IRS Offers FFCRA FAQs on Paid Leave Tax Credits
Senior Compliance Attorney
On April 17, 2020 the Internal Revenue Service (IRS) issued a set of FAQs regarding the Families First Coronavirus Relief Act (FFCRA) paid leave tax credits. A review of several important FAQs is provided below:
What are the FFCRA tax credits?
Eligible employers can receive fully refundable tax credits equal to the required paid sick leave (EPSLA) and paid family medical leave (EFMLEA). These credits include the employer’s share of Medicare tax imposed on those wages and “qualified health plan expenses”. Employers are not subject to the employer portion of social security tax imposed on those wages.
How does an employer get the tax credits?
Employers that pay qualified leave wages will be able to retain an amount of all federal employment taxes equal to the amount of the qualified leave wages paid, plus the allocable qualified health plan expenses and the amount of the employer’s share of Medicare tax imposed on those wages instead of depositing them with the IRS. The federal employment taxes that are available for retention include federal income taxes withheld from employees, the employees’ share of social security and Medicare taxes, and the employer’s share of Social Security and Medicare taxes with respect to all employees.
If the federal employment taxes yet to be deposited are insufficient to cover the qualified leave wages, plus the allocable qualified health plan expenses and the amount of the employer’s share of Medicare tax imposed on those wages, the employer will be able file a request for an advance payment from the IRS by submitting a Form 7200, Advance Payment of Employer Credits Due to COVID-19. The IRS expects to begin processing these requests in April 2020.
The FFCRA adds to the tax credits the amount of the Hospital Insurance tax, also known as Medicare tax, that eligible employers are required to pay on qualified leave wages. The rate for this tax is 1.45 percent of wages. (Eligible employers subject to Railroad Retirement Tax Act do not get this credit.)
NOTE: There is no credit for the employer portion of the Old Age, Survivors and Disability Insurance (OASDI) tax, also known as social security tax, that eligible employers are required to pay on the qualified leave wages because these wages are not subject to this tax.
Example: An Eligible Employer pays $10,000 in qualified sick leave wages and qualified family leave wages in Q2 2020. It does not owe the employer’s share of social security tax on the $10,000, but it will owe $145 for the employer’s share of Medicare tax. Its credits equal $10,145, which include the $10,000 in qualified leave wages plus $145 for the Eligible Employer’s share of Medicare tax (this example does not include any qualified health plan expenses allocable to the qualified leave wages). This amount may be applied against any federal employment taxes that Eligible Employer is liable for on any wages paid in Q2 2020. Any excess over the federal employment tax liabilities is refunded in accord with normal procedures. Eligible Employer must still withhold the employee’s share of social security and Medicare taxes on the qualified leave wages paid.
What type of documentation is required?
In addition to retaining documentation related to and supporting each employee’s leave to substantiate the claim for credits, employers should also retain the following:
- Documentation to show how the employer determined the amount of qualified sick and family leave wages paid to employees that are eligible for the credit, including records of work, telework and qualified sick leave and qualified family leave.
- Documentation to show how the employer determined the amount of qualified health plan expenses that the employer allocated to wages.
- Copies of any completed Forms 7200, Advance of Employer Credits Due To COVID-19 that the employer submitted to the IRS.
- Copies of the completed Forms 941, Employer’s Quarterly Federal Tax Return, that the employer submitted to the IRS (or, for employers that use third party payers to meet their employment tax obligations, records of information provided to the third party payer regarding the employer’s entitlement to the credit claimed on Form 941).
Employers should keep all records of employment taxes for at least four years after the date the tax becomes due or is paid, whichever comes later. These should be available for IRS review.
What are “qualified leave wages”?
The FFCRA does not distinguish qualified leave wages from other wages an employee may receive from the employee’s standpoint as a taxpayer. The same rules that generally apply to an employee’s regular wages (or compensation, for RRTA purposes) would apply from the employee’s standpoint. To the extent that an employee has a salary reduction agreement in place with the employer, the FFCRA does not include any provisions that explicitly prohibit taking salary reduction contributions for any plan from qualified sick leave wages or qualified family leave wages.
Qualified leave wages are wages as defined in section 3121(a) of the Internal Revenue Code (the “Code”) and compensation as defined in section 3231(e) of the Code, so the employee must pay social security and Medicare taxes (and for railroad employees, Tier II of the Railroad Retirement Tax Act tax). In addition, wages are generally compensation for services subject to income tax under section 61 of the Code and federal income tax withholding under section 3402 of the Code unless an exception applies. The FFCRA did not include an exception for qualified leave wages from income.
