UPDATE: I have changed my mind on this subject; I now think shareholder wages probably DO count but wages paid to most (but not all) relatives DO NOT. Fun times. Click here for the latest.

A common question on the Employee Retention Credit is, do shareholder wages count? For example, wages paid to the owner of an S-corp?

The answer is no they do not, but the answer is not available in a straightforward manner anywhere you look.

IRS Website

The IRS website has, as of the date I am writing this, 94 FAQs relating to the Employee Retention Credit. FAQ #59 talks about wages which do NOT qualify for the ERC. If you look at just that FAQ, it makes it sound like wages paid to related parties (i.e. the shareholder’s spouse or children) do not count; but nothing is said in this FAQ about wages paid to the shareholder themselves.

It’s really quite strange the way the IRS addresses this in FAQ #59. The IRS writes a lot of words, all saying that related-party wages don’t count. Yet the answer to the question of the shareholder’s wages is not given.

This has led some to believe that wages paid to the shareholder do count while wages paid to relatives don’t count. This is wrong; wages paid to the shareholder also do not count.

CARES Act

To find the citation on this, we need to look at the CARES Act, which created the Employee Retention Credit. The CARES Act, at Section 2301(e), says to refer to the rules of Section 51(i)(1) of the Internal Revenue Code for additional restrictions. So, hooray, we get to chase around even more to find the answer.

Section 51(i)(1) relates to the Work Opportunity Credit; specifically to restrictions on what wages count toward the WOC. What the CARES Act is saying is, restrictions on the WOC are in place for the ERC as well. Here is what 51(i)(1) says, with my emphasis in bold.

(i)Certain individuals ineligible

(1)Related individuals No wages shall be taken into account under subsection (a) with respect to an individual who—

(A)bears any of the relationships described in subparagraphs (A) through (G) of section 152(d)(2) to the taxpayer, or, if the taxpayer is a corporation, to an individual who owns, directly or indirectly, more than 50 percent in value of the outstanding stock of the corporation, or, if the taxpayer is an entity other than a corporation, to any individual who owns, directly or indirectly, more than 50 percent of the capital and profits interests in the entity (determined with the application of section 267(c))

Let’s break this down. The first reference here is to Section 152 (d)(2). This is where the IRS’s list of related parties comes from in FAQ #59.

Then comes the part that I put in bold, which says wages paid to anyone who owns more than 50% of the corporation don’t count. This is what is not said in IRS FAQ #59!

Then this citation goes on to talk about Section 267, which refers to ownership attribution.

EXAMPLE: Sonny owns 20% of an S-corp. Mom and Pop own 80% of this S-corp. Sonny works in the business and draws a salary. Can the S-corp claim his wages toward the ERC? On the surface it seems like the answer is yes because he owns less than 50% of the corporation. BUT — Section 267 means the ownership attribution rules apply. Mom and Pop’s 80% ownership stake is “attributed” to Sonny for ERC purposes. Thus he owns, for ERC purposes, more than 50% of the company, and thus his wages don’t count.

Conclusion: Be Careful!

This example right here is why there are times when you will find me sitting in the corner, rocking back and forth muttering to myself. It is why I scream from the hills: taxes are hard! Imagine living in this world every day!

The basic guidance that is out there on the ERC isn’t clear at all. On the surface, it appears that wages paid to relatives don’t count but that wages paid to the shareholders DO count. In fact, just reading FAQ #59 would lead you to this conclusion and it seems exactly like that is what FAQ #59 is saying. That is because, as almost always happens in the tax world, the “guidance” is horribly worded and vague.

The true answer on this is only found by chasing through the source material (which itself is convoluted and horribly worded), and then chasing around the citations and references.

So the conclusion is: wages paid to the shareholder DO NOT count for the ERC.

Oh and, be kind to your tax professional, because we are engaged in this sort of thing every single day!