The Employee Retention Credit (ERC) was originally enacted as part of the Coronavirus Aid, Relief, and Economic Security (CARES) Act. The ERC was extended and expanded by the Consolidated Appropriations Act, 2021 (CAA), and then again by the American Rescue Plan (ARP) Act. Eligible employers can obtain the ERC with respect to wages and health plan costs paid during periods of disruption brought about by the coronavirus pandemic. The most common way to become an eligible employer under the CARES Act, the CAA, and the ARP Act is to satisfy a gross receipts test. Until recently, not-for-profit (NFP) entities faced significant uncertainty about the manner in which gross receipts is defined for purposes of the ERC. Although the CAA provided this clarification, NFP entities now must consider unusual planning decisions in order to maintain ERC eligibility.
The CAA clarification provides a special rule for determining the gross receipts of a NFP. As later confirmed by the IRS in Notice 2021-20, the gross receipts of a NFP are all receipts from all sources without reductions for any costs or expenses, including cost or other basis. This means that any reductions such as the cost of goods sold, the cost of investments, or expenses of earning, raising, or collecting funds may not be subtracted from gross receipts when determining ERC eligibility.
This is significant because an employer is only eligible for the ERC if it experiences a significant drop in gross receipts. During 2020, a significant drop in gross receipts occurs in the first quarter when the employer’s gross receipts fell by more than 50% compared to the same quarter in 2019. During 2020, it ends when the gross receipts return to at least 80% of the gross receipts for the same quarter in 2019 or at the end of 2020, whichever is first. The test is easier to meet for any quarter during 2021, where the CAA and the ARP Act provide that the percentage drop needs to be only 20% compared to the same quarter in 2019.
In any event, recall the manner in which a NFP identifies gross receipts. For a NFP, this test may be easy to meet if there was a comparatively high level of gross receipts in 2019. For example, if the NFP sold investments such as stocks or bonds in 2019, the gross proceeds (without reduction for the original investment costs) are included in gross receipts. Although this type of gross receipts has little to no relationship with the actual program service activities of a NFP, they are nevertheless part of the gross receipts test.
This makes it easy to show a significant drop in gross receipts for purposes of the ERC if the NFP simply refrains from selling property in a credit year (2020 and/or 2021). But this cuts both ways. If the NFP sells investments during 2020 and/or 2021 and did not comparably sell investments in 2019, then the NFP may have a high level of gross receipts in the numerator and a low level of gross receipts in the denominator. A NFP would unfortunately be ineligible for the ERC during the quarters of such investment sales. Ironically, this is precisely what a NFP might do when facing hardships on account of the pandemic.
Because the ERC was extended through 2021, it is still possible to plan for these gross receipts nuances. Of course, any planning for investment activity must involve advice from an investment advisor. Because there are many nuances of the ERC that require careful planning, not-for-profits should work with tax professionals to maximize ERC opportunities. For more information, please contact us.
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Nate Smith is a Director in the CBIZ National Tax Office. He can be reached at 727.572.1400 or firstname.lastname@example.org.
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