On August 8, the president signed an executive order allowing for the deferral of certain payroll taxes until the first part of 2021. The provision became effective on Sept. 1, so workers will soon find out if they will be participating. Or not. Most likely, not.
The deferral plan allows workers who earn less than $4,000 per two-week pay period, or $104,000 per year, to stop paying their share of Social Security taxes for the rest of the year, and make up the shortfall through higher withholding between January and April of 2021. In essence, it is a four-month loan to workers whose paychecks will then be doubly reduced to repay the loan. If it sounds like a bad idea, fear not. Unless you work for the federal government, you probably won't see it.
That's because employer participation is voluntary, and few companies are likely to sign up. All of the liability rests with the employer, who must "make arrangements" to withhold the unpaid taxes from employees. Should a worker receive the deferral and then leave before repayment, the burden falls on the employer to make up the shortfall or at very least withhold the entire arrearage from the last paycheck. Given the hassle of reprogramming payroll systems for such a temporary event and the added liability, few firms are embracing the plan.
The idea of a payroll tax cut has been touted by President Trump since March but requires Congressional approval. In light of the current deadlock over additional pandemic-related economic assistance, the President utilized a declaration of emergency to implement a temporary delay in tax collections, hoping to convince Congress to make the changes permanent. Given the state of the Social Security Trust Fund, such action seems both unlikely and imprudent.
The tax deferral applies to the employee's half of the 12.4% payroll tax earmarked to fund Social Security. A worker earning $60,000 per year would be eligible to postpone paying their 6.2% or roughly $1,200 until January 2021, at which time their checks would be dunned for both current and deferred taxes. This is a bad idea for several reasons.
First, the system is already stressed. Consensus estimates generally agree that the Social Security Trust Fund goes broke in 2035. This was before any consideration of the Coronavirus-related job losses, which probably moved the date a year or two forward. If the current four-month deferral is made permanent (and likely extended to all workers who did not get the deferral), the default date moves closer still, conceivably even within a decade. Default of the Trust Fund would either require an immediate reduction in Social Security benefits, or a sharp hike in income taxes.
From an economic perspective, the benefit is at best negligible. The earlier, more expansive tax cut plan floated by the President was projected by the Wharton School to have essentially zero benefit to the overall economy in the short run, but actually reduce GDP growth over time due to the increase in debt necessary to fund it.
From the workers' point of view, there is little upside and lots of pain in the early part of next year. Many wage earners may see a temporary bump and fail to realize that it must be repaid. The very workers who are most likely to increase consumption spending in the short run will face the greatest hardship come January when the bill comes due.
It appears that few employers are on board. A coalition of trade associations including the U.S. Chamber of Commerce, the National Association of Manufacturers, and the National Retail Federation have signed a letter urging Congress to reject the scheme and consider broad legislation to support both low-income workers and the unemployed, who obviously derive no benefit from a payroll tax deferral. The largest employer to begin the deferral is the Federal Government, including the U.S. military.
Congress still must deal with the economic damage from Covid-19. As for the President's deferral plan, nothing to see here.
Christopher A. Hopkins, CFA, is a vice president and portfolio manager for Barnett & Co. in Chattanooga