The Employee Retention Credit (ERC) was created under the CARES Act to help businesses who have been negatively affected by COVID-19 retain their employees. For those who utilized the ERC, it is important to understand the proper accounting surrounding the credit.
Here’s what you need to know about the ERC.
How to Determine the Proper Accounting Treatment for the ERC
After a company takes the necessary action to apply for and receive the tax credit, an entity must determine the proper accounting treatment. Unfortunately, with the unprecedented nature of the pandemic and the CARES Act relief programs, such as the Payroll Protection Program (PPP), ERC, and Economic Injury Disaster Loan (EIDL), generally accepted accounting principles (GAAP) does not provide a business entity with specific accounting treatment for government grants. Therefore, accountants must rely on other accounting guidance by analogy.
U.S. GAAP and ASC 958-605
Within U.S. GAAP, a common standard used to account for government grants is ASC 958-605. This standard recognizes contributions received by a not-for-profit (NFP) entity. While the scope of this guidance is designed for NFP entities, business entities can follow this guidance for government assistance programs by analogy.
Under this standard, contributions are “recognized when the condition or conditions on which they depend are substantially met” (ASC 958-605-25). The conditions for the ERC include, but are not limited to:
There are specific criteria for this program, so an entity should carefully consider whether they met the qualifications for this credit.
An entity can recognize the Employee Retention Credit income in the period that they determine the conditions have been substantially met, which will require an assessment to determine whether the process for filing for the credit is more than or only an administrative barrier to receiving the credits. Once an entity has determined that the conditions have been met, they can recognize the Employee Retention Credit as income in that period. Entities should remember, however, that that their application for the credit could be denied even if the entity believes they have met the program’s conditions.
International Accounting Standards IAS 20
Another standard that could be followed for a business entity is the International Accounting Standard, IAS 20, Accounting for Government Grants and Disclosure of Government Assistance. This guidance may be applied in situations that lack specific guidance in U.S. GAAP for government assistance.
Be Careful to Comply with the Accounting Standard You Choose
An entity should 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, entities 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. Entities should also be sure that specific disclosures required by the standard they choose to follow are included in the financial statements.