IRS Renews ERC Voluntary Disclosure Program

In a significant move that impacts many businesses, including salons and spas, the Internal Revenue Service (IRS) has announced a temporary reopening of the Employee Retention Credit (ERC) Voluntary Disclosure Program (VDP). The second round of ERC VDP will be available through November 22, 2024.

This round of VDP allows businesses to correct improper ERC payments, allowing taxpayers to retain 15% (previously 20% in VDP round 1) of their ERC while avoiding future audits, penalties, and interest. Additionally, this round of VDP does not require participants to repay any interest that was paid with the ERC refund, which is a substantial benefit, as interest rates generally ranged around 7-8% (sitting for multiple years) during the applicable periods. This round of VDP is for taxpayers returning ERC funds that were paid before Aug. 15, 2024. Taxpayers who have not received their ERC refunds may not avail themselves of this round of VDP, further taxpayers may only apply for 2021 ERC claims.

This development offers a crucial opportunity for salon owners who may have filed incorrect ERC claims to address these issues proactively. Let's dive into what this means for you and your business.

The ERC Compliance Crackdown: What Salon Owners Need to Know

The IRS is significantly intensifying its compliance efforts regarding Employee Retention Credit claims. This escalation in enforcement activities has serious implications for salon owners who may have filed questionable ERC claims. Here's a detailed look at what's happening:

1. New Recapture Letters: Up to 30,000 new letters will be mailed to reverse or recapture potentially more than $1 billion in improper ERC claims. These letters, often referred to as "clawback" notices, inform taxpayers that the IRS is taking action to reverse their previous credit or recapture funds already disbursed. For salon owners, if you received an improper ERC payment, you may soon receive a letter demanding repayment. It's imperative to take these letters seriously, as ignoring them could lead to additional penalties and interest. The current IRS interest rates range from 8%-10%. Possible penalties, include (but are not limited to):

• Failure-to-pay penalties:                   0.5-25%
• Accuracy-related penalties:               20%
• Civil fraud penalties:                         75%
• Failure-to-deposit penalties:             2-15%
• Trust fund recovery penalties:          Equal to total amount of the tax not paid over

2. Expanded Scope: These letters cover Tax Year 2021 and some later-filed Tax Year 2020 claims, potentially representing over $1 billion in claims. Salon owners should note that the maximum ERC increased from $5,000 per employee per year in 2020 to $7,000 per employee for each quarter claimed in 2021. This increase means that 2021 claims are often larger and thus may be subject to even closer scrutiny.

3. Ineligibility for VDP: Recipients of these recapture letters will be ineligible to participate in the VDP for the covered calendar quarter. The implications of this are significant, as taxpayers will lose the opportunity to benefit from the VDP's favorable terms, which include retaining 15% of the ERC funds received and protection from further audits on the quarters subject to the VDP.

Red Flags: Is Your Salon's ERC Claim at Risk?

Given the IRS's intensified scrutiny, it's crucial for salon owners to review their ERC claims for potential red flags, such as:

1. Questionable Eligibility: Ensure your salon genuinely experienced a full or partial suspension of operations or a significant decline in gross receipts. This means you should have concrete evidence of government orders that directly impacted your business operations or financial records showing a substantial drop in revenue during the eligible periods. If your business started during the pandemic, ensure you began your operations during the applicable period (2/15/20 - 12/31/21) and had annualized gross receipts below $1 million.

2. Aggressive Marketing: Preparers should not have approached you promising "free money," nor should they have guaranteed eligibility without a thorough review. Reputable tax professionals should have conducted a detailed analysis of your salon's circumstances before recommending an ERC claim. If the process seemed too easy or the promises too good to be true, it's a red flag.

3. Questionably Large Fees: Preparers charging a percentage of your ERC refund may have inflated your claim to increase their fee. Additionally, many ERC mills charged large upfront fees to assist with the credit. If your preparer used these fee models, it's worth having your claim(s) reviewed by an independent tax professional.

