Payroll Tax Cut Extended Through End of 2012

The Federal Insurance Contributions Act (FICA) imposes two taxes on employers, employees, and self-employed workers – Social Security (employee – 6.2%; employer – 6.2%) and Medicare (employee – 1.45%; employer – 1.45%) tax. For remuneration received during the “payroll tax holiday period,” namely calendar-year 2011, the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 (the 2010 Tax Relief Act,) reduced the employee Social Security tax rate under the FICA tax by two percentage points from 6.2% to 4.2%. Similarly, for self-employment income for tax years beginning in 2011, the Act reduced the Social Security tax rate by two percentage points from 12.4% to 10.4%.

In December of 2011, when Congress couldn't agree on how to fund a full-year extension of the payroll tax cut that applied for 2011, it passed the “Temporary Payroll Tax Cut Continuation Act of 2011” (the TTCA), providing for a two-month extension of the payroll tax cut that applied for 2011, and a parallel extension of a lower tax rate on self-employment income. More specifically, under the TTCA, the reduced employee Social Security tax rate of 4.2% under the FICA tax, and the equivalent employee portion of the RRTA tax, was extended to apply to covered wages paid in the first two months of 2012. The TTCA also provided for recapture of any benefit a taxpayer may have received from the reduction in the Social Security tax rate, and the equivalent employee portion of the RRTA tax, for remuneration received during the first two months of 2012 in excess of $18,350 (i.e., two-twelfths of the 2012 wage base of $110,100). The recapture would have been accomplished by a tax equal to 2% of the amount of wages (and railroad compensation) received during the first two months of 2012 that exceed $18,350. The recapture provision would have applied only if the temporary payroll tax cut terminated on Feb. 29, 2012.

For tax years beginning in 2012, the TTCA also provided that the Social Security rate for a self-employed individual remained at 10.4%, for self-employment income of up to $18,350 (reduced by wages subject to the lower OASDI rate for 2012).

New law. The Act provides that the “payroll tax holiday period” means calendar years 2011 and 2012. (Sec. 601(c) of the 2010 Tax Relief Act, as amended by Act Sec. 1001(a)). Thus, the 2% point payroll tax reduction and the 2% point reduction for the self-employed will apply through Dec. 31, 2012. As a result, for 2012, employees will pay only 4.2% Social Security tax on wages up to $110,100 (wage base for 2012) and self-employed individuals will pay only 10.4% Social Security self-employment taxes on self-employment income up to $110,100.

Thus, the maximum savings for 2012 will be $2,202 (2% of $110,100) per taxpayer. If both spouses earn at least as much as the wage base, the maximum savings will be $4,404.

Additionally, the Act repeals the TTCA recapture provisions applying to taxpayers with wages exceeding $18,350 over the first two months of 2012. (Sec. 601(g) of the 2010 Tax Relief Act, as amended by TTCA Sec. 101(a), repealed by Act Sec. 1001(b)).