Defending Against IRS Allegations of ERC Fraud: What Business Owners in New Jersey Need to Know

Facing allegations of Employee Retention Credit (ERC) fraud presents substantial risks for business owners in New Jersey. Combating ERC fraud is a top priority for the Internal Revenue Service (IRS), and business owners accused of ERC fraud can face both civil and criminal penalties. As a result, for those accused of ERC fraud, presenting an effective defense needs to take precedence, and this starts with engaging an experienced New Jersey tax attorney to deal with the IRS.

What do you need to know (and what do you need to do) if the IRS is looking into your business’s employee retention credits? Here are some key insights from New Jersey tax attorney Kevin E. Thorn, Managing Partner of Thorn Law Group:

It Matters How and When Your Business Claimed the ERC

One of the first things to know is that it matters how and when your business claimed the ERC. We’ll cover the “how” first.

Almost immediately after the federal government announced the ERC, promoters and scam artists began targeting taxpayers with filing schemes. These promoters and scam artists would offer to help business owners claim the ERC, and would offer to deal with the IRS for them while they focused on keeping their businesses afloat during the pandemic.

But, what these promoters and scam artists did not tell business owners was that they were not assessing businesses’ eligibility for the credit. All they cared about was collecting a fee, so they would help businesses file regardless of whether they qualified. As a result, many businesses that didn’t qualify ended up filing with the “help” of these third parties.

Even when business owners (and other taxpayers) fall for fraudulent filing schemes, they are still liable to pay what they owe to the IRS. As a result, business owners who fell for ERC schemes cannot keep credits that they weren’t due. For those who haven’t yet received their ERC refunds, filing for withdrawal may be an option—as discussed in detail below—but even this is not without risks.

Now, let’s talk about the “when.” The ERC was available to eligible businesses during the 2020 and 2021 tax years. It remains available retroactively, although the IRS imposed a moratorium on new claims in September 2023. Until the moratorium, eligible businesses could claim the ERC for either or both tax years. However, the eligibility criteria and calculation methods varied from 2020 to 2021—and even varied within both of these tax years in certain respects. As a result, when claiming the ERC, business owners in New Jersey needed to be very careful to ensure that they met all pertinent requirements.

The IRS is Targeting All Forms of ERC Fraud

Due to the extraordinary volume of fraud perpetrated under the ERC program, the IRS and its Criminal Investigation Division (IRS CI) are targeting all forms of ERC fraud. Even business owners who relied on promoters and scam artists can face fraud allegations, and while these allegations may not warrant criminal prosecution, they can still expose unsuspecting business owners to liability for back taxes, interest, and penalties.

Some examples of ERC-related allegations that can present substantial risks for business owners in New Jersey include:

• Improperly Claiming the ERC – Businesses can face liability for improperly claiming the ERC for any quarter in 2020 or 2021. The eligibility criteria changed multiple times during these years, and while the IRS has acknowledged that this made compliance challenging, the IRS has also made clear that confusion is not an excuse for non-compliance.
• Improperly Calculating the ERC – Along with improperly claiming the ERC, businesses can also face IRS scrutiny for improperly calculating their credits. Here, too, this applies individually to each quarter during 2020 and 2021. Just like improperly claiming the ERC altogether, claiming excessive credits can lead to civil or criminal enforcement depending on the circumstances involved.
• Failing to Address ERC-Related Mistakes – Once business owners discover that they have improperly claimed or calculated the ERC (or even that they may have improperly claimed or calculated the ERC), they have a duty to correct their mistakes. Especially now that the IRS has publicized its concerns and launched its withdrawal program, business owners’ failure to proactively address potential fraud is likely to raise red flags in the event of an audit or investigation.

Again, these are just examples. The IRS and IRS CI are targeting all forms of ERC-related fraud—including both intentional and unintentional fraudulent claims. Regardless of the circumstances involved, if your business has claimed an employee retention credit to which it is not legally entitled, you will need to take action to mitigate your risk.

While Withdrawal is an Option for Some Businesses, Withdrawing an ERC Claim Can Be Risky

On October 19, 2023, the IRS announced an ERC claim withdrawal program for eligible businesses. For business owners who inadvertently submitted invalid claims—including those who worked with promoters and other third parties—filing for withdrawal may be their best option for moving forward.

But, while filing for withdrawal can protect eligible businesses from liability for back taxes, interest and penalties, filing for withdrawal is not without risks. As the IRS makes clear, “withdrawing a fraudulent claim will not exempt [you] from potential criminal investigation and prosecution.” So, before filing for withdrawal, not only must business owners assess their eligibility under the ERC claim withdrawal program, but they must also assess the risks involved as well.

While the ERC claim withdrawal program is intended primarily as a form of relief for business owners who fell victim to fraudulent filing schemes, all business owners can file if they meet the following criteria:

• They claimed the ERC on an adjusted employment return (Forms 941-X, 943-X, 944-X, CT-1X).
• They filed the adjusted employment return only to claim the ERC.
• They are seeking to withdraw the entire amount of their ERC claim.
• The IRS has not paid their claim, or if the IRS has paid their claim, they haven't cashed or deposited their refund check.

The IRS is reviewing businesses’ withdrawal filings and ERC claims, and if a business’s filings suggest an intentional attempt to collect a fraudulent refund, filing could possibly trigger further scrutiny. Even if a fraudulent filing does not result in taxpayer losses, “attempt[ing] in any manner to evade or defeat tax” is a federal crime that carries up to a $100,000 fine ($500,000 for corporations) and up to five years of federal imprisonment under 26 U.S.C. Section 7201.

It is also important to note that while businesses can file for withdrawal even once the IRS initiates an audit, doing so presents risks in this situation as well. If the IRS is already looking into your business’s returns, effectively admitting that you have submitted a fraudulent claim may not be the best approach. Informed decision-making is critical, and again, this starts with engaging an experienced New Jersey tax attorney to advise you.

There Are Several Ways to Fight the IRS’ Allegations of ERC Fraud

When facing scrutiny from the IRS, there are several ways to fight against allegations of ERC fraud. As noted above, the eligibility criteria and calculation methods changed several times over the course of 2020 and 2021, and in some cases asserting a successful defense is a matter of substantiating the business’s filings for each quarter. When the IRS initiates an audit, it only has access to limited information, and submitting additional documentation (carefully and under the advice of counsel) can be an effective means of defense in some cases.

Demonstrating compliance can involve proving eligibility when faced with allegations of ineligibility, substantiating your business’s “qualified wages” figures, and showing that your business qualified for the maximum credit amount under the relevant statute. These defenses—among others—can help businesses (and their owners) avoid liability completely in relevant cases.

What if You Can’t Defend Your Business’ ERC Claim (or Claims)?

What if you can’t avoid liability completely? In other words, what if you cannot fully substantiate and defend your business’s ERC claim (or claims)?

In this scenario, the options that you have available depend on the circumstances at hand. In some cases, working with the IRS to amend your business’ returns and pay what you owe may be the best way to resolve an audit. In others, it may be possible to negotiate a settlement or offer in compromise. In others still, you may need to defend against criminal allegations, and avoiding an indictment may involve working to convince IRS CI that you did not intentionally submit a fraudulent ERC claim.

Request a Confidential Consultation with New Jersey Tax Attorney Kevin E. Thorn

Regardless of the circumstances at hand, successfully defending against allegations of ERC fraud requires experienced legal representation. If you are facing an audit or investigation in New Jersey, we can help. To speak with New Jersey tax attorney Kevin E. Thorn, Managing Partner of Thorn Law Group, in confidence, call 201-842-7696 or tell us how we can reach you online today.