On Saturday, August 8, President Trump signed a Presidential Memorandum directing the Secretary of the Treasury to “use his authority pursuant to [Code section] 7508A to defer the withholding, deposit, and payment of the tax imposed by [Code section] 3101(a) . . . on wages . . . paid during the period of September 1, 2020, through December 31, 2020,” subject to certain conditions. (The memo as originally posted on the White House website would have applied retroactively to wages paid August 1, 2020, but was subsequently updated.) Two conditions are enumerated in the memorandum. First, the deferral applies only with respect to any employee the amount of whose wages payable “during any bi-weekly pay period generally is less than $4,000, calculated on a pre-tax basis, or the equivalent amount with respect to other pay periods.” Second, the amounts deferred shall be deferred without any penalties, interest, additional amount, or addition to the tax.
The President’s memorandum follows the breakdown of negotiations between Congressional Democrats and Secretary Mnuchin and White House Chief of Staff Mark Meadows over the next round of COVID-related stimulus legislation. The President has previously expressed his support for a payroll tax holiday, but that proposal, having been rejected by both Congressional Democrats and a number of Senate Republicans, was not included in either the House-passed Health and Economic Recovery Omnibus Emergency Solutions Act (“HEROES Act”) or the Senate Republican proposals released last week.
The memorandum raises a number of significant legal questions for employers who will be forced to make a decision regarding whether to withhold the deferred tax from employees’ wages. Although much is still uncertain, this post discusses some questions that employers may have based on what is currently known.
What does the Secretary’s authority under Section 7508A allow?
Section 7508A allows the Secretary of the Treasury to postpone, up to one year, the tax liability of a taxpayer determined by the Secretary to be affected by a federally declared disaster or a terroristic or military action as defined by Code section 692(c)(2). The statute pertains not only to the deferral of the tax liability, but also to any interest, penalty, additional amount, or addition to tax. In COVID-19 FAQ 58, the IRS states, “The COVID-19 pandemic is a “federally declared disaster,” as defined by section 165(i)(5)(A) of the Code.” (See prior coverage.) Based upon this authority, the Secretary possesses the authority to postpone or defer the social security taxes in question, but the Secretary cannot forgive the taxes without legislation. Because the Secretary’s authority exists under existing law, the Secretary and IRS have fairly wide latitude in determining how to implement the deferral addressed in the Presidential Memorandum.
Which payroll taxes would be deferred?
By its plain language, the memorandum applies only to employee Old Age, Survivor, and Disability Insurance (“OASDI” or social security) tax (and the equivalent amount of Tier 1 Railroad Retirement Tax Act tax). It does not apply to the employee’s hospital insurance (Medicare) taxes nor does it apply to the additional Medicare tax (although an employee whose wages are subject to additional Medicare tax withholding would not be included within the scope of the memorandum as a result of the wage limitation). A number of media outlets have incorrectly described the memorandum as applying to all employee payroll taxes, including the employee’s share of Medicare tax. The memorandum also does not apply to the employer’s liability to pay its share of social security and Medicare taxes on wages subject to the deferral of the employee’s share of social security taxes.
Which period would be covered by the deferral?
The memorandum covers wages paid during the period from September 1, 2020, through December 31, 2020. Accordingly, wages paid on September 1 for services performed in August 2020 would appear to be covered by the memorandum. Conversely, wages paid after December 31, 2020, would not be covered by the memorandum, even if paid for services performed in December 2020. This differs somewhat from the delay of the employer portion of social security tax enacted as part of the Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”), which applies to amounts required to be deposited through December 31, 2020. Accordingly, the memorandum would appear to defer the “withholding, deposit, and payment” of employee social security tax on wages paid on December 31, 2020, even though the deposit liability would not arise until January 4, 2020 (assuming the $100,000 next-day deposit rule applies under section 6302(g)). In contrast, the employer social security tax would be due on the normal deposit schedule under the CARES Act.
Which employees would be covered by the deferral?
The memorandum applies only to employees whose wages during any bi-weekly pay period are generally less than $4,000. This would generally apply to employees whose pre-tax wages are less than $104,000 annually. However, the language of the memorandum suggests that the deferral could apply to some employees who earn more than $104,000 annually. Because it applies to employees whose wages are “generally” below the per-pay threshold rather than setting an annual limit, an employee who receives an annual bonus resulting in annual pre-tax wages above $104,000, but whose salary is below the threshold would presumably be eligible for the deferral. Similarly, an employee who receives quarterly bonuses or commissions might be eligible based solely on salary. In contrast, an employee who receives the same wages annually but whose commissions are paid during each pay period would presumably not be eligible for the deferral. It is also not clear how pre-tax deductions would affect eligibility for the deferral. Presumably, elective deferrals to pre-tax qualified retirement plans would be counted (because they are wages for FICA tax purposes) but employee and employer contributions to health plan premiums, health FSAs, dependent care FSAs, and other pre-tax benefits excluded from FICA wages would not.
Also left unanswered by the memorandum is how the limitation should be applied to an employee who previously was paid at a rate in excess of the limitation but whose salary or wages was reduced to a level below the threshold in response to the pandemic. Moreover, it is unclear whether the deferral applies to an employee whose pay is above the threshold but who voluntarily agrees to reduced wage (or to defer wages until early in 2021). This approach could result in a boost in net pay for employees whose income only slightly exceeds the limitation.
Is this a payroll tax cut, waiver, or forgiveness?
