In August, the President of the United States released a memorandum implementing a payroll tax deferral that is effective for payroll paid during the period September 1, 2020 through December 31, 2020. There were a lot of questions and confusion about this program when the memo was issued, and recently the IRS issued Notice 2020-65 (the Notice) providing additional guidance. The following questions and answers provide some further details on this program:
What does “payroll tax deferral” mean?
Employers are normally required to withhold 6.2% of eligible compensation for Social Security (OASDI) taxes, up to the wage base limit for the year. The President’s memo allows employers to defer the collection of this tax on payroll paid from September 1, 2020 through December 31, 2020.
Does an employer have to participate in this program?
The IRS guidance does make clear that the payroll tax deferral is optional, and it is up to employers to opt in or out of the withholding deferral. Employees cannot initiate the deferral. Employees can, however, individually opt out of deferral if their employer elects to defer.
If an employer opts to participate, what happens next?
- Check with your payroll provider. Most payroll providers have indicated that their systems will not be ready to process payrolls with deferral of Social Security tax until later this month or even into October.
- Employees eligible for deferral of this tax are assessed on a payroll by payroll basis. If the compensation payable to an employee for that payroll period is less than the threshold amount, then payroll tax deferral applies to that compensation (irrespective of amounts paid in other pay periods.)
Threshold amounts are determined based on your payroll frequency, which are:
- Weekly pay periods = $2,000 or less
- Bi-weekly pay periods = $4,000 or less
- Semi-monthly pay periods = $4,333 or less
- Monthly pay periods = $8,667 or less
The program says “deferral”. Does that mean the taxes eventually have to be paid? When?
Deferred taxes will be required to be repaid between Jan 1, 2021 through Apr. 30, 2021. The employer is responsible for collecting the deferred taxes from the employee and depositing any amounts that have been deferred. Therefore, employees benefiting from the deferral now may have additional payroll taxes withheld during the first four months of 2021. If deferred taxes are not fully repaid by April 30, 2021 significant penalties and interest could be assessed.
Withholding from wages is assumed to be the method for employers to collect the deferred tax, but the Notice does allow the employer to make other arrangements to collect the deferred tax. Employers should note that If an employee leaves employment, employers are still responsible for repaying the tax. State laws may prohibit the employer from recovering deferred taxes from an employee’s final paycheck upon termination, so it will be important to have a written agreement between the employee and the employer prior to participating in the deferral program.
The President does not have the authority to make this deferral a permanent tax cut but has indicated that he would like to do so. While there is the possibility of future legislation regarding forgiveness of the deferred taxes, no forgiveness is currently offered, and any forgiveness of the tax would need to be implemented by an act of Congress.
Employers should weigh a number of factors when deciding on whether or not to participate in this program and how to implement it. The most important thing during this process will be to effectively communicate decisions to employees.