How to Account for the Employee Retention Credit

April 12, 2024
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Key Takeaways

  • While the eligibility period for the ERC has passed, it’s still important to understand the proper accounting treatment and disclosures surrounding the credit.
  • Nonprofits have specific guidance for how to account for revenue through ASC 958-605, Not-For-Profit Entities, Revenue Recognition.
  • For-profit companies should utilize either GAAP or International Accounting Standards when reporting ERC revenues.

The Employee Retention Credit (ERC) was created under the CARES Act to help businesses negatively affected by COVID-19 retain their employees.

If your organization utilized the ERC, it’s important to understand the proper accounting treatment and disclosures surrounding the credit. Many questions have also arisen regarding the accounting treatment when entities file for the ERC and subsequently determine they are not eligible for the credit.

Here’s what you need to know about accounting for the Employee Retention Credit.

How to Determine the Proper Accounting Treatment for the ERC

After your organization has taken the necessary action to apply for and receive the ERC, you must determine the proper accounting treatment. The recognition principles depend on whether your entity is a for-profit or a not-for-profit (NFP) organization.

Nonprofit Recognition

Accounting principles generally accepted in the United States of America (U.S. GAAP) provide specific guidance to NFP entities in Financial Accounting Standards Board (FASB) Accounting Standards Codification (ASC 958-605, Not-For-Profit Entities, Revenue Recognition).

For-Profit Revenue Recognition

However, U.S. GAAP does not provide for-profit entities with specific accounting treatment for government grants. Therefore, for-profit entities receiving government grants, including ERC, must rely on other accounting guidance by analogy.

Accounting guidance to refer to when determining the recognition of ERC can be found in the following:

FASB ASC 958-605 (for use by not-for-profit entities and option for use by for-profit entities)

FASB ASC 958-605-25 states contributions are “recognized when the condition or conditions on which they depend are substantially met.” The conditions for the ERC include:

  • An entity adversely affected by the COVID-19 pandemic that meets the criteria for decline in gross receipts, qualifying supply chain disruptions, or full or partial suspension of business due to a government order
  • An entity that has not used qualifying payroll for both the Paycheck Protection Program (or other federal funds) and the ERC (no double-dipping)
  • An entity that incurred payroll costs to retain employees

There are specific criteria for this program, so carefully consider whether you met the qualifications for this credit.

Your organization can recognize ERC income in the period that you determine the conditions have been substantially met. This will require an assessment to determine whether the process for credit filing is more than or only an administrative barrier to receiving the credits.

Once you determine that the conditions have been met, you can recognize the ERC as income in that period. If the criteria for recognition have been met, you may record a receivable and record income, even if the credit has not yet been received.

In addition, the Internal Revenue Service (IRS) is paying interest on ERC; therefore, entities should also consider the recognition of interest income following the same guidance used to recognize the credit.

Remember, your application for the credit could be denied even if you believe you have met the program’s conditions.

International Accounting Standards (IAS) 20, Accounting for Government Grants and Disclosure of Government Assistance (option for use by for-profit entities)

Under the IAS 20 model, government assistance is not recognized until there is a reasonable assurance (such as the probable threshold in U.S. GAAP) that

  1. any conditions attached to the assistance will be met
  2. the assistance will be received.

IAS 20 paragraph 12 states, “government grants shall be recognized in profit or loss on a systematic basis over the periods in which the entity recognizes as expenses the related costs for which the grants are intended to compensate.”

However, if you determine ERC eligibility and meet the recognition threshold under IAS 20 after the period(s) in which the related costs are incurred, the ERC should be recognized in the period in which it becomes receivable. This guidance may be applied in situations that lack specific guidance in U.S. GAAP for government assistance.

Under either reporting method, if you determine that conditions have not been substantially met, but have collected ERC funds, these funds should be reported as a refundable advance (liability).

Subsequent Measurement

The ERC has been met with enhanced scrutiny from the IRS. Entities that applied for and received ERC funds may have subsequently determined they were not eligible. As a result, the IRS announced a voluntary disclosure program (VDP) whereby eligible participants were allowed to return 80% of erroneous ERC received and keep the remaining 20% of the ERC while avoiding interest and penalties.

If your organization subsequently determines that it was ineligible for ERC (through the VDP, IRS investigation or otherwise), you can no longer expect to receive ERC funds held in receivables or you will be expected to repay all or a portion of ERC funds already received.

Based on the specific circumstances, you should consider the impact on accounting for the previously recognized ERC and evaluate whether this represents a misstatement in any previously issued financial statements.

Presentation and Disclosure

Make sure to follow the presentation and disclosure principles under the accounting guidance followed for recognizing the ERC.

  • In U.S. GAAP, netting the income with the expenses incurred to obtain the income is not encouraged because GAAP generally does not permit net presentation in financial statements.
  • In IAS 20, there is an option to either show the income as “Other Income” or to net the income against the expenses.

Under either method, your organization must consider whether the presentation would be misleading to the financial statement user, and adequate disclosure should be made about the amount and nature of the credits received. You should also be sure that specific disclosures required by the standard chosen are included in the financial statements.

Additionally, organizations should include the disclosures required by ASU 2021-10. The amendments in ASU 2021-10 require certain disclosures about transactions with governments that are accounted for by applying grant or contribution accounting models by analogy to other accounting guidance. Disclosure requirements for these entities include:

  • Information about the nature of the transactions and the related accounting policy used to account for the transactions.
  • The line items on the balance sheet and income statement that are affected by the transactions, and the amounts applicable to each financial statement line item.
  • Significant terms and conditions of the transactions, including commitments and contingencies.

Eide Bailly’s audit team can help you make sense of how to account for ERC revenue to ensure compliance.

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