Payroll Department Impacts of the Tax Cuts and Jobs Act
Congress passed the Tax Cuts and Jobs Act (the “Act”), and it was signed into law in December 2017. Payroll department impacts from the new law are summarized below.
Tax Rates and Withholding Calculations
The Act reduced individual tax rates and changed the tax brackets starting in 2018. In addition, the Act increased the standard deduction but suspended the personal exemption until December 31, 2025. As a result, the withholding tables and resulting calculations will change, meaning your payroll system will need to be updated.
On January 9, 2018, the IRS issued Notice 1036 updating withholding tables but encouraging employers and payroll services to utilize the 2017 withholding tables and systems until the IRS systems can be updated, noting that the updated tables should be implemented no later than February 15, 2018. This may be delayed if the government shutdown does not come to an end soon.
Additionally, the Department of Treasury on the same day announced in a press release that it will engage in a “thorough and collaborative” process to release a new W-4 for 2019 by the end of the year. The process will include seeking input from employers and payroll providers on how best to design a new W-4 to reflect an updated tax system based on the new law.
IRS Notice 1036 is accessible here.
Under certain conditions, businesses are required to withhold a backup tax from nonwage payments. This backup withholding is linked to the fourth tax bracket, which for 2017 was 28 percent, and for payments paid on or after January 1, 2018, will be adjusted down to 24 percent.
Based on current law, employers may optionally use a flat rate of income tax withholding on supplemental wages. The optional flat tax rate for 2017 is the third tax bracket, or 25 percent. In order to utilize the 25 percent withholding rate, supplemental wages must be separately identified and not exceed $1 million. In addition, income tax is required to be withheld from the regular wages of the employee in the current or preceding year. Under Notice 1036, employers now can decrease the withholding on supplemental wages less than $1 million to 22 percent. For supplemental wages paid on or after January 1, 2018, in excess of $1 million, employers are immediately allowed to lower their withholding from 39.6 to 37 percent.
Employee Achievement Awards
The definition of “tangible personal property” for purposes of deductible employee achievement awards under IRC § 274 has changed. Under the new provision, tangible personal property cannot include cash, cash equivalents, gift cards, gift coupons, or gift certificates (other than arrangements conferring only the right to select and receive tangible personal property from a limited array of such items pre-selected or pre-approved by the employer), or vacations, meals, lodging, tickets to theater or sporting events, stocks, bonds, other securities, and any other similar items. This provision takes effect for all tax periods after December 31, 2017. No sunset provision is currently applicable to this new rule.
Qualified Moving Expenses
Under prior law, qualified moving expenses reimbursed to an employee by the employer were excludable from the employee’s income. Any expenses that the employee could personally deduct under IRC § 217 qualified for this exemption if paid by the employer. The Act repealed this exclusion in its entirety for all tax periods after December 31, 2017, though the removal of the exclusion is due to sunset on December 31, 2025. It is currently unclear whether reimbursements for qualified moving expenses incurred before January 1, 2018 but paid thereafter are eligible for the exclusion.
The Act made substantial changes in the area of fringe benefits, including the elimination of deductions for (1) any activity considered to be entertainment, amusement, or recreation; (2) membership dues with respect to any club organized for business, pleasure, recreation, or other social purposes; or (3) a facility or portion thereof used in connection with any of the above items. Previously, these items could be deducted if they were associated with the active conduct of the taxpayer’s trade or business, but now the deduction will not be permitted under any circumstances.
Taxpayers will also see a change to meal-related fringe benefits. The 50 percent deduction for food and beverage expenses associated with operations (business meals during travel, for example) remains, and the Act expands the 50 percent limitation to any food and beverages provided to employees at an eating facility that meets the criteria of both a de minimis fringe and that is provided for the convenience of the employer. The eating facility expansion is available for all tax periods after December 31, 2017, but will sunset on December 31, 2025.
The Act also eliminated the employer deduction for the cost of a qualified transportation fringe paid or incurred after 2017. However, the employee can still exclude the benefit from income (except in the case of qualified bicycle commuting reimbursements).
Family and Medical Leave Credit
One of the most substantial tax changes related to employee benefits included in the Act is the creation of a “family and medical leave credit,” under IRC § 45S. This credit will allow eligible employers to claim a general business credit (under the terms and conditions of IRC § 38) of 12.5 percent of any wages paid to qualifying employees when those employees are on family or medical leave, so long as the payment is made under a qualifying policy that pays at least 50 percent of the normal wages paid to such employee. That credit can increase by .25 percent (capped at 25 percent) for every 1 percent above the 50 percent provided in wages. The credit is also capped at 12 weeks’ worth of leave per employee.
To qualify, an employer must have a written policy in place that allows all eligible employees at least two weeks of annual paid family and medical leave, and that allows all less-than-full-time eligible employees a similar benefit on a pro-rata basis. Qualifying employees are any employee who (1) meets the definition found in the Fair Labor Standards Act (FLSA), Section 3(e), (2) has been employed with that employer for at least one year, and (3) was not paid more than 60 percent of the compensation threshold for highly compensated employees.
Note that the leave must meet the requirements for “family and medical leave” found in the Family and Medical Leave Act (FMLA) Sections 102(a)(1)(a)-(e) or 102(a)(3). Any employer-provided leave that is categorized as vacation, personal, or other medical or sick leave will not qualify towards this credit. Also, any benefits/leave time that are required under state or local law must be excluded from the credit; only benefits above what is required by law may be applied. The tax credit will only be available for wages paid in 2018 and 2019.
Other 2018 Updates
- Standard mileage rates, IRS Notice 2018-03.
- Updated travel per diem rates, IRS Notice 2017-54.
- Social Security withholding update, SSA Release 11-27-17.
- Retirement plan updated limits, IRS News Release 2017-177.
- Other inflation-based adjustments, Rev. Proc. 2017-58.