Employee Retention Credit For Owners | Owner Employee Retention Credit

Employee Retention Credit For Owners | Owner Employee Retention Credit | Employee Retention Credit Owner Employee

You probably won't be able to include owner wages in your calculations when claiming the ERC. The IRS doesn't expressly forbid it, but its interpretation of familial attribution and constructive ownership rules render most majority owners ineligible. The reasoning behind its position is circuitous but doesn't leave room for interpretation.

Previously, the IRS confirmed in its ERC FAQs that wages paid to employees related to their employers aren't eligible for the ERC. For the purposes of the Employee Retention Credit, relatives are defined as the following:

A child or a descendant of a child
A brother, sister, stepbrother, or stepsister
The father or mother or an ancestor of either
A stepfather or stepmother
A niece or nephew
An aunt or uncle
A son-in-law, daughter-in-law, father-in-law, mother-in-law, brother-in-law, or sister-in-law
An individual (other than a spouse, determined without regard to section 7703 of the taxpayer) who, for the taxpayer's taxable year, has the same principal place of abode as the taxpayer and is a member of the taxpayer's household.

Please Note: Spouse is not listed.

These relationships are defined with reference to Sec. 51(i), which has for many years governed eligibility for the Work Opportunity Tax Credit, and Secs. 152(d)(2)(A) through (H), which define qualifying relatives as dependents and, by (partial) reference, related parties for the purpose of applying the qualified-wages rules of the Employee Retention Credit

What wasn't clear was whether the majority owner's wages themselves were qualified. The new guidance clarifies that application of the constructive ownership rules under Sec. 267(c) severely limits eligibility of majority owners' compensation for this purpose.

Constructive Ownership

Section 267(c) of the Code provides rules regarding the constructive ownership of stock to determine whether an individual is considered a majority corporation owner. Section 267(c) sets forth the following rules to determine whether an individual has constructive ownership of stock of a corporation:

stock owned, directly or indirectly, by or for a corporation, partnership, estate, or trust is considered as being owned proportionately by or for its shareholders, partners, or beneficiaries;
an individual is deemed to own the stock owned, directly or indirectly, by or for the individual's family;
an individual owning (otherwise than by the application of (2)) any stock in a corporation is considered to own the stock owned, directly or indirectly, by or for his partner;
the family of an individual includes only his brothers and sisters (whether by the whole or half-blood), spouse, ancestors, and lineal descendants; and
stock constructively owned by a person because of the application of (1) will be treated, to apply (1), (2), or (3), as actually owned by that person. Stock constructively owned by an individual because of the application of (2) or (3) will not be treated as acknowledged by the individual to apply either rule again to reattribute and make another individual the constructive owner of the stock.

Applying the rules of sections 152(d)(2)(A)-(H) and 267(c) of the Code, a majority owner of a corporation is a related individual for purposes of the employee retention credit, whose wages are not qualified wages, if the majority owner has a relationship listed above. That is, applying the constructive ownership rules of section 267(c), the direct majority owner's ownership of the corporation is attributed to each of the owner's family members with a relationship described in section 267(c)(4); further, because each of those family members is considered to own more than 50 percent of the stock of the corporation after applying section 267(c), the direct majority owner of the corporation would have a relationship as defined in section 152(d)(2)(A)-(H) to the family member who is a constructive majority owner. Therefore, the direct majority owner is a related individual for purposes of the employee retention credit.

The spouse of a majority owner is a related individual for purposes of the employee retention credit, whose wages are not qualified wages if the majority owner has a family member who is a brother or sister (whether by whole or half-blood), ancestor, or lineal descendant (and thus is deemed to own the majority owner's shares under section 267(c) of the Code) and the spouse bears a relationship described in section 152(d)(2)(A)-(H) of the Code to the family member. For example, a direct majority owner's brother would be a constructive majority owner under section 267(c)(2) and (4), and the spouse of the direct majority owner would be considered a related individual to the constructive majority owner by virtue of the in-law relationship described in section 152(d)(2)(G).

If the majority owner of a corporation has no brother or sister (whether by whole or half-blood), ancestor, or lineal descendant as defined in section 267(c)(4) of the Code, then neither the majority owner nor the spouse is a related individual within the meaning of section 51(i)(1) of the Code and the wages paid to the majority owner and/or the spouse are qualified wages for purposes of the employee retention credit, assuming the other requirements for qualified wages are satisfied

When the employer is a corporation, a related individual includes any person with one of the above relationships with a majority owner. A majority owner is an individual who directly or indirectly owns at least 50% of the corporation's stock.

However, the FAQs make no reference to wages paid to owners or their spouses, which led to the previously referenced confusion among taxpayers. To clarify its stance, the IRS issued Notice 2021-49.

Notice 2021-49 asserts that the constructive ownership rules for determining who is considered a majority corporation owner apply to the ERC. These rules state that an individual is deemed to own, by extension, all stock their family members own. Family members include ancestors, siblings (whole or half), and lineal descendants. Note: They do not include spouses.

Here's where things get a little confusing. The notice then alleges that applying these rules to the ERC means that wages paid to majority owners with living siblings, ancestors, or lineal descendants DON'T qualify for the tax credit. The reverse is also true; wages paid to majority owners with NO living siblings, ancestors, or lineal descendants DO qualify for the tax credit.

