As employees, we all know the importance of taxes in our paychecks. Taxes are automatically deducted from our paychecks every two weeks, meaning that we don’t have to think about them too much. However, with the recently announced payroll tax deferral in response to the COVID-19 pandemic, many employees are wondering whether they can elect to defer their payroll taxes.
The answer is yes. Under the new payroll tax deferral, employers can defer the withholding and payment of the employee portion of Social Security payroll taxes (6.2%) on wages paid from September 1, 2020, through December 31, 2020. However, it’s important to note that this is only a deferral, and that the taxes will need to be repaid by the end of April 2021.
While it may be tempting to defer your payroll taxes in order to have more money in your paycheck in the short-term, it’s important to carefully consider the implications of doing so. To help you make an informed decision, it’s important to understand the details of the payroll tax deferral and talk with your employer or HR department about how it will affect your individual paycheck. With a little bit of research and thoughtful consideration, you can ensure that you’re making the best choice for your financial future.
Advantages of Deferring Payroll Taxes
Deferring payroll taxes is a common strategy among employees to delay the payment of certain taxes, resulting in various benefits. Here are some of the advantages of deferring payroll taxes:
- Increased Take-Home Pay: Deferring payroll taxes can increase the employees’ take-home pay, since a lower amount of tax is withheld from their paycheck.
- Cash Flow Flexibility: By deferring the payment of payroll taxes, employees can enjoy better cash flow flexibility in their budget. They may opt to use the additional funds for other essential expenses or investments.
- Tax Savings: Deferring payroll taxes may result in tax savings, particularly when an employee contributes to a pre-tax retirement plan, such as a 401(k) or IRA. The deferred payroll taxes can be used towards the retirement plan contribution, lowering the individual’s taxable income and reducing their annual tax bill.
Deferral Limits for Social Security and Medicare Taxes
The Internal Revenue Service (IRS) imposes limits on the deferral of payroll taxes, specifically for Social Security and Medicare taxes. According to the CARES Act, an employer may defer the payment of the employer’s 6.2% share of Social Security taxes for the employee’s wages earned from March 27, 2020, through December 31, 2020. However, the deferred taxes must be paid in two equal installments, with the first payment due on or before December 31, 2021, and the second payment due on or before December 31, 2022.
| Deferred Payroll Taxes | Payment Due Date |
|---|---|
| 50% of the deferred amount | December 31, 2021 |
| Remaining 50% of the deferred amount | December 31, 2022 |
It is essential to note that deferring payroll taxes is not an option available to all employees. Individuals must meet specific criteria, such as having income lower than a certain threshold amount or providing proof of financial hardship.
Disadvantages of Deferring Payroll Taxes
While deferring payroll taxes may sound like a good way to increase your take-home pay, there are several disadvantages to consider before making this decision:
- Increased Taxes in the Future: Deferring payroll taxes means that you’ll have to pay them back in the future, with interest. This can result in a larger tax bill when the deferral period ends, leaving you with less take-home pay and potentially causing financial strain.
- Risk of Default: If you’re unable to pay the deferred taxes when they come due, you could face penalties and interest charges, and your credit score may be negatively impacted as well.
- Loss of Social Security Benefits: Deferring payroll taxes means that you may not receive the full amount of Social Security benefits that you’re entitled to because the benefits are based on the amount of income that you’ve paid Social Security taxes on.
The Bottom Line
While deferring payroll taxes may seem like a good idea in the short term, it can have serious consequences in the long run. Before making this decision, it’s important to consider all of the potential risks and consult with a financial advisor to determine if it’s the right choice for your financial situation.
Other Considerations
It’s also worth noting that deferring payroll taxes is not an option for everyone. This option is only available to employees who meet specific criteria set forth by the IRS. Additionally, deferring payroll taxes may not be available in all states or for all types of taxes.
| Criteria for Eligibility | Description |
|---|---|
| Employment Tax Due Dates | Deferral is allowed for employment taxes due between March 27 and December 31, 2020 |
| Income Limitation | Available to employees whose wages are less than $4,000 on a biweekly basis |
| Type of Employer | Available to employers who do not participate in the Paycheck Protection Program (PPP) |
Be sure to check with your employer and consult with a financial advisor before making any decisions regarding payroll tax deferral.
Eligibility Criteria for Deferring Payroll Taxes
Due to the COVID-19 pandemic, the government has allowed employees to elect to defer payroll taxes. However, not all employees are eligible for this program. Here are the criteria for eligible employees:
- The employee must earn less than $4,000 on a bi-weekly basis.
- The deferral period is from September 1, 2020, to December 31, 2020.
- The employee must be paid on a salary basis, and not an hourly basis.
- The employee must not be a member of the U.S. Armed Forces, or a civilian in a combat zone.
- The deferral program is optional, meaning the employee can choose whether or not to defer their payroll taxes.
