The IRS on 8/28/2020 issued guidance (PDF) implementing the Presidential Memorandum to IR-2020-195 allowing employers to defer withholding and payment of the employee’s portion of the Social Security tax if the employee’s wages are below a certain amount (less than $4,000 during a bi-weekly pay period).
They are dubbing this as a payroll tax “holiday,” but it is simply a suspension period that runs from Sept. 1 through Dec. 31, 2020, and applies only to employees whose wages are less than $4,000 for a biweekly pay period, including salaried workers earning less than $104,000 per year.
Companies that choose to suspend the collection of employees’ payroll tax would collect additional amounts from workers’ paychecks from Jan. 1 through April 30 in 2021 to repay the tax obligation.
As part of the COVID relief efforts, President Trump sent a memorandum on Aug. 8 to the Treasury Department to defer collection of the employee portion of Social Security from Sept. 1 through the end of 2020. The purpose is to give additional relief to the American workers’ during the pandemic.
“The argument for the tax-deferral as a benefit to employees to “start building or adding to an emergency savings account” is good on paper but not a part of many taxpayers reality” says Tax Expert Peggy Van Aller. “With reduced working hours, they most likely would use the slightly extra income towards bills, stocking their pantry, and other needed items, not adding to a savings account”.
If you poll taxpayers, many of them in the lower to mid-range income brackets would most likely prefer to keep the FICA withdrawal the same so as not to have the potential of repaying them back by way of their 2020 income tax return. There is a potential that the amounts may end up being forgiven, but history has shown us that the IRS adds a line item to the 1040 Individual Income tax return for taxpayers to repay the tax. The impact here is the potential for a much lower tax refund for individuals or families who count on the refund after the Holidays or for many who never owe the IRS or those who do, but the amount is low, the possibility of an increased amount due back is highly likely.
SHRM offers this “Bare Bones Guidance”
As to whether employers will comply with the notice and suspend employees’ Social Security FICA withholding, “It’s too early to say,” according to Pete Isberg, vice president of government relations at HR and payroll services firm ADP Inc. Employers “are just now considering how the program would work.”
Isberg said that whether to suspend withholding of employees’ payroll tax was in effect “voluntary.” Although the language of the notice is directive, it includes no penalties for noncompliance.
It remains uncertain, however, how many private-sector employers will suspend collection of their employees’ Social Security taxes, and, if they decide to do so, when they could reasonably adjust their payroll systems to stop withholding these taxes.
If employers suspend Social Security payroll tax withholding for eligible employees, the guidance does not provide for allowing individuals to opt out, which had been an administrative concern employers had raised.
Adjusting Payroll Systems
Employers that use a payroll firm should look for announcements on how the tax holiday will work, including any notices to employees, Isberg said. “Given that many September payrolls were already processed in the closing weeks of August, before the guidance came out, “generally it will be shortly after Sept. 1” before Social Security tax withholding could be deferred, he noted.
“Employers that maintain their own payroll systems may need weeks or months to get the technical work done, so it may be October, November or even later,” he said, adding that “the IRS has said that any changes must be prospective.”
Employers Responsible for Repaying Taxes in 2021
Businesses that suspend collection of eligible employees’ Social Security payroll taxes during the four-month suspension period must repay the deferred taxes to the IRS during the first four months of 2021, unless legislation is enacted to forgive the uncollected taxes.
“Employers will need to withhold the total taxes deferred by each employee ‘ratably’ over the four-month period,” Isberg said, so “employees will notice reduced net pay in 2021 equal to any increase in net pay in 2020 if they defer the tax.”
After April 30, 2021, penalties, interest and “additions to tax” will begin to accrue on employers for tax amounts that have not been repaid, according to the guidance.
White House economic advisor Larry Kudlow has said, “We will take any steps possible to forgive this deferral” so employees would not be required to pay back tax amounts deferred through Dec. 31, The Hill reported. However, doing so would require new legislation.
Democratic presidential nominee Joe Biden and other Democrats have raised concerns that if these taxes are not eventually repaid, it could imperil the Social Security fund.
Employers, referred to as “affected taxpayers” in the guidance, “may make arrangements to otherwise collect the total applicable taxes from the employee,” the IRS said.
But if an employer suspends collection of an employee’s Social Security tax—which is 6.2 percent of his or her pay—during the last four months of this year, to be repaid by doubling the employee’s Social Security tax to 12.4 percent during the first four months of 2021, for instance, what happens if an employee leaves at the end of the year?
