Title: Unanticipated IRS Concession in Employee Retention Credit Lawsuit
In the midst of the COVID-19 pandemic, Congress swiftly passed the Coronavirus Aid, Relief, and Economic Security Act (CARES Act). One of its provisions was the employee retention credit (ERC), which incentivized employers to maintain their workforce. Eligible employers could claim this refundable credit if they either experienced a substantial decline in gross receipts or had their business operations impacted by a government order.
The government order prong of the test has been the subject of much debate due to its ambiguity, particularly concerning the meaning of "partial" suspension. In response to the confusion, the IRS released Notice 2021-20, but many found the notice unfairly restrictive. Consequently, a lawsuit was filed against the government in 2024, claiming that Notice 2021-20 was unlawful under the Administrative Procedure Act (APA).
Employer Qualification for the ERC
To qualify for the ERC, employers must meet the gross receipts test or the government order test. Under the gross receipts test, a substantial decline in gross receipts during an applicable COVID-19 employment tax quarter is required, as compared to a pre-COVID-19 tax quarter. Alternatively, an employer can meet the government order test by demonstrating that their trade or business was partially or fully suspended due to an applicable government order.
The Controversial Partial Suspension Prong
Q&A-11 in IRS Notice 2021-20 presented the most contentious interpretation related to the partial suspension prong of the government order test. The notice suggested that more than a nominal portion of a business must be impacted for an employer to qualify under the partial suspension test. This threshold was defined as either:
- Gross receipts from that portion of the business operations being at least 10% of the total gross receipts, or
- The hours of service performed by employees in that portion of the business accounting for at least 10% of the total number of hours of service performed by all employees in the employer's business.
The Stenson Tamaddon LLC Litigation
In the Stenson Tamaddon LLC litigation, the IRS initially imposed a moratorium on processing ERC claims. The court resolved this issue in a July 2024 opinion, but the remaining claims were not resolved until December 2024, when the company moved for summary judgment. In its response, the government made an important concession regarding the partial suspension test and Notice 2021-20's interpretation of the nominal portion element:
Rather than setting a threshold or a requirement, what the IRS has explained [in Notice 2021-20] is that in its interpretation, partial suspension means something between a full suspension and no suspension. To give taxpayers guidance, the IRS has established a framework that taxpayers can rely on. The 10 percent is not determinative for whether an employer has been partially suspended. Instead, if an employer’s business has been partially suspended by a governmental order that has impacted more than 10 percent of its gross receipts or employee hours, the IRS will deem that employer eligible for the ERC. Effectively, this is a safe harbor. Taxpayers whose gross receipts or hours have been impacted at that level can rely on the IRS not denying their ERC claim on that basis. Properly understood, it isn't an eligibility requirement. Even if a taxpayer cannot demonstrate that at least 10 percent of its business has been impacted, it can still be eligible for the ERC if, under the facts and circumstances, the business was partially suspended.
The government's concession in the Stenson Tamaddon LLC litigation is a significant development for employers with pending ERC claims. Employers are now advised to cite the government's concession if the IRS denies an ERC claim based on the partial suspension test.
[1] While enrichment data does not apply directly to the current article, the most current and specific information on the ERC, including updates from the Stenson Tamaddon LLC litigation, can be found through the IRS website or by contacting the IRS directly.
The Stenson Tamaddon LLC litigation involved a dispute over the partial suspension prong of the ERC government order test, resulting in the IRS conceding that the 10% threshold in IRS Notice 2021-20 is not determinative for partial suspension eligibility. Employers with pending ERC claims affected by this test can now cite this concession to challenge IRS denials.
Following the CARES Act, ERC litigation over the interpretation of Notice 2021-20 escalated, leading to the Stenson Tamaddon LLC lawsuit that challenged the IRS's narrow definition under the Administrative Procedure Act (APA).
