President Donald Trump issued an executive memorandum on Aug. 8 to allow payroll tax deferral for employees in response to the ongoing COVID-19 pandemic. The memorandum, which took effect on Sept. 1, expands on the payroll tax credits and payroll tax deferral already afforded under the Coronavirus, Aid, Relief and Economic Security Act (the "CARES Act"), passed by Congress and signed into law on March 27.
The CARES Act allows employers a payroll tax credit for the employer portion of Social Security taxes in an amount equal to 50% of qualified wages of up to $10,000 per employee, paid for the period running from March 12 through Dec. 31 this year, for a total credit of up to $5,000 per employee. In addition, under the CARES Act, employers may defer their share of the Social Security tax that would otherwise be due from wage payments made after March 27 but before Jan. 1, 2021. The total of these deferred amounts are due by Dec. 31, 2022. Employers must pay 50% of the employer portion of the payroll taxes deferred under the CARES Act by Dec. 31, 2021 and the remaining 50% by Dec. 31, 2022.
In general, an employer and an employee are each responsible for Social Security payroll taxes in an amount equal to 6.2% of wages, for a total of 12.4% tax on wages in a given year up to a statutory threshold. For 2020, the statutory threshold is $137,700, which means that each of the employer and employee is responsible for an amount up to $8,537.40 per year. On top of the Social Security payroll taxes, employees also owe Medicare payroll tax equal to 1.45% of total wages paid during the year and an additional 0.9% Medicare tax on wages of more than $200,000 in the case of individuals and $250,000 in the case of married couples filing jointly.
While the CARES Act addressed the employer's portion of Social Security payroll taxes, the president's August memorandum applies to the employee's share of Social Security payroll taxes. It allows employers to temporarily stop withholding the employee portion of Social Security payroll taxes for wages paid between Sept. 1, 2020 and Dec. 31 of this year to employees who earn less than $4,000 per bi-weekly period on a pre-tax basis, or the equivalent amount with respect to other pay periods. Generally, this could affect employees earning $104,000 per year before taxes and could provide a benefit of no more than $2,845.80 to an individual employee. The executive memorandum does not address the ultimate payment of the deferred taxes. Instead, it directs the Treasury Department to issue guidance implementing the memorandum and to "explore avenues, including legislation," to eliminate the future payment of those deferred taxes. As the Treasury does not have the power to abolish a tax or enact legislation, eliminating the payment of any deferred taxes would require an act of Congress.
The IRS issued Notice 2020-65 on Aug. 28 in response to the presidential memorandum. The notice provides that the due date for paying any taxes deferred under the memorandum is postponed until the period beginning on Jan. 1, 2021 and ending on April 30, 2021. Employers who defer employee-level Social Security taxes under the memorandum must pay the deferred taxes ratably from employee wages earned between Jan. 1, 2021 and April 30, 2021. Interest, penalties, and additions to tax will begin to accrue on May 1, 2021 if any portion of the deferred taxes remain unpaid.
The memorandum and the notice leave a variety of questions unanswered, such as whether the payroll tax deferral is optional or mandatory. But on Aug. 12, while appearing on Fox Business, Treasury Secretary Steven Mnuchin said that the administration "can't force" companies to stop withholding the employee portion of Social Security payroll taxes, and on Sept. 3, during an IRS monthly payroll industry conference call, an IRS attorney confirmed that "employers may, but are not required" to defer withholding. Since then, a number of large employers have announced their decision not to defer employee-level payroll taxes under the presidential memorandum, including CVS Health Corp., Wells Fargo & Co., and Home Depot Inc. Unless Congress enacts legislation providing otherwise, the deferred payroll taxes ultimately will be due in the first four months of 2021. This likely would mean most employers would withhold double the normal amount of employee payroll taxes between January and April 2021, which could have a significant negative impact on employees' take-home pay.
Without action from Congress, the payroll tax deferral provided by the presidential memorandum is an interest-free loan from the government to employees, repayable no later than April 2021. None of the guidance issued to date addresses the appropriate procedure for repaying the interest-free loan in the case of an employee who departs before the deferred employee portion of payroll taxes becomes due. Absent an action by Congress, employers who exercise this option on behalf of their employees will need to implement a system to collect the deferred taxes from employees before their departure in order to avoid liability.