The IRS issued guidance last week on the 2020 payroll tax deferral, which was enacted by Executive Order by President Trump. Under the guidance (IRS Notice 2020-65, summarized below), employers are able to stop withholding Social Security taxes from employee paychecks from September 1 through December 31, 2020.
A bullet point summary of IRS Notice 2020-65:
How the deferral works:
- Any employee who makes less than $4,000 pre-tax wages in a bi-weekly pay period qualifies to have their Social Security Tax (6.2%) deferred.
- The deferral covers paychecks starting on September 1, 2020, and the deferral ends on December 31, 2020.
- This deferral enables employees to keep more of their money during the defined pay periods.
- The determination for the $4,000 wage limit is done on a bi-weekly pay period basis. This means that an employee could qualify for deferral during some pay periods and not others, depending on the pay amount during a given.
How to repay the taxes:
- Employers must pay deferred taxes no later than April 30, 2021. Otherwise, penalties and interest will start to accrue on taxes owed.
- Employers will need to increase the employee social security tax for current employees between January 1, 2021 and April 30, 2021 to recover the amount deferred during 2020. This means that employees can expect reduced paychecks in 2021 to repay the deferred taxes.
- For employees who are no longer with a business and had taxes deferred, the employer will need to make arrangements with the employee to recover the deferral amounts (details pending on this process).
Points to consider:
Not addressed in the guidance is whether an employer must stop withholding the Social Security tax from September 1 through the end of the year (although Treasury Secretary Mnuchin is reported to have said that he can’t force employers to stop withholding). Also not covered is if an employee may decline to have the tax deferred (which some large employer organizations have said is logistically unworkable).
The president has indicated that he would like the deferred taxes permanently forgiven, but it would take congressional approval to change the law, and given the current political climate in Washington, that may not happen.
In addition to the above, I believe there are two major pitfalls with the deferral scenario as currently written:
- There is no guidance given on recordkeeping requirements or whether and how the deferred Social Security taxes will be reported on employee W-2s issued for 2020.
- There is no guidance on how to collect former employees’ deferred taxes (but the Treasury does say details are pending on this point).
In a simple scenario, suppose an employee has his/her Social Security taxes deferred from now until December 31, and subsequently resigns from the company. Since President Trump’s intention to permanently forgive the deferred taxes is unlikely to happen, it is possible that the company will be held liable for the deferred taxes owed by the employee with little or no means of collecting those taxes from the employee since wage payments have ceased.
While well-intentioned, this is a very poorly-designed relief mechanism. I recommend anyone contemplating enacting this program in their business to do so only after further guidance is issued by the IRS, clarifying the points above. Otherwise, businesses may be left on the hook for taxes owed by former employees.