Nonprofit Resources
Accounting and Reporting for the Employee Retention Credit
The Employee Retention Credit (ERC), a credit against certain payroll taxes allowed to an eligible employer for qualifying wages, was established by the Coronavirus Aid, Relief, and Economic Security (CARES) Act and further amended by the Consolidated Appropriations Act (CAA) and the American Rescue Plan (ARP). While these provisions brought relief to nonprofit organizations affected by COVID-19, they also brought questions about accounting and reporting for this credit.
Here are answers to help organizations that claim the credit.
Accounting for the Employee Retention Credit
The 2020 and 2021 ERCs act as fully refundable credits against the employer portion of Social Security taxes based on the amount of qualified wages that an eligible employer has incurred. The maximum credit is based on a qualified-wages ceiling for each employee. To account correctly for the ERC, there are a few items to consider.
Application of Professional Guidance
If your organization qualifies for the ERC, it is important to consider which accounting standard governs the recognition of the revenue. We believe it is appropriate to apply Accounting Standards Update (ASU) Subtopic 958-605, Contributions Received and Contributions Made, to the recording of this income. The ERC is considered a conditional grant, as an organization only qualifies for the transfer of assets if it has overcome the barrier of eligibility.
Timing of Recognition
Per ASU 958-10-75-2:
As we note in our video on the Tax Implications of the Employee Retention Credit, there are two pathways to qualification for the ERC: a significant decline in gross receipts from the reference quarter in 2019, or full or partial suspension of services due to a governmental order related to COVID-19. Under both the suspension-of-services test and the gross-receipts test, the contribution should be recognized as the barriers are met.
The timing of overcoming the barriers varies depending on which qualifying route your organization takes:
- Suspension-of-services test: The ERC would be earned as the wages are paid throughout the time period of the suspended services. The contribution and related receivable can be recorded as those wages are accrued.
- Gross-receipts test: The barrier to revenue recognition is not met until the end of the quarter, as the test depends on a quarter-end revenue comparison with the same quarter of 2019. The receivable and related contribution income should be recorded at the end of each quarter in which the organization experiences the qualifying decrease in revenue.
If the barriers have been met as indicated above, a receivable should be recognized for the portion that has not been received, even if the forms have not been filed. Filing the forms is an administrative function and is not considered a barrier to revenue recognition. However, to accurately record the revenue and related receivable, it is important to have determined eligibility, calculated the credit, and, ideally, be in the process of filing the forms prior to recording the receivable.
If your organization qualifies for advance ERC payments, any payments received prior to overcoming barriers of eligibility should be considered a refundable advance until the conditions have been substantially met (ASU 958-10-65-2).
Posting the Debits and Credits
In keeping with proper accounting treatment for nonprofits, expenses and contributions should be recorded gross. The payroll tax liability will be accrued for the entire amount prior to the application of the ERC. The ERC is recorded as either a debit to cash or accounts receivable and a credit to contribution or grant income, according to the timeline noted above. In the case of an organization receiving advance ERC payments, cash is debited and a refundable advance liability is credited. That liability reverses as the barriers are overcome.
When the income is recorded, it is unrestricted, as any implied time restriction would have been met upon the due date of the receivable. Additionally, there is no purpose restriction attached to the ERC. Thus, once the conditions are met and the revenue is recognized, it is unrestricted.
Reporting the Employee Retention Credit
The ERC will be reflected in several ways on the financial statements:
- Statement of Activities – The transaction should be reflected gross, in the unrestricted operating revenues as either contribution, grant, or other income.
- Statement of Financial Position – A current receivable should be recorded for the ERC amount that was not taken as a credit on payroll tax reporting forms. (You can claim a credit that is higher than the taxes due on Form 941, Employer’s Quarterly Federal Tax Return.)
- Notes – Disclose more details about the nature of the ERC in either revenues or the A/R footnote, like this example:
Hopefully, these considerations help you as you determine how to account for the ERC in your organization and reflect the credit in your reports. If you have further questions, please contact us. We are always happy to help!
