputable tax professionals or financial experts, is essential to avoid fraudulent schemes or aggressive marketing tactics.

When selling or buying a business that has or is expected to receive ERC refunds, several factors must be considered. First, it is important to verify ERC eligibility to ensure that any ERC claims made by the business (the subject of the transaction) are legitimate and that no improper claims have been filed. Pending ERC claims can affect the valuation of the business, so both parties should be clear on who will benefit if an ERC credit is received post-sale. Further, if the ERC refund has already been received, determine who will bear the burden if the ERC is challenged and adjusted by the IRS.

Buyers should assess potential compliance risks, especially if the business is under audit or participating in the VDP, as penalties or claw backs could arise. It’s important for buyers to consider potential prior tax liabilities resulting from the amendment of seller’s income tax return(s), as required, to report reduced wages in the year related to the ERC claim. Documentation and transparency are key—ensure all relevant tax documents, including ERC claims, are readily available for review during the due diligence process. Legal counsel should also be consulted for sale transactions of companies that have claimed the ERC.

At Sikich, our team of tax and transaction advisors have in-depth expertise in the ERC and can support your business with claims processing and more. Please contact our experts to get started.

About Our Authors

Andrew Creedon, CPA, CFE, has deep audit and consulting experience, specializing in assurance services, internal controls, financial process improvement, internal audit, compliance, fraud investigations, and litigation consulting and support. He serves nonpublic entities, government contractors, not-for-profits organizations and public sector businesses.

Mary Griffin, CPA, is a tax director with Sikich, where she performs tax due diligence and structure consulting for merger and acquisition transactions. Mary also works extensively on tax compliance and related consulting for corporations and partnerships for a variety of industries, including manufacturing and distribution and service businesses. In addition, she provides tax and financial consulting services to individuals.

Tom Bayer, CPA, CExP, has specialized expertise in the areas of business succession planning, tax planning and compliance, and business advisory. He has deep experience providing a range of accounting, tax, and business advisory services to commercial clients across industries.

Jim Brandenburg, CPA, MST, possesses extensive experience and knowledge in corporate and partnership tax law, mergers and acquisitions, and tax legislation. His expertise includes working with owners of closely held businesses to identify tax planning opportunities and assist them in implementing these strategies.