ERC Claim Scrutiny Increases as IRS Provides Opportunities to Limit Exposure for Invalid Claims

Citing rising concern over a "flood" of improper Employee Retention Credit (ERC) claims filed by businesses, many with the assistance of ERC claim promoters, the IRS announced on Sept. 14, 2023, that it is pausing the processing of new ERC claims until at least Jan. 1, 2024. It also cautioned that existing ERC claims that were received prior to the moratorium will be processed more slowly due to detailed compliance reviews, with the standard processing goal extended from 90 days to 180 days and "much longer if the claim faces further review or audit."

The IRS also previewed two anticipated programs that will help taxpayers with invalid claims limit their exposure – one for taxpayers who have submitted ERC claims that have not yet been processed to withdraw their claims and another for taxpayers who have received refunds in respect of invalid ERC claims to repay the refunds without penalties. With ERC claims by even small businesses squarely within the agency's sights, it appears unlikely that illegitimate claims will escape scrutiny.

Taxpayers with invalid claims may be left owing the refunded credits back to the IRS, in some cases long after the funds have been spent and the ERC claim promoter's contingency fee is paid. Those taxpayers will be left with the daunting task of repaying the credit, potentially with penalties and interest, in addition to the possibility of dealing with expensive and time-consuming audits and amendments of previously filed returns.

For businesses that have submitted ERC claims, now is the time to ensure that the claims will withstand scrutiny. ERC qualification requirements are numerous and complex. There is currently significant uncertainty over many aspects of the law providing for ERC credits, particularly with respect to whether an employer has experienced a full or partial shutdown due to a government order. This is especially true for "essential" employers, such as hospitals, nursing homes and prisons that were specifically exempted from the "stay at home" restrictions during the COVID-19 pandemic.

Lenders whose borrowers have made ERC claims are advised to understand the extent of their borrowers' participation in the program and the risk posed by potential tax liens and, in some cases, may consider reserves to cover potential repayment obligations.

The IRS has expressed concern about fraud and abuse of the ERC on numerous occasions and has shifted substantial resources to ensuring that ERC claims are valid, with "hundreds" of criminal cases currently in progress and "thousands" of claims referred for audit. In a typical arrangement, ERC promoters help businesses evaluate their eligibility for and claim the credit in exchange for a contingency fee, calculated as a percentage of the refund obtained, often due upon receipt of the refund.

For further information on the program and considerations for particular borrowers or lenders, contact the authors.

Information contained in this alert is for the general education and knowledge of our readers. It is not designed to be, and should not be used as, the sole source of information when analyzing and resolving a legal problem, and it should not be substituted for legal advice, which relies on a specific factual analysis. Moreover, the laws of each jurisdiction are different and are constantly changing. This information is not intended to create, and receipt of it does not constitute, an attorney-client relationship. If you have specific questions regarding a particular fact situation, we urge you to consult the authors of this publication, your Holland & Knight representative or other competent legal counsel.