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IRS Announces Disallowance of More Than 20,000 ERC Claims

ERC Voluntary Disclosure Program Coming Later This Month

The IRS announced today that it is sending an initial round of more than 20,000 letters disallowing questionable ERC claims. The IRS also advised that it will open a voluntary disclosure program later this month establishing procedures for those who received payments on dubious ERC claims to return the funds and avoid future IRS enforcement efforts.

The 20,000 disallowances are focused on claims that are defective either because they were filed by fictitious entities or involve fictitious employees for the periods at issue. According to IRS Commissioner Danny Werfel, today’s disallowance letters are “part of an initial set of steps in our compliance work in this area, and more letters will be going out in the near future, including both disallowance letters and letters seeking the return of funds erroneously claims and received.”

Today’s announcement represents the IRS’s latest effort to address what it views as millions of questionable ERC claims filed in the past two years.  On September 14, 2023, the IRS imposed a moratorium on processing ERC claims through December 31, 2023, while it reviewed its ERC procedures.  On October 19, 2023, the IRS announced a withdrawal program pursuant to which employers with questionable ERC claims that had not deposited a refund check could withdraw the claims and avoid an audit and potential penalties.  The withdrawal program remains in place through at least the end of 2023.  The IRS advised that the ERC voluntary disclosure program will focus on claimants who received and deposited ERC funds and now acknowledge that the claim(s) were invalid.

The announcement serves as a reminder that the IRS continues to prioritize ERC enforcement, noting that the IRS is pursuing hundreds of ERC criminal investigations, and thousands of cases have been referred for civil audits.  As noted by Commissioner Werferl, the IRS “continue[s] to urge people who submitted a claim to review the rules with a trusted tax professional. If they filed an inaccurate claim, we urge them to consider withdrawing their pending claim or use the upcoming disclosure program to repay improper refunds to avoid future action.”

ERC Background

The ERC, created under the CARES Act to assist businesses that continued to pay their employees during the COVID-19 pandemic, is a refundable tax credit that allows employers to offset their employment taxes against a percentage of qualified wages paid to employees. Eligible taxpayers can claim the ERC on an original or amended employment tax return for an eligible period between March 13, 2020, and December 31, 2021. To qualify for the ERC, a business must meet one of the following three criteria:

  1. Experienced a full or partial suspension of operations resulting from a government order issued due to the COVID-19 pandemic during 2020 or the first three quarters of 2021;
  2. Experienced a significant decline in gross receipts during 2020 or a decline in gross receipts during the first three quarters of 2021 as defined by the criteria set forth in the appropriate IRS guidance (Notice 2021-20 for 2020 and Notice 2021-23 for 2021);
  3. Qualified as a recovery startup business for the third or fourth quarters of 2021 as defined in Notice 2021-49.

Since October 2022, the IRS has been warning taxpayers to be wary of dubious ERC schemes being aggressively promoted by firms that charge large upfront fees.  Last March, the IRS issued IR-2023-49, placing abusive ERC schemes at the top of its 2023 list of “Dirty Dozen” transactions.

On July 24, 2023, the IRS issued final regulations (T.D. 9978) allowing the IRS to treat erroneous refunds of pandemic-related employment credits as underpayments of the taxes imposed under section 3111 when applicable, resulting in excess refunds being subject to assessment and administrative collection procedures.

The IRS has pledged to aggressively audit questionable ERC claims and to criminally investigate individuals who knowingly promote illegitimate ERC transactions.

About Kostelanetz LLP

Over the past 75 years, Kostelanetz LLP has built a global reputation as a law firm of choice for clients facing high-stakes controversies and negotiations with government agencies.

Our attorneys include a former Acting Assistant Attorney General of the Department of Justice (DOJ) Tax Division, immediate past Chief of the IRS Criminal Investigation Division, former DOJ Tax Division trial and appellate attorneys, and others with significant government experience. As a result, Kostelanetz LLP attorneys are particularly well-positioned to represent taxpayers who find themselves subject to these heightened enforcement efforts and are regularly called upon to handle the most challenging and sensitive cases and internal investigations.

Earlier this year, Chambers recognized Kostelanetz as a leader in Tax: Controversy (Nationwide), Tax: Fraud (Nationwide), White-Collar Crime and Government Investigations (New York), and Tax (New York and District of Columbia). Regarding the firm’s tax-related work, Kostelanetz clients told Chambers that “The firm has a deep bench of highly trained and sophisticated attorneys,” “the team is stellar, knowledgeable, and experienced,” and “Kostelanetz attorneys are conscientious, intelligent and responsive.” The firm also has been recognized by U.S. News—Best Lawyers®, identified as a Tier 1 firm for Litigation and Controversy – Tax (Nationwide, New York, and District of Columbia), Criminal Defense: White-Collar (Nationwide, New York, and District of Columbia), Tax Law (Nationwide, New York, and District of Columbia), and Commercial Litigation (New York) in 2023. Kostelanetz LLP was named Litigation and Controversy – Tax “Law Firm of the Year” in 2022 and 2021 by U.S. News – Best Lawyers® “Best Law Firms.”