Employee Retention Credit has an IRS Warning: Find Out What - Part 1 with Randy Crabtree

Have you seen the IRS’ renewed warning ‘false claims generate compliance risk for people and businesses claiming credit improperly’?

How do you avoid falling into this pitfall with Employee Retention Credit (ERC) and having to return the money to the government? How do you legally qualify for and leverage tax credits?

In this episode of the Hidden Money Podcast, we talk with Randy Crabtree, tax-credit expert and founder of Tri-Merit Tax. Randy shares practical insights into ERC law and the IRS’ guiding red flags. His advice might just save you from falling prey to unrealistic claims and information on using tax credits from unqualified sources.

In this episode, we discuss

• The significant impact of the Employee Retention Tax Credit (ERTC) during and after the COVID-19 pandemic.
• The prevalence of inaccurate claims and challenges arising from providers misleading companies about ERTC qualifications, and their consequences.
• Detailed qualifications for ERTC, including the calculation of a drop in revenue and the Safe Harbor rule.
• The confusion around the 10% rule for ERTC and the second qualification method involving government mandates.
• The announced moratorium by the IRS on processing new ERTC claims to address the backlog and inaccurate claims.
• The IRS's offer for companies to return ERTC funds with no questions asked, emphasizing specific conditions for eligibility.
• The historical context and purpose behind Congress’ balancing act, imposing challenges on businesses regarding R&D expenses.
• The complexities, recent changes and potential impact on businesses regarding the capitalization of Research & Development (R&D) expenses.

To Learn More

If you are interested in exploring tax-credits in more detail for your business, reach out to Mike and Kevin in the link below. If you want to connect with Randy Crabtree, you can visit his website Specialty Tax Professionals | Tri-Merit and connect with his team on the Meet the Team page Meet The Team | Tri-Merit. You can also find him on LinkedIn and other social media platforms.

To access the bonus tax content mentioned in the episode, go to https://www.hiddenmoney.com/bonus

To start using the tax code as a tool to grow your wealth, schedule a call with Pine & Co. CPAs: https://www.pinecocpas.com/consultation 

TRANSCRIPT

Mike Pine: [00:00:00] Welcome to the Hidden Money Podcast. Kevin and I are super excited to have Randy Crabtree returning on the podcast today. Randy Crabtree is a man of tax credits. He's the man in tax credits. He runs and founded Tri-Merit Tax. They do tax credits and we're super excited to have you here today, Randy. Thank you!

Randy Crabtree: Well, thank you. I appreciate a return visit to the show. This was a lot of fun last time and I'm sure we'll have a lot of fun again today.

Mike Pine: We will try. How can you not have fun when you're talking tax credits? Great up for most of our listeners. They might not get as excited as the three of us do about tax credits, but we're going to change that today. So let's talk tax credits, Randy.

Randy Crabtree: I'm ready.

Mike Pine: First one I want to ask you about is the Employee Retention Tax Credit- ERTC. 

This was huge in COVID. It's been huge for a while. There's a lot of nefarious operators out there. The IRS has recognized that, even Congress has recognized there's people cheating on this tax credit, and there's now a moratorium on being able to file for It. Tell us about the [00:01:00] ERTC and what you think about it, and whether it's still an opportunity for our listeners.

Randy Crabtree: So, when the ERTC came out, I just got addicted to it because it was such a great opportunity for companies that qualify. And what you just said, the companies, I don't think are the problem. It's these providers that are going to companies and saying you qualify,

and they don't know anything about it, and they just assume that the people coming to them are legit, and honestly, figuring out a way that they qualify. And so, it's not a pain because we're still doing a handful of clients a week that come to us that with legitimate claims and I love the opportunity that we're able to put money back into their business,

but we get 30 a week that we just have to say- No, even though that other company is telling you you qualify for a million dollars... you don't qualify. And I go wherever you want, but the first thing, just let me tell you- the qualification requirements are pretty straightforward.

No matter what anybody else says, the qualifications are straightforward and it's a calculation of [00:02:00] drop in revenue, and I'll throw out the percentages and people have heard this, but they heard things probably that kind of mix different qualification methods together. If we look at 2020, and we see a drop in revenue in any quarter in 2020

of 50% or more compared to that same quarter in 2019- safe harbor rule, we qualify. If we look at any quarter in '21 and technically just the first 3 quarters, there is a way to qualify the 4th in '21, but let's just assume the first 3 quarters in '21 and we see a 20% drop in revenue compared to the same quarter in '19- safe harbor, we qualify.

And so, that's where a majority of taxpayers are going to qualify. That alone is where most of it is. What happens is there's this 10% rule out there that talks about a segment of your business. Well, that rule gets all turned upside down and people look, 'Oh, I only need a 10% drop in revenue.

