What Is IRS Letter 106-C?
Letter 106-C (Claim Partially Disallowed) is the IRS’s legal notice that it has denied part—but not all—of your Employee Retention Credit (ERC) claim for the period shown. The letter lists the reason, the affected quarter(s), and your appeal rights, and starts a two-year window to contest the decision in Appeals or federal court.
Key Statutory Limits on the Employee Retention Credit
- IRC § 2301 (CARES Act, 2020): Limits qualified wages to 50 % of up to $10,000 per employee for all 2020 quarters—maximum $5,000 credit per worker.
- IRC § 3134 (as amended, 2021): Raises the limit to 70 % of up to $10,000 per employee per quarter for Q1–Q3 2021—maximum $7,000 per worker each quarter (with an overall $50,000 cap for recovery start-up businesses).
If your claim exceeds these wage-based ceilings, the IRS will trim the excess via Letter 106-C.
Common Reasons Your ERC Was Partially Disallowed
- Wage Cap Exceeded – Credit calculation surpassed $5,000 (2020) or $7,000 (2021 quarters).
- Large-Employer Rules Ignored – For 2020, >100 full-time employees (FTEs) or for 2021, >500 FTEs, only wages paid to non-working staff qualify.
- Related-Party Wages Included – Pay to majority owners’ relatives (§51(i)(1)) is non-qualifying.
- Double-Dipping – Same wages also used for Paycheck Protection Program (PPP) forgiveness.
- Math Errors / Missing Support – Worksheets or Form 941-X schedules incomplete.
Detailed Example: Correcting an Over-Claimed ERC
Scenario: ABC Corp claimed $120,000 of ERC for Q2 2021 for 3 employees. That implies $40,000 per employee—well above the $7,000 cap.
Correct Calculation:
- Maximum credit per worker: $7,000 × 3 employees = $21,000
- Over-claim: $120,000 − $21,000 = $99,000 removed via Letter 106-C.
Result: ABC Corp must either accept the $21,000 allowed or dispute with documentation proving a lower employee count or misclassified wages.
Step-by-Step Guide to Disputing a Partial Disallowance
| Step | Action | Forms / Evidence |
|---|---|---|
| 1 | Mark 30 days on your calendar to mail a response—the safest way to protect the two-year statute. | Letter 106-C |
| 2 | Prepare a written statement addressing each IRS reason. | Word-processed letter |
| 3 | Attach supporting schedules: detailed wage worksheet, FTE count, PPP overlap analysis, proof of shutdown or gross-receipts decline. | Form 941-X worksheets |
| 4 | Sign Form 2848 if a CPA/EA/attorney will represent you. | Form 2848 |
| 5 | Mail via certified mail to the IRS address on Letter 106-C. | USPS certified receipt |
| 6 | Optional: Check the box requesting review by the IRS Independent Office of Appeals. | In your letter |
| 7 | Track the two-year deadline for filing suit in U.S. District Court or Court of Federal Claims if needed. | Litigation calendar |
Two-Year Timeline, Appeals & Litigation Options
You may (1) appeal to the IRS Independent Office of Appeals or (2) sue in federal court. Both must start within two years of the letter date. Sending your dispute inside 30 days gives the IRS time to reconsider before the clock runs.
Income-Tax Adjustments Linked to Your ERC
If you didn’t reduce your wage expense on your income-tax return but the allowed ERC changes, you may need to file:
- Form 1120-X / 1040-X (corporate or individual)
- Form 941-X for payroll corrections
Conversely, if you did reduce wage expense but the IRS denies ERC, you may increase wage deductions via an amended income-tax return.
Conclusion
Receiving Letter 106-C doesn’t end your ERC journey—it simply means the IRS believes you over-claimed. By understanding statutory caps, gathering solid documentation, and acting within the two-year window, you can secure the credit you legitimately earned or avoid costly interest and penalties.
Call to Action
Need help fighting an ERC partial disallowance? Schedule a strategy session with Anshul Goyal, CPA, EA, FCA today and safeguard your cash flow.
Disclaimer
This blog provides general tax information under IRC § 2301, § 3134 and related Treasury guidance. It is not legal or tax advice. Consult a qualified professional before acting.Â
- FAQs (Top 5 Searched Questions)
| # | Question | Short Answer |
|---|---|---|
| 1 | Can I still withdraw my ERC claim after Letter 106-C? | No—only unprocessed claims qualify for the withdrawal program. |
| 2 | Does Letter 106-C stop interest from accruing? | No. Interest on any disallowed refund continues until paid or offset. |
| 3 | How long does the Appeals process take? | Typically 6–12 months, depending on case complexity. |
| 4 | Do I need Form 2848 to let my CPA speak with the IRS? | Yes—submit Form 2848 with your dispute packet. |
| 5 | What if I miss the two-year deadline? | Your claim becomes final; courts lose jurisdiction to hear your case. |
About Our CPA
Anshul Goyal, CPA EA FCA has defended over $200 million in tax credits, including ERC claims, and serves U.S. and international businesses with payroll, income-tax, and IRS controversy matters. With 15+ years of cross-border tax experience, Anshul leads Kewal Krishan & Co.’s U.S. practice.