Overview of Notice 2021-20

On March 1, 2021, the IRS released formal guidance Notice 2021-20 on the employee retention credit for 2020. Notice 2021-20 incorporates most of the FAQs that had been posted on the IRS website, with certain modifications and additional guidance.

The notice has 71 questions and answers providing guidance and including some examples illustrating the rules under the employee retention credit.

According to a related IRS release—IR-2021-48 (March 1, 2021)—the guidance in Notice 2021-20 is “similar” to the information in the prior FAQs under the employee retention credit, but includes clarifications and describes retroactive changes applicable to 2020, primarily relating to expanded eligibility for the credit.

The IRS explained in IR-2021-48 that for 2020, the employee retention credit can be claimed by employers that paid qualified wages after March 12, 2020, and before January 1, 2021, and that experienced a full or partial suspension of their operations or a significant decline in gross receipts.

The credit is equal to 50% of qualified wages paid, including qualified health plan expenses, for up to $10,000 per employee in 2020. The maximum credit available for each employee is $5,000 in 2020.

Notice 2021-20 explains when and how employers that received a PPP loan can claim the employee retention credit for 2020.
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Who are eligible employers?

What constitutes full or partial suspension of trade or business operations?

What is a significant decline in gross receipts?

How much is the maximum amount of an eligible employer's employee retention credit?

What are qualified wages?

How does an eligible employer claim the employee retention credit?

How does an eligible employer substantiate the claim for the credit?

Because PPP borrowers only became eligible to claim the ERC on December 27, 2020, and ERC Qualified Wages cannot be used for PPP loan forgiveness, the Notice explains which payroll costs included on the PPP loan forgiveness application may be used as ERC Qualified Wages.

In general, any amount of payroll costs included on the PPP loan forgiveness application that are not needed for loan forgiveness can be used as ERC Qualified Wages by an ERC Eligible Employer (i.e., one satisfying either the government mandate or the significant decline in gross receipts test). However, amounts not included on the PPP loan forgiveness application that could have been included (e.g., rent expenses, utilities) cannot be considered for PPP loan forgiveness.

Notice 2021-20 requires employers to reduce their deduction for qualified wages, including qualified health plan expenses, by their ERC amount. The employer does not reduce its deduction for its share of Social Security and Medicare taxes by any portion of the credit.

The Notice also clarifies other issues, particularly in determining if a governmental order limiting commerce, travel or group meetings due to COVID-19 results in a partial suspension of business operations. A taxpayer becomes an Eligible Employer if the trade or business suspended constitutes more than a nominal portion of business operations.

The Notice defines nominal portion to be a portion which is 10 percent or less of the total gross receipts of the business; or uses 10 percent or less of the hours of service performed by employees in the business. Both of these calculations are performed based on facts for the same quarter in 2019 as the quarter in 2020 to which the mandate applies.

Meaning of "comparable." Under the website FAQs, a partial suspension does not occur if an employer's workplace is closed by a governmental order but the employer is able to continue operations comparable to its pre-closure operations by requiring employees to telework. Notice 2021-20 includes the same examples as the website FAQs and also lists the following new factors to consider in making this determination:

The Notice also details factors that should be considered in determining whether an employer is able to continue operations (such that the employer’s operations are not considered to be fully or partially suspended). Those factors include:
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- The employer’s telework capabilities
- The portability of an employee’s work
- The need for presence in the employee’s physical workspace
- The time spent on transitioning to teleworking operations
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Thus, if an employee’s work can be done from any location and the employer has adequate telework capabilities, it is unlikely that a full or partial suspension has occurred as a result of a government mandate. However, if the employer’s workspace is so critical to its trade or business operations that tasks cannot be performed remotely, then comparable operation of the trade or business might not be possible and a suspension of the business may have occurred.

Sometimes an employer’s operations are modified due to a government order involving occupancy restrictions. The Notice states that a government order resulting in a 10 percent or more reduction in the employer’s ability to provide its goods or services will be deemed to have more than a nominal effect on the employer’s operations.

If a governmental order allowed an employer's business operations to continue subject to modification, the website FAQs indicated that the modification ought to have "more than a nominal effect" on the business operations to be a partial suspension. This point was illustrated through examples. Notice 2021-20 includes the same examples but also identifies a list of factors to consider in analyzing whether an order's impact on a business's operations is more than nominal. Additionally, the "more than nominal" concept is introduced as a way to analyze whether an impact to one portion of an essential business is sufficient to suspend the larger essential business. The Notice deems a portion of the business operations to be more than nominal if either:
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Under the website FAQs, a partial suspension does not occur if an employer's workplace is closed by a governmental order but the employer is able to continue operations comparable to its pre-closure operations by requiring employees to telework. Notice 2021-20 includes the same examples as the website FAQs and also lists the following new factors to consider in making this determination:
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The Notice explains that gross receipts for both taxable and tax-exempt entities are based on the employer’s method of accounting. For entities other than tax-exempt organizations, this would include tax-exempt income. The guidance does not exclude the forgiveness of a PPP loan or other federal or state government grants to businesses from gross receipts. It appears that such amounts must be included in gross receipts. For tax-exempt entities, the Notice focuses on amounts received and appears to exclude pledges, but include restricted funds, whether cash or noncash. The guidance is not specific on any of these items.

