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IRS Publishes Rules to Reconcile and Recapture Advanced Payments of Refundable Employer Tax Credits for COVID-19 Leave and Employee Retention

The IRS has published, via separate notices, a temporary rule and a related proposed rule to reconcile advance payments of refundable employment tax credits and recapture the benefit of these credits when necessary.  The regulations specifically authorize the assessment of erroneous refunds of the refundable tax credits employers took for employee COVID leave and employee retention.

As you may recall, the Emergency Paid Sick Leave Act (EPSLA) and the Emergency Family and Medical Leave Expansion Act (EFMLEA), enacted as Divisions E and C of the Families First Coronavirus Relief Act generally required employers with fewer than 500 employees to provide paid leave due to certain circumstances related to COVID-19.  Sections 7001 and 7003 of the Families First Act generally provided that non-governmental employers subject to the paid leave requirements under EPSLA and EFMLEA were entitled to fully refundable tax credits to cover the wages paid for leave taken for those periods of time during which employees are unable to work or telework for specified reasons related to COVID-19, plus allocable qualified health plan expenses.  Although the requirement to provide employees with paid leave under EPSLA and EFMLEA expired December 31, 2020, the tax credits for qualified leave wages paid for periods of leave taken beginning on April 1, 2020 and ending on December 31, 2020, were extended by the COVID-related Tax Relief Act of 2020 through March 31, 2021, for paid leave that would have satisfied the requirements of EPSLA and EFMLEA.

The American Recue Plan Act (ARP) subsequently added sections 3131 through 3133 to the IRC, which extend the refundable tax credits for paid leave to non-governmental employers with fewer than 500 employees, and certain governmental entities without regard to the number of employees, that provide paid sick and family leave for specified reasons related to COVID-19 with respect to periods of leave beginning on April 1, 2021 through September 30, 2021.  The paid sick leave credit and the paid family leave credit under IRC sections 3131 through 3133 are generally available to eligible employers that provide employees with paid leave that would have satisfied the requirements of EPSLA and EFMLEA.

Separately, section 2301 of the CARES Act, as originally enacted, provides for an employee retention credit for eligible employers, including tax-exempt organizations, that pay qualified wages, including certain health plan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.  Section 207 of the Taxpayer Certainty and Disaster Relief Tax Act of 2020, which is effective for calendar quarters beginning after December 31, 2020, amended section 2301 of the CARES Act to extend the application of the employee retention credit to qualified wages paid after December 31, 2020 and before July 1, 2021.  Section 9651 of the ARP subsequently enacted section 3134 of the IRC, effective for calendar quarters beginning after June 30, 2021, to provide an employee retention credit for qualified wages paid after June 30, 2021 and before January 1, 2022.

Through these temporary and proposed rules, the IRS is providing that erroneous refunds of the credits under sections 3131 through 3134 will be treated as underpayments of certain taxes imposed under section 3111(b) of the IRC and so much of the taxes imposed under section 3221(a) as are attributable to the rate in effect under section 3111(b), as applicable.  The rules authorize the IRS to assess any credits erroneously credited, paid, or refunded in excess of the amount allowed as if those amounts were taxes imposed under these sections, subject to assessment and administrative collection procedures.  The IRS states that this will allow the agency to, among other things, recover the erroneous refund amounts efficiently while also preserving administrative protections afforded to taxpayers with respect to contesting their tax liabilities under the IRC and avoiding unnecessary costs and burdens associated with litigation.

The temporary rule is effective today, September 10, 2021.  Comments on the proposed rule and requests for a public hearing are due by November 9, 2021 and can be submitted via the federal eRulemaking portal identified using REG-109077-21.

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