4. Lack of Documentation:  Insufficient records to support your eligibility could be problematic in an audit. You should have detailed records of how COVID-19 impacted your salon operations, including government orders, financial statements, and documentation of any operational changes. If you're missing key pieces of substantiation, it could signal a problem with your claim.

5. Misunderstanding of "Partial Suspension": Merely implementing safety measures likely doesn't qualify as a partial suspension. To meet this criterion, the changes to your business operations must have had more than a nominal impact on your ability to operate. For example, simply requiring masks or installing plexiglass barriers wouldn't qualify you for ERC.

6. Incorrect Wage Calculations: Ensure you correctly excluded wages for the majority owner, their spouse, and relatives and properly offset PPP funds. The rules for calculating qualified wages are complex and changed over time. If you're unsure whether all wages claimed were truly eligible or if you received a PPP loan during the same period, your ERC calculation might be incorrect.

Steps for Salon Owners: Navigating the VDP and Beyond

1. Review Your Claim(s): Carefully reassess your ERC claim's validity. This involves reviewing each quarter you claimed the credit and verifying that you met either the gross receipts or government order tests. Pay special attention to how you determined eligibility and calculated the credit amount. If your business claimed ERC as a Recovery Startup, ensure you began your operations between 2/15/20 - 12/31/21 and had annualized gross receipts below $1 million.

2. Consult a Tax Professional: Seek guidance from a reputable tax professional familiar with ERC and how the pandemic impacted the beauty industry. Look for a professional with experience in both tax law and the salon industry, as they'll be best equipped to understand your specific situation and provide tailored advice. Schedule a free 30-minute consultation online at ERCAuditTaxAttorneys.com.

3. Consider the VDP: If you identify issues with your claim, evaluate whether participating in the VDP is suitable for your salon. Consider the potential benefits of retaining 15% and repaying the other 85%, which would provide protection from future ERC audits on the VDP periods at issue.

4. Be Ready for an ERC Audit: Collect all relevant records related to your ERC claim, including financial statements and operational records from the pandemic period. This should include government orders that affected your business, payroll records, revenue reports, and any correspondence with your ERC preparer. Organizing this documentation will be crucial whether or not you participate in the VDP, as taxpayers who filed for ERC are subject to the risk of a potential ERC audit (unless they withdraw/repay all of their ERC claims)

5. Plan for Potential Repayment: If you decide to participate in the VDP, prepare financially to repay 85% of the ERC received by the VDP deadline. This may involve reviewing your current financial position, exploring financing options if needed, and adjusting your business budget to accommodate the repayment.

6. Don’t Forget the Deadline: The VDP deadline is November 22, 2024. Don't delay in taking action if needed.

Conclusion: Styling a Compliant Future

The second round of the VDP represents both a challenge and an opportunity for salon owners. While confronting potential issues with your ERC claim may be daunting, addressing these concerns proactively can save you from more severe consequences down the line.

Remember, maintaining tax compliance is not just about avoiding penalties—it's about upholding the integrity of your business and ensuring its long-term success in the beauty industry. By proactively addressing potential ERC issues, salon owners can confidently navigate this complex situation and continue to focus on what they do best: providing exceptional beauty services to their clients.

As you navigate these tax challenges, consider this an opportunity to strengthen your business practices and set a foundation for a more resilient and compliant future. Your salon's financial health is just as important as the health and beauty you bring to your clients.

The second round of ERC VDP offers salon owners a crucial opportunity to address potential issues with their claims before the November 22, 2024 deadline. Given the complexities involved, seeking expert guidance is essential to navigate this process effectively and protect your salon's financial future. Visit us online at ERCAuditTaxAttorneys.com to schedule a free 30-minute consultation with our experienced tax attorneys and CPAs. Alternatively, contact our team at Info@AzarvandTaxLaw.com with any questions or to schedule a consultation. Don't let uncertainty about your ERC claim cast a shadow over your salon's future.