September 2010 -- In March, Congress passed the Hiring Incentives to Restore Employment (HIRE) Act as a means of encouraging businesses to hire and retain previously unemployed workers. The two most important hiring incentives are a payroll tax holiday in 2010 and a retention tax credit in 2011. Employers should analyze whether any new hires in 2010 qualify for the payroll tax holiday and take the necessary steps to claim the exemption. This article summarizes what will qualify for the exemption and how to claim it.
What is the payroll tax holiday?
The payroll tax holiday is an exemption from the employer’s 6.2 percent share of FICA tax on all wages paid to “qualified employees” from March 19 – December 31, 2010. The exemption does not apply to the employee’s portion of FICA tax, nor does it apply to either the employer’s or the employee’s portion of the 1.45 percent Medicare tax. Virtually all taxable businesses and tax-exempt organizations (with the exception of government employers) qualify for the exemption.
Who is a “qualified employee”?
A qualified employee is an individual who:
- Begins employment after February 3, 2010,
- Was unemployed, or employed for 40 hours or less, during the continuous 60-day period ending on the date employment begins,
- Is not employed to replace another employee of the employer, unless the other employee separated from employment voluntarily or was terminated for cause, and
- Is not related to a greater-than-fifty percent owner of the employer.
Any employee who satisfies the above definition will qualify, meaning the employer is exempt from paying its share of FICA taxes on the wages of each such employee. Thus, qualified employees may include:
- Part-time employees,
- Seasonal or temporary employees, including interns and high school summer hires,
- Re-hired employees, including those who are receiving COBRA premium assistance,
- Employees who were self-employed during the prior 60-day period, or
- Recent graduates who were full-time students, or otherwise unemployed, during the prior 60-day period.
The exemption may not be claimed on household employees or by self-employed individuals.
When is an employee considered “terminated for cause”?
Neither the legislation nor the subsequent guidance directs employers on how to determine whether a replaced employee was terminated for cause. Generally, this fact would be determined under normal employment practice laws. The guidance is specific, however, in stating that an employee who was laid off due to lack of work is considered to be terminated for cause. In fact, the employer may even rehire the same employee and claim the exemption, assuming the employee otherwise qualifies (e.g., was unemployed for the prior 60 days). Ultimately, this provision is intended to ensure that employers do not terminate employees solely for purposes of hiring replacement employees who would qualify for the exemption.
How does the employer confirm whether the employee satisfies the unemployment period?
Before an employer may claim the payroll tax exemption, it must obtain a signed waiver from the employee certifying that he has been unemployed, or has not worked for more than 40 hours, during the 60-day period ending on the date of employment. The qualified employee certifies this fact by completing Form W-11, Hiring Incentives to Restore Employment (HIRE) Act Employee Affidavit, and returning it to the employer. The employer retains these affidavits in its payroll records and does not file them with the IRS.
How does the employer claim the payroll tax exemption?
The payroll tax exemption is claimed on Form 941, Employer’s Quarterly Federal Tax Return. The exemption for employer’s FICA tax on wages paid after March 31, 2010 and before January 1, 2011 is claimed by completing lines 6a – 6d of Form 941.
Because the payroll tax exemption was passed too closely to the end of the first quarter, the exemption on the employer’s FICA tax on wages paid after March 18 and before April 1 is handled differently. This exemption is claimed by taking a payroll tax credit on the second quarter Form 941 by completing lines 12c – 12e.
The amount of wages covered by the payroll tax exemption will also need to be reported in Box 12 of the qualified employee’s Form W-2.
What if an employer forgot to claim the exemption?
If an employer was unaware that the FICA tax on an employee’s wages were qualified or if the quarterly payroll tax return was filed before the employer could obtain the signed affidavit from the qualified employee, the exemption may be claimed on Form 941-X, Adjusted Employer’s Quarterly Federal Tax Return. Any corrections to the payroll tax exemption are reported on lines 11a – 11c of Form 941-X. Any corrections to the payroll tax credit relating to first quarter wages are reported on lines 18c and 18d.
What is the retention tax credit?
As an incentive to retain those new employees, the HIRE Act also includes a retention tax credit. Employers receive a general business credit of $1,000 in 2011 for each qualifying employee that satisfies a minimum employment period.
A qualifying employee must satisfy the same requirements necessary for the payroll tax holiday, plus meet all of these additional conditions:
- Be employed by the employer on any date during the taxable year,
- Be employed continuously by the employer for at least 52 weeks from the hire date, and
- Receive compensation during the last 26 weeks of the period that is at least 80 percent of the compensation paid during the first 26 weeks of the period.
Employers should review the records of all new hires after February 3, 2010, to determine whether they are qualified employees and, if so, whether the payroll tax exemption has been claimed. If not, employers should contact their payroll providers to ensure that the appropriate employee certifications are on file and to initiate the filing of amended returns. For more information on the hiring incentives of the HIRE Act, contact your local CBIZ MHM tax advisor.
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