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Paid Sick and Family Leave: The Tax Rules

 

As of this writing, 15 states and Washington, D.C., require paid sick leave, while eight states and Washington, D.C., require paid family leave. Many local governments also mandate paid sick or family leave.

In addition, studies show that most employers offer paid sick leave, even if not legally required to — and employers are increasingly choosing to provide paid family leave.

So it's crucial that employers understand their tax-withholding responsibilities when it comes to paid sick and family leave. 

Tax withholding for paid sick leave

If you voluntarily offer paid sick leave and make the payments directly to employees — via your payroll system or your payroll provider — then sick leave wages are generally taxable for federal, state and local purposes. The payments are usually taxed similarly to regular wages — meaning federal income tax, Social Security tax, Medicare tax, and applicable state and local taxes should be withheld.

However, accumulated sick leave payments should be treated as supplemental wages, as defined by the Internal Revenue Service.

Third-party sick leave payments

Things are a little more complicated when sick leave payments are made by a third party, such as an insurance company.

Generally, if sick leave payments are made by a third party that is not an agent of the employer, then withholding taxes is voluntary — meaning the employer is not automatically required to withhold taxes. The employee can, however, ask the employer to withhold federal income tax by submitting IRS Form W-4S.

In general, though, the third-party payer is responsible for withholding applicable federal, state and local taxes.

Note that sick leave payments are subject to Social Security and Medicare taxes only for the first six months after the sick leave began. Though the payments are exempt from Social Security and Medicare taxes after six months, they remain subject to federal income tax.

Mandatory paid sick leave

Paid sick leave required by the state or local government is typically considered "wages" from which applicable employment taxes should be withheld. Employers may contact their state or local revenue agency for tax-withholding guidelines. Employees' contributions to a state-mandated paid family leave program are after-tax deductions, meaning applicable taxes must be withheld from the contributions.

As you see, the paid benefits universe is complex, and there are issues beyond what were discussed here. So your best bet is to work closely with a financial professional who can help you make sure your benefits are in compliance with tax and withholding rules.

 

 

 
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Our firm provides the information in this e-newsletter for general guidance only, and does not constitute the provision of legal advice, tax advice, accounting services, investment advice, or professional consulting of any kind. The information provided herein should not be used as a substitute for consultation with professional tax, accounting, legal, or other competent advisers. Before making any decision or taking any action, you should consult a professional adviser who has been provided with all pertinent facts relevant to your particular situation. Tax articles in this e-newsletter are not intended to be used, and cannot be used by any taxpayer, for the purpose of avoiding accuracy-related penalties that may be imposed on the taxpayer. The information is provided "as is," with no assurance or guarantee of completeness, accuracy, or timeliness of the information, and without warranty of any kind, express or implied, including but not limited to warranties of performance, merchantability, and fitness for a particular purpose.
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