In March 2020, U.S. lawmakers agreed on the passage of a $2 trillion stimulus bill called the Coronavirus Aid, Relief, and Economic Security (CARES) Act and, on March 27, 2020, President Trump signed the bill into law. Its aim is to reduce the impact of an economic downturn caused by the global coronavirus pandemic and offer assistance to tens of millions of affected American households.
The CARES Act is the biggest relief bill in U.S. history. Though many of its portions are aimed at supporting individuals, policymakers crafted legislation that dedicates government funding to support large and small businesses, industries, independent contractors, and hospitals. Also, the CARES Act introduces payroll tax changes as it provides relief in the form of payroll tax deferment and payroll tax credits.
What Are Payroll Taxes
Payroll taxes are all taxes collected by federal, state, and local governments, based on salaries and wages paid to employees. All businesses that have employees need to withhold these taxes from their wages and remit them on a monthly or semi-weekly basis, depending on the quantity owed. Businesses are required to make regularly scheduled reports to the Internal Revenue Service (IRS) and to state and local taxing agencies about the amount of taxes owed and paid. However, businesses are not required to withhold payroll taxes on wages paid to independent contractors, while self-employed persons are responsible for paying their own payroll taxes.
Payroll taxes generally include federal and state income taxes, FICA taxes, federal unemployment taxes, and state unemployment taxes. Taxes paid under the Federal Insurance Contributions Act, or FICA, are taxes paid to support Social Security and Medicare. Social Security tax applies to an income up to a certain threshold that is regularly adjusted for inflation, while Medicare tax applies to all wages and salaries.
FICA tax rate, which is the combined Social Security tax rate of 6.2% and the Medicare tax rate of 1.45%, is 7.65% for 2020 up to the Social Security wage base. The maximum Social Security tax employees and employers pay in 2020 is $8,537.40 and this is an increase of $297.60 compared to $8,239.80 in 2019.Use this detailed payroll tax guide to find out how to manage your tax obligations in an effective way, remain compliant with constantly changing regulations, and avoid costly penalties.
Payroll Tax Changes Included in the CARES Act
Apart from supporting small and large employers, specific industries and the healthcare sector, another key provision of the CARES Act refers to payroll tax changes. This includes deferral of payroll taxes and payroll tax credits for employers in the face of economic hardship caused by the COVID-19 pandemic.
Payroll Tax Deferral
Typically, the employer is obliged to remit its share of Social Security taxes for each employee’s covered wages on a semi-weekly or monthly basis. However, Section 2302 of the CARES Act allows employers to defer certain payroll taxes incurred between March 27, 2020, and December 31, 2020.
Therefore, employers can defer their 6.2% share of the Social Security tax on each employee’s covered wages for the rest of the year and pay half at the end of 2021 and half at the end of 2022. Still, it is important to note that payroll tax changes do not cover other payroll taxes such as the Medicare tax or employee’s share of the Social Security tax. Also, there is no dollar cap on the total amount of employer social security taxes that may be deferred through December 31, 2020.
Payroll tax changes, which apply to the company portion of the payment, are aimed at helping employers with immediate cash-flow problems. Companies will still be withholding from employees’ paychecks and remitting this to the IRS, but their half of payroll taxes would be delayed. Thus, qualifying companies will be able to delay their share of Social Security payroll taxes to the IRS until Jan. 1, 2021, with 50% owed by the end of 2021 and the other half due Dec. 31, 2022. Companies’ share of the Medicare payroll tax will still be due as usual.
Payroll Tax Credit
In addition to payroll tax changes that postpone payroll taxes for employers, they become eligible for a 50 percent refundable payroll tax credit on wages paid up to $10,000 during the crisis. This credit is available to employers whose businesses were disrupted due to coronavirus pandemic. It is also available to businesses that had a decrease in gross receipts of 50 percent or more when compared to the same quarter last year. The payroll tax credit can be claimed for employees who are retained but not currently working due to the crisis for firms with more than 100 employees, and for all employee wages for firms with 100 or fewer employees.
Eligible employers can report their total qualified wages and the related health insurance costs for each quarter on their quarterly employment tax returns or Form 941 beginning with the second quarter. If the employer’s employment tax deposits are not sufficient to cover the credit, the employer may receive an advance payment from the IRS by submitting Form 7200, Advance Payment of Employer Credits Due to COVID-19. Eligible employers can also request an advance of the Employee Retention Credit by submitting Form 7200.
Payroll Tax Changes’ Implications for Employers
While payroll tax changes may be attractive to most employers, it is important to understand that they constitute a deferral, rather than a waiver of tax obligations. Employers’ payments will be considered as timely only if fifty percent of the deferred taxes are paid by December 31, 2021, and the remaining fifty percent is paid by December 31, 2022. Therefore, employers should maintain concise records of their tax deferrals and credits, and be prepared to pay the sum of their payroll taxes when it comes due. Also, as the impacts of the coronavirus change daily, employers have to follow laws as they adjust at the federal, state, and local levels of government. The most effective and secure way to stay ahead of tax obligations and payroll tax changes is to outsource tax management. Thus, employers can ensure compliance with ever-changing tax laws and regulations, filing and remitting payroll taxes on time, and preventing any tax errors or the resulting penalties.Simplify and automate tax management instead of worrying about tax filing deadlines, hefty penalties, and tax risks.