United States

New tax-exempt employer tax credit: Paid family and medical leave

INSIGHT ARTICLE  | 

As a part of the Tax Cuts and Jobs Act (TCJA), there is a temporary income tax credit available to all employers, including tax-exempt organizations called the Paid Family and Medical Leave Tax Credit. This new credit was brought into the Internal Revenue Code as a part of new section 45S. The provision allows eligible employers to claim a general business credit equal to 12.5 percent of the amount of wages paid to qualifying employees during any period in which such employees are on family and medical leave if the rate of payment under the program is 50 percent of the wages normally paid to an employee. The credit is increased by 0.25 percentage points (but not above 25 percent) for each percentage point by which the rate of payment exceeds 50 percent. The maximum amount of family and medical leave that may be taken into account with respect to any employee for any taxable year is 12 weeks.

Example: An employee takes 12 weeks off under the Family and Medical Leave Act of 1993. During their time off, the tax-exempt employer continues to pay the employee 50 percent of their $2,000/week salary, so the tax-exempt employer continues to pay the employee $1,000 weekly during the 12 week leave period. The tax-exempt employer would be eligible for 12.5 percent tax credit on $12,000 of wages paid during the three month period of leave ($1,000 x 12 weeks) which would be a tax credit of $1,500. If the tax-exempt employer instead paid 80 percent of the employee’s salary, the employer would be eligible for a 20 percent tax credit (80%-50%*.25+12.5%) on wages of $19,200 ($2000 * 80% * 12 weeks) which would be a tax credit of $3,840.

An eligible employer is one who has in place a written policy that allows all qualifying full-time employees not less than two weeks of annual paid family and medical leave, and who allows all less-than-full-time qualifying employees a commensurate amount of leave on a pro rata basis. For purposes of this requirement, leave paid for or mandated by a state or local government is not taken into account.

Note: A written policy must be in place under this provision.

A qualifying employee means any employee as defined in section 3(e) of the Fair Labor Standards Act of 1938 who has been employed by the employer for one year or more, and who for the preceding year, had compensation not in excess of 60 percent of the compensation threshold for highly compensated employees. In 2018, the compensation threshold for highly compensated employees is $120,000 under section 414(g)(1)(B). An employee could only be considered a qualifying employee if their compensation in the preceding tax year was less than $72,000.

The secretary will make determinations as to whether an employer or an employee satisfies the applicable requirements for an eligible employer or qualifying employee, based on information provided by the employer.

Family and medical leave is defined as leave described under sections 102(a)(1)(a)-(e) or 102(a)(3) of the Family and Medical Leave Act of 1993. If an employer provides paid leave as vacation leave, personal leave, or other medical or sick leave, this paid leave would not be considered to be family and medical leave.

Also, this provision does not apply to wages paid in taxable years beginning after Dec. 31, 2019, therefore, this tax credit is available for wages paid in taxable years beginning after Dec. 31, 2017, and before Jan. 1, 2020 (in other words, for the 2018 and 2019 tax years of an organization).

Tax credit as a general business credit

As stated earlier, this is a tax credit which may be reported as a general business credit for tax-exempt organizations filing Form 990-T. Most general business credits are also allowed to be used to offset a tax-exempt organization’s unrelated business income tax. Certain credits are not allowed to offset the unrelated business income tax when such tax credits statutory language makes applicable-like provisions as provided for in sections 52(c), (d), or (e). These section 52 rules specifically make inapplicable to tax-exempt organizations the work opportunity tax credit which are not applicable to hiring qualified veterans. As a matter of practice in statutory language construction, other tax credits reference such provisions in section 52 if it is intended that such credits are not applicable to be used by a tax-exempt organization to offset its unrelated business income tax. As such, a review of the legislative text provided for in the new section 45S to determine if these provisions are made applicable to this new tax credit is warranted.

Upon examination of the legislative text associated with the new section 45S, no such reference is anywhere in its provisions which suggests that this family and medical leave tax credit may not be used to offset a tax-exempt organization’s unrelated business income tax, whether the tax credit is associated with an individual’s wages who may work in an unrelated or related activity of the tax-exempt organization. As such, these credits would be reportable on the form that is ultimately required by the IRS to be reported on to claim the credit, and carried to Form 3800, all of which would be attached to the tax-exempt organization’s Form 990-T. This credit may be used to offset other unrelated business income tax on Form 990-T, however, it does not appear to be a refundable credit.

Conclusion

The Paid Family and Medical Leave Tax Credit under the new section 45S is a favorable provision in the TCJA that applies to tax-exempt organizations. Further, such tax credit appears to be available to be used to offset a tax-exempt organization’s unrelated business income tax generated from unrelated activities entered into by the tax-exempt organization notwithstanding whether the wages to which the credit relates are associated with the generation of related or unrelated income by the tax-exempt entity.

 

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