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Top Five Questions from Employers Regarding the Executive Order’s Payroll Tax Deferral
September 3, 2020
David J. Gundlach
Sands Anderson PC
Richmond, Virginia
On August 8, 2020, President Trump issued the Memorandum on Deferring Payroll Tax Obligations in Light of the Ongoing COVID-19 Disaster (the “Executive Order”) allowing for the deferral of employee social security payroll tax obligations that are normally withheld from employees and paid to the IRS by employers. The Executive Order grants a deferral, not a tax cut or waiver of the employee social security payroll tax obligations. An act of Congress is required to forgive or waive such taxes. On August 28, 2020, the IRS released guidance on implementation of the Executive Order in the form of IRS Notice 2020-65. Here are the top 5 questions from employers, followed by answers regarding the deferral of payroll taxes pursuant to the Executive Order as of today:
1. Is the deferral of the payroll taxes pursuant to the Executive Order optional?
Yes, based on the Executive Order and the IRS Notice 2020-65 the deferral of the payroll taxes pursuant to the Executive Order is optional or voluntary for employers.
The language in both the Executive Order and IRS Notice 2020-65 does not directly state whether the deferral is optional. The authority referenced in the Executive Order for the deferral of payroll taxes is IRC § 7508A, which amongst other powers, gives the Secretary of the Treasury the ability to defer the deadline for filing of a return or payment of tax for up to one year because of a federally declared disaster. This IRC section does not prohibit the employer from the filing of its returns or payment of its taxes.
This is the same code section (IRC § 7508A) used for delaying tax filing deadlines for areas affected by hurricanes. In such cases, even if your area is affected by a hurricane, you can still file your tax return, but you have the option of using the delayed deadlines. In line with IRC § 7508A, the IRS and Treasury press releases for IRS Notice 2020-65 use permissive language such as: “The guidance allows employers” and “makes relief available for employers.” Additionally, neither the Executive Order nor IRS Notice 2020-65 provide penalties for electing not to defer.
There is no prohibition in the Executive Order nor IRS Notice 2020-65 on an employer providing the option to defer or not defer to the employee. As discussed below, this approach would expose the employer to risks and may not be administratively feasible.
For employers that withhold the applicable payroll taxes, IRS Notice 2020-65 does not defer the deposit obligation, observing that such relief is unnecessary because the deposit obligation arises at withholding. Continuing withholding but not depositing the tax is not a viable option. IRS Notice 2020-65 does not defer the obligation to deposit taxes once withholding has occurred. As a result, a wait-and-see approach of withholding and retaining the amounts may result in penalties for failure to deposit.
2. Does the employee have the right to choose whether to opt into or out of the deferral of the payroll taxes pursuant to the Executive Order?
The answer is no, unless the employer gives the employee the option.
Pursuant to IRS Notice 2020-65 the “employers that are required to withhold and pay the employee share of social security tax under section 3102(a) or the railroad retirement tax equivalent under section 3202(a) are affected by the COVID-19 emergency for purposes of the relief described in the Presidential Memorandum and this notice (Affected Taxpayers)”. According to the IRS Notice 2020-65, the due date for the Affected Taxpayers’ withholding and payment of the payroll taxes is postponed. The employee is not the Affected Taxpayer. Furthermore, the employer, who is the Affected Taxpayer, is responsible for the payment of the deferred payroll taxes between January 1, 2021 and April 30, 2021 with penalties, interest, and additions to tax beginning to accrue on May 1, 2021 for taxes outstanding. The employer may make arrangements to otherwise collect the total deferred payroll taxes from the employee. To summarize, the employer is on the hook when the deferred payroll taxes come due.
The applicable deferred payroll taxes are a portion of FICA taxes. Pursuant to IRC § 3102(b): “Every employer required so to deduct the [FICA taxes] shall be liable for the payment of such tax, and shall be indemnified against the claims and demands of any person for the amount of any such payment made by such employer.” The caselaw[1] supports that the employee would have no private right of action under IRC § 3102(b). Neither the Executive Order nor IRS Notice 2020-65 creates a private right of action.
To further bolster this conclusion, there are reports that federal employee labor unions are upset that their members (federal government employees) have no say in whether the deferral is made or not. The federal agencies in question elected to defer the payroll taxes pursuant to the Executive Order.
3. Who is liable for the payment of the deferred payroll taxes when they must be paid from January 1, 2021 through April 30, 2021?
Employers are liable to the IRS for the deferred payroll taxes when they come due. Unless Congress acts, the deferred payroll taxes must be paid. According to IRS Notice 2020-65, the employer as the Affected Taxpayer is responsible for the withholding and payment of the deferred payroll taxes and would face the penalties, interest, and additions to tax beginning to accrue on May 1, 2021 for taxes outstanding.
One further item of concern is that these deferred payroll taxes, if not paid, can give rise to personal, individual liability for the individuals at the employer responsible for the withholding and payment of the deferred payroll taxes.
4. Are there guidelines for arrangements that employers can make with their employees regarding the repayment of the deferred payroll taxes?
No. IRS Notice 2020-65 is three pages long and leaves much to be desired for guidance. On the subject, IRS Notice 2020-65 states “If necessary, the Affected Taxpayer may make arrangements to otherwise collect the total Applicable Taxes from the employee.” If an employee is terminated or quits prior to or is not paid sufficiently (e.g. is furloughed or has limited hours) for the full repayment of the deferred payroll taxes during the January 1, 2021 through April 30, 2021 period, then the employer is liable for the unpaid balance.
Employers can implement arrangements (“Arrangements”) with employees to collect the deferred payroll taxes such as by collecting the taxes from a final paycheck or by separate check from the employee. Such Arrangements may give rise to issues such as conflicts with employment contracts or limitations imposed by other laws or agreements.
5. What are potential risks and pitfalls related to electing to opt into the deferral of the payroll taxes?
They are numerous. The Executive Order and the IRS Notice 2020-65 put employers between a rock and a hard place. On the one hand, if the employer does not opt into the deferral or allow employees to elect to defer, then the employer could be seen as denying a benefit (even if short-term) to its employees. On the other hand, if the employer opts into the deferral or allows employees to elect to defer, then the employer faces the following risks and problems:
- The deferred payroll taxes tax must be withheld and paid from January 1, 2021 through April 30, 2021, unless Congress acts, which doubles the employee’s applicable withheld payroll taxes right after the holiday season;
- The employer would be on the hook for any unpaid deferred payroll taxes plus potential penalties, interest, and additional tax;
- The unpaid deferred payroll taxes can lead to individual liability for the individuals at the employer responsible for the withholding and payment of said taxes;
- Setting up the Arrangements should be done when the employer elects the blanket deferral for all its employees or when the employer grants the employee the option to defer to defer or not, which could take some time; and
- The administration of a blanket deferral or deferral at the election of each employee may not be administratively feasible for the employer’s payroll systems.
Note that this deferral only runs to December 31, 2020 and payroll systems may take time to reprogram. The potential benefits to the employees may be low once the reprogramming is live and the Arrangements are finalized.
Any decision by an employer to elect to defer or not defer pursuant to the Executive Order should be made after consultation with the employer’s accounting, tax, and legal advisers. Each employer and its employees have their own unique circumstances that should be considered when reaching a final decision on this topic.