I only needed 10% of my operations to be [00:03:00] affected.' --and that's not accurate. So, there is a second way to qualify and that's if you are affected by a government mandate. Now, this is where things go crazy because everybody thinks they're affected by a government mandate and the mandates are pretty straightforward.

You're going to be shut down like a restaurant, or you're not going to be shut down. That's it. There's no really fine line in between there. There's little nuances, but there's no, 'Oh, I couldn't go to a conference, so I qualify.' --No, that's not it. That- ' Hey, the conference was shut down. So I qualify.' --No, that's not. So, there is the partial shutdown, which again, the restaurant is the epitome of that. You could have 50% seating or whatever it was, you couldn't have 100% seating.

That's a partial shutdown. People start to change that rule all over the place and say we're partially shut down because we had to put plexiglass at the registers- that's not a shutdown. We voluntarily went home to work at home- that's not [00:04:00] a shutdown. It is pretty straightforward.

And so, like you said, Congress and IRS have recognized that there's a lot of, unfortunately, incorrect claims going in on the... I always say ERC... ERTC, Employee Retention Tax Credit, Employee Retention Credit...

there's a lot of inaccurate claims going in, and so, what they did last month, I think, it was beginning of September, they announced a moratorium, not on filing, and we're continuing to file right now, but the moratorium is- they're not going to process any new claims until they get through this backlog of claims that they have right now, of which, I think, 

 90% of the claims came in in a three month period right at before the moratorium... and that's way off, but it was a significant number, and when they're looking at it, they're seeing a significant number of those are inaccurate claims.

So, moratorium comes into place. Doesn't mean the program stopped- program, they have not announced that. I don't think they will announce it. I don't even think IRS can [00:05:00] announce it- congress is the only one that can stop it, but the moratorium is we're not going to process new claims after, I think it was September 8th was that date, until sometime beginning of next year is what they assume that is,

and so, that's where we are. So, we are under status quo. We're going as normal. We're filing legitimate claims...

I don't know why I put us in quotes 'legitimate'- ours are all legitimate, but we're filing the legitimate claims, and we're turning away a lot of people that don't have legitimate claims, but we're continuing to file.

We don't want to get to the end of the line, we want to be at the beginning of the stack of things that they'll start to process in January. That's where we are now in the ERC phase.

Kevin Schneider: I wonder if there was ever any pushback against those fly-by-night companies that came by and just cold call everybody, and be like- 'Yeah, you qualify. Here's my fee. I'm going to file this for you.' --and then they go off the radar. I wonder if they try to wrap that up with them.

Randy Crabtree: Yes, there is, I know some of the behind the scenes stuff going on with that. 

[00:06:00] There are things as easy or as simple as audits of the provider are starting to happen. I know that's a case going on right now, hopefully, multiple cases. And then, the rumors... what I've heard...

 there is deeper investigations going on into some of these providers is what I have heard pretty reliable sources telling me this.

Kevin Schneider: I had a lot of clients in this time period- they would get calls all the time and they would just forward me the voicemails or the emails and be like- 'Is this legit? Is this legit?' --And I'm like- 'Yeah, the ERTC is legit. This is a thing, but not this provider... I can't vouch for.

Mike Pine: Yep.

Kevin Schneider: Yeah.

Randy Crabtree: Let me expand one more thing because this is an important thing as well. IRS came out last week and said, 'We're going to give you an opportunity to return these funds. Basically, a no questions asked, no penalties, no interest, just voluntarily return the money if you find out that you don't have a legitimate claim.'

--But they limited that to three areas. 1. You receive the checks and you [00:07:00] haven't cashed them- return it, no questions asked, no penalties, no interest. 2. You've filed, but haven't received the checks- same scenario. 3. You're in an audit, they're auditing your ERC and you choose to say, 'Sorry, we find out this is inaccurate.

We're not going to accept this money.' --And I think in an audit, it still has to be pre-funds, you haven't cashed or received the money yet, but then, audit- that's a big deal. That's not a normal process- you get funds that you shouldn't, you can return them. No questions asked.

You're in an audit situation- now, what it appears is that you can do this as well. So, that's the steps that I have put in place. What we want to see is we want to see the opportunity for anybody that received this money, that when we look at it, we determine- No, they didn't qualify, and even if they cashed it,

I want to see a program in place that allows them to voluntarily give that money back and avoid penalties and interest. I think that can happen, but at this point, I don't know [00:08:00] if IRS can make that decision. Congress might have to enact that.

Mike Pine: I mean it would make sense when you consider how complicated our government has made our tax code. People rely on tax providers to help them navigate it. I tried reading the year- how many times do we get six different revisions of the rules for the ERTC for over the year and a half that it came out?

Randy Crabtree: We got a lot.

Mike Pine: They are hard to understand.