Additional Resources:
Tax Implications of the Employee Retention Credit – Video
Employee Retention Credit Frequently Asked Questions – Article
Assistance with the Employee Retention Credit – Video
The Employee Retention Credit and Nonprofit Organizations – Recorded webcast and handout
IRS Notice 2021-49 – Guidance on claiming the ERC for qualified wages paid after June 30, 2021, and before January 1, 2022
IRS Notice 2021-20 – Guidance on claiming the ERC for qualified wages paid from March 13, 2020, through December 31, 2020
IRS Notice 2021-23 – Guidance on claiming the ERC for qualified wages paid after December 31, 2020 and before July 1, 2021
Accounting for Paycheck Protection Program Proceeds – Overview of the proper accounting for Paycheck Protection Program loan proceeds
Authors: Michelle Haerr, Audit Manager and Timothy J. Sims, Partner and Professional Practice Leader – Attest
38 Comments
So when we receive our ERC, We should classify it as other income? I’ve heard the standards have changed depending on when it was submitted to the IRS? is this true? We submitted it during Q3 this year and expect our credit sometime next year.
Chad,
Thanks for your question! If your financial statements are presented on the accrual basis, then the revenue is recognized as you overcome the barriers of the grant rather than when the credit is received. (Our article gives more details on the timing of overcoming barriers, based on which route your organization took to qualify for the ERC.) Filing the paperwork with the IRS is an administrative burden that does not impact the timing of when the receivable should be recognized. Therefore, revenue can be recognized prior to IRS submission if the performance obligations have been met. On your statement of activities, it can be classified as contribution, grant, or other income.
Note that the Infrastructure Investment and Jobs Act accelerated the end of the credit retroactive to October 1, 2021; therefore, the wages paid in the 4th quarter of 2021 are no longer qualified wages for the ERC.
Thank you for your very clear explanation. Please kindly correct me: I should do as follows:
(1) Restate Financial Statements of two Fiscal years (ended 6-30-2020 and 6-30-2021);
and
(2) Amend 990 of two Fiscal Years as well
Because the IRS refunded for Q2-2020 (990 of FY ended 6-30-2020) and Q3, 4/2021 (990 of FY ended 6-30-2021)
Thank you and looking forward to hearing from you.
Hang,
Without knowing all of the facts and circumstances of your situation, it is difficult to advise a detailed action plan. Please feel free to contact us directly to look into your school’s specifics under a consulting engagement. Alternatively, feel free to reach out to your school’s auditor and/or tax advisor with these questions.
Hi, thank you for your response. Could I get the frame of agreement for further discussion with my manager. In doing so, we can figure out the budget and detail for the coming path related to ERC 2020 and 2021 as well (if the manager decides to work with you)
My client received 2020 and 2021 ERTC in year 2023. How should I show in balance sheet or incomee statements?
As “Deferred income” in the balance sheet or non-taxable income to ” retained earnings”. Then in the future file an amended returns for year 2020 and 2021.
In my opinion I will put it in the Income Statements as non-taxable income and wind up to retained earnings.
Then, after filing amended returns for 2020 and 2021, then the retained earnings balances would just flow to 2023 and no changes is needed.
Thank you for your question; however, as we specialize in nonprofit accounting and financial reporting, your question is outside our purview.
Do I need to provide an income statement in order to apply for an ERC credit in 2021?
Hi David,
No, you do not need to provide the IRS with any documentation to support your claim of the employee retention credit. However, Notice 2021-20 does stipulate that you should keep in your records all documentation (including income statements) that substantiates your claim of the credit should the IRS decide to audit your claim of the credit. You should keep this documentation for 4 years.
See Notice 2021-20, pgs. 100 and following, for more information: https://www.irs.gov/pub/irs-drop/n-21-20.pdf
In May 2021, I submitted 941X for ERC 2020 due to partial suspension under the government order of CA. However, I was not sure if our school was eligible or not. Therefore, I did not recognize the revenue. On June 30th, 2021, the fiscal year closed and the financial statement was released for users.
However, in December 2021, we received the refund check from the IRS for ERC 2020. Please kindly advise how I should recognize the ERC 2020 which was not reflected in the fiscal year ended 6-30-2021.