The employer remains liable for the employee’s share of Social Security taxes; the due date is just extended to next year, according to the guidance. The employer can make repayment arrangements with the employee, such as deducting the amount owed from the final paycheck. Otherwise, the employer would have to pay the balance owed.
There is nothing more specific in the guidance “about what happens when an [employee] quits, and there’s no way to get that deferral back,” tweeted Adam Markowitz, vice president at Howard L Markowitz PA CPA, in Casselberry, Fla. “The fact that this guidance is 3 pages leaves way more questions than answers. For that reason alone, this is a hard pass.”
Jonathan Barber, head of compensation and benefits policy research at Ayco, a Goldman Sachs company that provides financial counseling, said that “although the notice allows employers to make other arrangements to collect the deferred Social Security taxes from the employee other than through payroll, it is not clear just how far an employer could go to collect such amounts and what means—if any—the employer would have to enforce collection.”
To Suspend Withholding or Not
Lisa Galletti, owner of LMG Bookkeeping & Payroll Services in Ukiah, Calif., tweeted “don’t defer, carry on as usual and save yourself the headache.”
Still, some companies whose employees have struggled to make ends meet due to reduced wages or hours may think it worthwhile to give their workers a bit more in their paychecks now, to be repaid next year.
“Workers must understand that right now this is only a tax deferral, not tax forgiveness, so it’s temporary relief,” said Timothy Flacke, co-founder and executive director of Commonwealth, a nonprofit that focuses on financial security for low-income Americans. But, he added, “it still represents an opportunity for workers to start building or adding to an emergency savings account, without seeing any change in take home pay, by diverting the tax deferred amount into savings. This also ensures workers will have savings on hand” when it’s time to repay the taxes out of next year’s paycheck, he said.
Barber expressed a cautious view. “It is really just a very short-term, interest-free loan,” he said. “Employers will need to evaluate whether employees would even appreciate this deferral. The additional amount being collected during the time period of repayment would mean a lesser amount of net pay then what the employee is used to—which could result in more financial stress versus the benefit the deferral may have provided.”
Form 941 Revised
The IRS also released a draft version of a revised Form 941, Employer’s Quarterly Federal Tax Return, to take into account Social Security withholding that is deferred from Sept. 1 to Dec. 31. “The key change is found on page 3 … which asks for the ‘Deferred amount of the employee share of Social Security tax included in line 13b,’ ” wrote Ed Zollars, a tax CPA in Phoenix and author of the Current Federal Tax Developments website. If you need a recap of what revisions were made to Form 941, read our article here.
Employer and Employee FICA Tax Relief
Social Security and Medicare payroll taxes are collected together as the Federal Insurance Contributions Act (FICA) tax. Social Security is financed by a 12.4 percent payroll tax on wages up to employees’ taxable earnings cap—$137,700 for 2020—with half (6.2 percent) paid by workers and the other half paid by employers. There is no earnings cap on the Medicare portion of FICA, for which employers and employees separately pay a 1.45 percent wage tax.
The COVID-19-related payroll tax relief applies only to the Social Security portion of FICA.
Law firm Covington & Burling’s Tax Withholding & Reporting Blog points out that Notice 2020-65 states, in footnote 3, that compensation excluded from FICA taxes does not count in making a determination of eligibility, based on an employee having biweekly earnings of less than $4,000. Payroll deductions into an employee’s health savings account or flexible spending account, for instance, are excluded from FICA taxes.
Separately, the Coronavirus Aid, Relief, and Economic Security (CARES) Act, enacted in March and implemented through IRS Notice 2020-22 and a series of IRS FAQs, allows eligible employers to defer the deposit and payment of the employer’s share of Social Security FICA taxes from March 27, 2020, through Dec. 31, 2020. The deferred payments must be paid back to the Treasury Department, with half due by Dec. 31, 2021, and the other half by Dec. 31, 2022.
The CARES Act provision and related guidance did not apply to employees’ share of the Social Security tax, which was the focus of the president’s directive and the new IRS guidance.
SHRM’s take on the matter seems to point to the advice of NOT utilizing the tax “Holiday”. But you know your company and employees the best to know what is best for your current hardship needs.
So what will you decide to do? Let us know so we can share the experience with other HR Leaders, Payroll and Tax experts. To learn more about the complicated world of HR and the Cares Act, check out other GR8 articles on our blog and follow us on social media.