How the Deferral Program Works
For eligible employees who choose to defer their payroll taxes, their take-home pay will increase for the remaining months of the year as their employer will not withhold Social Security taxes equal to 6.2% of their gross pay. However, it is important to note that the Social Security taxes that are deferred must be paid back sometime between January 1, 2021, and April 30, 2021.
Employees who choose to defer their payroll taxes should be aware that they are responsible for paying back the deferred taxes. If they are no longer employed by their current employer before the deferred taxes are paid back, then the employer is responsible for paying those taxes.
Comparison of Payroll Tax Deferral and Payroll Tax Holiday
It is essential to understand that payroll tax deferral is different from a payroll tax holiday. The payroll tax holiday was a measure that President Trump announced through an executive order earlier in August. This measure allows eligible employees earning less than $4,000 on a bi-weekly basis to have their Social Security taxes withheld from their paychecks. However, the payroll tax holiday applies only from September 1, 2020, to December 31, 2020. If this measure is not extended, then the deferred taxes will be due on April 30, 2021. The payroll tax holiday is also optional, meaning that employees can choose whether or not to participate.
| Payroll Tax Deferral | Payroll Tax Holiday | |
|---|---|---|
| Eligibility | Employees earning less than $4,000 on a bi-weekly basis. | Employees earning less than $4,000 on a bi-weekly basis. |
| Period | September 1, 2020, to December 31, 2020. | September 1, 2020, to December 31, 2020. |
| Participation | Optional | Optional |
| Payment | Deferred taxes must be paid back between January 1, 2021, and April 30, 2021. | If the payroll tax holiday is not extended, then deferred taxes must be paid back by April 30, 2021. |
Understanding the difference between payroll tax deferral and payroll tax holiday is essential as it affects how employees may want to manage their finances during this pandemic.
Process of Deferring Payroll Taxes
As a response to the COVID-19 pandemic, the government has allowed employees the option to defer their portion of payroll taxes for the remainder of 2020. This means that instead of having to pay their portion of Social Security taxes, employees can choose to defer those payments until next year. Here’s how the process works:
- Notification – Employers will need to notify their employees about the option to defer payroll taxes and provide them with the necessary information to make an informed decision.
- Eligibility – Any employee who earns less than $4,000 on a bi-weekly basis is eligible to participate in the deferral program.
- Decision – Employees will need to decide whether or not they want to participate in the program and inform their employer of their decision.
If an employee chooses to participate, their employer will stop withholding their portion of Social Security taxes from their paycheck for the remainder of the year. However, it’s important to note that this is a deferral, not a forgiveness of taxes. This means that employees will still be responsible for paying those taxes next year, with the deadline being April 30, 2021.
In order to assist with the payment of deferred taxes, the government has allowed employers to withhold double the normal amount of Social Security taxes from employees’ paychecks between January 1 and April 30, 2021. This will give employees four months to gradually pay back their deferred taxes without incurring additional fees or penalties.
| Step | Action |
|---|---|
| 1 | Employers notify employees of deferral option |
| 2 | Employees decide whether or not to participate |
| 3 | If participating, employer stops withholding Social Security taxes for remainder of year |
| 4 | Employees pay back deferred taxes between January 1 and April 30, 2021 |
Overall, the option to defer payroll taxes can be a helpful financial resource for employees during a time of economic uncertainty. However, it’s important for both employers and employees to make sure they understand the process and consequences of participating in the program.
Tax Credits vs. Tax Deferral
When it comes to payroll taxes, there are two ways in which employees can receive benefits: tax credits and tax deferral. While both options can save employees money, they work in different ways and have different advantages and disadvantages.
- Tax Credits: Tax credits are deductions that are applied to your annual tax liability at the end of a fiscal year. These credits decrease your final tax bill by a percentage of the amount owed. In the case of payroll taxes, a tax credit could mean that a portion of your tax liability is reduced or eliminated completely.
- Tax Deferral: Tax deferral, on the other hand, allows employees to postpone payment of a portion of their payroll taxes. The taxes are not eliminated, but rather deferred to a later date, usually at the end of the year.
So, how do employees decide whether they should opt for tax credits or tax deferral? It ultimately depends on how much money you’re looking to save.
If you want immediate relief on your taxes, a tax credit may be a better choice. However, if you prefer to hold onto your money in the short-term and make payments later, then tax deferral could be the better option for you.
It’s important to also consider the eligibility requirements for both options. Tax credits usually have stricter qualifications, such as a specific income threshold or work-related expenses. Tax deferral, on the other hand, may be available to more employees regardless of their income level.
| Tax Credits | Tax Deferral |
|---|---|
| Immediate relief on taxes | Postpone payment of payroll taxes |
| Stricter eligibility requirements | Available to more employees |
In summary, both tax credits and tax deferral offer benefits to employees in terms of saving money on payroll taxes. It’s important to weigh the advantages and disadvantages of each option and choose the one that best suits your financial needs and situation.