Therefore, qualified leave wages are wages subject to withholding of federal income tax and the employee’s share of social security and Medicare taxes. Qualified leave wages are also considered wages for purposes of other benefits that the eligible employer provides, such as contributions to 401(k) plans.
What are “qualified health plan expenses”?
Qualified health plan expenses are amounts paid or incurred by an Eligible Employer to provide and maintain a group health plan (as defined in section 5000(b)(1) of the Internal Revenue Code) that are allocable to the employee’s qualified leave wages.
The amount of qualified health plan expenses taken into account in determining the credits includes both the employer cost and the employee pre-tax salary contributions.
The qualified health plan expenses are determined separately for each plan. For each plan, those expenses are allocated to the employees who participate in that plan. In the case of an employee who participates in more than one plan, the allocated expenses of each plan in which the employee participates are aggregated for that employee.
Fully Insured Group Health Plan
Employers may use any reasonable method to determine and allocate the plan expenses, including:
(1) The COBRA applicable premium for the employee typically available from the insurer,
(2) One average premium rate for all employees, or
(3) A substantially similar method that takes into account the average premium rate determined separately for employees with self-only and other than self-only coverage.
If an employer chooses to use one average premium rate for all employees, the allocable amount for each day an employee covered by the insured group health plan is entitled to qualified leave wages could be determined using the following steps:
- The Eligible Employer’s overall annual premium for the employees covered by the policy is divided by the number of employees covered by the policy to determine the average annual premium per employee.
- The average annual premium per employee is divided by the average number of work days during the year by all covered employees (treating days of paid leave as a work day and a work day as including any day on which work is performed) to determine the average daily premium per employee. For example, a full-year employee working five days per week may be treated as working 52 weeks x 5 days or 260 days. Calculations for part-time and seasonal employees who participate in the plan should be adjusted as appropriate. Employers may use any reasonable method for calculating part-time employee work days.
- The resulting amount is the amount allocated to each day of qualified sick or family leave wages.
Example: An eligible employer sponsors an insured group health plan that covers 400 employees, some with self-only coverage and some with family coverage. Each employee is expected to have 260 work days a year. (Five days a week for 52 weeks.) The employees contribute a portion of their premium by pre-tax salary reduction, with different amounts for self-only and family. The total annual premium for the 400 employees is $5.2 million. (This includes both the amount paid by the Eligible Employer and the amounts paid by employees through salary reduction.)
For an employer using one average premium rate for all employees, the average annual premium rate is $5.2 million divided by 400, or $13,000. For each employee expected to have 260 work days a year, this results in a daily average premium rate equal to $13,000 divided by 260, or $50. That $50 is the amount of qualified health expenses allocated to each day of paid sick or family leave per employee.
Self-Insured Group Health Plan
Employer sponsors may use any reasonable method to determine and allocate the plan expenses, including:
(1) The COBRA applicable premium for the employee typically available from the administrator, or
(2) Any reasonable actuarial method to determine the estimated annual expenses of the plan.
Employers that choose to use a reasonable actuarial method to determine the estimated annual expenses of the plan should use rules similar to the rules for insured plans to determine the amount of expenses allocated to an employee. That is, the estimated annual expense is divided by the number of employees covered by the plan, and that amount is divided by the average number of work days during the year by the employees (treating days of paid leave as work days and any day on which an employee performs any work as work days). The resulting amount is the amount allocated to each day of qualified sick or family leave wages.
The amount of qualified health plan expenses does not include employer contributions to HSAs or Archer MSAs.
The amount of qualified health plan expenses may include contributions to an HRA (including an individual coverage HRA), or a health FSA, but does not include contributions to a QSEHRA. To allocate contributions to an HRA or a health FSA, employers should use the amount of contributions made on behalf of the particular employee.
Interaction with CARES Act provisions
Employers who meet the requirements for the employee retention credit under Section 2301 of the CARES Act may also receive FFCRA paid leave credits, but not for the same wage payments.
In addition, employers may still use proceeds from the Payroll Protection Program (PPP) under the CARES act for “payroll costs” but cannot include qualified leave wages under the FFCRA if receiving tax credits.
“Health care provider” and “emergency responder” employee exemptions
The FFCRA provides that employers may exclude employees who are health care providers or emergency responders from the paid sick leave and expanded family and medical leave requirements. If an employer excludes a health care provider or emergency responder from FFACRA paid leave for one reason, such as caring for an individual, but not for other reasons the employer is still eligible to claim the credit for any such qualified sick leave wages it pays to the employee, as well as the credit for allocable qualified health plan expenses and the employer’s share of Medicare tax on those qualified sick leave wages.
This FAQ from the Internal Revenue Service helps employers understand how the IRS will apply tax credits available to them as a result of the FFCRA. If you have further questions, please contact your tax professional or your M3 account team.