Hang,
Under the suspension-of-services test, the ERC was earned as the wages were paid throughout the time period of the suspended services. Once the credit amount was calculated and you decided to file the 941X, it should have been recorded as income. You can determine whether to restate the June 2021 financial statements based on the materiality of the credit to the users of your financial statements.
On the Tax Return – How will the ERC Refund be treated -Will it be reduced from wages or will it be considered as tax exempt other income.
Shilpa,
Ultimately, this may depend on how the ERC is reflected on your financial statements. Therefore, you should speak with your accountant or auditing team. However, here are some of the main options: If the ERC is included in contribution revenue on the financials, then it will most likely be in government grants on the Form 990. However, if it is included as other income, then that reporting will most likely be followed on the Form 990. Again, you should consult with your accounting and auditing team for more guidance.
Hello,
My non-profit employer has listed my gross income on my W-2 as over $40,000 more than what it actually is. The $40,000 is listed as “non-taxable” income. I was told this is b/c of how CARES monies the institution received had to be listed this way. In addition, I found 3 pay stubs in our online payroll account non non-pay days showing I was paid $0.00, but showing thousands in CARES RETRO HEALTH EXPENSES and CARES RETRO WAGES. Those stubs total the overage in gross pay, but are not wages I received. Is this the correct way to report this? How will the IRS know that I did not make those extra funds? I just want to ensure that reporting this way is proper. Thank you.
Hi Melissa,
We recommend that you consult with your personal tax advisor about this. Thank you.
If I am a cash basis Sub S corporation and in 2021 filed the ERC applications for 2021, do I recognize the funds when I receive them (in 2022) or do I have to recognize them in 2021 even though the cash has not been received?
Hi Kelli,
On a cash basis accounting method, it would be appropriate to recognize the funds when they are received.
We are an accrual basis C-Corp and our CPA did not recognize our ERC in 2021 as we did not receive the funds in 2021. I had recorded the ERC in 2021 as a receivable and other income in 2021, but the CPA took is off our books for 2021 and has moved it to 2022 tax year. Is this correct?
Hi Bonnie,
CapinCrouse does not work with C-Corps, but our understanding of accrual basis accounting, as it relates to nonprofits, is that the revenue should be recognized in the period in which it is earned. Thus, we’d recommend further consultation with your CPA on this matter.
We are an accrual basis taxpayer and filed for ERCs in Q1 2021, Q2 2021, and Q3 2021. The ERCs for Q1 2021 were filed on a 941X. We received the refunds for Q2 2021 and Q3 2021 in 2021. As of today (03/22/22), we have not received the Q1 2021 refund we filed on the 941X. The refund is approximately $1.7M.
Question – We are an S-Corp and getting ready to file our 1120S for 2021. Is there any deferral for corporate taxes since we have not received our refund to date?
Also, I have not been able to get through to the IRS to find out the status of our refund for our Q1 2021 941X refund. Any tips on getting through to the IRS to check the status of the ERC refunds?
Hi Jack,
We recommend that you consult with your tax advisor on your question about any deferral for corporate taxes in this situation.
On the question regarding contacting the IRS about the ERC, the IRS has been experiencing a historic backlog of all kinds of returns, and they are also struggling mightily to answer the calls that people make. As far as I know, there is no special phone line to call to get answers on an ERC claim.
I am correcting the 941 by using the 941-x to claim the employee retention credit. My business qualifies by revenue drop. When doing this so I need to enter the non refundable portion on the 941-x as well as the refundable portion ?
Hi Janna,
It is difficult to provide guidance on filling out the 941-X Form without having significantly more information. However, you should review the information in the 941-X Form Instructions (https://www.irs.gov/pub/irs-pdf/i941x.pdf), especially the instructions related to lines 18a, 26, and 27. Further, you will want to pay special attention to the calculation instructions for Worksheet 2 and/or Worksheet 4.
When performing a valuation of my business, should I exclude ERTC funds from Net Income to calculate the EBITDA?
Hi Wayne,
Thank you for your question. As we specialize in working with nonprofits, we recommend that you consult a business valuation specialist.
