The Internal Revenue Service (IRS) released 66 questions and answers illuminating important calculations, procedural requirement, and document retention requirements related to the tax credits available under the Families First Coronavirus Response Act (FFCRA) and the Coronavirus Aid, Relief, and Economic Security (CARES) Act. Due to the rapid effective date of the relief provided in such acts, rapid guidance was necessary, and the IRS and U.S. Department of Labor should be commended for their rapid release of guidance. The guidance applies to FFCRA leaves taken from April 1 to December 31, 2020. References to paid sick leaves below include both the Emergency Paid Sick Leave and the Emergency Family and Medical Leave under the FFCRA unless otherwise noted.
Payroll Deductions From Paid Leave
Employers can continue to follow existing payroll deduction authorizations to deduct from such pay for benefits and 401(k) while an employee is on the paid sick leave.
Paid Sick Leave is Included in the Employee Receiving the Paid Sick Leave Gross Income for Federal Income Tax Purposes
Both types of paid sick leave are taxable to the employee and cannot be excluded from an employee’s federal gross income as a “qualified disaster relief payment” under Code section 139 because they are payments made to replace lost wages.
Claiming the Credit
Employer can take the credit for the qualified leave wages, plus the allocable portion of the qualified health plan costs during the leave and the amount of the employer’s share of the Medicare taxes (1.45%) on the leave wages. The employer must first offset their payroll deposits to claim the credit and reconcile the credit on the quarterly Form 941. If the employer’s federal employment taxes to be deposited are not sufficient to cover the credit, then the employer files a Form 7200 to claim an advance payment of the credit from the IRS for amounts of the credit that are not covered by the offset to the federal employment tax deposits. The IRS intends to start processing the Forms 7200 claiming the advance credit in April 2020.
Calculation of the Additional Credit Due to Health Plan Cost Related to the Paid Sick Leave
The health plan costs are not subject to the dollar cap of wages for which the credit is available each day $200 or $511. The health plan costs are allocated on a pro rata basis among covered employees, for example, the average premium for all employees covered by a policy, pro rata based on the periods of coverage relative to the time periods of leave to which such wages relate. (So if the EPSLA leave lasted 14 days, then 14/30th of the average premium for all employees covered would be the cost allocated to the credit.)
Health Plan Cost Inclusion Calculation of the Average Premium
The average premium is calculated by the separate benefit option and calculated for each separate option. The cost of each plan is allocated to the employees participating in that plan. The costs that go into the average premium include both the employer and the employee’s pre-tax share of the premium, but not any employee post tax payments for the premium. An employer may use any reasonable method to allocate the health plan expenses, including using the COBRA applicable premium from the insurer, an average premium rate for all employees or a substantially similar method that takes into account the average premium rate for employees with self-only coverage as one group and the other group at the other than self-only coverage rate.
Calculation of the Average Premium for a Self-Insured Health Plan
For employers with self-insured group health plans, they may use any reasonable method to determine and allocate the plan expenses including using the COBRA applicable premium, or any reasonable actuarial method to determine the estimated annual expenses of the plan. The estimated annual expense would be divided by the number of employees covered and then again by the average number of work days during the year by the employees, treating days of paid leave as work days and this leaves with an amount allocated to each day of leave. Employer contributions to an HSA or Archer MSA are not included in the calculation of the qualified health plan costs. Employer contributions to an HRA or ICHRA or health FSA are included in costs, but employer contributions to a QSEHRA are excluded from such costs.
Record Retention Requirements for Claiming the Credit for Paid Sick Leave
An employer claiming the credit for the paid sick leaves needs to retain substantiation of the credit claimed, which should include documentation related to and supporting each employee’s leave and paid leave, health plan costs for the period of the leave, including the Forms 941 for each calendar quarter, each Form 7200 filed and the documentation reconciling the amount of the credit taken and the deposits of payroll taxes offset. This means that to claim the cost of the health plan as part of the credit, employers need to retain documentation of how they calculated the cost of their health plan coverage for each of the various tiers of coverage for each plan year.
