IRS Notice 2018-71 provides comprehensive guidance in question and answer format on the Code Section 45S employer credit for paid family and medical leave. The credit was added by the Tax Cuts and Jobs Act and applies to wages for qualifying family and medical leave paid in tax years beginning in 2018 and 2019. Significantly, the guidance allows eligible employers to establish qualifying paid family leave programs or amend existing programs by Dec. 31, 2018, in order to retroactively claim the credit for qualifying leave previously provided during 2018.

Written Policy Requirement

An employer must have a written policy in place that provides for paid family and medical leave. The policy must contain specified provisions that guarantee that all qualifying employees will receive at least two weeks of paid family and medical leave (pro-rated for part-time employees) based on at least 50 percent of an employees normal wages. The policy must include a "non-interference" provision if an employer has any employee not covered by the Family Medical Leave Act of 1993 (P.L. 103-3) such as an employee who works less than 1,250 hours per year. The Notice provides sample language of a non-interference provision.

The written policy may consist of one or more documents or be included in the same document that governs an employer’s other leave policies.

Generally, the written policy must in place before the leave is taken for which the credit is claimed. A policy is in place on the earlier of the date of adoption or the effective date. A transitional rule for the 2018 tax year provides that a policy (or amendment to an existing policy) is treated as in place on the retroactive effective date if the policy is adopted on or before December 31, 2018. The employer may make retroactive leave payments under the policy by the end of its 2018 tax year.

An employer is not required to notify employees that it has a written policy for providing paid family and medical leave. However, if notice is given, all eligible employees should be notified.

Qualifying Types of Family and Medical Leave

The employer’s written policy may only provide qualifying family and medical leave for the following purposes:

• Birth of an employee’s child and to care for the child;
• Placement of a child with the employee for adoption or foster care;
• Care for the employee’s spouse, child, or parent who has a serious health condition;
• A serious health condition that makes the employee unable to perform the functions of his or her position;
• Any qualifying exigency due to an employee’s spouse, child, or parent being on covered active duty (or having been notified of an impending call or order to covered active duty) in the Armed Forces (including National Guard and Reserves); and
• Care for a service member who is the employee’s spouse, child, parent, or next of kin.

However, a policy may provide paid leave to care for additional individuals not specified above, such as the care of grandchildren and grandparents with a serious illness. This paid leave, however, does not qualify for the credit.

The policy must provide a minimum of two weeks of paid leave to all qualifying full-time employees. The policy may not exclude any class of qualifying employees such as unionized employees.

Part-time employees are at minimum entitled to a proportionate amount of the paid leave time provided to full-time employees. For example, if full-time employees work 40 hours a week, a part-time employee who works 20 hours a week is entitled to 50 percent of the paid leave time given to full-time employees. An employee who customarily works 30 hours per week is a full-time employee. An employer may use any reasonable method to determine the number of hours customarily worked.

Qualifying Employees

Leave paid to an employee who earned more than $72,000 in 2018 does not qualify for the credit.

It is not necessary to cover employees with less than one year of service. An employer may use any reasonable method to determine length of employment. However, the employer cannot require employment for 12 consecutive months and may not require an employee to work a minimum number of hours per year.

An employer may not claim the credit for wages paid to an employee who is not a qualifying employee when the family or medical leave is taken but who becomes a qualifying employee later during the tax year.

Rate of Leave Payment

The written policy must provide for leave payments at least equal to 50 percent of wages normally paid. Leave payments made by a State or local government or paid by the employer to comply with State or local law are not taken into consideration in determining whether an employee receives 50 percent of the wages normally paid.

Wages normally paid are determined without regard to overtime that is not regularly scheduled and without regard to discretionary bonuses. An employer may determine the normal hourly rate of a salaried employee using any reasonable method. Wages normally paid to employees who do not receive salaries or hourly rates are determined using rules under the Fair Labor Standards Act.

Subject to the minimum 50 percent wage payment and two-week leave requirements, an employer’s policy may provide different rates of payment and different leave periods for different types of qualifying events that trigger family and medical leave. In addition, leave rates and periods may be based on the length of an employee’s service. For example, a policy could provide the minimum 50 percent wage rate and two-week paid leave period for employees with less than 10 years service and the maximum 100 percent wage rate and 12-week paid leave period for other qualifying employees.

Calculation of Leave Credit

The credit is a percentage of the amount of wages paid to a qualifying employee while on family and medical leave for up to 12 weeks per tax year. The minimum percentage is 12.5 percent of wages paid and is increased by 0.25 percent for each percentage point by which the amount paid to a qualifying employee exceeds 50 percent of the employee’s regular wages. Therefore, the maximum credit rate for an employee is 25 percent if 100 percent of normal wages are paid.

Wages are defined by reference to the definition of remuneration in Code Section 3306 for FUTA tax purposes without regard to the $7,000 FUTA wage limitation. For example, wages paid by a tax-exempt 501(c)(3) organization are excluded from the definition of FUTA wages and, therefore, do not qualify for the credit even if the organization is subject to the unrelated business income tax during the tax year. Wages that are used in computing any other tax credit, such as the research credit, do not qualify for the family and medical leave credit. An employer’s deduction for wages is also reduced by the amount of the credit.

Amounts paid by a State or local government or required by State or local law do not qualify for the credit. Amounts paid for a qualifying purpose under an employer’s short-term disability program, however, may qualify. An eligible employer may also claim the credit on wages paid to a qualified employee for the employer by a third-party payor such as an insurance company, professional employer organization, or Certified Professional Organization.

The credit is claimed on Form 8994, Employer Credit for Paid Family and Medical Leave, and reported on IRS Form 3800, General Business Credit.

Effective Date and Comments on Proposed Regulations

The guidance is effective September 24, 2018 and applies to wages paid in tax years beginning after December 31, 2017, and before January 1, 2020.

The IRS will issue proposed regulations based on Notice 2018-17. Public comments are requested no later than November 23, 2018.

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