On March 20, 2023, the IRS named widespread claims promoting Employee Retention Credits (ERC) to ineligible employers as the first entry on its 2023 Dirty Dozen list. This announcement follows three warnings issued by the IRS over the past six months related to the ERC program. See Kostelanetz’s previous alert here.
Recently confirmed IRS Commissioner Danny Werfel emphasized the commitment of the IRS to address fraud in this area:
“The aggressive marketing of these credits is deeply troubling and a major concern for the IRS,” said Werfel. “Businesses need to think twice before filing a claim for these credits. While the credit has provided a financial lifeline to millions of businesses, there are promoters misleading people and businesses into thinking they can claim these credits. There are very specific guidelines around these pandemic-era credits; they are not available to just anyone. People should remember the IRS is actively auditing and conducting criminal investigations related to these false claims. We urge honest taxpayers not to be caught up in these schemes.”
The IRS is also concerned about the increasing role of tax professionals in claiming improper credits for their clients. To that end, earlier this month, the IRS’s Office of Professional Responsibility issued guidance to tax professionals reminding them of the provisions of Circular 230 “that are implicated when dealing with a client who has claimed or is seeking to claim an ERC” and admonishing them to “have or gain an in-depth knowledge of the credit, especially its eligibility criteria” when advising such clients.
Finally, the IRS is encouraging individuals to report illegal activities relating to ERC claims to the IRS Lead Development Center in the Office of Promoter Investigations. This invitation is certain to lead to an increasing number of related whistleblower claims.
The government will pursue parallel proceedings involving the ERC, including extensive audits of employers who have claimed the credits, civil promoter investigations of those who have promoted the credits to ineligible employers, criminal investigations where the IRS believes there was an intent to violate the internal revenue laws, and extensive Congressional investigations involving all parties involved. The direct and collateral consequences of these investigations and enforcement actions will be significant, and those involved should consider legal representation.
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:
- 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;
- 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);
- Qualified as a recovery startup business for the third or fourth quarters of 2021 as defined in Notice 2021-49.
In IR-2023-40, the IRS noted that promoters often charge large upfront fees or a fee contingent on the amount of the ERC refund that a taxpayer receives and may neglect to inform taxpayers that wage deductions claimed on a business’s federal income tax return must be reduced by the amount of the credit the business receives. By improperly claiming the ERC, taxpayers may be required to repay the credit along with penalties and interest.
On March 8, 2023, the IRS advised that it was correcting the text of Treasury Decision 9953, temporary regulations allowing the IRS to recapture ERC erroneously allocated to employers by assessing and collecting the erroneous payments as underpayments of tax. The IRS takes the position that the corrections are effective on March 9, 2023, but applicable on September 10, 2021.
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