How the Employee Retention Tax Credit Became a Magnet for Fraud

In early February, federal prosecutors in Utah charged Zachary Bassett and Mason Warr with defrauding the US government of millions of dollars. The accounting firm they operated had submitted more than 1,000 fraudulent tax forms to the Internal Revenue Service on behalf of businesses trying to claim pandemic-era stimulus funds, prosecutors said.

COS Accounting and Tax closed later that month, leaving businesses and taxpayers who had paid the company to help them claim federal money trying to figure out what happened and why they were suddenly receiving IRS audit opinion.

At the start of the pandemic in 2020, when large swaths of the economy were in lockdown, Washington rolled out various programs to help keep businesses and their workers afloat. Among them was the Employee Retention Credit, a tax benefit that was created as part of the original $2 trillion pandemic relief legislation. The program offered companies thousands of dollars per employee if they could show that Covid-19 was hurting their bottom line and they continued to pay workers.

The money was intended to be a lifeline for struggling businesses. Instead, it’s become a magnet for fraud, creating a cottage industry of companies posing as tax credit specialists who can help customers – even those who aren’t actually eligible for the money. – reap huge refunds from the IRS Although the public health emergency has passed, taxpayers can continue to claim the tax credit through 2025. This has fueled a rush for cash and the proliferation of financial service providers, who often charge high upfront fees or take cuts of around 25% of any tax refund.

The tax credit has become so popular that it is proving to be much more expensive than expected. In 2021, after Congress expanded eligibility for the credit, the Congressional Budget Office projected it would cost the federal government about $85 billion over a decade, up from an earlier estimate of $55 billion. However, even that turned out to be an understatement: the IRS said it had already paid out $152 billion in refunds associated with the tax credit since it became available and was in arrears. approximately 800,000 requests it was trying to process.

The IRS does not yet know how many approved refunds were based on fraudulent claims. But it has begun to step up its efforts to weed out scams and focus more scrutiny on filings from companies that seem suspicious.

On Thursday, the IRS warned businesses to be on the lookout for “scams” related to the tax credit, saying it was fueling a flood of “invalid” claims.

“These are Johnny-come-latelies, coming forward and pushing this product, pushing this business in an unethical way,” said Douglas O’Donnell, deputy commissioner for services and enforcement at the IRS, in an interview. . “It lures businesses into a trap, that they then claim credit to which they are not entitled.”

Mr O’Donnell warned that those who received refunds but were not eligible for the money would have to repay the funds with penalties. He said the IRS is aggressively auditing taxpayers who collect refunds and the businesses that process them. He estimated that hundreds of thousands of tax credit “mills” have sprung up across the country in the past three years.

“They seem to be everywhere,” Mr O’Donnell said.

The tax credits are less well known than the more popular Paycheck Protection Program, which offered forgivable loans to cover payroll, rent and utility expenses during the pandemic. But for eligible taxpayers, they have the potential to provide a substantial windfall in the form of a tax refund. Businesses, including nonprofits and churches, can claim up to $26,000 for each employee on the payroll if they can prove that their operations were fully or partially suspended in 2020 or part of 2021, and report a significant drop in their income during this period.

However, the fine print that determines whether a business is eligible is complicated, and the IRS is concerned that businesses that process high-volume credit applications are overlooking important restrictions in order to reap bigger refunds and commissions.

For example, the IRS is concerned that taxpayers are dipping into multiple pots of relief money and says many tax preparation companies don’t tell clients they can’t claim the tax credit. on wages if they also received money to cover payroll costs through the Paycheck Protection Program.

The inflated cost of the program exacerbates America’s precarious fiscal situation. The White House and Republican lawmakers are locked in a tug of war to raise the debt ceiling, which caps the amount of money the United States can borrow. The Treasury Department estimated that the government could run out of cash as early as June 1 and resorted to accounting maneuvers to be able to continue paying its bills.

