How new federal income tax exemptions and credits can benefit your company Featured

8:00pm EDT August 26, 2010

Businesses of all sizes can benefit from two tax breaks passed by Congress as part of the Hiring Incentives to Restore Employment (HIRE) Act. This act was signed into law on March 18 by President Barack Obama. Its provisions — the Payroll Tax Exemption (the “exemption”) and the New Hire Retention Credit (the “credit”) — are available to most U.S. employers and differ from the Work Opportunity Tax Credits that have been in place since the 1990s.

The exemption provides qualified employers with savings of the 6.2 percent Social Security portion of an employer’s employment tax liability on the wages of qualified employees. However, the exemption does not apply to the 1.45 percent portion (the so-called Medicare tax) of an employer’s employment tax liability.

The credit, in contrast, is an offset against a qualified employer’s income tax liability. The total credit amount per employee is equal to whichever is less — 6.2 percent of wages paid to a qualified employee over 52 weeks, or $1,000. If an employer is otherwise qualified, it can get the benefit of the exemption and the credit relative to the same qualified employee.

“The definition of qualified employee and employer are the same under each tax savings opportunity,” says Walter M. McGrail, JD, CPA, a senior manager at Cendrowski Selecky PC. “While each tax savings employs a 6.2 percent rate of wages in its calculation, the manner of determining the savings and realizing its associated benefit differs.”

Smart Business spoke with McGrail about the exemption and the credit, and about how employers and employees can take advantage of them.

What is the time frame to qualify for the tax savings?

The exemption applies to wages paid to a qualified employee at any time during calendar year 2010, so it is available through the end of 2010. The credit, on the other hand, applies to wages that span a 52-week period for any qualified hire from Feb. 4, 2010, through Dec. 31, 2010. So, at the latest, it could apply to wages paid through December 2011.

Which employers qualify for the exemption and/or credit?

Generally, any U. S. business entity subject to employment tax qualifies. Taxable businesses and tax-exempt organizations qualify, and employers in U.S. territories that are subject to federal Social Security tax also qualify. Public colleges and universities can qualify for the exemption, but federal, state and local government employers generally do not qualify, nor do household employers.

The credit is a general business credit to encourage retention of new hires, so any taxpayers that can make use of federal business income tax credits can claim the credit as long as the wages and employees otherwise qualify.

The credit may not offset alternative minimum tax and may not be carried back to taxable years prior to 2010.

Which employees qualify for the exemption and/or credit?

A qualified employee is someone hired from Feb. 4, 2010, to Dec. 31, 2010, who was unemployed, or employed for 40 hours or fewer during the 60-day period before the date he or she is hired. Employers may also be entitled to the exemption for amounts paid to a rehired employee as long as the rehired person is otherwise a qualified employee. Employees do not qualify if they are hired to replace another employee, unless the other employee quit or was terminated for cause. Family members or relatives of an employer do not qualify, either.

Employees must sign an affidavit with the new employer affirming that they have been unemployed, or underemployed, during the previous 60 days. They can either use IRS Form W-11 or the employer’s own affidavit, as long as it includes the same information as IRS Form W-11. The employer does not need to file or send signed employee affidavits to the IRS but should retain them with other payroll and income tax records.

In addition, to qualify for the credit, a qualified employee (as defined for purposes of the exemption) must remain an employee for at least 52 consecutive weeks. Also, the wages paid to the employee for the last 26 weeks must equal at least 80 percent of the wages that were paid to the employee for the first 26 weeks.

How can employers claim the exemption or credit?

The exemption is claimed on an employer’s quarterly U.S. Form 941. It reduces the amount that the employer must pay for quarterly employment tax.

The credit is claimed in the employer’s income tax return for the taxable year that includes the end of the 52-week period.

How does the exemption or credit affect other incentives?

The exemption and the credit can both be claimed relative to the wages paid to the same qualifying employee. However, while the Work Opportunity Tax Credit (WOTC) and the credit may be claimed for the same qualified employee, the WOTC may not be claimed in conjunction with a claim for the exemption.

Also, an employer may claim the COBRA premium assistance credit and the payroll tax exemption for new hires on the same employment tax return.

What else does an employer need to know about the HIRE exemption or credit?

The qualifications are fairly straightforward. As with anything to do with taxes, make sure you call your tax adviser to see if there are any nuances or to find out whether you can actually use the credit to save tax.

WALTER M. McGRAIL, JD, CPA, is a senior manager at Cendrowski Selecky PC. Reach him at (248) 540-5760 or wmm@cendsel.com.