What Does The IRS Think Of ERC Based On Supply Chain Disruptions?

Cassidy Jakovickas

May 15, 2024

The IRS recently scrutinized questionable supply chain-based justifications in its Generic Legal Advice Memorandum (AM 2023-005). Many ERC shysters have rushed well-meaning clients to submit fraudulent ERC claims that the IRS is now examining more closely. We decided to summarize the scenarios described in the recent memorandum and the IRS’ conclusions regarding each one.

Scenario 1: Taxpayer Had Inventory Of Supplies On Hand

In this scenario, the employer had critical goods already on hand, which allowed the employer to maintain operations despite supply chain disruptions. The IRS concluded that this employer does not qualify for the ERC because it could not produce a government order that applied to the supplier, which is an essential requirement for claiming the ERC based on supply chain disruptions. Furthermore, the employer never experienced a shortage of critical supplies at any point, making it ineligible for the credit, even if disruptions occurred in the supplier’s operations.

Scenario 2: Critical Supplies Restricted Due To Bottleneck Or Disruption

The second scenario involves an employer who experienced a bottleneck at port or other disruption that restricts critical supplies, but who does not have a valid government order. The IRS concluded that the employer lacks sufficient documentation to establish eligibility for the ERC. Since the employer cannot identify any government orders that applied to the port, and even if such orders were considered as the “COVID-19” link, there is no evidence to demonstrate that they were the true cause of the delays in receiving supplies.

Scenario 3: Supply Chain Disruptions Continued Past Government Order’s Period

In this case, an employer successfully identified relevant governmental orders that initially contributed to the supply disruptions. However, even after those orders ceased to apply, the supply disruptions persisted. The IRS concluded that the employer can only qualify for the ERC during the period in which the identified government order is in effect. The ERC is applicable based on the actual time during which the governmental order caused supply disruptions, and it does not extend beyond the period of the order’s application.

Scenario 4: Alternate Supplier Of Goods Available At A Higher Cost

If an employer had to resort to using a different supplier due to the regular supplier’s inability to provide the necessary materials, it may have resulted in a higher cost. As a consequence, the business may have become less profitable than it would have been under normal circumstances. However, because the employer was able to continue operating the business exactly as before, despite experiencing reduced profits due to supply chain disruptions, the IRS concluded that there was no full or partial suspension of the employer’s business.

Scenario 5: Limited Number Of Products Unavailable

This scenario describes a retailer that normally carries a wide range of products but experiences a supply disruption that results in fewer products being stocked and for sale. The IRS concluded that the impact on the retailer’s business was considered too limited to qualify as a partial suspension, despite facing challenges in stocking a limited number of products due to supply chain disruptions. The inability to stock a few items did not result in a significant enough disruption to meet the criteria for a partial suspension of the business operations required to claim the ERC.

Verify Your ERC Now, Not Later

As we explained in “You Got The ERC? Now It’s Time To Protect Yourself,” the IRS is giving particular attention to fraud and subsequent collection related to the ERC. It is in your best interest to ask your accountant or ERC specialist to explain exactly how you qualified for the ERC. If there are any problems with your ERC amounts, you’ll be able to take corrective action in time. If you claimed the ERC on valid grounds, you’ll have peace of mind.