Do you know of specific guidance from various grantor agencies about their expectation that the ERTC funds should be credited against their relevant grant expenses? (Head Start, Community Services Block Grant, Low Income Home Energy Assistance, etc.) Guidance seems to indicate that a nonprofit should report the ERTC funds as a grant or contribution, not as expense reduction. But Subpart E suggests that grant expenses be reported net of applicable credits etc. In this case, by the time the nonprofit receives the IRS check, all of the grants would have closed out. And the grantors will not permit carryovers of funds. Naturally the preference would be to show the ERTC as other income and not offset grant expenses.
Ron,
While we’re not familiar with specific guidance from agencies, we can draw some conclusions based on the Uniform Guidance’s definition of applicable credits. Based on that guidance, those credits refer to receipts or reduction-of-expenditure type transactions that offset or reduce expense items allocable to the Federal award as direct or indirect costs. To the extent that such credits accruing to or received by the non-Federal entity relate to allowable costs, they must be credited to the Federal award either as a cost reduction or cash refund, as appropriate. From that, we would conclude that if your salary and benefit costs are charged to federal awards and you’re claiming the ERC on those costs, then you’d need to reduce the amount of the salary and benefits costs charged to the grant. If the grant is closed, then the funds would not be credited against the relevant grant expenses. We recommend reaching out to the grant agreement officers for additional guidance as it relates to your specific grants.
We are just now (October 2022) filing for our 2021 ERC and are accrual basis. Would we recognize the credit as a receivable and income in October? Or would we record a receivable and undivided earnings, restating 2021 financials?
Geraldine,
It sounds like you may be asking about a for-profit business. The specific accounting principle we’re following regarding conditional grants is applicable to nonprofit organizations, so the article above and the information we provide is not accurate for a for-profit business. We recommend that you consult with your CPA on this matter. Thank you.
I have read that the ERC refund is a tax free event, however, when speaking with my CPA, he said that the reduction in wages will generate a tax liability. I do not believe this to be correct. As this is a credit, and is refundable, no additional liability should be generated. When reporting the amended 1120, how should it be accounted for? What is the journal entry?
Hi Jeremy,
Thank you for your question. You mentioned Form 1120, which is a for-profit tax return. Our answers follow conditional grant guidance for nonprofit organizations, so the article above and the information we provide about when this revenue is recognized is not accurate for a for-profit business. We recommend that you consult with your CPA on this matter.
Does deferred and restricted income have to be used when calculating eligibility for the ERC
Hi Kim,
When determining what is included in gross receipts for the employee retention credit, you should review the IRS guidance provided in IRS Notice 2021-20, especially pages 45-47. There, you will find responses for both for-profit and tax-exempt organizations. Generally speaking, though, all receipts are included unless they are specifically excluded from the calculation, and that includes deferred and restricted income.
Hi can i ask question refer to ERC return check will be credit on the year amendment. It mean income and expense should be in the year check return . For example we received ERC check return 2022 for Q3/2021 $16,000 and expense ERC application fee $2,000. So in tax statement $16,000 record income 2021 and $2000 expense ERc application fees also 2021? Or ERC expense $2,000 will be deduct current year received service 2022. Please let me know thank
Hanna,
Thank you for your question. We recommend that you consult with your personal tax advisor on this.
Hello, we filed for the ERC in May 2023 for Q1 & auto qualify for Q2 of 2021 based on the Q1 21 revenue compared to Q1 19 revenue. We’re an NFP & file a 990 (calendar year); you’re suggesting we have to go back and refile our 990, restate F/S (we filed ERC via 941-x) because the funds were realizable at a time that the newest guidance wasn’t even in effect? Is there any argument to be made that this can somehow be 22 other income/grant? That would be clearer to the users of the FS & Board
Hi Patrick,
It is only a Form 990-T that would need to be amended, and that is only if the organization deducted wages from their income that were then claimed as qualified wages for the ERC.
Patrick,
Regarding the accounting portion of your question, due to the varying views on the appropriate timing for ERC revenue recognition, we recommend that you consult with your auditors as they could speak to the specifics of your situation. With that, we have seen some organizations take the position of recognizing the revenue when the 941-x forms are filed. Regardless of when the revenue is recognized, we strongly recommend that you retain appropriate documentation to support the amount of credit that was claimed and how your organization fulfilled the requirements.