Created as part of the Omnibus Budget Reconciliation Act in 1993, federal Empowerment Zones (EZs) and their associated tax credits are designed to improve distressed communities by stimulating economic growth. If your company is eligible for Empowerment Zone tax credits, you can receive a $3,000 credit per qualified employee. These credits make it easier for small and medium businesses to hire and retain employees.
Whether you own or manage a business in an EZ or are thinking about moving operations to an EZ, you can learn more about what these credits are, eligibility requirements and best practices in this guide.
An Empowerment Zone is a community with economic distress, as evidenced by businesses and people leaving the area and high unemployment and poverty rates. Businesses in these communities are eligible for tax credits, grants and other benefits.
Empowerment Zones are not designated by ZIP codes. Instead, they are extremely specific and usually determined block by block. The Department of Housing and Urban Development (HUD) or the Department of Agriculture (USDA) designates EZs, depending on whether they are urban or rural.
There are 40 Empowerment Zones — 30 in urban areas and 10 in rural areas, including parts of:
EZ tax credits allow businesses to reduce their tax liability by claiming credits on their taxes. The main credit associated with Empowerment Zones is the employment tax credit, though businesses may also qualify for low-cost loans, increased deductions for property, grants and capital gains exclusions to further reduce taxes, all of which are meant to improve economic growth and decrease unemployment in the area.
The EZ employment tax credit lets certain employers claim a credit for 20% of the first $15,000 in wages paid to an employee who lives and works in an EZ, or up to $3,000 per employee per year.
Empowerment Zones have been renewed several times since 1993. They are currently active until the end of 2025.
EZ tax credits’ main benefit is savings on federal taxes. Businesses headquartered in EZs or with many qualified employees can save substantially, reducing their tax liability and increasing cash flow.
These credits also contribute to the economic development of underserved areas, helping businesses create and maintain jobs in their communities. Ideally, these credits spark a positive cycle of investment and growth. When companies invest in their local communities, they can experience improved community relations and enhance their image of corporate social responsibility.
To be eligible for the EZ tax credits, your company must have at least one qualified employee who lives and works in a designated Empowerment Zone. As noted, the HUD and the USDA designate these areas based on economic distress.
Employees also must work at least 90 days, with some exceptions, such as if they become disabled. Workers can be full- or part-time, but business owners and their relatives are ineligible. Anyone who owns 5% or more of the company or voting stock is considered an owner.
Even if employees meet these criteria, there are some exceptions to eligibility, such as for workers employed at a golf course, racetrack or liquor store. Employees of farms may or may not qualify based on the market value of the employer’s farm assets.
There is no limit on how many employees a company can claim.
To determine if your business qualifies, look up the address of your place of business and your employees’ addresses using the downloadable address locator tool available from the Department of Labor.
The basic calculation formula for the EZ employment tax credit is:
If you paid all your employees in the EZ $15,000 or more, you can also multiply the number of employees by $3,000, which is the maximum you can claim per employee. For employees paid less than $15,000, add together their wages and multiply the total by 0.2.
For example, if you paid a qualified employee $10,000, you would be able to claim a $2,000 credit.
If you paid a qualified employee $20,000, you would only be able to claim a credit on the first $15,000 for a $3,000 credit.
If the amount of your credits is more than the amount you owe in taxes, you can carry forward the unused portion for future tax years. You must still report the unused credit on your tax return to claim a carryforward credit. The tax code generally allows businesses to carry forward unused credit for up to 20 years, though the rules may vary based on your specific tax situation, so it is best to consult with a tax professional.
You can claim the EZ employment tax credit and other credits as long as you qualify for each one and are not using the same wages or expenses for multiple credits.
Applying for the EZ tax credit is relatively easy. Most businesses fill out Form 8844, Empowerment Zone Employment Credit, and submit it with their annual tax return. However, estates, trusts or cooperatives generally file Form 3800, General Business Credit, unless the source credit can or must be allocated to beneficiaries or patrons.
As with all federal tax returns, the deadline for submitting your claim is April 15 of the year following the calendar year for which you are applying. You may request an extension until October 15.
The best way to prepare to claim tax credits is to keep immaculate records during the year. To maximize credits, you must track exactly how much you pay employees, where they live and work, and what jobs they performed. Keep these documents for seven years in case your business gets audited.
Additionally, you must calculate wages based on the calendar year, even if your business operates on a different fiscal or tax year. Wages may also include amounts paid as educational assistance, even if those amounts are typically excludable from an employee’s gross wages.
Determining which amount to use to calculate your tax credit can be complicated, so it is best to work with an experienced tax professional.
An Empowerment Zone tax credit can lower your company’s tax obligation, but calculating applicable wages can be complicated. An accounting and tax provider can help you document wages and check that you are getting the most from the credits you qualify for.
At Polston Tax Resolution & Accounting, we have been helping businesses prepare their taxes since 2001. We provide bookkeeping and tax services for clients nationwide, and our experts have over 100 years of combined experience. To learn more about EZ and other tax credits, reach out to Polston Tax today!