An employer needs to be able to prove it did not use the employment tax deposit offset for paid leave wages and also file for an advance credit on those same paid leave wages for that employee because this is an employee by employee calculation.
Employee Certification Requirements as Part of the Record Retention Requirements
An employer needs to retain the written request for the leave provided by the employee which includes: employee’s name, date or dates for which leave is requested, a statement of the COVID-19 related reason the employee is requesting leave and written support for the reason, and a statement that the employee is unable to work, including by means of telework, for such reason.
If the paid sick leave is based on a quarantine order or self-quarantined advice, the statement from the employee must include the name of the governmental entity ordering the quarantine or the name of the health care professional advising self-quarantine, and if the person subject to such quarantine is not the employee, the person subject to such advice and his or her relation to the employee.
If the paid sick leave is based on the closing of a school or child care provider being unavailable, then the employee’s statement must include the name and age of the child to be cared for, the name of the school that closed or the place of care that is not available and a representation that no other person will be providing care for the child during the period for which the employee is receiving the FMLA expansion leave.
If the FMLA expansion leave is requested for a child who is over 14 years during daylight hours because the employee is unable to work or telework, the statement must state that special circumstances exist requiring the employee to provide the care for the child over 14 years.
Calculation Records to be Retained
Records demonstrating how the employer determined the amount of qualified sick or family leave wages paid to each employee, the employee’s eligibility for the credit, including records of work, telework, and the two types of qualified leave must be maintained. Completed forms 7200 and 941.
Record Retention Duration
An employer claiming the credit should retain any other filings or communications regarding the credit claimed. The Department of Labor regulations and IRS Q&As indicated these records should be retained for 4 years after the date the tax became due or is paid, whichever is later.
Paid Leave Under the FFCRA Still Must Have Employment Taxes Withheld Before it is Paid to the Employee
It is important to remember that an employer paying the required paid leaves under the FFCRA is still required to withhold from the employee’s mandated pay for the paid leaves, the employee’s share of FICA 6.2% and the employee’s share of Medicare tax 1.45% for a total of 7.65% on such paid leave. Such an employer is not required to pay the employer’s share of the OASDI or Social Security tax on the wages paid under the FFCRA.
Impact of Using Tax Offset on Employment Tax Deposit Rules and Related Penalties
Employers are required to periodically deposit the federal payroll tax withholdings on a schedule determined by the amount of payroll taxes withheld. There is a penalty for failing to timely deposit the payroll taxes (Code section 6656) and responsible persons can be liable for failing to deposit certain payroll taxes. No penalty will apply as long as the employer does not claim an advance credit on the same paid sick leave wages that it also used to reduce its deposits of payroll taxes. The IRS FAQs and Notice 2020-22 provided some relief from imposition of penalties for failure to deposit the payroll taxes on a timely basis. The penalties will not be imposed if:
- the eligible employer paid qualified leave wages to its employees in the calendar quarter before the required deposit,
- the amount of federal employment taxes that the eligible employer does not timely deposit is less than or equal to the amount of the eligible employer’s anticipated tax credits for the qualified leave wages including the allocable health plan coverage expenses for the period of the leaves for the respective employees on such leaves and the eligible employer’s share of Medicare tax on the qualified leave wages for the calendar quarter as of the time of the required deposit; and
- the eligible employer did not seek payment of an advance credit by filing Form 7200 requesting an advance credit with respect to any portion of the anticipated credits it relied upon to reduce its payroll tax deposits.
Coordination with the Employee Retention Credit
An employer can receive a credit for the FFCRA paid sick leave wages and related qualified costs for an employee on such a leave and later also claim the employee retention credit for that same employee, provided the employee retention credit is not claimed on the paid leave wages. No double dipping! An employer can only claim the credit after it has paid the qualified leave wages.
If an employer receives a tax credit for the FFCRA paid leave wages, that employer can still receive a small business interruption loan under the CARES Act, but the wages paid for the qualified leaves are not eligible as “payroll costs” for purposes of receiving loan forgiveness under section 1106 of the CARES Act.