Section 7508A, which is cited as authority for the memorandum, permits only a delay in the payment of tax. Neither the President nor the Secretary of the Treasury has authority under the Internal Revenue Code to reduce or waive the amount of employer social security tax imposed by statute. Although the memorandum instructs the Secretary to “explore avenues, including legislation, to eliminate the obligation to pay the taxes deferred pursuant to the implementation of this memorandum,” it is difficult to imagine what avenue short of legislation could eliminate the obligation to pay the deferred taxes. Whether Congress would pass such legislation, given the fraught political environment, is difficult to determine. Although Democrats and many Republicans dismissed the President’s desire for a payroll tax cut in response to the pandemic, if employers do not withhold the tax from employee’s compensation, it is possible that Congress will feel that it has no choice but to forgive the deferred tax. It is possible that Democrats may seek an injunction to prevent the Secretary from issuing guidance to implement the memorandum before it takes effect, but that too carries political risk and it is unclear that courts would intervene in a dispute between the legislative and executive branches.
In an interview on Sunday morning, August 9, Secretary Mnuchin acknowledged that the memorandum allows only a deferral of the social security taxes in question. He commented that the President will tell the American people that “when he is re-elected he will push through legislation to forgive [the taxes], so in essence it will turn into a payroll tax cut.” This is consistent with the President’s statement on Saturday, August 8, that “[i]f I’m victorious on November 3, I plan to forgive these taxes and make permanent cuts to the payroll tax. So, I’m going to make them all permanent . . . [I]f I win, I may extend and terminate. In other words, I’ll extend it beyond the end of the year and terminate the tax.”
Notwithstanding the Secretary’s explanation and the President’s statement, whether the deferred social security taxes resulting from the memorandum will be forgiven is presently unknown and is contingent on multiple factors that may not be known until next year, including whether Congress will pass the legislation contemplated in the memorandum. This uncertainty leaves employers in a quandary regarding how to proceed. Given the circumstances, employers should carefully consider any forthcoming IRS guidance when considering whether to defer the withholding and deposit of employees’ social security taxes.
When are the deferred taxes due?
The memorandum does not specify when the deferred social security taxes must be withheld, deposited, or paid. Section 7508A permits the Secretary of the Treasury to specify a period of up to one year that may be disregarded in determining whether “payment of any . . . employment . . . tax” was timely. So, presumably, the IRS could issue guidance delaying the deposit deadline for employee social security tax up to one year after the date on which it would have otherwise been due. As a result, deposits of employee social security tax delayed under the memorandum could be due as late as August 2021 through early January 2022.
Do employers remain liable for withholding the tax?
Although the memorandum directs the Secretary to defer the withholding of employee social security taxes, the memorandum does not relieve the employer of its liability under section 3102(b) for the amount of tax imposed under section 3101. Existing Treasury Regulations explicitly impose liability on the employer for the tax imposed under section 3101 “whether or not [the employee tax] is collected from the employee.” Accordingly, although the memorandum would purport to allow employers to delay the withholding of employee social security tax for some employees, under current law the employer remains liable for those taxes regardless of whether it is able to collect the funds later from the employee. If, for example, the employee quits or is terminated, the employer is likely not to have a practical way to collect the employee social security tax from the employee when they are later required to be deposited by the employer. Even more problematic, the employer’s later payment of the employee social security tax, without obtaining reimbursement from the employee, would itself be wages subject to FICA taxes and federal income tax withholding. As a result, employers could be required to gross-up the amount of employee social security tax deferred if the employer later has to deposit such amount and is unable to collect it from the employee.
Must employers defer the withholding of employee social security tax?
Without further guidance from the Treasury, it seems that employers may continue to withhold and deposit the employee share of social security tax. As mentioned above, the invocation of section 7508A does not change either the employer or the employee’s ultimate liability for social security tax. It merely permits the Secretary to ignore a period of time in determining whether the payment of the tax is considered timely. This authority is the same basis for the earlier delay in the income tax filing and payment deadline from April 15 to July 15. Just as individuals could file and pay their taxes at any time before July 15, it would appear likely that an employer may withhold and deposit employee taxes on its usual schedule, even if the amount would not be treated as late under the memorandum. (The memorandum does not permit the employer to withhold the employee’s social security and delay the deposit of those withheld amounts—the rules governing the timely deposit of withheld taxes still apply.)
Given the difficulty in determining which employee’s tax obligations are eligible for the deferral and the significant uncertainty regarding whether employers will ultimately have to withhold the deferred tax from employees, many employers may choose to ignore the memorandum (and any subsequent guidance from the Treasury), until it is known whether Congress will enact legislation waiving or forgiving the tax. If Congress does so, the employer may use the interest-free adjustment rules under sections 6205 and 6413 to recoup the taxes deposited and make employees whole by issuing them refunds of the withheld social security taxes. If Congress does not do so, the employer will have avoided the complication of trying to collect the tax from former employees (or pay a gross-up) and, in the case of current employees, having to increase withholding when the deferred taxes come due.
Is an employer liable to the employee if it continues to withhold the employee’s social security tax?
Section 3102(b) indemnifies the employer from any claims for the amount of employee tax withheld and paid over to the government, so employees would seem to have little recourse against an employer who does not defer the withholding of the employee portion of social security tax so long as it is deposited with the Treasury. As described above, the existing interest-free adjustment rules are available to an employer to refund the social security taxes to employees if Congress subsequently enacts legislation forgiving the taxes covered by the memorandum. Alternatively, employees could file a refund claim using IRS Form 843 or some other form potentially produced for such purpose in the future.