Notice 2021-20 specifies the records that employers should maintain to substantiate eligibility for the credit. The specified records include:

The Notice indicates that the records should be maintained for at least four years.

As originally enacted, the CARES Act prohibited employers that received PPP loans from claiming the ERC. Section 206 of the Disaster Relief Act narrowed the limitation so that employers receiving PPP loans may elect to treat payroll costs paid during the loan-covered period as qualified wages to the extent the wages are not paid with forgiven PPP loan proceeds. As a result, employers may claim the ERC for that portion of wages. Notice 2021-20 provides general rules and seven examples showing how to determine the portion of ERC-eligible wages based on the amount claimed as payroll costs on the employer's loan forgiveness application.

You don't need to read the first 16 pages, however, there are some definitions to terms that show up throughout the 102 page notice that might be helpful. The following are the highlights.

The first 16 pages include the following sections: I. Purpose II. Background IIA. Claiming the ERC and Accessing Funds in Anticipation of the Credit IIB. Definition of "Eligible Employer" IIC. Definition of "Qualified Wages" IID. Election not to Take Certain Wages into Account and Coordination with PPP Loan IIE. Aggregation Rules IIF. Other Rules Related to the ERC IIG. Regulations & Guidance IIH. Deferral Under Section 2302 of the CARES Act II-I. Deferral Under Notice 2020-65 as Modified by Notice 2021-11 III. Guidance

Section 2301 of the CARES Act allows a credit (employee retention credit or credit) against applicable employment taxes for eligible employers, including tax-exempt organizations, that pay qualified wages, including certain health plan expenses, to some or all employees after March 12, 2020, and before January 1, 2021.

An Eligible Employer is defined in section 2301(c)(2) of the CARES Act means any employer, including an Internal Revenue Code Section 501(c) tax exempt entity, that was carrying on a trade or business during 2020 and either:
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1. the employer’s operations were fully or partially suspended during a calendar quarter due to governmental orders related to COVID-19, or
2. the calendar quarter is within a period of significant decline in gross receipts (gross receipts are calculated using the gross receipts test under IRC Section 448(c)).

The definition of Qualified Wages depends on how many employees an eligible employer has.
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If an employer averaged more than 100 full-time employees during 2019, qualified wages are generally those wages, including certain health care costs, (up to $10,000 per employee) paid to employees that are not providing services because operations were suspended or due to the decline in gross receipts. These employers can only count wages up to the amount that the employee would have been paid for working an equivalent duration during the 30 days immediately preceding the period of economic hardship.
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If an employer averaged 100 or fewer full-time employees during 2019, qualified wages are those wages, including health care costs, (up to $10,000 per employee) paid to any employee during the period operations were suspended or the period of the decline in gross receipts, regardless of whether or not its employees are providing services.

The Relief Act removed the term “qualified health plan expenses” from the definition of qualified wages under section 2301(c)(3) of the CARES Act and included health plan expenses as part of the definition of wages in section 2301(c)(5) of the CARES Act. The result under section 2301 of the CARES Act, as revised by the Relief Act, is substantially the same as the interpretation provided in the FAQs posted on IRS.gov in 2020.

An eligible employer that pays qualified wages is entitled to claim the employee retention credit against the taxes imposed on employers by section 3111(a) of the Internal Revenue Code (Code) (employer’s share of the Old Age, Survivors, and Disability Insurance (social security tax)), after these taxes are reduced by any credits claimed under section 3111(e) and (f) of the Code,3 sections 7001 and 7003 of the Families First Coronavirus Response Act (FFCRA), Pub. L. No. 116-127, 134 Stat. 178 (March 18, 2020),4 and section 303(d) of the Relief Act.

Section 3111(e) of the Code permits qualified tax-exempt organizations that hire qualified veterans to claim a credit against the employer’s share of social security tax imposed under section 3111(a) of the Code. Section 3111(f) of the Code permits a qualified small business to elect to apply part or all of its research credit available under section 41 against the tax imposed under section 3111(a) of the Code.

Under sections 7001 and 7003 of the FFCRA, employers with fewer than 500 employees that provide paid sick and family leave, up to specified limits, to employees unable to work or telework due to certain circumstances related to COVID-19 may claim tax credits.