Employee Payroll Tax Deferral by Ted Storer

On August 7, 2020, President Trump issued four (4) executive orders related to the ongoing COVID-19 pandemic.[1]  The President identified that further temporary relief was necessary to support working Americans during these challenging times.  The order that has caught the most attention is a Payroll Tax Deferral. On August 28, the IRS issued a Notice explaining the Payroll Tax Deferral in more detail 

What can be deferred?

Employers and employees jointly share responsibility for a 12.4% levy that funds Social Security and a 2.9% tax to support Medicare.  The Payroll Tax Deferral only impacts the Social Security portion of employment taxes.  The IRS Notice further clarified that the deferral only impacts the 6.2 % employee share of Social Security taxes. It does not apply to Medicare taxes.

The IRS Notice indicates that the Affected Taxpayer is the employer.  As a result, any decision to defer the employee portion of the payroll tax is up to the employer.  Furthermore, this Payroll Tax Deferral does not apply to self-employed individuals, as neither the Order nor the Notice refers to IRS Section 1401 on self-employment taxes. 

As a reminder, an employer has two obligations for payroll taxes: (1) to deposit funds at regular payroll periods and (2) to pay the taxes when due.  The IRS Notice clarified that the Payroll Tax Deferral applies to both the deposit requirement and the payment requirement for the employee portion of the Social Security tax.

Scope of the Deferral – When and What?

The Payroll Tax Deferral period will commence on September 1 and continue through December 31, 2020.  The deferral is only applicable to a biweekly income of $4,000 or less, which translates to annual income of $104,000. 

The decision to defer must be made at each payroll for each employee.  The IRS Notice confirmed that in any payroll period where compensation exceeds $4,000, the deferral does not apply for that employee.  Depending on an employer’s payroll, this may complicate any employer decision to defer.  Employees receiving bonuses or commissions may be subject to the deferral in one pay period and may be excluded from the deferral in the next.

What is a Deferral?

Employers should understand that this is only a deferral.  Any forgiveness of these taxes has to come from an act of Congress.  Payroll tax deferral has been a position of President Trump for some time.  However, most politicians and administrators have voiced objections to this process.  This deferral order doesn’t excuse the payroll tax, it only delays collection. 

This is different from the prior deferral for the employer portion under the CARES Act.  The employer portion of those taxes was previously deferred by the Coronavirus, Aid, Relief and Economic Security Act (CARES Act).  For practical purposes, it appears that the CARES Act deferral was to assist employers who may be eligible for certain tax credits under the FFCRA paid leave provisions and for employee retention credits under the PPP.  The employer portion of these taxes deferred is currently due 50% by December 31, 2021, and the remainder by December 31, 2022. 

When are Deferred Taxes Due under the Payroll Tax Deferral?

Any deferred taxes for the employee portion are to be repaid between January 1, 2021, and April 30, 2021. 

The IRS Notice clarifies that the employer is allowed to make arrangements to collect any deferred taxes from the employee.  Arguably, this allows the employer to double the withholdings after the new year.  But there may be complications if an employee quits or is fired.  The employer loses the easiest way to collect any deferred payroll tax via withholding.

Additional Concerns for Employers

Employers should also recall that the failure to pay payroll taxes is subject to penalties and fines from the IRS.   This can result in personal liability to owners who fail to withhold or pay withheld taxes to federal agencies. 

Based on analysis by the Institute on Taxation and Economic Policy, the four-month deferral would amount to $1,060 for those making between $43,400 and $69,800.  Employers must understand the risks of choosing to defer the employee portion of the payroll tax.  Employers who pass this savings to staff could face difficulties clawing back the money in 2021 – especially if a worker has moved on.

Employees would also owe more income taxes on April 15, 2021, because their wages would be higher, meaning that some could see a smaller tax refund in 2021 — or owe money to the government — if they don’t adjust their IRS withholding.  An example of the amount of tax this will put back in your paycheck is that someone making $500 a week will have $31 more in their paycheck but will owe $527 at year-end.

Last, there may be a significant cost to an employer to adjust their payroll policies.  Payroll services generally charge a fee to modify the employer practices.  This service fee may exceed any temporary savings to the employee and the employer. 

Conclusion

Employers should carefully look at the costs and expenses of changing their payroll processes.  There is no guaranty that Congress will forgive any deferral and there are no corresponding tax credits for this deferral of the employee portion.  An employer electing to defer may be subjected to additional costs and expenses to change payroll with limited benefit to the employee and with an obligation to repay those taxes just after the beginning of the new year.  

[1] The Executive Orders provided relief from student loan payments, provided certain housing relief to tenants and owners who were participating in federally funded housing programs, and federal funding for additional unemployment benefits, in addition to the deferred payroll tax obligations.