Tax

Is Payroll Tax Deferral Optional or Mandatory

12.16.2020

Emptech's founder, Jeff Aleixo

Author

Jeff Aleixo

Payroll Tax Deferral Tax Compliance

On August 8, 2020, President Trump signed the Executive Order, Deferring Payroll Tax Obligations in Light of the Ongoing COVID-19 Disaster. The payroll tax deferral program is intended to provide quick tax relief to those affected by the COVID-19 pandemic by means of temporarily pausing the collection of taxes taken out of employees’ paychecks to fund Social Security. However, lots of questions about this program remained unanswered.

Later on, the Internal Revenue Service (IRS) and Treasury Department issued joint guidance that answered some of the basic questions about the deferral but avoided providing answers to some pressing concerns, one of the largest being whether payroll tax deferral is optional or mandatory.

Payroll Tax Deferral Background

The payroll tax deferral applies to all employees whose bi-weekly wages fall below $4,000 or who make less than about $104,000 annually and involves funds that are normally paid toward Social Security benefits. Normally, the 12.4% Social Security tax obligation is divided between employer and employee, with each paying 6.2%. Employers withhold the employee portion and pay it to the IRS on their behalf, as part of the deduction that is typically labeled as FICA tax.

Under the payroll tax deferral, employers can choose not to withhold the employee portion of the Social Security tax through the end of 2020. However, if taxes are deferred, the amount has to be repaid in full by April 2021. Also, self-employed workers are permitted to defer 50% of their Social Security tax obligations for the period from March 27, 2020, to December 31, 2020.

IRS Notice 2020-65 further clarifies that the determination of total wages is made on a pay-period-by-pay-period basis, which may disqualify the same employee in certain pay periods based on overtime wages or other bonus pay. Also, if an employer pays wages on a basis other than biweekly, the $4,000 threshold has to be recalculated as an equivalent amount with respect to other pay periods.

The deferred taxes will be due ratably over the time period from January 1, 2021, to April 30, 2021. According to the Notice, interest, penalties, and additions to tax will begin to accrue on May 1, 2021, with respect to any unpaid applicable taxes.

Find out what steps to take when collecting, filing, and remitting payroll taxes and ensure compliance with federal and state laws by following this comprehensive guide.

The Effectiveness of the Payroll tax Deferral

The White House has described the payroll tax deferral as a form of relief for workers under financial stress from the COVID-19 pandemic and economic recession. However, following the issuance of the presidential memorandum, many questions were raised by the business community. Those largely centered on whether this deferral would be optional or mandatory and what mechanisms would be used to repay the deferred amounts. Also, many have challenged the effectiveness of this measure given that payroll tax deferral will give employees a temporary pay rise, only to be followed by a cut that could reduce their paychecks by nearly the same amount as the current increase.

While the payroll tax deferral program is optional for private sector employers, there is no option to opt-out for federal employees. As the United States’ largest employer, the federal government is required to defer its employees’ portion of Social Security taxes in order to provide immediate relief during the pandemic. This includes all branches of the military, as well as civilian jobs with the federal government. As a result, lawmakers in both the House and Senate asked the administration to amend IRS guidance implementing the president’s payroll tax deferral and give federal employees and military members a choice over whether they want to participate.

Given that this is a deferral rather than tax forgiveness, their chief complaint about the payroll tax deferral is that the taxes will be owed after the first of the year and will likely result in smaller than usual paychecks to recoup the deferred taxes. Furthermore, according to the legislation, the withholding and payment of the tax cannot be deferred unless the employee provides written consent. Therefore, if an employee does not provide the written consent, liability would fall upon the employer for any failure to withhold and remit the taxes.

Payroll Tax Deferral Implications for Employers

While the Presidential Memorandum includes language that hints at the potential for future tax forgiveness, there is no guarantee that Congress will pass legislation to forgive the deferred taxes. Therefore, employers need to consider whether they are willing to incur the cost of implementing a payroll tax deferral program.

Before making this decision, they should take into consideration payroll processing matters, communicating possible implications to employees, and any legal steps necessary to protect their interest in case of any future unpaid liabilities. Also, they should carefully consider any available options to collect deferred amounts from employees who terminate service or who have reduced wages in the repayment period.

For employers that decide to allow the payroll tax deferral, it is critical to address the changes that may be required within payroll systems and configurations in order to facilitate the program. Outsourcing payroll tax management can help them simplify the deferral, recordkeeping, and reporting as well as identify and correct any issues that may arise. As a result, they can effectively accommodate the payroll tax deferral while ensuring compliance with evolving tax regulations and avoiding potential penalties.

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