Treasury will have to fill in many gaps as it attempts to draft guidance implementing President Donald Trump’s order to delay the collection of some payroll taxes.
Trump issued a memorandum Saturday to defer collection of the tax normally withheld from employees’ paychecks to fund Social Security. The benefit lasts from Sept. 1 through the end of the year.
The memo directs the Treasury Department to issue guidance on the deferral—a not-so-easy lift given the lack of details provided, according to tax professionals. Employers don’t know whether the order is mandatory, what the process will be for eventually paying back the deferred taxes, or even which employees are actually eligible. Those questions make it extremely difficult for employers to carry out the changes and adjust their payroll systems.
The bottom line is that Treasury needs to issue guidance soon with as much detail as possible, said Mark Mazur, a former Treasury assistant secretary for tax policy and the current director of the Urban-Brookings Tax Policy Center.
“The less detail you have, the more reluctant firms will be to take on whatever risk is associated with not withholding this tax,” he said.
Mandatory or Not?
First and foremost, most employers want to know whether the order is mandatory.
The directive would require businesses to very quickly re-program their payroll systems to withhold the proper amount of tax from employees’ paychecks—a headache that some may rather avoid.
The president’s order cites tax code Section 7508A, which gives Treasury authority to postpone certain deadlines in the event of a federally declared disaster. Many practitioners read that code section as providing authority to delay or extend deadlines, but not to change the timing of withholding or impose a mandatory pause on withholding for a certain period of time, said Adam B. Cohen, a partner at Eversheds Sutherland (US) LLP.
“If it’s just voluntary, I think a lot of employers would choose—at this stage—not to step into that complicated situation,” he said.
It is unclear whether employers would have to get input from their employees on whether to abide by the order if it is voluntary, he added.
Repaying Deferred Tax
The memo directs Treasury Secretary Steven Mnuchin to explore avenues, including legislation, to eliminate the obligation of employees to pay back the taxes that are deferred. That would require the administration to convince Congress to act.
“If it won’t be forgiven, it can create financial hardship for the employees, depending on how much time Treasury gives the employees to pay it back,” said Jeff Paravano, a former senior adviser to the assistant secretary for tax policy at Treasury and a current partner at BakerHostetler.
Treasury hasn’t yet said whether it would require a lump sum to be paid all at once at the beginning of 2021 or whether it will allow employers to spread out the deferred amounts over several paychecks to lessen the burden.
The first option is probably the “worst-case scenario” for employees, Cohen said.
There is also a question of how the IRS will get the money back if an employee leaves their company before January, said Rachelle Bernstein, vice president and tax counsel at the National Retail Federation.
“Is the employer liable for making that payment? If the employee cannot for whatever the reason is, what are the obligations there? What happens to vacation pay, sick pay? How are they going to define all this stuff?” she said.
The memo is also unclear about who is eligible for the payroll tax deferment.
It applies to employees whose wages and compensation are generally less than $4,000 per bi-weekly pay period.
But it doesn’t define wages and compensation, or say whether that includes pay things like bonuses, commissions, or overtime hours, said Edward Karl, vice president of taxation of the American Institute of CPAs. It also doesn’t clarify what happens if a person has more than one job, he said.
Those will be important questions for employers to have answered before they adjust their payroll systems.
“Companies are going to have to figure that out in really short order—a couple of weeks, potentially—if they want to give everybody the full benefit of this,” Cohen said.
Holding in Escrow
Some businesses have been wondering if they could still withhold the payroll tax from employees, but hold the amounts aside in escrow, for example, Cohen said.
That idea could run into some technical issues.
At a high level, the existing regulatory guidance under tax code Section 6656 requires employers to quickly pass on amounts they withhold from employees or face penalties, said Itai Grinberg, a professor at Georgetown University Law Center and a former Treasury official.
Karl also noted that the president’s memo says to defer “withholding, deposit, and payment of the tax,” so it would appear employers would have to delay all three actions, not just one or two of them.
There are also state wage payment laws to consider. Those laws, which can differ by state, cover issues, such as the frequency with which employees must be paid and the manner of their payment.
“To be perfectly frank, my thought is that this is the kind of time when I’m glad I am not in private practice and have clients asking me what they should do, because there’s no good answer,” said Alice Abreu, a law professor at Temple University.
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