Lawmakers Examine Controversial Small Business Tax Break During Pandemic, Deemed "Fraught with Fraud" by Expert

The Employee Retention Credit Faces Scrutiny Amidst Wrongful Claims

Lawmakers and Tax Professionals Seek Solutions for Small Businesses

Lawmakers, the IRS, and tax professionals are intensifying scrutiny of the employee retention credit (ERC) as more small businesses have been found to have wrongly claimed this pandemic-era tax credit. The ERC was implemented in 2020 to provide support to small businesses affected by Covid-19 shutdowns, and it can be worth thousands of dollars per employee. While eligible businesses can still amend their tax returns to claim the credit, there has been a rise in the number of firms, known as "ERC mills," that are pushing the credit to businesses that may not qualify.

Amended Returns and Backlog

The IRS currently has approximately 506,000 unprocessed Form 941-X amended payroll tax returns as of July 26th. While it remains unclear how many of these amended returns were filed by small businesses that wrongfully claimed the ERC, Roger Harris, president of accounting and tax firm Padgett Advisors, warns that a future audit could be devastating for these businesses. The IRS has received over 2.5 million ERC claims, but the processing has been slow due to the complexity of the amended returns.

The Risks of Wrongful Claims

Wrongfully claiming the employee retention credit can have serious consequences for small businesses. Harris explains that the initial joy of receiving the money could quickly turn into a terrifying reality when businesses realize they are not eligible and now owe a significant amount back to the federal government. This highlights the need for accurate and comprehensive guidance for tax professionals and businesses alike to determine eligibility for the credit.

Warnings and Increased Investigation

The IRS has issued warnings about "ERC schemes" and included this issue in its "Dirty Dozen" list of tax scams for 2023. The agency has increased its audit and criminal investigation work in this area. IRS Commissioner Danny Werfel states that as time goes on, the percentage of legitimate claims is declining, indicating a rise in questionable claims due to misleading marketing by promoters.

Future Concerns and the Need for Guidance

Small businesses have until April 15, 2024, to amend returns for 2020 and until April 15, 2025, to amend returns for 2021. However, the IRS is considering an earlier end date, raising concerns for businesses. Additionally, tax professionals are in need of clear guidance to determine client eligibility for the ERC. Larry Gray, a certified public accountant and partner at AGC CPA, highlights the complexity of the process, with the ERC specialists amending payroll tax returns while others handle income tax returns. There is a need for a real-world solution to address the issue of businesses wrongly claiming the credit.

Conclusion: The Potential Impact on New Businesses

The increasing scrutiny surrounding the wrongful claims of the employee retention credit (ERC) will likely have significant implications for new businesses. While the ERC was designed to support small businesses affected by the Covid-19 pandemic, the rise of "ERC mills" and misleading marketing tactics is leading to an alarming number of ineligible businesses attempting to claim this tax credit.

For new businesses, mistakenly claiming the ERC can have severe consequences. The initial financial relief can quickly turn into a nightmare when businesses realize they must pay back a substantial amount to the federal government. This not only creates financial strain but also tarnishes the reputation of these businesses and creates potential legal issues.

With the IRS increasing its scrutiny and investigation into ERC claims, new businesses may face a greater risk of being audited. This can divert their resources from core activities, disrupt their operations, and hamper their growth prospects. Moreover, the backlog of unprocessed amended returns, combined with the potential early end date for amendments, adds another layer of complexity and uncertainty for new businesses navigating the application process.

To address this issue, clear and comprehensive guidance is crucial for both tax professionals and new businesses. Ensuring that eligibility criteria are well-defined and that tax professionals have access to the necessary information will help prevent wrongful claims and reduce the burden on the IRS and businesses alike.

In conclusion, new businesses need to exercise caution when considering whether to claim the employee retention credit. Understanding the eligibility requirements and seeking guidance from knowledgeable tax professionals will play a vital role in avoiding potential risks and long-term consequences that can hinder their growth and success.