The Employee Retention Credit was instituted as part of the United States’ response to the economic crisis brought about by the COVID-19 pandemic. It aimed at encouraging businesses to retain employees on their payroll, hence giving huge relief to many. However, the IRS cracked down on ERC claims recently and began firing off complaint letters to taxpayers whom it suspected of filing fraudulent claims. This article discusses who might be impacted by these developments and what recipients should know. For those seeking to know more about the eligibility requirements of the ERC, should click here.
The Employee Retention Credit (ERC)
The ERC is a refundable income tax credit for eligible employers that kept employees on the payroll despite the challenges of the pandemic. From its introduction as the Coronavirus Aid, Relief and Economic Security (CARES) Act, the ERC had numerous modifications to expand eligibility to more employers and increase the credit amount. Employers could claim up to $5,000 per employee in 2020 and up to $7,000 per employee per quarter in 2021.
The well-intentioned ERC has now become a target of fraud. According to the IRS, a considerable number of the claims reflect indicators of impropriety, which has increased audits and investigations being pursued by the service accordingly.
IRS actions against fraudulent claims
In the past few weeks, the IRS has issued a spate of decisions aimed at fighting ERC fraud. It is reported that it has halted nearly $5 billion in potentially fraudulent claims. IRS Commissioner Danny Werfel said that the “vast majority of ERC claims show indications of fraud”. The IRS is not only rejecting improper claims but also has recently opened criminal probes against those suspected of fraudulent activities.
As part of this crackdown, the IRS has begun sending complaint letters to businesses and individuals who filed ERC claims that appear suspicious. The nature of the letters is that of warning, requiring more documentation in support of the legitimacy of the claim. Failure to respond appropriately to such letters may result in penalties or further action by authorities.
Who are impacted by the IRS complaints?
The IRS’s focused enforcement effort in pursuit of ERC fraud is likely to impact a wide array of individuals and businesses, including:
- Businesses that received ERC refunds: Any company filing claims for the ERC and receiving refunds may be subject to audit, especially in the case of suspicious claims or those facilitated by so-called ERC mills—firms that massively tout ERC claims without proper vetting.
- Tax preparers and consultants: In relation to claiming ERC, the tax professionals who helped clients may now be subject to scrutiny themselves, especially if they are linked to a network of dubious claims. The IRS stated that it is checking tax preparers for indications that they could have encouraged clients to file improper claims.
- Inadequate record keeping by employers: The IRS will issue complaint letters to those employers who do not have adequate records that support their ERC claims. The IRS will be concerned with the payroll records, financial statements, and evidence of suspension of operations as a result of the pandemic.
Consequences of ERC fraud
Fraudulent ERC claims can attract very adverse consequences. The businesses and individuals charged with ERC fraud can be subjected to:
- Financial penalties: The IRS can impose heavy penalties for incorrect claims that may include refund of the amount of credit along with interest and penalties.
- Criminal charges: In severe cases, criminal charges may be pressed against the offenders that can attract heavy fines and imprisonment. The federal tax evasion statute punishes both the attempted and actual frauds against the IRS.
- More audits: The IRS has stepped up its audit enforcement, and businesses with dubious ERC claims can now expect closer scrutiny over their tax filings.
What to do if you receive a complaint letter?
If you receive a complaint letter from the IRS over your ERC claim, here are the key things to do:
- Read the letter thoroughly: Know what the complaint is all about and what exactly it is that the IRS wants in terms of documentation.
- Gather all records supporting your ERC claim: payroll records, tax filings, and correspondence with the tax preparers.
- Consult a tax professional: Seek advice from a qualified tax attorney or CPA with experience in IRS audits and ERC claims. They can guide you through the complexities of your situation and prepare an appropriate response.
- Respond promptly: Make sure that you do respond to the IRS within the timeframe so that other complications may be avoided.