Here's the logic: If you're a majority owner, your siblings, ancestors, and lineal descendants are also considered majority owners. Because they're considered a majority owner, YOU'RE RELATED TO A MAJORITY OWNER. As an employee related to a majority owner, your wages aren't eligible for the ERC, per the original exclusion in the FAQs.

Ultimately, you must have no living ancestors, siblings, or lineal descendants to claim the ERC as a majority owner for your wages. Alternatively, you can be a minority owner with less than 50% ownership in your corporation after considering the family attribution and constructive ownership rules.

Note: Since only corporations can pay wages to their owners, they're the only employers relevant to this discussion. If your business operates under any other legal entity structure, then owner compensation is automatically disqualified from the ERC.

Examples of Owner Wages and the ERC

The rules regarding owner wages and their eligibility for the ERC can be frustratingly abstract. Let's discuss some examples to help you understand whether you can claim the ERC for your owner's wages.

Owner Wages Ineligible

Example 1. Corporation A is an employer that can claim the ERC for qualified wages paid in 2020. During that period, it paid wages to John, who owns 60% of Corporation A's stock. John has a wife named Susan and a daughter named Mary, who also works for the company.

Because Mary (the daughter, A child, or a descendant of a child ) is related to John, a majority owner, her wages don't qualify for the ERC. As Johm's family member, Mary's also considered a majority owner. Because John is related to Mary (the daughter, A child, or a descendant of a child ), A MAJORITY OWNER, his wages DO NOT qualify for the ERC. Because Susan is related to Mary (the daughter, A child, or a descendant of a child ), A MAJORITY OWNER, her wages DO NOT qualify for the ERC.

Example 2. Corporation B is an employer that can claim the ERC for qualified wages paid in 2021. During that period, it paid wages to Tom and his daughter Jennifer. John owns 100% of Corporation A's stock.

Because Jennifer (the daughter, A child, or a descendant of a child ) is related to Tom, a majority owner, her wages don't qualify for the ERC. As Tom's family member, Jennifer's also considered a majority owner. Because Tom is related to Mary (the daughter, A child, or a descendant of a child ), A MAJORITY OWNER, his wages DO NOT qualify for the ERC.

Example 3. Corporation C is an employer that can claim the ERC for qualified wages paid in 2021. During that period, it paid Leslie, Mary, and Nancy wages. Leslie owns 34% of Corporation C's stock. Mary owns 33% of Corporation C's stock. Nancy owns 33% of Corporation C's stock. Leslie, Mary, and Nancy are siblings

Because Leslie, Mary, and Nancy are siblings, they are considered to be 100% owners, according to the attribution rules of section 267(C) of the IRC, because they have the relationship to each other described in section 152(2)(b). As such, Leslie, Mary, and Nancy are all treated as MAJORITY OWNERS. Their wages DO NOT qualify for the ERC.

Example 4. Corporation D is owned 100% by Guy. Helga is the child of Guy. Guy is an employee of Coporation D., but Helga is not. Pursuant to the attribution rules of Sec. 267(c), Helga is attributed 100% ownership of Corporation D, and both Guy and Helga are treated as 100% owners. Guy has the relationship to Helga described in Sec. 152(d)(2)(C). Accordingly, Corporation D may not treat as qualified wages any wages paid to Guy because Guy is a related individual for purposes of the ERC even though Helga is not an employee of Corporation D.

Owner Wages Eligible

Example 5. Corporation E is an employer that can claim the ERC for qualified wages paid in 2021. During that period, it paid wages to Lisa, who owns 100% of Corporation E's stock.

Lisa DOES NOT have any of the relationships described in 152(d)(2)(A)-(H) of the Code.
Lisa is a majority owner, but she has no relatives who meet the requirements to share her status by extension. As a result, qualified wages paid to her and her husband are eligible for the ERC if the amounts satisfy the other requirements to be treated as qualified wages.

Example 6. Corporation F is an employer that can claim the ERC for qualified wages paid in 2021. During that period, it paid wages to Justin, who owns 100% of Corporation F's stock.

Justin is married to Kay, and they have no other family members, as defined in section 267(C)(4). Corporation F employs both Justin and Kay.
Kay is attributed 100% ownership of Corporation F. Both Justin and Kay are attributed 100% ownership,
However, Justin and Kay DO NOT have any of the relationships to each other described in 152(d)(2)(A)-(H) of the Code. Therefore they are NOT CONSIDERED RELATED.
As a result, qualified wages paid to both Justin and Kay are eligible for the ERC if the amounts satisfy the other requirements to be treated as qualified wages.

Apply For the ERC

The ERC can be incredibly lucrative, potentially reducing your payroll tax liability by $26,000 for each employee retained through 2020 and 2021. The window to earn the credit is closed, but eligible businesses can still claim the credit retroactively. Even if your wages don't qualify due to the owner's exclusion, you may still be eligible for a credit if you had employees on the payroll during the pandemic. Let’s have a conversation to determine if you qualify for the lucrative Employee Retention Credit.

Deadline for 2020: April 15, 2024