Let’s get this part out of the way first. Deferral just means to postpone until later.
This last segment of government aid to business due to the COVID 19 pandemic is an allowance to procrastinate paying your payroll taxes. But as with most things when it comes to taxes and 1,000+ page emergency legislation, the devil is in the details and Congress has made what is a simple concept into a multi-factor decision.
This article will entangle those factors and give you the bottom line truth to what this is and how it can help your business
First, we’ll tackle the question of why you would even want to defer paying your payroll taxes.
Well, pretty simple – money in hand today, in the midst of a pandemic, is pretty important.
That was the easiest question of the bunch. Buckle up as it gets more complex from here.
Next, the question of what taxes can be deferred.
So far I have referred to these taxes as payroll tax, but we need to drill into the specifics.
Every time payroll is paid to employees, there are social security and Medicare taxes computed as a percentage of the payroll paid. These two taxes we refer to collectively as “payroll taxes.” Social security tax is 12.4% of the payroll (applying to the first $137,700 and employee is paid and then zero thereafter) and Medicare tax is 2.9%, with no limit on the wages.
Half of the tax is taken out of employee paychecks – as “tax withholdings” – and the other half the employer pays.
This deferral only applies to the employer portion. Employee’s still will have their share of the payroll taxes withdrawn from paychecks.
Any payroll paid between March 27, 2020 and December 31, 2020 is eligible to have these taxes deferred.
Naturally, the next question is: when do I have to pay the taxes I’ve been deferring?
Half will be due by December 31, 2020; the other half will be due by December 31, 2021. There is not penalty for prepaying.
Self-employed / independent contractors similarly enjoy the deferral. Those of you who fall into this group likely know how painful the self-employment tax is and how not only the tax but related underpayment interest (because you didn’t make any tax deposits during the year) can be. Fortunately for you, what would normally be due dates during the year for your SE tax deposits have now shifted to 12/31/2020 and 12/31/2021.
To be frank, I would caution people in this category, because I have worked with many such clients who transitioned their services to me from a previous tax preparer who did not explain this to them. What happens here is that without this knowledge, ICs and self-employed folks don’t reserve some of their profits to pay taxes and end up getting surprised by a huge SE tax bill at year-end. This program will help you postpone paying 50% of your 2020 SE tax bill until 2021 and it will relieve some of the risk of underpayment interest, but come December 31, 2021 when not only is your 2021 SE tax bill due, but the other half of your 2020 SE tax, this could very well be a huge check you end up having to write the IRS.
Because I am a great guy, I’ve saved the most complicated part for last. How do the deferral provisions interact with other aspects of the government’s COVID 19 financial aid. As I mentioned in previous articles, generally the government’s concern with such things revolves around the prmise that they don’t want you to enjoy two benefits from the same activity. So here what we will see is that if you utilized the PPP loan they also rolled out, they don’t want you to be able to also enjoy the payroll tax deferral. Read on, if you have the stomach, for the details, or pick up the phone and call us at BKA to set up a consultation.
I hinted at it, but there are special provisions here if you received a PPP loan. Read Part 2 of the series here on TeamBKA.com or just remember that, very simplified here, the PPP loan is the one that is forgiven if you spend the loan on payroll. So what the government says here is if you received a PPP loan, you do not get to defer the employer payroll taxes. Unless… (of course there is an unless) the loan has not yet been forgiven. This is super important to understand. Only once the PPP lender has informed you that the loan has been forgiven do you no longer get to defer payroll taxes. While you are still in that middle space where the loan is outstanding but you have either not applied for forgiveness yet or are awaiting a decision, you do get to defer. Major caveat of importance there.
Second item of note in this section is you do not have to be taking advantage of any other COVID 19 aid / incentive to enjoy payroll tax deferral. If you didn’t apply for a loan, or aren’t taking any tax credits (see Part 3), you still get the deferral.
Last, when it comes to the tax credits, you get to incorporate this deferral when computing how much money you have to pay to the government or, in the case of if you are claiming an advance on the tax credit, how much the government has to pay you. Let me explain
You may remember from Part 3 that the government has allowed you to claim tax credits in advance, and also in excess of what you paid employees, making any of the COVID 19 credits, whether they be for paid sick leave, paid child care leave, or simply as employee retention, refundable and quickly converted from tax credit into cash (isn’t that what this is all about?)
That being said, the mechanism for computing that cash is by comparing the tax credit you are due vs. the taxes you owe the government. Any increase in the tax credit you are due, or a decrease in the taxes you owe the government, is a benefit to you.
The payroll tax deferral affects the latter: it decreases the tax you owe the government. Thus that gap I just described widens, meaning the government owes you more money (or you owe the government less). Either way that affects your cash flow by either receiving an IRS check or by decreasing the check you have to write. This deserves one last note of caution – this is just a deferral, so that tax will eventually be due at the end of ’20 and ’21. Plan accordingly