The Work Opportunity Tax Credit (WOTC) Explained
- Find out if the Work Opportunity Tax Credit (WOTC) could potentially help your business.
- Learn about employee eligibility.
- Find out how to determine the credit.
- Learn about the certification process.
- Discover other issues involving this credit.
The Covid-19 pandemic has had a significant impact on the labor market. Mandated government lockdowns and workers’ and customers’ fears of contracting the illness resulted in businesses closing, temporarily cutting back and laying off, or furloughing millions of employees. In April 2020, the unemployment rate reached 14.8%, the highest recorded rate since 1948.
While by September 2021, the unemployment rate had declined to 4.8%, millions of job openings went unfilled. Why? Because former employees were reluctant to return to work. Some businesses still weren’t operating at full capacity because they weren’t able to find enough employees.
If you are a business owner and are hiring new workers, you may be able to claim a Work Opportunity Tax Credit (WOTC) if you hire someone from one of several other categories of eligible employees, as explained below, or an individual who has been unemployed for 27 consecutive weeks or more. This credit is an income tax credit, unlike some of the pandemic-related credits applied to employment taxes of the business. Fiducial has more information below!
The WOTC explained
The WOTC is typically worth up to $2,400 for each eligible employee. However, it can be worth up to $9,600 for certain veterans and up to $9,000 for “long-term family assistance recipients.” The credit, extended by Congress in late 2020 legislation, is available for eligible employees who begin working for the new employer after 2020 and before 2026.
Eligibility
Generally, an employer is eligible for the WOTC only when paying qualified wages to members of any of the targeted groups listed below. For more details on the required qualifications for each group, see the instructions for IRS Form 8850 (Pre-Screening Notice and Certification Request for the Work Opportunity Credit).
(1) Qualified IV-A recipients – generally, members of a family that is receiving assistance under the Temporary Assistance for Needy Families (TANF) program;
(2) Qualified veterans;
(3) Qualified ex-felons – generally, those hired within one year of release from prison;
(4) Designated community residents – those who aged 18 through 39 and living in an empowerment zone or a rural renewal area*;
(5) Vocational rehabilitation referrals – handicapped individuals referred by rehabilitation agencies;
(6) Qualified summer youth employees – those who are 16 or 17 years old, have never previously worked for the employer, and reside in an empowerment zone*;
(7) Qualified members of families who participate in the Supplemental Nutritional Assistance Program (SNAP);
(8) Qualified Supplemental Security Income recipients;
(9) Qualified long-term family assistance recipients – those receiving TANF assistance payments; and
(10) Qualified long-term-unemployed individuals. The period of unemployment cannot be less than 27 consecutive weeks. It must also include a period (which may be less than 27 consecutive weeks) in which the individual received unemployment compensation under state or federal law.
* You will find both empowerment zones and rural renewal areas listed in the IRS Form 8850 instructions. The empowerment zone designations expired at the end of 2020. However, the legislation that extended the WOTC through 2025 also provides for an extension of the designations to the end of 2025.
Qualifying
For an employer to qualify for the credit, the employee must work a minimum of 120 hours. They must also receive at least 50% of his or her wages from that employer for working in the employer’s trade or business. Relatives of the employer and employees who have previously worked for the employer do not qualify for the credit.
How to calculate the credit
For an employee from most of the targeted groups, the credit is based upon the first $6,000 of first-year wages. If an employee completes at least 120 hours but less than 400 hours of service for the employer, the credit equals those wages multiplied by 25%. If the employee completes 400 or more hours of service, the credit equals the wages multiplied by 40%.
Thus, the maximum credit per employee in one of these groups would be $2,400 (.4 x $6,000). For summer youth employees, the IRS takes only the first $3,000 of the first-year wages into account. This results in a maximum per-employee credit of $1,200 (.4 x $3,000)
Note the exceptions
Two categories allow for higher first-year wages to be eligible when calculating the credit:
- Long-term family assistance recipients – For this category, the first-year wage taken into account for the credit increases to $10,000. This allows a maximum credit of $4,000 (.4 x $10,000). In addition, this group qualifies for a credit in the second year (immediately following the first year); this is equal to 50% of second-year wages up to $10,000.
- Veterans – The three possible qualifications of veterans (family received SNAP benefits, unemployed, or service-related disability) have applicable first-year wages for the credit of up to $12,000, up to $14,000 and up to $24,000. Thus, the maximum credit for this group is between $4,800 (.4 x $12,000) and $9,600 (.4 x $24,000), depending upon the qualification. The unemployment-based qualification for veterans without a service-related disability is either that the veteran was:
o (1) Unemployed for a period or periods totaling at least 4 weeks (whether or not consecutive) but less than 6 months in the 1-year period ending on the hiring date, or
o (2) Unemployed for a period or periods totaling at least 6 months (whether or not consecutive) in the 1-year period ending on the hiring date.
Certification Process
To be eligible to claim the WOTC, the employer must file Form 8850 with its state workforce agency (SWA). They must do this no later than 28 days after an eligible employee begins work. Due to the COVID-19 emergency, the IRS has extended many filing due dates, including if the 28th calendar day falls on or after January 1, 2021, and before October 9, 2021. In that case, employers may submit Form 8850 to the SWA by November 8, 2021.
Once the worker is state-certified as a member of a targeted group and has worked sufficient hours, the employer can claim the WOTC on Form 5884 (Work Opportunity Credit).
Other Issues
- No Multiple Benefits – No deduction is allowed for the portion of wages equal to the WOTC for that tax year. Also, the same wages used to compute the WOTC can’t be used by the employer when claiming the coronavirus-related Employee Retention Credit, the credit for qualified sick and family leave, and the disaster-related employee retention credit.
- Unused Current-Year Credit – The credit is included in the general business credit. If an employer’s credit is greater than its income-tax liability (including the alternative minimum tax), the IRS considers excess credit as an unused credit available for use on another year’s return. The unused credit is first carried back one year (generally by amending the return for the carryback year). Then, it carries forward until any remaining credit is used up (but for no more than 20 years).
Are you expanding your workforce as the pandemic winds down? Be sure to keep in mind that you may be eligible to claim the WOTC for eligible employees from the targeted tax groups noted above. However, in some circumstances, electing not to claim the WOTC may be more valuable tax-wise for you.
Need additional information related to the WOTC? Want to see if it would be beneficial in your particular tax circumstances? Call Fiducial at 1-866-FIDUCIAL or make an appointment at one of our office locations to discuss your situation.
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For more small business COVID-19 resources, visit Fiducial’s Coronavirus Update Center to find information on SBA loans, tax updates, the Paycheck Protection Program, paid sick and family leave.
