Late Wednesday, the IRS released extensive new guidance in the form of frequently asked questions (“FAQs”) on the IRS website addressing various aspects of the employee retention credit. This is the fourth in a series of articles that will address various aspects of the FAQs. This article addresses income and deduction issues related to the payment of qualified wages and the employee retention credit. In our first article, we discussed the IRS’s interpretation of the aggregation rules under section 2301(d) of the CARES Act and the determination of employer eligibility based on a full or partial suspension of operations due to a government order. Our second article addressed employer eligibility for the credit based on a significant decline in gross receipts, and our third article addressed the calculation of qualified wages and allocable qualified health plan expenses. Our final article will address issues related to the use of third-party payers. Before the release of the IRS FAQs, we addressed how employers can claim the employee retention credit and its interaction with the deferral of employer social security tax deposits (see earlier article).
Employers should carefully consider the FAQs, but remain mindful that although they represent the current thinking of the IRS, the FAQs are not binding guidance.
Taxation of Qualified Wages Paid to Employees
The IRS states in Q&A-84, that as with paid leave eligible for other COVID-19 tax credits (see our earlier blog post), that qualified wages and paid leave are not excluded from gross income as “qualified disaster relief payments.” As we discussed in our earlier article, the FAQ reiterates that qualified wages and paid leave cannot be “disaster relief payments” because they are intended as compensation or a replacement for compensation rather than as reimbursements for expenses incurred as a result of a qualified disaster.
Income and Deduction Issues for Employers
Employers who claim the employee retention credit are required to reduce their deduction for wages, but In Q&A-85, the IRS states that because the CARES Act provides that rules similar to section 280C(a) of the Code apply for purposes of applying the employee retention credit, an employer’s aggregate deductions for wages must be reduced by the amount of any employee retention credit received. This is the same as the treatment of other credits such as the paid family and medical leave credit enacted as part of the Tax Cuts and Jobs Act and the Work Opportunity Tax Credit. Q&A-86 provides that an employer need not include any portion of the credit in its gross income for federal income tax purposes.