So, you would think a normal, law abiding citizen that is trying to keep his business afloat or her business afloat, they need help. They hear there's this credit. They get approached by a tax professional. How do they vet who's a tax professional or not? Sometimes, they're CPAs, a lot of times they weren't, but they followed the advice of their professional.

If you make the law understandable for the common person, then okay, I see. Fine. If they cheat because they could understand the law and they decided to cheat, then throw the book at them. But for people who really didn't know, and they relied on some nefarious [00:09:00] person they didn't know was nefarious,

it's not fair. It's not fair. They ought to have ways for those people to come and say, 'Oh, sorry, I relied on the wrong schmo. So, here's your money back.' --And that should be it. When does our government do things that make sense?

Randy Crabtree: Yeah. And one thing that I heard today that another person I respect in this profession was telling me, like I respect you guys, obviously, but somebody that was in ERC specifically. Actually, he's a partner at a CPA firm, but he specifically did ERC a lot and 

this guy educated more people on ERC through Twitter than anybody else, and he was on top of things, and he actually educated me on a few things that I hit wrong at the beginning because it was so complex, and because it was an immediate- 'March 20th, 2020, we're enacting this, and now, tomorrow, you can apply for it.'

-- And so, tax law usually isn't that way, we get to digest it a little bit. So, he told me... just today we were talking... that what he wants to see happen is somehow, the [00:10:00] taxpayer who got scammed by a provider, and is out- maybe as high as 25% of their credit went to a fee, which is an outrageous fee...

but if that happened, they want, somehow, that there can... and I don't know how this can happen... return that 75% that they really can't, retained and have that wipe it off the books. Boy, that would be a long stretch, I think, for IRS to do that, but we'll see. It'd be interesting and not IRS, Congress.

Mike Pine: Yeah, as long as the IRS required that when the person made that settlement, the taxpayer, they signed an agreement saying, 'I give to the IRS all of my rights to go sue this person.' --and the IRS goes after that person. That would be absolutely fair.

Randy Crabtree: Oh, I would love it.

Mike Pine: Me too. It won't happen though.

It makes too much sense. Justice... happen.

Kevin Schneider: So what's on the docket for the R&D side? Because R&D is always a very popular credit that we see a lot, and we always rely [00:11:00] on you and your team for your specialty in this area, because just like the ERTC, the R&D is, research and development credits are,

so complex. That's why Mike and I don't get into them. We could be very conservative in them, but we want to go to you and your team so y'all could be aggressive with them, and be probably a lot more detailed and safer and get a better result. So, what's new in the R&D side of things?

Randy Crabtree: So R&D tax credits and we all know, and the people listening, they may not know, but beginning January 1st of '22, R&D expenses, different than the R&D tax credit, R&D expenses had to be capitalized, which means we couldn't write them off in the year that they were incurred.

We had to capitalize them and write them off, if it's a US based credit, over five years. That is still in place that was defined back in the Tax Cuts and Jobs Act in 2017, delayed starts, started in '22. We all knew it would never kick in because it makes no sense for us to capitalize R&D expenses and penalize companies for being innovative,

[00:12:00] but it did kick in. And so, that's been a lot of confusion this last almost two years now since it kicked in on it's interplay with the R&D tax credit because they're mutually exclusive. If you have an R&D expense, you have an R&D expense whether you took a credit or not. And so, 

we have been hoping for guidance from the IRS on what a R&D expense or Code Section 174 expense is. We've been wanting this information because we never really had to know before. All the way back to 1954, we could expense these as incurred. We spend $100,000 doing R&D, that's an immediate expense.

That change began in '22. And so, IRS has been telling us they'll give us guidance on this. They told us it was going to be delayed. They were accurate because it came out like September 8th, proposed guidance on R&D expenses, which is a week before tax filing deadline for at least pass through [00:13:00] entities, S Corps and that,

and there was many of us that were putting clients on extension because we're waiting for this guidance. Well, it didn't help much for this filing season. So, this guidance basically said, 'Hey, here's how we're going to define a 174 and R&D expense for you. If you already filed not following this, as long as you did due diligence and used your best care and use your best judgment, and I'm paraphrasing, you're okay, but going forward, you need to start following this.'

--Although it's proposed, it's pretty much set in stone, I believe. Proposed- they're asking for guidance from or feedback from us. Now, I'm getting technical here, but the feedback they're saying is- should there be like a de minimis rule? You have a client that's less than $5 million revenue or maybe less than $50,000 (and I've thrown those numbers out.They didn't say numbers). Should we allow them to ignore this Capitalization rule because this hurts small business? It hurts all businesses. You've got the public companies fighting that you've got the small, [00:14:00] whatever, associations representing the mom and pop companies own, fighting this too.

