Can Self-Employed Individuals Receive the Employee Retention Credit?

The Employee Retention Credit (ERC) has provided substantial tax relief to companies during COVID-19. With billions awarded, many self-employed taxpayers wonder if they also qualify for these funds. Unfortunately, the answer is generally no. Here’s an overview of ERC eligibility for the self-employed.

ERC Overview

First, let’s review what the ERC is. Key facts:

  • Provides up to $7,000 per employee per quarter in 2021 in the form of a tax credit
  • Applies to qualified wages, health plan expenses, and certain pension costs
  • Companies must show a revenue decline of 20% or more to qualify
  • The credit offsets payroll tax liabilities and is refundable

Originally just for employers, it expanded in 2021 to include recovery startup businesses. But requirements still excluded most self-employed.

Key Reasons for Self-Employed Exclusion

There are a few main reasons the self-employed largely do not qualify for ERC funds:

ERC Based on Payroll Taxes

The ERC is taken against payroll taxes imposed on employers for employees. Since the self-employed do not pay payroll taxes on their own earnings, there is no liability against which to apply the credit.

No W-2 Wages to Themselves

The formula for the ERC depends on W-2 wages paid to employees. The self-employed do not pay themselves W-2 wages that would qualify under the ERC formulas. Their income is self-employment income.

Lack of Other Employees

Some self-employed businesses hire employees and issue W-2s. However many solo entrepreneurs do not have W-2 employees, which is a prerequisite to claiming the credit.

Limited Exceptions

There are some limited cases where elements of the ERC may benefit the self-employed, such as:

  • Having at least one W-2 employee to generate credits that lower payroll tax bills
  • Electing to pay themselves W-2 wages specifically to create ERC-qualified wages
  • Receiving health insurance through a spouse’s company plan that participates in the credit

But for most solo entrepreneurs, the ERC will not provide any tax relief.

Alternative COVID Relief Programs

While missing out on the ERC, the self-employed were eligible for other programs such as PPP loans, Shuttered Venue Operator Grants, the Employee Retention Tax Credit, and tax credits for sick leave and family leave. Consult a tax advisor to ensure you have accessed all other available COVID relief.

Conclusion

Unfortunately, the valuable ERC does not extend to most self-employed taxpayers due to the mechanics of the credit and how self-employment taxes work. However other programs have provided substantial aid to solo entrepreneurs impacted by the pandemic. Discuss options with your CPA.

Self-Employment Tax Impact

To understand why the ERC does not apply to the self-employed, it helps to know how the self-employment tax works:

  • Self-employment income is subject to a 15.3% self-employment tax rate
  • This covers both the employer and employee share of Social Security and Medicare taxes
  • It is calculated based on net self-employment income on Schedule C, Schedule F, etc.
  • The tax is reported and paid annually on Form 1040.

With no separate employer share of payroll taxes like with employees, there is no mechanism for the self-employed to benefit from the ERC payroll tax credit.

Strategies to Qualify

Some creative strategies self-employed individuals could consider to qualify for ERC include:

  • Hiring W-2 employees to generate credits
  • Electing to treat some self-employment income as W-2 wages
  • Shifting S-Corp ownership to create W-2 wages
  • Having a spouse join a company health plan that claims ERC

However, these tactics may not pass IRS scrutiny or prove cost-effective relative to potential credit amounts. Consult a tax advisor on implications.

Qualifying Expenses

Since the self-employed cannot claim ERC credits directly, they should look to other COVID relief provisions that do apply:

  • Self-employed sick leave and family leave tax credits
  • PPP loan eligibility with favorable tax treatment
  • Employee retention tax credit for employers
  • Shuttered venue operator grants
  • Other tax deductions for COVID expenses

Review all options with a tax professional to maximize COVID financial relief.

Summary

The ERC does not extend to self-employed individuals in most situations. However, claiming other available tax benefits can help offset the challenges COVID-19 created for solo entrepreneurs. Get professional guidance to leverage the relief programs you qualify for.

Frequently Asked Questions

Are self-employed people eligible for the ERC?

In most cases no, since the self-employed do not pay payroll taxes on their own earnings and have no W-2 wages.

What are the main reasons the self-employed cannot claim ERC?

The ERC applies against employer payroll taxes and is based on W-2 wages, neither of which apply to most self-employed individuals.

Can a self-employed person with employees claim ERC?

Yes, having W-2 employees opens up ERC eligibility. But the owners themselves still cannot be included.

Can you restructure as an S-Corp to claim ERC?

Electing S-Corp status to pay W-2 wages may allow some self-employed individuals to qualify for the ERC.

Do partners in a partnership qualify for ERC?

Generally no, partners cannot claim ERC for themselves. Only W-2 employees of the partnership may qualify.

Are there other COVID relief options for the self-employed?

Yes, programs like PPP loans, sick leave credits, and employee retention tax credits are available for self-employed individuals.

What expenses qualify a self-employed person for tax relief?

Qualified sick leave, family leave, PPP loan uses, health insurance, and COVID-related purchases may produce tax benefits.

Should I hire an employee just to get ERC?

This is not recommended, as the cost is unlikely to outweigh the credit benefit for most self-employed businesses.

Who can I consult about my options?

Speaking with a trusted CPA or tax attorney can help review COVID relief programs you may qualify for.

Where can I get more information?

Check the IRS website and speak with tax professionals to learn more about both ERC and other programs benefiting self-employed taxpayers.

Resources on ERC Eligibility for the Self-Employed

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