President Trump recently passed an executive order freezing the Social Security tax for employees, but what does this really mean for small business employers? There are still some unanswered questions about how this will work, but the intention is to increase employee paychecks by not withholding the 6.2% Social Security tax that is currently required. You may have the option to opt-in or out of withholding the taxes; some employers are contemplating continuing to withhold the taxes and saving the money to pay the IRS in 2021 when the payroll tax holiday ends.
Who the Payroll Tax Holiday Impacts
All employees who earn less than $104,000 per year or $4,000 every two weeks are eligible for the tax freeze. This temporary tax cut is only geared toward employees and not the employer-portion of Social Security taxes (the CARES act gives employers a payroll tax deferral that we’ll talk about later).
Since employers are essentially the payroll tax collectors, this executive order will affect your payroll process. Depending on the requirements (which we’re still waiting to hear), you may have to work with your payroll providers to temporarily pause a portion of the tax withholding, or you may opt to move the funds to a different bank account for safekeeping (or even to earn interest).
When the Payroll Tax Holiday Takes Effect
The payroll tax freeze is set to start Sept. 1, 2020 and run through Dec. 31, 2020. As it stands today, you would be obligated to restart withholding Social Security taxes Jan. 1, 2021.
How the Payroll Tax Cut Will Affect Employee Paychecks
The original intention of the tax freeze was to increase employee checks. However, without enough guidance, it may not serve its purpose well. Let’s take a look at how it should impact employee paychecks if employers stop withholding Social Security taxes for the last quarter in 2020.
Imagine having an employee, Jennifer, who receives gross pay of $2,500 twice a month. Typically, you’d withhold $155 out of each of her paychecks. If you were to implement the payroll tax freeze, her bimonthly check would increase to $2,655 every two weeks; she’d receive an extra $310 in her pocket every month, which is an additional $1,240 total during the payroll tax holiday.
Deferring Social Security Taxes vs Forgiving Them
You’ve probably noticed we keep referring to the payroll tax cut as temporary or a “holiday” of some sort. This is because the executive order only implements a tax deferral; it doesn’t state the tax bill will be forgiven. For now, employees are still obligated to repay any Social Security taxes you don’t withhold; so in that example we gave above, Jennifer would owe the IRS $1,240 in tax money at some point after 2020.
What We Don’t Yet Know About the Payroll Tax Pause
There’s still a lot we don’t know about the payroll tax freeze, and it’s hard to know how businesses should implement it without more information. Here’s what we’re waiting to find out:
- Will the Social Security taxes due eventually be forgiven, or will employees have to repay the money?
- If employees have to repay the money, will their employers be responsible for collecting it and paying the IRS?
- If employers have to collect money from employees in the future to cover the effects of this tax cut, how will they need to collect it? All at once? Over several paychecks? What if the employee has been terminated?
- If taxes are to be repaid, when must they be repaid?
- Are businesses required to stop withholding the payroll tax, or is it optional?
- Can employees opt in or out of the tax freeze?
How Employers Might Handle the Tax Freeze
There’s a lot of talk among small business owners about how to handle the Social Security tax freeze. Nothing is written in stone because no one knows what will be legally permitted, but employers want to have a plan in place.
Some are considering leaving the decision to each employee as to whether they want their taxes withheld or not, if allowed. This could become an administrative nightmare though, especially for those with more than a handful of employees. Payroll tax withholdings are usually automatic if you’re working with a payroll provider. If you’re handling it manually, you’d need to set up your system in a way that makes it easy for you to identify each employee’s tax withholding preference.
The alternative is to make a decision for the entire company: continue to withhold or stop altogether. We surveyed 21 employees at Fit Small Business, and only one voted to have the company stop withholding the Social Security tax. Should Congress decide to forgive the taxes, opinions may change.
To learn more about doing payroll for your business, check out our guide on how to do payroll.
Payroll Tax Deferral for the Employer-portion of Social Security Taxes
As a small business owner, you’re probably also interested in what tax relief you can get. Several months ago after the onset on COVID-19, the CARES Act went into effect; all employers were granted a deferral of the 6.2% employer-portion of the Social Security tax, similar to what was recently issued for employees. We have much more information on how your employer taxes will be repaid though.
All Social Security taxes incurred from March 27, 2020 to Dec. 31, 2020, are eligible for deferral, meaning you don’t have to include the money in your quarterly employer tax payments.
Did You Know?
50% of your employer Social Security taxes due in 2020 can be deferred to Dec., 31 2021, and the other 50% can be deferred to Dec. 31, 2022.
You can also opt out of the deferral altogether and continue including the funds in your regular tax payments.
Employers Who Are Eligible for the Employer Payroll Tax Deferral
All employers are able to take advantage of the payroll tax deferral, including those who are entitled to paid leave credits and employee retention credits. This is a change from the original terms which barred employers who received tax credits under the CARES Act from participating.
Claiming the Payroll Tax Deferral
On Form 941, the IRS form employers file to report quarterly payroll taxes due, there was a revision implemented for Quarters 2-4 of 2020. Line 13b is where you’ll need to enter any Social Security tax you want to defer for the period. If you want to defer any Social Security taxes incurred between March 27 and March 31, you need to short pay Quarter 2’s balance, and the IRS will send you a letter showing the discrepancy; you’ll be able to indicate that the discrepancy is due to a deferral you want to take …
Stay Tuned for Updates About the Employee Payroll Tax Deferral
As more information about the payroll tax freeze is released, we will provide it and work with our experts on helping you figure out how to navigate the systemic changes this may require in your payroll process.