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Tax Planning Using the Work Opportunity Tax Credit (WOTC)

The WOTC is an income tax credit that incentivizes employers to hire workers who have historically faced barriers to employment. By temporarily subsidizing up to 40% of these employees’ wages, the federal government hopes that these workers can gain valuable job experience, rejoin the workforce permanently and become contributing taxpayers in their own right.

Which Employees Are Eligible for the WOTC Program?

The WOTC is granted to employers who hire workers belonging to groups that have consistently struggled to gain employment. WOTC target groups include:

• Long-term family assistance recipients
• Qualified recipients of Temporary Assistance for Needy Families (TANF)
• Qualified veterans
• Qualified ex-felons
• Designated community residents
• Vocational rehabilitation referrals
• Summer youth employees
• Supplemental Nutrition Assistance Program (SNAP) benefits (food stamps) recipients
• Supplemental Security Income (SSI) recipients
• Qualified long-term unemployment recipients

Within 28 days of your worker’s start date, you’ll need to file IRS Form 8850 and either Department of Labor Form ETA 9061 or ETA 9062 with the state workforce agency in the state in which the employee will work to obtain certification that they are a member of a WOTC target group and their wages are eligible for the credit program.

Which Wages Qualify for the Program?

All wages subject to Federal Unemployment Tax (FUTA) that are paid to workers belonging to one of the WOTC’s target groups will count toward the WOTC calculation. This typically includes:

• Wages and salaries
• Bonuses
• Tips
• Commissions
• Paid vacation
• Paid sick leave

The following wages should not be included in the WOTC calculation:

• Wages paid to employees who have worked for you in the past
• Wages paid to your children and certain family members
• Wages paid to pay replacement workers during a worker strike
• Wages that were used to qualify the business for the Employee Retention Tax Credit or the Paid Sick and Family Leave Credit

How Is the WOTC Calculated?

The WOTC calculation relies on three factors:

1. The employee’s target group
2. The number of hours the employee worked
3. The length of time the employee is retained

For most WOTC target groups, employers are awarded a credit worth 25% of up to $6,000 of first-year wages for employees who worked between 120 and 400 hours, and 40% of up to $6,000 of first-year wages for employees who worked more than 400 hours. But some target groups are awarded larger or smaller credits. Certain groups of veterans, for example, have higher maximum wages off which the credit is calculated, and long-term TANF recipients will generate credits in their first and second years of employment.

Here is a summary of how the credits are calculated for for-profit entities.

How Do You Claim the Credit?

The WOTC is, by default, an income tax credit and can offset your tax liability dollar-for-dollar. Use Form 5884 to calculate the credit, then use Form 3800 to claim the credit. (The WOTC form aggregates the qualifying first- and second-year wages of your employees, so you may need to create a spreadsheet that calculates qualifying wages, particularly where you have employed individuals from more than one targeted group.)

The credit is nonrefundable, but any excess credit can be carried forward 20 years or carried back one year.

If your business is a nonprofit, you may be able to take the WOTC against payroll taxes.

Has There Been a Work Opportunity Tax Credit Extension?

The WOTC has been on the chopping block many times over the years, but as its expiration date approaches, it continues to get extended. Recently, the WOTC was set to expire at the end of 2020, but the Consolidated Appropriations Act extended the program along with a handful of other federal tax credits.Right now, the WOTC program is set to expire on December 31, 2025, and only time will tell if it gets extended any further. Currently, a handful of lawmakers in Congress have introduced legislation to make the law permanent, hoping that the tax credit can bring more certainty to businesses struggling to find and retain workers.

When Should You Use the WOTC?

If you are already hiring workers from the WOTC’s target groups, it’s a no-brainer to apply for the credit. But if you aren’t already employing workers from these disadvantaged groups, it may be in your best interest to start doing so. If used correctly, this program may help you:

• Promote diversity in your workforce
• Help workers gain new job experiences
• Identify high performers from groups of workers who are statistically overlooked
• Boost local economies
• Play a part in reducing the unemployment rate

And, of course, the WOTC program can also increase your profitability. These tax credits can be substantial, especially since there is no cap on the number of employees who are eligible for the program.

If you want to see exactly how the WOTC program could affect your bottom line, check out Corvee’s tax planning software. Our software has a module for the WOTC and can estimate how the program could reduce your tax liability. Contact us today for a demo.