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Employee Retention Credit penalty relief

The IRS backlog strikes again.

By Sandy Weiner, J.D.

The IRS confirms that taxpayers may claim reasonable cause penalty relief if they owe additional tax because their deduction for qualified wages is reduced by the amount of a retroactively claimed Employee Retention Credit (ERC).¹

Taxpayers that file an amended Form 941-X to claim an ERC refund must also file an amended income tax return for the tax year the ERC-eligible wages were paid to reduce their wage expense for the amount of the credit claimed. For taxpayers with large ERC refunds, this can result in a significant tax liability due to the decreased wage expense.

The IRS has acknowledged that due to their delays in processing the backlog of Form 941-X, Adjusted Employer’s QUARTERLY Federal Tax Return or Claim for Refund, for ERC refunds, many taxpayers are unable to pay the additional income tax because the ERC refund payment has not yet been received.

The IRS has also stated that taxpayers may also qualify for the first-time penalty abatement program.

Comment We recommend utilizing reasonable cause penalty abatement in this situation rather than first-time penalty abatement so the taxpayer has the option of utilizing first-time penalty abatement in the future. First-time penalty abatement can only be used once every four years.

Why all the amended returns?

Many businesses never realized that they were eligible to claim the Employee Retention Credit until:

• Their payroll company informed them they may be eligible for the credit;
• Firms specializing in ERC refund claims contacted them; or
• You realized when reviewing their returns that they may be eligible.

Practice Pointer We highly recommend you review your client’s payroll tax returns to see if they may be eligible for the ERC.

Many payroll companies relied on their clients to provide information necessary to claim the ERC. If your client didn’t tell the payroll company that they paid wages eligible for the Employee Retention Credit, then the payroll company didn’t claim the credits on the payroll tax returns. For smaller employers, the payroll companies made little effort to help their clients make this determination.

By reviewing your clients’ payroll tax returns, you will be providing them with a great service if you determine they are eligible for additional payroll tax credits.

If a client filed their Form 941 and was eligible to take the Employee Retention Credit but did not do so, they may amend the Form 941 to take the credit.

Statute of limitations for Form 941-X

Generally, taxpayers may correct overreported taxes by filing Form 941-X within the later of:

• Three years from the date the original Form 941 was filed; or
• Two years from the date the tax reported on Form 941 was paid.

ERC worksheet We have created a helpful worksheet for you to use when reviewing your clients’ payroll tax returns. The worksheet accomplishes three goals for you: Aids in the quick review of payroll tax returns (you can even have administrative staff quickly breeze through Step 1); Provides a quick reference guide to determine if amended payroll tax returns may be warranted; and Can be used as a workpaper in making tax return adjustments for clients that claim the Employee Retention Credit. Spidell’s worksheet is available at: www.caltax.com/files/2022/ercworksheet.pdf.

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