Last month, Treasury officials pointed to employee retention credit payments as a reason federal tax revenue was tighter than expected.

Lawmakers have debated recovering some unused pandemic relief funds as part of the debt limit and budget negotiations, but the tax credit does not appear to be part of those discussions. Sen. Kirsten Gillibrand, Democrat of New York, sent a letter to the IRS this month urging it to clear its backlog and issue refunds more quickly.

More tax credit claims are coming in every day as companies continue to bombard social media sites and TV and radio stations with ads touting the ease of getting federal money. In some cases, companies are cold-soliciting potential customers.

Since last October, about 9,000 ads promoting employee retention tax credit claim services have appeared on national cable and broadcast television networks, according to ad tracking firm Vivvix/CMAG.

About three-quarters of them were sponsored by one of the industry’s biggest players, Innovation Refunds, which advertises on networks such as CNBC and says it takes the company just eight minutes. to determine if a candidate is eligible. The company says it has helped companies claim more than $1 billion in payroll tax refunds.

“It’s as simple as that,” says a narrator in one of the commercials. “But it’s only available for a limited time.”

Innovation Refunds, which takes a 25% discount on any refund a client receives from the IRS, uses a network of tax attorneys to review claims and process forms. It has received funding from investment firm Raistone to expand its ability to issue and process more amended tax returns.

“If you don’t have the knowledge, you’re not going to seek this out,” said Mireille Rosselli, spokeswoman for Innovation Refunds. “We’re on a shooting clock.”

Ms. Rosselli added that Innovation Refunds has a rigorous application vetting system: “Our process is designed to deliver what Congress intends to do – ensure that only eligible companies apply for and receive incentives and credits. government”.

Companies offering employee retention tax credit services use different models. Some don’t have chartered accountants on staff and instead rely on lawyers, offshore workers or software to crunch the numbers. Others rely on customers to “certify” that they are eligible for tax credits, leaving those customers more liable in the event of an audit.

Brian Anderson, who has a background in software, co-founded ERTC Express in 2021 after learning that traditional accountants didn’t seem to have time to help their clients through the tedious process of applying for credits. His company, which has offices in Atlanta and Tampa, has a team of in-house accountants and a more rigorous month-long process to determine if a client is eligible to apply. Customers can either pay an upfront fee or a percentage of their eventual refund.

“The answer to the question, are you eligible, is complex,” Mr Anderson said, estimating that around a third of his potential customers are ineligible. “If you’re not eligible, it’s a lot of work for nothing.”

The IRS recognizes that applying for the tax credit is a complicated process, made more difficult by the fact that it must be done by amending previous tax returns using paper forms. The agency warns that companies that claim the process can be completed quickly and easily are likely to mislead their customers.

Traditional accountants have watched with concern the surge in claims for employee retention tax credits. Many have since been hired to help taxpayers who suddenly find themselves under the control of the IRS.

“These guys prey on people promising the moon,” said Mark C. Wagner, an accountant based near Dallas. “If your sales do not meet the credit criteria, then you must repay the credit, plus penalties, plus interest.”

A lawyer for Mr. Bassett, who pleaded not guilty, said COS Accounting and Tax takes its responsibilities to comply with IRS requirements seriously when claiming benefits for its clients. Lawyer Kathryn Nester explained that credit regulations and guidelines “were often not clear and were frequently revised”.

This was of little comfort to the company’s customers who were looking for answers about their applications or who had to deal with audits.

Wanchai Chab worked for a Utah-based company selling pest control supplies in California in 2020. Because he had set up a limited liability company, he was told he could claim the employee retention tax credit through COS Accounting and Tax. He paid $500 up front and was told he would get a $3,500 credit.

But instead of getting a big refund, Mr Chab, 25, received an audit notice earlier this year and ended up having to pay extra tax.

Fortunately for Mr. Chab, he was not penalized by the IRS because he never received the credit.

“The auditor said she understood what was going on and she knew a lot of people who got scammed like this,” Mr Chab said.

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