With unemployment still at relatively high levels and business owners continuing to be hesitant to increase payroll costs, Congress intelligently chose to retroactively extend the work opportunity tax credit (WOTC). C corporation taxpayers, equity owners, and even not-for-profit entities can take advantage of these valuable tax incentives that can generate from $1,200 to $9,600 annually in tax credits for each qualified employee. These credits may give employers the necessary incentive to hire more employees domestically.

Before the recent enactment of the American Taxpayer Relief Act of 2012 (ATRA), P.L. 112-240, the WOTC credit had been mothballed for all but certain qualifying veterans since Dec. 31, 2011. Part of ATRA retroactively extends the WOTC for qualified employees who begin work for an employer through Dec. 31, 2013.

Employers who had participated in the WOTC program before 2012 were accustomed to living with the program’s periodic termination and reinstatement, and, as a result, many continued to submit 2012 WOTC applications for their employees hoping that Congress would extend the program. Because the WOTC rules require employers to submit Form 8850, Pre-Screening Notice and Certification for the Work Opportunity Tax Credit, and Form ETA 9061, Individual Characteristics Form, or Form ETA 9062, Conditional Certification, to the appropriate state workforce agency no later than 28 days after the date the qualified employee begins employment, employers who continued to file these forms through 2012 should be able to take advantage of the retroactive reinstatement of the credit for the expanded target groups discussed below.

As of this writing, only those employers that continued to submit their employee WOTC certifications within the 28-day deadline can claim retroactive credits for calendar year 2012. The federal and state workforce agencies have yet to release further guidance on whether they will allow other taxpayers to file 2012 WOTC applications beyond the 28-day deadline.

Another hiring incentive program, the VOW to Hire Heroes Act of 2011 (VOW Act), P.L 112-56, makes the WOTC credit available as a credit against the employer’s Social Security tax for tax-exempt organizations that hire qualified veterans (see below). However, the percentages used to calculate the credit are lower for tax-exempt organizations. The WOTC for veterans hired by a tax-exempt organization under the VOW Act was originally set to expire Dec. 31, 2012, but ATRA extended it through 2013.

Background

The legislative intent behind the WOTC program (Sec. 51) is to spur domestic employment by providing a nonrefundable tax credit to employers that hired and retained a blue-collar workforce and to stimulate economic growth in certain federally designated economically challenged areas.

An employer is eligible for a federal tax credit for hiring individuals that qualify under statutorily defined WOTC target groups. Under Sec. 51(d), these target groups have generally included:

• Families receiving payments under the Temporary Assistance for Needy Families program;
• Qualified veterans, such as those who received food stamps or had military service-connected disabilities;
• Qualified ex-felons;
• Designated community residents (generally those living in economically depressed areas);
• Vocational rehabilitation referrals;
• Qualified summer youth employees;*
• Qualified food stamp recipients;
• Qualified Supplemental Security Income (SSI) recipients; and
• Long-term family assistance recipients.

* Note that some WOTC summer youth programs have been discontinued by state workforce agencies due to budget cuts and low program funding.

The WOTC credit is based on a percentage (25% for employees who worked more than 120 hours but less than 400 hours, 40% for employees who worked 400 or more hours) of qualified first-year wages. A credit is not allowed for employees who work less than 120 hours for the employer. For employers that hire individuals who qualify as “long-term family assistance recipients,” a credit is also allowed for 50% of the employee’s qualified second-year wages.

Under Sec. 51(d)(10), a “long-term family assistance recipient” is defined as any individual who is certified by the designated local agency as:

1. A member of a family receiving assistance under a IV-A program for at least the 18-month period ending on the hiring date;       
2. A member of a family receiving assistance for 18 months beginning after Aug. 5, 1997, and as having a hiring date that is not more than two years after the end of the earliest such 18-month period; or
3. A member of a family that ceased to be eligible for assistance by reason of any limitation imposed by federal or state law on the maximum period the assistance is payable to a family, and as having a hiring date that is not more than two years after the date benefits ended. The term “IV-A program” means any program providing assistance under a state program funded under part A of title IV of the Social Security Act and any successor of such program.