But the guidance came out, and at least gave us some clarification on how we determine what an R&D expense is, so that we're living under now. I think they gave us till the end of November to submit our feedback on what we think, but honestly, I'm guessing 99%, 95% of what they said in this proposed guidance is going to be the guidance,

and it was good and bad. It was good from a standpoint they really gave us a bigger definition of what software development is, and actually, it's pretty inclusive, but it also- we were thinking, 'Okay, if I'm installing software, is that R&D? If I'm purchasing software someone else did, is that R&D?'

--and it pulled those things back a little bit. And that fact defined R&D expenses one way. RD expenses are what's defined in Code Section 174- .... whatever, and it is software. So, it said it's all this, and it's [00:15:00] software, and then they went deeper into what software is. So, that's something that we all have to try to figure out.

We did already for '22, we got '23 filing season coming up, quicker than we're hoping, but it's coming, and so, we need to do that as well, but there is still a chance that this will retroactively be eliminated and we won't have to do that. I'm, honestly, fairly confident it'll go away. In what method it'll go away, I don't know.

We can't count on it going away because we've been almost two years living under it now, but that's where we are on the expenses. Now, I'm going to talk about the credit, but I'm going to let you guys jump in if there's something you want to address on that.

Mike Pine: Before we get into the cool stuff, the credit stuff, what are some of, or the most reasonable or believable arguments you've heard from the people who desired and brought out the 174 Capitalization requirement? Why? What's the purpose behind it? It makes no sense to me, but why?

Randy Crabtree: Yep. So, I'll tell you this, [00:16:00] nobody in Congress supports it. They wrote the law, but they don't support it. It's well over 90% of Congress that wants to eliminate this requirement, and so, the Why is we had the Tax Cuts and Jobs Act come out, drop corporate rates at 21%. They had the qualified business income deduction, or whatever, all these things came out, a bunch of tax cuts.

What does Congress need to do when there's tax cuts? They need tax generators. And so, this is... and I'll guarantee 100% this was the thought process... a variation of this- 'We got all these tax cuts. We need to show it's a balanced, or at least semi-balanced, tax proposal. So, what we're going to do is we're going to show in five years down the road in 2022,

we're going to raise funds for the government by capitalizing R&D expenses.' -- And then they're all snickering, going, ' We know we're really not going to do this, but in this bill, we're going to say we're going to do it, and so, it'll look like we're balancing this- the cuts and the revenue generators.'

--Obviously, Congress, they get along so [00:17:00] well, we all, they knew they wouldn't be able to reverse this requirement and they didn't. So, the Why was really just balancing that bill that came out and showing there's revenue generators and knowing... and that's why it was kicked down the line five years because they knew there'd be another tax proposal, tax legislation come out that would do it.

So nobody, honestly... and nobody in Congress supports this. They all want this to go away because it's so backwards to everything else that we do as incentives for our economy. We are a manufacturing, we are an innovative based economy. We need to be globally competitive because I think- I don't know what it is in the numbers or anything- but China right now is incentives all over the board on R&D,

and so, in every country in Europe, in every place, incentives for R&D. We're the only ones that decide we're going to pull back those incentives, and that was the Why and unfortunately, Congress could not agree what thing they wanted [00:18:00] in a bill to take this away because they all want their man. I'm cynical now, but they all want their thing.

Mike Pine: and Congress tends to have problems actually agreeing on anything these days. 

Randy Crabtree: Oh yeah. That's right. I forgot.

Kevin Schneider: And

 it's It's just such a weird thing to penalize on just because like you said, it just completely wipes away some of the incentive and you got to think about long term with our country because the IRS, if you follow the tax code, that's where that's where they want you to start stewarding and investing money 

Randy Crabtree: Oh Yeah!

Kevin Schneider: ...let's invest, let's keep our country one of the top innovators of technology, software, all these things. And then, they're like, yeah, but we're not going to incentivize you to do it, but you're going to do it anyway.

Mike Pine: We're going to incentivize you not to do it, actually.

 We don't want you spending money on research and development anymore, please.

Kevin Schneider: Even outside of a financial aspect, it just hurts the country.

Mike Pine: Except there still is an R&D tax credit, which we're going to get into in one second, but let's do a quick primer [00:19:00] again- the difference between a tax credit and a deduction. So, if I'm paying my marginal tax rate at 37% to the federal government, if I have $1,000 deduction that reduces my taxable income, that $1,000 really only reduces my taxes by $370,

but if I have $1,000 tax credit, I get to reduce my taxes by $1,000. 

Tax credits are awesome- almost three times more awesome than a deduction. Got to love deductions, but man, do I love tax credits. So tell us before we get into other tax credits, tell us about the one credit that still exists to help incentivize research and development.

Disclaimer: The content of this podcast is not legal advice and is meant for educational purposes only.