2025 Wrap-Up: IRS Far from Resolving ERC Claim Backlog

In March of 2020, in response to the COVID-19 pandemic, Congress enacted the Coronavirus Aid, Relief, and Economic Security (“CARES”) Act.[1] In addition to the PPP program for small businesses, Section 2301 of the CARES Act allowed for a credit of wages paid in the first two quarters of 2020 to provide monetary aid to businesses to keep workers employed during the pandemic.[2] This was the Employee Retention Credit or “ERC.” In December of 2020, Congress extended the ERC to include the last two quarters of 2020 and the first two quarters of 2021 as part of the Taxpayer Certainty and Disaster Tax Relief Act of 2020 (a division of the Consolidated Appropriations Act).[3] Congress later extended the program a third time to cover the last two quarters of 2021. Eligibility for the ERC was based largely on whether the taxpayer’s business was fully or partially suspended by a governmental order, or if the business had a specific decline in gross receipts.[4]

Since the ERC was first introduced, Congress has made several changes to the program, many of which expanded it. At the same time, the IRS has periodically paused the processing of ERC claims and the payment of refunds intending to address improper claims. Unfortunately, the IRS’s actions have also caused significant delays and challenges for businesses that properly qualified for and claimed the ERC.

In July 2025, Congress enacted the One Big Beautiful Bill Act (OBBBA), which includes changes to the ERC program. Section 70605(d) of the bill retroactively prohibits the issuance of ERC refunds for third- and fourth-quarter 2021 claims filed after January 31, 2024. This closed the window for new claims to be filed, but there are still more than 597,000 unprocessed claims in inventory.[5] Following enactment of OBBBA, the IRS released updated FAQs to explain how the agency will apply the new law. The FAQs confirmed that all 2021 Q3 and Q4 claims filed after January 31, 2024, will be disallowed regardless of the substantive merits of the underlying claim.[6] However, employers who received refunds for these late-filed claims on or before July 4, 2025, will not be required to repay them solely because of the statutory change.

The IRS also emphasized that these refunds may still be subject to audits, adjustments for ineligibility, penalties, and other compliance actions. The OBBBA also extended the timeframe for a possible IRS audit or other enforcement efforts, extending the statute of limitations to six years for the first and second quarter of 2021. Taxpayers’ ability to claim a wage deduction on their income tax return for the same period in which an ERC is disallowed is also extended to six years.[7]

The OBBBA broadens the penalties the IRS can impose for improper ERC claims. These changes include a new 20% penalty for an incorrect refund or credit claim—an assessment that previously applied only to income tax matters—as well as new due-diligence requirements for ERC promoters when evaluating a business’s eligibility or calculating the claimed credit. Promoters who fail to meet these requirements may face a $1,000 penalty for each violation. Notably, professional employer organizations are not subject to these due-diligence requirements.

The IRS has made clear that ERC enforcement will remain a top priority. The service has repeatedly warned of increased scrutiny for businesses that relied on expansive or unsupported eligibility theories, claims prepared by third-party promoters who charged contingency fees, and filings that appear inconsistent with the employer’s actual operations or governmental-order impacts.

The Taxpayer Advocate reported that the IRS has issued more than 84,000 letters letters denying ERC claims.[8] Upon receipt of an ERC claim disallowance, taxpayers generally have two potential paths forward: (1) submitting a timely administrative protest and requesting review by the IRS Office of Appeals, and (2) filing a refund suit in U.S. District Court or the Court of Federal Claims.

Taxpayers challenging the disallowance through a protest with the Office of Appeals must file their protest within the timeframe specified in the notice and must clearly set forth the factual and legal basis for the claim. Appeals consideration may resolve the matter without litigation, but it does not suspend the two-year statute of limitations to file a refund suit in federal court. That period begins to run the date the IRS disallows the ERC claim. Given the volume of ERC denials and the IRS’s heightened enforcement posture, businesses should carefully evaluate disallowance notices and act promptly.

Early assessment of documentation, eligibility, and procedural deadlines is critical to preserving both appeal and litigation rights. It is also important that businesses consider their ERC claim and any appeal carefully because a subsequent refund suit in federal court may be limited to the claims submitted to the IRS. As the IRS continues to deny ERC claims, an increasing number of refund lawsuits are being filed in district courts and the Court of Federal Claims.

While some cases—mainly those involving the gross receipts test—settle early, most are still in the initial discovery phase. We anticipate that some ERC cases will proceed to trial in 2026. It remains to be seen whether this will encourage the IRS to accelerate processing times for existing claims.