United States

IRS answers questions on paid family and medical leave tax credit

Notice 2018-71 provides anticipated guidance on new two-year credit

TAX ALERT  | 

The IRS has issued much anticipated guidance around the Employer Credit for Paid Family and Medical Leave (FML) through Notice 2018-71. This notice provides question and answers surrounding eligibility requirements of Section 45S. Specifically, this notice addresses the topics of employer eligibility, qualified family and medical leave, minimum paid leave requirements, and how to calculate and claim the credit.

Initially created by the Tax Cuts and Jobs Act (P.L. 115-97) and further detailed through an IRS FAQ in April 2018, the new Section 45S general business credit, provides employers a tax credit between 12.5 percent and 25 percent for wages paid to qualifying employees on family or medical leave paid in 2018 or 2019 calendar years. This credit is applicable to eligible employers who maintain a written paid FML policy, paying no less that 50 percent of wages normally paid, for a minimum of 2 weeks annually to qualifying employees.

Employer eligibility

Special rules for certain employers were included in Section 45S to address employers who employ individuals not covered by Title 1 of the Family and Medical Leave Act (FMLA). An initially disqualified employer or “added employer” may gain eligibility for the credit if “non-interference” language is added to their written FML policy. “Non-interference” language is further defined and illustrated in this notice and must ensure that the employer will not interfere, restrain, or deny any right provided in the policy or discriminate against any individual covered.

This notice also further explains that employer written FML policies do not need to be contained in one document. Instead, the written policy may be assembled by combining several policies or documents maintained by the employer. New or amended FML employer policies are effective at the later of the adoption or effective day. However, if a policy is created or amended before Dec. 31, 2018, an employer can retroactively amend back to the start of the year.

Family and medical leave

Eligible employers may claim the credit under section 45S only for paid family and medical leave taken for reasons outlined the FMLA regulations (29 CFR Section 825.102). Due to the stringent guidelines, employers must specifically designate paid leave time for one or more FMLA purposes and employee leave cannot be combined with non-FMLA reasons such as minor illness, vacation or personal leave.

Furthermore, if a written policy is written for FMLA purposes but contains general languages such as “family members,” the policy is not immediately disqualified from the credit. Instead, paid leave to care for qualifying family members such as a son or daughter would be included in the credit calculation and non-qualifying family members such as a grandparent or domestic partner would be excluded.

Short-term disability policies have been a much debated topic around the FML tax credit. Notice 2018-71 provides clarification that FML leave provided pursuant to an employer’s short-term disability policy may be characterized as qualified leave as long as all other requirements are met. However, certain short-term disability policies may include employee requirements that exclude eligibility from the Section 45S credit; such as, excluding employees with pre-existing conditions or requiring minimum employee service of six months. To qualify for the Section 45S credit, employers with exclusive short-term disability policies may add a separate written policy to include FML paid leave for employees not qualifying under the short-term disability policy requirements.

Minimum paid leave requirements

Paid FML must be at a minimum of two weeks and cannot be required or paid by state or local government. If a portion of FML leave is paid or required by state or local government, an employer policy must independently satisfy 50 percent of normal compensation paid during leave.

Qualified employees have been initially defined by the criteria outlined in the Fair Labor Standards Act of 1938 (FLSA). New guidance provides that no minimum number of hours, including FLSA noted 1,250 hours, is required for Section 45S credit eligibility and any employee working less than 30 hours per week should generally be viewed as part-time. In addition, no class of employee may be excluded from this FML policy. In addition, this notice illustrates that it is acceptable for different employees to receive different percentages of wages paid during FML, as long as they exceed 50 percent of normal compensation.

Claiming the credit

The 45S credit applies to taxable years beginning after Dec. 31, 2017 and before Jan. 1, 2020 and must be claimed on IRS Form 8994, Employer Credit for Paid Family and Medical Leave and IRS form 3800, General Business Credit on a timely filed income tax return. Caution is given to tax-exempt employers under 501(a) as they are not considered eligible employment for purposes under FUTA are not eligible for credit. Section 280(c) is relevant for this general business credit and the wage deductionmust be reduced by the credit amount.

Also, for purposes of the FML credit, “wages” does not include any amount taken into account for purposes of determining any other general business credit, for example the research credit or the work opportunity tax credit.

For controlled groups, the election to claim or not to claim this credit is to be made by each separate member but made only by the agent for a consolidated group. For aggregated employers, one election may be made to claim or not claim the credit, but calculation is computed separately by each taxpayer.

Future guidance will be issued as the IRS will be accepting comments until Nov. 23, 2018, at which time the IRS and Treasury Department will work to incorporate into proposed regulations. 

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