In a Memorandum to the Secretary of the Treasury, President Trump directed that the Secretary use his authority to defer the withholding and payment of the employee’s share of certain Social Security taxes for the period September 1, 2020, through December 31, 2020, and that employers be permitted to pay the deferred taxes during the period beginning January 1, 2021, and ending April 30, 2021. On August 28, 2020, the Secretary followed the directive by issuing guidance in the form of IRS Notice 2020-65.
What the IRS Notice Says
According to the Notice, the taxes imposed by Section 3102(a) of the Internal Revenue Code on taxable wages paid (not earned) between September 1, 2020, and December 31, 2020, may be deferred. Importantly, though not explicitly stated, the Notice does not require an employer to defer the withholding and payment of the taxes. It simply extended the deadline for such withholding and payment.
This deferral only applies to the employee’s share of Social Security Taxes of individuals whose wages are less than $4,000 during a biweekly pay period or a comparable amount if the employer uses a different pay period. This dollar threshold is calculated separately for each pay period, without regard to what an employee may have earned in a different pay period. (Note: Consider the potential administrative burden for automated payroll processes already in place.)
The deferral only applies to the 6.2-percent Old-Age, Survivors, and Disability Insurance Tax imposed on the first $137,700 of wages received in 2020. It does not apply to the 1.45-percent Hospital Insurance Tax, which is not subject to an annual dollar limitation. The deferral is not available to sole proprietors and other individuals who pay self-employment taxes.
The Notice confirms that, having not withheld and paid the employee’s Social Security taxes between September 1 and December 31, 2020, employers should withhold and pay an employee’s deferred Social Security taxes ratably from wages paid to the employee from January 1, 2021, through April 30, 2021. In apparent recognition of the fact that an employee’s termination of employment prior to April 30, 2021, would prevent this from happening, the Notice states “if necessary,” the employer “may make arrangements to otherwise collect” the taxes. But, no further guidance is provided as to what exactly that means.
Why Employers Should Think Twice before Deferring the Taxes
Although an employee is individually liable for the deferred Social Security taxes, the employer is liable as well, and the Internal Revenue Service (“IRS”) will almost assuredly be looking to the employer, and not to the employer’s employees, if the deferred taxes are not paid. The IRS’s “arrangement” suggestion notwithstanding, if an employee whose Social Security taxes are deferred terminates employment before 2021 or during 2021 but before the deferred taxes have been fully withheld from the employee’s first quarter 2021 wages, the employer should expect to have to make up the shortfall.
Employers who desire to defer employee Social Security taxes are well advised to provide employees with a notice that lays out how the deferral and payback process works. It is recommended that employers have employees agree to the deferral and repayment in writing. Employers should also consider having employees who agree to the deferral consent to allowing the employer to withhold, to the maximum extent legally permissible, from the employee’s final paycheck any deferred taxes that have not been repaid. (Note: Such potential deductions are subject to state laws, which should be consulted before using this approach.)
The deferral is for the benefit of employees . . . something along the lines of an interest-free loan, but the loan will have to be repaid next year in the form of increased tax withholding, which may create a hardship for many employees—as it essentially doubles the amount of Social Security tax withholding during the first four months of 2021. One can easily foresee the possibility of cash-strapped employees seeking a loan from their employer to make up for the reduction in their 2021 paychecks.
In light of these concerns and uncertainties, it is difficult to envision why an employer would conclude that deferring employee Social Security Taxes pursuant to the President’s directive (and this IRS Notice) is something the employer should be doing. Knowing that employees will be asking about this new program, we recommend proceeding cautiously when evaluating potential deferral.
An extended version of this article was published in Law360, Payroll Tax Deferral Won’t Help Employees or Employers (September 4, 2020).