Last Friday, the IRS issued much-anticipated guidance on the payroll tax deferral authorized by President Trump’s August 8 executive order. IRS Notice 2020-65 permits employers to defer withholding on qualifying employees’ compensation from September 1, 2020 to December 31, 2020, and then to withhold those deferred amounts from January 1, 2021 to April 30, 2021.
As a refresher, the President’s executive order allows employers to defer withholding the 6.2 percent employee portion of the Social Security tax. The deferral only applies to employees making less than $4,000 before taxes on a bi-weekly basis; i.e., those making less than $104,000 per year. The determination regarding whether an employee qualifies for the payroll tax deferral must be made each pay period. Any employee whose wages exceed $4,000 during any bi-weekly pay period does not qualify for the deferral during that pay period.
The executive order merely delays – rather than forgives – the employee’s share of the Social Security tax. While President Trump instructed Treasury Secretary Mnuchin to explore ways to forgive the payroll taxes permanently, the subject is still very much in limbo. Essentially, as it currently stands, this payroll tax deferral amounts to a four month interest-free loan. Any taxes deferred during the September 1, 2020 to December 31, 2020 deferral period are required to be repaid in early 2021.
The IRS notice provides the framework for how the taxes will be repaid, stating that during the first four months of 2021, employers should withhold the previously deferred amounts as well as the normal withholding. So while employees would see higher paychecks than normal through the rest of 2020, their paychecks for January through April 2021 would actually be lower than normal due to the double withholding.
It is also important to note that if an employer chooses not to implement the payroll tax deferral, they are still required to withhold taxes during the deferral period and remit the withheld taxes according to their normal schedule.
In addition, the IRS notice points out that employers are ultimately responsible for ensuring the repayment of their employees’ withheld payroll taxes. It will be necessary for employers to determine the process for collecting this money in the event that an employee resigns before April 30, 2021 or earns less in total compensation in early 2021 than they did in the final months of 2020. Interest, penalties, and additions to tax will begin to accrue on unpaid taxes starting May 1, 2021.
While the IRS notice did provide a bit more clarity, many questions still remain that require additional guidance. These are just a few:
- Is the payroll tax deferral voluntary or mandatory, and is the decision up to the employer or the employee?
- If an employer decides to implement the payroll tax deferral, are employees automatically required to participate or is there a way for them to opt out? Likewise, if an employer does not implement the payroll tax deferral, can an employee voluntarily opt in?
- Will the IRS provide employers with language they can use to inform their employees about the availability of the withholding and how it will work?
- How should an employer document any employee elections regarding the payroll tax deferral?
- Is there an expectation that Congress will decide to forgive the payroll tax withholding, thus not requiring employees to pay it back? If Congress enacts such legislation, how will this be reconciled for employers that continued to withhold the payroll taxes as normal?
- How should the deferred taxes be reported to the IRS? Will employers need to provide details for each employee or in aggregate?
As you can see, there are still many details to be worked out and we will continue to provide updates as more information becomes available. However, the payroll tax deferral continues to remain in the news headlines and your employees may be wondering how or whether they will be impacted. For this reason, we continue to recommend proactively communicating with your employees to educate them on what we know so far and the various implications of the payroll tax deferral.
As always, we are here to help and are happy to assist you with sorting through these ever-changing tax scenarios. If you have any questions about these or any other matters, please contact your Kreischer Miller relationship professional or any member of our team. We also continue to update our COVID-19 Resource Center, which you can access here.
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