On August 8, 2020, President Trump issued a Presidential Memorandum allowing employees to have a tax “holiday” deferring the normal employee payroll tax withholding for social security (6.2% of wages) from September 1-December 31, 2020. This was designed to provide a much needed boost to employees in their take-home pay. Unfortunately, it comes with a host of administrative burdens for employer payroll compliance that may make it not worth the trouble.
First, how does it work?
Employers are permitted–but not required–to omit the normal 6.2% withholding for social security tax for the next four months (9/1/20-12/31/20). (Note, this applies only to the employee’s share of social security tax and not the 6.2% tax paid by employers.) Under normal circumstances, the employer would then double withhold in the first four months of 2021 (1/1/21-4/30/31). The deferred tax must be repaid by April 30, 2021.
Sounds great. What are the problems?
- The Executive Order was issued on August 8th, and the IRS issued a 2.5 page guidance document on August 28, 2020, leaving employers scrambling to comply by September 1, 2020.
- Many third-party payroll vendors have been slow to interpret the payroll tax deferral and program their payroll software for compliance.
- The “holiday” applies only to employees with bi-weekly earnings of less than $4000 per week (or the equivalent threshold amount), meaning that, for most employers, there would be covered and non-covered employees. This creates added administrative complexities, especially if employee pay varies from week to week due to overtime, bonuses, or commissions.
- The $4000 threshold is a cliff not a phaseout–meaning that, once the $4000 threshold is reached, the employee does not qualify for the tax deferral at all. An employee earning $3999.99 will qualify for a deferral, but an employee earning $4,000.01 would not.
- Many employees will enjoy the added 6.2% net pay for four months but not understand that their net pay will drop 12.4% in January 2021, resulting in employee financial hardships.
- If employees terminate employment before withholding amounts are repaid in the first four months of 2021, the tax burden is on the employer the pay the tax. The employer’s only recourse is to collect the money from the employee. If the employee is still owed wages when the employee terminates, the employer could withhold the amount remaining to be repaid; however, the employer must still pay the employee at least the state and federal minimum wage, as required by law. It is possible that the employer will be left holding the bag for some portion of the deferred tax.
- Ultimately, employers must repay the deferred tax amounts by April 30, 2021 or face penalties, additional tax, and interest, even if they have not recovered the amounts from the employees.
What might happen?
The last time there was a payroll tax holiday the deferred tax was later forgiven by statute. It is notable that, only a statute, passed by Congress and signed into law by President Trump or the incoming president in January 2021, can forgive the deferred tax obligation. President Trump has vowed to forgive the deferred tax if re-elected.
What should employers do?
Employers should weigh the short-term benefits to employees against the administrative burdens, tax liability risk, and the financial burdens to employees in 2021 if the amounts are not forgiven. Employers can elect not to participate in the payroll tax holiday if they so choose.