Picture of Christopher A. Hopkins, CFA

Christopher A. Hopkins, CFA

Employee Retention Credit fraud makes IRS Dirty Dozen list

Have you heard that the government is handing out up to $26,000 per employee to businesses impacted by covid?  Even if you don’t run a business, you probably have endured the barrage of radio and TV ads for the crop of new firms that can purportedly help businesses tap their share of this government bonanza.

The Employee Retention Tax Credit, ERTC (or simply ERC), is a legitimate part of the CARES pandemic aid act in enacted 2020. The program has helped thousands of small employers who kept workers on the payroll despite a decline in revenue. It has also birthed a cottage industry engaged in selling assistance to filers, often making representations that are exaggerated or are flatly untrue. In fact, the barrage of fraudulent claims has grown so rapidly that the IRS has suspended processing of new applications through January and added shady so-called ERTC mills to its 2023 Dirty Dozen list of tax fraud risks.

While the application process can be complex, it is well within the capability of most business owners and their tax professionals. Yet despite (or perhaps because of) the fact that many CPAs told their clients they did not qualify, a whole new ERTC industry has emerged, often claiming special expertise in securing the credit where a qualified tax professional couldn’t. As a result, new applications skyrocketed in 2023, long after the acute pandemic impact had abated. Using a familiar example, Innovation Refunds is an ERTC promoter that advertises heavily offering to file a claim on behalf of small businesses in exchange for an obscene 25% cut of the proceeds, according to the company’s website.

Along with an explosion in ERTC mills inevitably comes a surge in operators crossing the line into misrepresentation or outright fraud in advertising and in filing on the business’ behalf. If the IRS finds the application to be invalid, the taxpayer faces a demand for repayment as well as potential penalties and interest.

Eligibility for the credit is strictly defined and limited in scope. Businesses with fewer than 500 employees who kept workers while enduring a significant covid impact can apply for a refundable tax credit depending on their degree of impairment. To qualify, a business must have been fully or partially closed as the direct result of a government order or have sustained a sharp decline in revenue. For example, to trigger qualification in 2020 the company must have experienced a drop in quarterly gross receipts of at least 50% from the same quarter in 2019. Firms are no longer eligible once revenue returns above 80% of the same quarter in 2019. Contrary to many ads, supply chain disruptions are not automatically a qualifying event unless the backlog was caused by a specific government order.

The IRS advises business owners to beware of red flags in solicitations from ETRC mills, including claims of a quick and easy application process, confirmation of your eligibility within minutes, exaggerating potential payments, and omitting key details. For example, many purveyors claim that businesses may receive $26,000 per employee, even if they previously received a PPP loan. While this could be technically true, it is certainly not typical and omits critical details.

The ERTC can be claimed by firms that had PPP loans forgiven, but the wages reported under the PPP cannot be counted for the ERTC credit, a little detail often omitted from the commercials. In other words, no double dipping, just like your CPA told you. In addition, taxpayers who receive the ERTC must reverse their prior business deductions for the qualifying wages, typically requiring the filing of an amended tax return.

Most ERTC mills refuse to clearly disclose fees, charges, and important terms and conditions on their websites, another warning sign. Disclaimers stating that the promoter is not giving tax advice should sound alarms, as they are literally filing on your behalf. Some of the worst offenders even mail solicitations appearing to be official communications from non-existent agencies like the “Department of ERTC Claims”.

To make matters worse, some non-bank finance companies are also pushing “ERTC advances”. Firms known as merchant capital lenders will advance the cash against the eventual credit for a tidy additional fee of 10% to 30%, the small business equivalent of payday lending and just as punishing.

While the IRS has halted processing of new applications, claims currently in the pipeline will be evaluated subject to increased scrutiny and a longer time frame. Meanwhile, given the deluge of bogus claims, the Service extended the statute of limitations for investigation of false or inaccurate ERTC claims and is aggressively prosecuting suspected criminal application fraud. Taxpayers who suspect their applications may contain inaccurate representations are urged to contact the IRS and ask to halt or withdraw their applications.

Everyone suffered from the pandemic in one way or another, including US taxpayers. In addition to the legitimate assistance afforded to millions of Americans, the various covid relief programs have enticed the lowest forms of life from their lairs pursuing the scent of opportunity. The IRS is currently investigating $8 billion in suspected pandemic fraud, including $2.8 billion in potentially fake ERTC claims, causing the agency to suspend applications of decent, honest business owners who did the right thing and kept their employees. No good deed goes unpunished. Here’s hoping that’s true of bad deeds as well.

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