📋 How to Report ERC/ERTC Refund on Tax Return in 2026
Complete Guide to Employee Retention Credit Tax Reporting & Implications
📋 Table of Contents
🎯 Key Takeaway
The ERC refund itself is NOT taxable income. However, you must reduce your wage expense deduction by the amount of the credit. This reduction increases your taxable income, resulting in additional tax. You may need to file an amended return (Form 1040-X or 1120-X) for the year you originally claimed the wages.
1. What is the ERC/ERTC?
The Employee Retention Credit (ERC), also called the Employee Retention Tax Credit (ERTC), was a refundable payroll tax credit created during the COVID-19 pandemic to encourage businesses to keep employees on payroll.
- 2020: Up to $5,000 per employee for the year
- 2021 Q1-Q3: Up to $7,000 per employee per quarter ($21,000 max)
- Total Maximum: Up to $26,000 per employee (2020 + 2021)
- Refundable: Paid as a refund even if no taxes owed
⚠️ IRS Moratorium Notice
The IRS placed a moratorium on processing new ERC claims in September 2023 due to widespread fraud. If you've received an ERC refund, proper reporting is essential. If you claimed ERC improperly, consider the IRS Voluntary Disclosure Program.
2. Do You Pay Taxes on ERC Refunds?
This is the most common question: Is the ERC refund taxable?
✅ Short Answer
No, the ERC refund itself is not taxable income. However, the IRS requires you to reduce your wage expense deduction by the credit amount. This reduction effectively increases your taxable income, resulting in additional tax liability.
The Tax Impact Explained
- Direct tax: The ERC check is NOT directly taxed as income
- Indirect impact: You must reduce wage deductions, increasing taxable income
- Net effect: You owe tax on the credit amount at your marginal rate
- Example: $100,000 ERC at 24% tax bracket = ~$24,000 additional tax
📐 Why It Works This Way
With ERC: Must reduce wage deduction by ERC amount → Higher taxable income → Higher tax
You can't "double dip" by deducting wages AND receiving a credit for them
3. How to Report ERC on Your Tax Return
Reporting depends on when you received the ERC and your business structure:
Determine the Tax Year
The wage deduction reduction applies to the tax year the wages were paid (2020 or 2021), not the year you received the refund.
Reduce Wage Expense
Reduce your wage expense deduction by the ERC amount for the applicable quarter(s). This is done on your income tax return (Form 1040, 1120, 1120-S, or 1065).
File Amended Return (If Needed)
If you already filed your 2020/2021 return before claiming ERC, you must file an amended return to reduce the wage deduction and pay additional tax.
Report Any Interest
The IRS paid interest on delayed ERC refunds. This interest IS taxable income and must be reported in the year received.
Where to Report by Business Type
| Business Type | Original Return | Amended Return | Where to Reduce Wages |
|---|---|---|---|
| Sole Proprietor | Schedule C (Form 1040) | Form 1040-X | Line 26 (Wages) |
| S Corporation | Form 1120-S | Form 1120-S (amended) | Line 7/8 (Compensation) |
| C Corporation | Form 1120 | Form 1120-X | Line 13 (Salaries) |
| Partnership | Form 1065 | Form 1065 (amended) | Line 9 (Salaries) |
| Tax-Exempt | Form 990 | Form 990 (amended) | Functional expense allocation |
4. Tax Impact Formulas
4.1 Additional Tax Liability
📐 Formula: Additional Tax from ERC
Your marginal rate depends on total taxable income
4.2 Net Benefit from ERC
📐 Formula: Net ERC Benefit
This is what you actually keep after tax impact
4.3 Net Benefit Percentage
📐 Formula: Net Benefit Rate
At 24% tax rate, you keep 76% of ERC
4.4 Combined Federal + State Impact
📐 Formula: Combined Tax Impact
Don't forget state income tax impact
5. ERC Tax Impact Calculator
Calculate how much additional tax you'll owe and your net benefit from the ERC:
6. Filing Amended Returns
Most ERC claims require filing an amended income tax return:
When You Need to Amend
- You filed your 2020/2021 income tax return before receiving ERC
- You claimed the full wage deduction on the original return
- You need to reduce wage expenses and pay additional tax
Forms to File
| Entity Type | Form to File | Deadline |
|---|---|---|
| Individual (Schedule C) | Form 1040-X | 3 years from original due date |
| C Corporation | Form 1120-X | 3 years from original due date |
| S Corporation | Amended Form 1120-S | 3 years from original due date |
| Partnership | Amended Form 1065 + K-1s | 3 years from original due date |
🚨 Important: Interest & Penalties
If your amended return results in additional tax, you may owe interest (currently ~8% annually) and potentially penalties for late payment. The IRS calculates interest from the original due date of the return, not when you received the ERC.
7. Worked Examples
Example 1: S Corporation Owner
📝 Scenario
ABC Corp (S-Corp) received a $75,000 ERC refund for 2021 wages. The sole owner is in the 32% federal bracket and lives in a state with 6% income tax.
Federal Tax = $75,000 × 32% = $24,000
State Tax = $75,000 × 6% = $4,500
Net Benefit = $75,000 − $24,000 − $4,500 = $46,500
Result: The owner keeps $46,500 (62%) of the ERC after taxes. They must file an amended 1120-S and amended personal return.
Example 2: Sole Proprietor with Interest
📝 Scenario
A sole proprietor received $30,000 ERC plus $2,500 interest in 2025 for 2020 wages. They're in the 24% federal bracket with 5% state tax.
Combined Rate = 24% + 5% = 29%
Tax on ERC = $30,000 × 29% = $8,700
Tax on Interest = $2,500 × 29% = $725
Total Tax = $8,700 + $725 = $9,425
Net Benefit = $32,500 − $9,425 = $23,075
Result: Must amend 2020 Form 1040 (Schedule C) and report interest on 2025 return.
8. Important Deadlines & Timeline
| Tax Year | Original Due Date | Amendment Deadline | Status |
|---|---|---|---|
| 2020 | April 15, 2021 | April 15, 2024 | ⚠️ Deadline passed |
| 2021 | April 15, 2022 | April 15, 2025 | ⏳ Approaching |
⚠️ Don't Wait
If you received ERC for 2020 wages, the amendment deadline has passed. Consult a tax professional immediately. For 2021 wages, file your amended return as soon as possible to minimize interest charges.
9. Common Mistakes to Avoid
- ❌ Not filing an amended return: The wage reduction must be reported
- ❌ Reporting ERC as income: The credit itself is not income; reduce wages instead
- ❌ Reducing wrong year: Reduce wages in the year they were paid, not received
- ❌ Forgetting state returns: State returns must also be amended
- ❌ Ignoring interest received: IRS interest on ERC IS taxable income
- ❌ Missing amendment deadline: Limited time to file amendments
- ❌ Not setting aside tax money: You'll owe significant additional tax