The terrain of Employee Retention Credit (ERC) claims is shifting dramatically, and salon and spa owners must keep pace with these changes. In a pivotal announcement on June 20, 2024, the Internal Revenue Service (IRS) unveiled a major initiative to clamp down on ERC claims. This move sends ripples through the beauty industry, where many businesses have leaned on this credit to weather financial storms.

The IRS's revelation is stark: it plans to reject tens of thousands of high-risk ERC claims, amounting to billions in potentially improper filings. This sweeping action follows an exhaustive review that flagged 10 to 20 percent of claims as extremely high-risk. These will face outright denial. Meanwhile, 60 to 70 percent of claims exhibiting risk factors are slated for deeper scrutiny and analysis.

How Does the IRS’s June 20th Announcement Affect Salon and Spa Owners?

The implications of this crackdown extend far beyond simple claim denials. Taxpayers need to be acutely aware that overclaims can result in retroactive assessments of interest and penalties. The IRS has a range of punitive measures for those found to have improperly received the ERC. These include the Accuracy-Related Penalty (generally 20 percent of the underpayment), the Failure-to-Pay Penalty (which begins to accrue at 0.5 percent (1 percent after receiving a Notice of Intent to Levy) per month up to 25 percent of the unpaid tax). The IRS may also assess taxpayers for an Erroneous Claim for Refund or Credit (generally 20 percent of the excessive amount). In cases where the IRS suspects intentional wrongdoing, it may apply the civil fraud penalty, a staggering 75 percent of the underpayment attributable to fraud. It's worth noting that these penalties can be assessed in combination, potentially leading to significant financial repercussions. Further, both underpayments of tax and the associated penalties are subject to interest, adding to the financial burden.

Adding to the financial burden is the current IRS interest rate for underpayments, which stands at a considerable 8 percent for most taxpayers and can be as high as 10 percent for large corporate underpayments. This interest compounds daily and begins accruing from the return's due date or the overpayment date until the repayment date.

Given the high stakes, salon and spa owners must ensure their ERC claims are meticulously documented and unquestionably legitimate. The potential for substantial penalties and interest makes it clear that the risks of incorrectly claiming ERC far outweigh any short-term financial gains. As the IRS continues its thorough examination of ERC claims, beauty industry professionals must approach the credit cautiously and seek tax guidance to navigate these treacherous waters.

How Can You Prepare?

Not seeking a second opinion on your ERC claim is not just a missed opportunity – it's a risk to your salon's financial health. Tax professionals specializing in ERC claims can offer a fresh perspective, spotting potential issues that might have been overlooked and verifying your claim meets all eligibility requirements, a crucial factor given the IRS's increased scrutiny. Without this additional review, you could be leaving your salon vulnerable to significant financial penalties and interest.

What does getting a second opinion entail? First, you will need to gather all relevant documentation related to your ERC claim, including  (but not limited to) profit and loss statements, payroll tax returns, payroll records, and any documentation supporting your eligibility for the credit, such as government orders (e.g., state-mandated closure or capacity restriction orders). A thorough review will examine the numbers and reasoning behind your claim.

During the review process, expect questions about your business operations during the pandemic. Were you subject to government orders that fully or partially suspended your operations? Did you experience a significant decline in gross receipts? How did you calculate your qualified wages? If you are unsure how to answer these questions, it is pivotal that you pursue a second opinion.

In addition to helping you understand the basis for which your ERC claim was filed, a second opinion can also help strengthen your documentation. In the event of an audit, having robust, well-organized records can make all the difference. A second opinion ensures you have all the necessary supporting evidence and that it's presented in a clear and compelling manner.

Moreover, knowing that your claim has been thoroughly vetted by a tax professional who is well-versed in ERC can alleviate the stress of potential IRS scrutiny. Further, if the tax professional finds an issue with an earlier filing, it allows you time to proactively address and correct the issue often before the IRS discovers it. This proactive approach cannot only save you from potential penalties but also demonstrate your commitment to compliance, which can be beneficial in any future interactions with the IRS.

Engaging a tax professional with a background in ERC claims is essential. There have been countless changes to the credit since it was initially passed under the CARES Act, and ERC is far more complicated than unscrupulous preparers would like you to believe.

At Azarvand Tax Law, we provide these crucial second opinions for salon owners. Our team of experienced tax professionals not only understands the unique challenges faced by the beauty industry but also the complexities of ERC claims. We can review your claim thoroughly, identify any potential issues, and help you take corrective action if necessary, giving you the confidence and security you need. Don't leave the health of your ERC claim to chance. Contact Azarvand Tax Law at (410) 698-4005 or book a free consultation online at ERCAuditTaxAttorneys.com.