On August 8, 2020, President Trump issued a Presidential Memorandum calling for a deferral of withholding an employee’s payroll taxes. The government’s guidance announcement came just four days before the implementation date of September 1, 2020. By deferring the payroll tax withholding, the hope was that employees would have higher take-home pay for the remainder of 2020 (because of less withholding).
The memo instructed the Treasury Department to issue guidance on how this payroll tax deferral would work. After almost three weeks of uncertainty, Treasury issued guidance on this payroll tax deferral in Notice 2020-65. This relatively brief notice covers some of the basics around the deferral, but many more questions remain unanswered. While we’ll await further guidance to address these remaining uncertainties, here’s what this notice does tell us:
Payroll Taxes Defined
This notice confirms that the taxes applicable for a deferral is the employee’s portion of social security tax. This social security tax is the 6.2% tax that a company would typically withhold from an employee’s pay. Note that this notice does not mention the Medicare tax, which is another 1.45% tax that employers also withhold, so presumably, employers still need to withhold and remit the employee’s Medicare tax. Additionally, employers will need to continue withholding federal income tax as well as all state payroll taxes.
The payroll tax deferral does not apply to all wages. The wages that qualify must meet these criteria:
- The deferral option only applies to compensation paid to an employee on a pay date occurring between September 1, 2020, and December 31, 2020, and
- The amount of that compensation must be less than $4,000 per bi-weekly pay period (or equivalent amount if the employer uses an alternative pay period).
If the wages paid to an employee meet both of these tests, then the employer can defer withholding the employee’s portion of social security tax for that payroll. It’s not deferral “up to” the income threshold with no relief for the overages. Instead, the deferral only applies to workers under the income threshold.
Further, the employer needs to monitor each payroll run to determine if the employee’s wages continue to qualify for that specific payroll run. For example, assume an employee normally gets paid $3,800 of base pay per biweekly pay period.
- On their September 15 payroll, the employee receives their base pay. This employee’s payroll for this pay period would qualify for deferral.
- On their September 30 payroll, the employee receives a $500 bonus in addition to their base pay. This employee’s payroll would not qualify for deferral of any payroll tax because they failed the second test by having total biweekly compensation of $4,300.
- If the October 15 payroll is just their base pay again, then that payroll would once again qualify for deferral.
Thus, it will be imperative for employers to apply this the two-step analysis for each payroll independently of the other payroll runs. Employers will also need to track (by each employee) how much of the social security tax is deferred.
The keyword is deferral, not forgiveness. While President Trump would like these deferred taxes to be forgiven, that forgiveness would take Congressional action. Without Congress passing a new law, these deferred payroll taxes will need to be paid back at a later date, and this notice addresses how the employer should ultimately collect the employee’s social security tax. Yes, the employer must collect the tax back from the employee.
Employers are instructed to “ratably” withhold and remit the deferred payroll taxes from an employee’s wages paid between January 1, 2021 – April 30, 2021. If those deferred payroll taxes from 2020 are not remitted by April 30, 2021, then interest and penalties will begin to accrue May 1, 2021.
Employees still owe the taxes eventually. Any increase in take-home pay from September 1, 2020 – December 31, 2020, (by not withholding social security tax) will result in a reduction in take-home pay from January 1, 2021 – April 30, 2021, (by having to catch-up on that deferred social security tax). Someone making an annual income of $90,000 could save as much as $1,860 in 2020 but would have to pay that same amount back in 2021.
Reading Between the Lines
As stated above, this notice generally explains how the payroll tax deferral will work. However, there are still missing pieces. For example, this notice does not mention that employers are required to defer collecting and remitting the employee’s social security tax. So, can employers opt out of the payroll tax deferral (keep collecting and remitting employee’s portion of social security)?
Can employers give employees the option of whether the employee wants to defer their payroll tax? Treasury Secretary Mnuchin has made statements indicating the deferral may be optional. In other words, employers may be able to decide whether they offer this to employees or not.
The notice is explicit in that it clarifies guidance on that remittance of any payroll tax collected by a business. For example, an employer can’t continue to collect the employee’s payroll tax but defer paying it into the government. So, if a business collects, it must remit as normal.
Earlier speculation was that employees would pay any deferred payroll tax as part of their annual Form 1040 Individual Income Tax Return. However, this notice does not offer that as an option – instead, it’s up to employers to figure out how to collect and remit any deferred payroll taxes. It provides rather vague instructions on how exactly employers should do this. If the employer cannot withhold the required deferred payroll tax in that January 1, 2021 – April 30, 2021, time frame, then the notice advises employers to make arrangements to collect the taxes from the employee.
Many employers will face the same widespread problem. Take the situation that deals with an employee who works for a company and then quits on January 1, 2021. If the employer wasn’t collecting that employee’s social security tax in the last four months of 2020, the employer would still be responsible for collecting and paying that former employee’s deferred payroll tax, even though it no longer employs that person.
Former employees are less likely to willingly make arrangements with their former boss to pay in their deferred tax. If the employer isn’t able to collect it from the employee, the company itself could be on the hook to pay the payroll tax by April 30, 2021, to avoid penalties and interest.
Making Fast Decisions
Because this IRS notice was issued one business day before the September 1 eligible starting date, companies will be scrambling to make critical decisions. Do we opt out of this deferral program entirely? Do we offer this deferral option to our employees? If a deferral is available, will companies have systems in place to track each employee’s deferral amount? Do we have plans and procedures in place in case those employees leave the company?
With so many questions running through your head, feel free to reach out to your CRI professional. We can help you think through these questions, offer perspective, and provide guidance when it comes to making the best decision for your business. Be sure to check back for future direction as we continue monitoring the evolving landscape.