The maximum eligible credits for various employees are as follows:

• Up to $4,000 ($10,000 maximum wages × 40%) for the first year and $5,000 ($10,000 maximum wages × 50%) for the second year for a long-term family assistance recipient.
• Up to $1,200 ($3,000 maximum wages × 40%) for summer youth employees.
• Up to $2,400 ($6,000 maximum wages × 40%) for any other targeted group, other than certain veterans, as discussed below.
• Up to $2,400 ($6,000 maximum wages × 40%) for hiring a veteran who has been unemployed for at least four weeks but not more than six months in the year prior to being hired or being a member of a family receiving food stamps.
• Up to $5,600 ($14,000 maximum wages × 40%) for hiring a veteran who has been unemployed for more than six months in the year prior to being hired.
• Up to $9,600 ($24,000 maximum wages × 40%) for hiring a veteran with a service-connected disability and who has been unemployed for more than six months in the year prior to being hired.
• Up to $4,800 ($12,000 maximum wages × 40%) for hiring a veteran with a service-connected disability within one year after discharge or release from active duty.

Not-for-profit entities can also claim WOTC credits

Under Secs. 52(c) and 3111(e), tax-exempt employers can use WOTC credits to offset payroll taxes. The credit is allowed against the employer’s old age, survivor, and disability insurance (OASDI or Social Security—generally 6.2%) tax that the exempt employer would be required to pay for the tax year, but it cannot exceed the OASDI tax payable on all the tax-exempt employees during the applicable employment year. In addition, the credit is modified as follows for tax-exempt employers:

• The credit percentage of qualifying first-year wages is 26% (instead of 40%).
• The credit percentage of qualifying wages is 16.25% (instead of 25%) for a qualified veteran who has completed at least 120, but less than 400, hours of service for the employer.
• The tax-exempt employer can only account for the wages paid to a qualified veteran for services related specifically to the furtherance of the “activities related to the purposes or function constituting the basis of the organization’s exemption.”

VOW Act program FAQs are available on the IRS website.

WOTC documentation process

As discussed above, an employer must complete and file Form 8850 and Form ETA 9061 or 9062 no later than 28 days after the date the qualified employee begins employment. These forms are available at the U.S. Department of Labor’s website.

Once documented, the employer claims the WOTC credit on Form 5884, Work Opportunity Credit.

Empowerment zone credits

ATRA also extended the designation period under Sec. 1391 for Round I empowerment zones through Dec. 31, 2013. This means that eligible employers will continue to be able to claim an empowerment zone employment credit of up to $3,000 per employee for hiring and retaining employees living and working in an eligible empowerment zone (Sec. 1396) through 2013. Note that employers cannot claim an empowerment zone employment credit and a work opportunity credit for the same wages.

AMT/tax credit

The WOTC is a general business credit. Generally, a taxpayer combines these credits with other general business credits on Form 3800, General Business Credit, and the total credits cannot exceed the excess of a taxpayer’s net income tax over the greater of (1) the taxpayer’s tentative minimum tax for the tax year or (2) 25% of so much of the taxpayer’s net regular tax liability that exceeds $25,000. However, the WOTC is a “specified credit” under Sec. 38(c)(4) and can be used to offset 100% of the AMT.

Conclusion

The extension of these programs should encourage businesses of all sizes, and in virtually any industry, to begin claiming these valuable credits. A large number of businesses and business owners will find that they are eligible for the credits and that they are relatively easy to claim. Therefore, employers desiring to hire new employees and who wish to take advantage of the valuable WOTC benefits can use this article and the links below to become more familiar with the rules.

Additional resources

Following are a few websites and articles that focus on the WOTC and also provide some numeric examples:

• Christian, “Hire a Hero, Enjoy the Benefits,” Journal of Accountancy (May 2012);
• IRS, “Expanded Work Opportunity Tax Credit Available for Hiring Qualified Veterans”;
• U.S. Department of Labor, “Work Opportunity Tax Credit”;
• U.S. Department of Housing and Urban Development, “Introduction to the RC/EZ Initiative.”