IRS may offset COVID-19 employment tax credits against a PEO's own tax debts, even for credits tied to client wages

Plain-English summary

This Chief Counsel Advice, issued as an internal email, addresses whether the IRS can apply (offset) refundable COVID-19 employment tax credits, such as the employee retention credit (ERC) and the credit for paid sick and family leave wages, against a Professional Employer Organization's (PEO's) own outstanding tax debts. The credits are claimed on an aggregate Form 941 with a Schedule R breaking the amounts down by client, but they trace back to wages the PEO paid for its client employers' workers. Chief Counsel advised: yes. Under IRC section 6402(a), the IRS may credit any overpayment against any tax liability of the person who made the overpayment, and the IRS decided to offset excess COVID-19 credits against balances on the employer's account. When a client uses a third-party payor (a section 3504 agent, a certified PEO, or a PEO) that files under its own EIN, the third-party payor, not the client, is the taxpayer claiming the credit; the IRS pays or offsets at the payor level and is not a party to the payor-client contract. So if a client cannot get its share because its PEO has federal tax debts, that is a civil matter between the client and the PEO. The advice is informal and binds no one.

Ruling snapshot

• Question: Can the IRS offset refundable COVID-19 employment tax credits against a PEO/third-party payor's own existing tax liabilities, even though the credits relate to client employees' wages?
• Outcome: Advice given (offset is permitted under § 6402(a))
• Key authorities: IRC § 6402(a); § 3134 (ERC); § 3131 (paid sick and family leave credit); § 3504 (agents); § 3511 and § 7705 (certified PEOs); COVID-19 employment-tax-credit FAQs

Full text (IRS public release)

Number:  202319015
Release Date: 5/12/2023

ID:      CCA_2023031609200704                     [Third Party Communication:
UILC:    7803.03-00, 6402.00-00,                  Date of Communication: Month DD, YYYY]
         6402.01-00, 3134.00-00,
         3131.00-00, 3504.00-00,
         3511.00-00, 7705.00-00,
         9999.00-00


From: ---------------------
Sent: Thursday, March 16, 2023 9:20:07 AM
To: ------------------------------------------------------------
Cc: -----------------------------------------------------------------------------------------------
Bcc:
Subject: FW: ERC offsets/PEOs - duplicate copy of advice from


Good morning. I am reissuing this advice that gave you earlier this week solely so that it can
be processed for public release under IRC section 6110; does not have the requisite software
on his computer to submit this for public release. Let me know if you have any questions.

------- – please post this in the Employment Tax Issues bucket, POSTS-105274-23. Thanks.

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From: ------------------------------Sent: Tuesday, March 14, 2023 2:22 PM
To-----------------------------------------------------------------------------------------------------------------
Cc: ---------------------------------------------------------------------------------------------------------------
Subject: ERC offsets/PEOs

Good afternoon,

You asked whether the IRS is authorized to offset certain COVID-19 employment tax
credits (e.g., employee retention credit (ERC)) to any existing tax liabilities of a
Professional Employer Organization (PEO) that pays wages to individuals as part of the
services provided to a client employer pursuant to a service agreement, although the
credits being claimed on the Form 941 Schedule R are attributable to wages paid to a
client employer’s employees.

IRC § 6402(a) grants the IRS discretion to credit any overpayment against “any liability
in respect of an internal revenue tax on the part of the person who made the
overpayment.” With respect to the COVID-19 employment tax credits, the IRS made the
business decision to offset excess refundable COVID-19 employment tax credits to any
existing tax liabilities on the employer's account (see COVID-19-Related Employee
Retention Credits: General Information FAQs, FAQ #12 and COVID-19-Related Tax
Credits: Basic FAQs, FAQ #14). This decision applies to all types of refundable COVID-
19 employment tax credits including the ERC, the credit for paid sick and family leave
wages, and the COBRA credit.

For taxpayers who use third-party payors (TPPs), the process for claiming credits
against employment tax liabilities and liability for erroneously claimed credits differs
depending on the type of TPP used. For taxpayers who use a section 3504 agent,
Certified Professional Employer Organization (CPEO) or PEO that pays wages to
individuals as part of the services provided to a client pursuant to a service agreement,
although the credits being claimed on the Form 941 Schedule R are attributable to
wages paid to a client’s employees, the 3504 agent, the CPEO or PEO is the taxpayer
who is actually claiming the employment tax in an aggregate amount on a single line on
a Form 941 filed under its own EIN. If a refund is ultimately issued to the TPP aggregate
filer, it is then between the TPP aggregate filer and the client to ensure the TPP remits
any portion of the refund it received to the client in the appropriate amount.

The IRS is not a party to those agreements and has no legal obligation to refund any
portion of the TPP filer’s refund to a client identified on Schedule R. In addition, when
the IRS conducts an audit of a Form 941 filed by these types of TPPs, the IRS is
examining the aggregate total amount of the line item credit claimed by the TPP on the
Form 941, using the client by client allocation information provided on Schedule R as
part of the examination. The IRS does not issue refunds or make credit adjustments to
the client entities themselves, but rather any credits/refunds are paid to TPP. Any
credits claimed against the employment taxes reported on the Form 941, reduce the
reported liability of the TPP. Moreover, any adjustment to a credit claimed by a TPP on
the Form 941 will affect the total employment tax liability on the TPP aggregate filer’s
employment tax return. Schedule R only provides a portion of the information (the
allocable share of wages and credits on a client-by-client basis) which was used by the
TPP, in part, to determine its own total tax liability on the return. Since the Schedule R
information is not itself determinative of the TPP’s ultimate tax liability, the IRS would
not be able to determine the appropriate refund to issue to the TPP based solely on the
Schedule R information on a client-by-client basis for any particular employment tax
credit. Rather, until the IRS determines entitlement to the entire line item amount
claimed on the Form 941, no refunds or credits are paid out to the TPP. Please note
that offsetting a TPP’s outstanding tax liability is, in fact, providing the credit to the TPP
by way of a reduction in the TPP’s liability.

Although employers who utilize TPPs (such as PEOs in the fact pattern examples
provided by TAS) may encounter difficulties receiving payment of the refundable tax
credits they may be entitled to if the TPP they have chosen has outstanding federal tax
liabilities, this is a civil matter strictly between the TPP/PEO and the client employer.

Please let me know if you have any follow up questions or would like to discuss further.
Thanks!