This year has been a whirlwind for businesses, and the new payroll tax holiday (for the US) isn’t making it much easier. Effective earlier this month following an executive order President Trump issued in August, the payroll tax deferral will be effective until the end of the year. But what does that mean for us as small business owners and employees?
It’s important to understand how the tax breaks down in the first place. Workers and employers split a 12.4% tax to cover Social Security as well as a 2.9% tax to pay for Medicare. The Social Security percentage applies to up to a $137,700 annual salary in 2020. Salary numbers are adjusted every year for Social Security, but the Medicare tax continues to come into play above that amount.
The payroll tax deferral this executive order is targeting is the employee’s share of the Social Security tax. It’ll only be applied to workers whose wages are below $4,000 every two weeks. It’s important to note that this is an average, so a large bonus could quickly knock you out of being eligible for the payroll tax holiday if it bumps your average pay above $4,000 across the board.
One thing to make crystal clear before we go any further is that this is only a deferral of taxes, not forgiveness. In order for forgiveness to happen, Congress would have to intervene and agree upon it in the future. Nothing is concrete there.
Since it’s a deferral, taxes will be due at a later date which has been determined to be Q1 2021. Employers must withhold those taxes and pay them over time from employee’s pay between Jan. 1, 2021 and April 30, 2021. If they don’t, employers will face interest, penalties and additional taxation, according to the IRS.
Note that this holiday will affect each company differently. While we are providing some blanket coverage in this blog post, it’s extremely important that you speak directly with your employer, or your accountant, to better understand how to handle it for your specific situation.
Here are a few things to know moving forward:
Employers are not required to offer the payroll tax holiday
It is up to the employer to participate in the deferral of taxes. This is a huge responsibility for employers, and with the quick rollout of guidance and complexity around the holiday, there will likely be many organizations that do not find it beneficial for their company or their employees to participate in.
Employers that do offer it have the option to ask employees if they would like to opt in. Do not assume that your company’s payroll company will automatically opt you in, and do not assume that you as an employee are automatically part of it. Speak with a representative on your team who is in charge of payroll to learn more.
This is just a tax delay
We know that all holidays come and go. This is no different. The amounts of tax you do not pay from September through December will be withheld from your pay starting in January 2021.
While you might enjoy the 6.2% bump in your paycheck now, you’ll see a decrease in pay early next year as employers will need to pull that amount from your paycheck to cover ongoing payroll tax.
If you choose to participate, you’ll likely want to save some of the extra cash you get in Q4 to cover the drop you’ll see in Q1 2021.
Deferred taxes will be withheld in even amounts next year
As employers recoup the costs from the fall starting in January, you’ll see it deducted evenly from January 1, 2021 through April 30, 2021, the same amount of time you saw the tax holiday happen.
But what happens to seasonal workers or someone who changes a job? It’s likely that the employer will need to hold the entire amount that an employee has deferred from their final paycheck in order to repay the taxes. Keep this in mind if you plan on switching jobs before the end of the year.