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December 21, 2010

Extension of Bush-Era Tax Cuts Include Payroll Tax Relief

President Obama signed into law the "Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010" into law on December 18, 2010. The new law extends the 2001 income tax rate cuts through 2012 and brings back the Federal estate tax, but at a reduced rate. The Act also contains a number of new tax breaks to help stimulate the economy.

The biggest new tax break under the Act is a one year reduction in the Social Security tax rate. Under this provision, the portion of the social security tax that funds the old age security and disability income (OASDI) program will be cut by two percentage points during 2011.

The Social Security payroll tax on individual wages is currently 6.2 %. That rate will be reduced to 4.2 % for wages paid beginning January 1, 2011. For an individual with wages of $60,000, this reduction will result in tax savings of $1,200, or roughly $50 per bi-weekly payroll period. The employer's share of Social Security tax is not reduced. Therefore, the total OASDI tax reported on the employer's Federal quarterly tax return (IRS form 941) will be 10.4 % – a 4.2 % employee share and a 6.2 % employer share.

Self-employed individuals will benefit from the same tax reduction. The OASDI portion of self-employment taxes will be cut from 12.4 % to 10.4 %.

The Medicare portion of the social security tax (2.9 %, split equally between employee and employer for wage earners) remains unchanged by the Act.

There is no phase-out of the OASDI tax reduction for high income taxpayers. However, since the OASDI taxes applies only to the first $106,800 in earnings in 2011, the tax savings for an individual earning more than $106,800 will be capped at $2,136.

The total cost of the OASDI tax reduction is estimated to be $120 billion.

The OASDI tax reduction will not affect individual Social Security benefits, because those benefits are based on lifetime earnings rather than the amount of tax paid by the worker into the Social Security system.

The tax break only applies in the year 2011. Rates will return to 2009 levels beginning in 2012. Beginning in 2013, the Medicare portion of the Social Security Tax will increase from the current 2.9 % to 3.8 % under the 2010 health care reform legislation.

If you have any questions or require our assistance in reviewing your policies or conducting management training, please contact the Hiscock & Barclay lawyer with whom you normally work or any attorney in our Labor & Employment practice area.

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