Impact of Deferring Payroll Taxes on Social Security Benefits
Deferring payroll taxes can have a significant impact on an employee’s Social Security benefits. This is because Social Security benefits are calculated based on an individual’s lifetime earnings, including the amount of payroll taxes paid into the system.
- If an employee chooses to defer their payroll taxes, their taxable income for the remainder of the year will be reduced. This, in turn, will reduce the amount of payroll taxes paid into the Social Security system for that year.
- As a result of the reduced payroll taxes paid, the employee’s future Social Security benefits may be reduced, as the benefits are based on an individual’s lifetime earnings.
- It’s important to note that while deferring payroll taxes may result in a temporary increase in take-home pay, it can have negative long-term effects on an employee’s Social Security benefits.
To better illustrate the impact of deferring payroll taxes on Social Security benefits, let’s take a look at the following table:
| Year | Earnings | Payroll Tax Paid | Social Security Benefits |
|---|---|---|---|
| 2020 | $50,000 | $3,100 | $1,500/month |
| 2021 (no deferral) | $50,000 | $3,100 | $1,500/month |
| 2021 (with deferral) | $50,000 | $2,450 | $1,400/month |
In this example, the employee earns $50,000 per year and pays $3,100 in payroll taxes in 2020. If the employee chooses to defer their payroll taxes in 2021, their taxable income for the year will be reduced, resulting in a reduction in payroll taxes paid into the Social Security system.
As a result, the employee’s future Social Security benefits may be reduced. In the scenario where the employee defers payroll taxes in 2021, they would receive $100 less in Social Security benefits each month, or $1,200 less per year, compared to the scenario where they do not defer their taxes.
Overall, it’s important for employees to carefully consider the short-term benefits versus the long-term impact before electing to defer their payroll taxes.
Long-term Effects of Deferring Payroll Taxes on Employees
Deferring payroll taxes can have significant long-term effects on employees. Here are 7 key points to consider:
- Short-term relief but long-term burden: While deferring payroll taxes can provide employees with immediate relief by increasing their take-home pay, the tax burden will eventually come due, leaving employees with a potentially larger tax bill down the road.
- Potential for financial hardship: Some employees may rely on receiving a tax refund each year to help cover expenses or pay off debt. If they defer payroll taxes and don’t receive a refund, they could find themselves in a difficult financial situation.
- Employers may not offer deferral options: While employers have the option to allow employees to defer payroll taxes, they are not required to do so. This means some employees may not have the choice to defer, leaving them at a disadvantage compared to their peers who do have the option.
- Uncertainty over future tax policies: Elections can change tax policies, and employees who defer payroll taxes may find themselves facing an unexpected tax bill if policies change in the future.
- Impact on Social Security and Medicare: Deferring payroll taxes can impact an employee’s future Social Security and Medicare benefits, which are funded through payroll taxes. This could result in reduced benefits down the road.
- Additional stress during tax season: Deferring payroll taxes can add complexity to an employee’s tax return and may require them to seek professional assistance, costing them both time and money.
- Possible penalty fees: If employees don’t pay the deferred taxes on time, they may face penalty fees, further adding to the long-term financial burden.
The Bottom Line
While deferring payroll taxes may provide some short-term relief, it’s important for employees to consider the potential long-term effects and weigh their options carefully. Seeking professional financial advice or speaking with a trusted HR representative can help employees make the best decision for their unique situation.
Can Employees Elect to Defer Payroll Taxes?
Q: What is the payroll tax deferral?
A: The payroll tax deferral allows eligible employees to defer their portion of Social Security taxes withheld from their paychecks.
Q: Who is eligible to participate in the payroll tax deferral?
A: Any employee with wages or compensation of less than $4,000 in a biweekly pay period or equivalent amount in another pay period is eligible.
Q: What is the deferral period?
A: The payroll tax deferral period started on September 1, 2020, and ended on December 31, 2020. No additional deferrals will be permitted.
Q: Can employees choose to opt-out of the payroll tax deferral?
A: Employers are the ones to implement the payroll tax deferral, however, employees may ask their employers to not withhold their Social Security taxes and to repay those taxes during the deferral period.
Q: Do employees still need to pay their Social Security taxes?
A: Yes, employees who participated in the payroll tax deferral must repay the deferred taxes through increased payroll tax deductions during the repayment period.
Q: What happens if an employee quits or is terminated before the repayment period concludes?
A: The employer is still responsible for collecting the deferred taxes from the employee and may use any legal recourse to recover the money owed.
Thank You for Reading!
We hope this article has given you valuable information about payroll tax deferral and whether you’re eligible to participate. Remember to consult with your employer or tax advisor if you have any questions or concerns. Thanks for reading, and come back soon for more informative articles!