For the second year in a row, the Treasury Department has issued a revenue proposal to clarify the tax treatment of Earned Wage Access (EWA) payment arrangements.
A director of tax services in Washington DC says the Treasury Department’s proposal to clarify the tax treatment of pay-as-you-go arrangements makes it “clear” that the IRS is concerned about the issue of constructive receipt of this employee benefit in trend.
Access to earned salary
According to the Treasury, employers and third-party payers are increasingly allowing employees to receive payment of wages earned before regularly scheduled pay dates. In the payroll industry, such arrangements are generally known as earned wage access, or EWA. For more than a decade, this type of advance pay program has become a more popular benefit offer by employers to their workers as a financial wellness tool.
“It appears to be a very valuable benefit from an employee perspective, as many employees live paycheck to paycheck,” said Tim Daum, managing director of Crowe LLP’s National Revenue Services. An April 2023 report from PYMNTS and LendingClub found that at least 60% of U.S. consumers were living paycheck to paycheck as of March 2023. Daum added that for people with certain immediate financial concerns, “the ability to access your wages before your normally scheduled payday could be a big problem”.
In 2021, the American Payroll Association (APA) produced a report on understanding EWA, noting that such “programs have moved from the early adoption phase to becoming more established business practice.” and part of the benefits package offered to employees. The report, titled “Understanding access to earned wages and payroll”, explains that “employers also want to know if employee benefits will help them attract and retain talent”.
Employer benefits too
TO 2022 survey showed that workers in the US would stay in a job longer if they could immediately access their earned pay after each work day at no cost (56% of respondents). Also, during a workshop on financial wellness Speaking at the APA Congress 2022 event in Las Vegas, Felicia Cheek, director of HCM product strategy at Oracle, said concern for an employee’s financial well-being is one way to help employers acquire and retain talent. as a way to “combat” the Great Resignation, which occurred during the height of the coronavirus (COVID-19) pandemic.
Although this popular benefit is potentially advantageous to employers and employees, EWA is not without its problems. First, in December 2020, the Consumer Financial Protection Bureau (CFPB) published an advisory opinion in the federal register to resolve regulatory uncertainty regarding the applicability of the definition of credit under Regulation Z, which implements the Truth in Lending Act (TILA), to certain EWA programs. Specifically, the opinion said that a covered EWA program does not involve the offer or extension of “credit.”
Daum said that people concerned about federal fair credit and lending laws “didn’t like the decision because they saw it as a loophole in terms of having to comply with Regulation Z.” He added that from an employer’s point of view, “it helps them not to have to deal with Regulation Z, pursuant to that guidance, but it hurts them from an employment tax perspective.”
This view of the employment tax first came to light when the Treasury Department issued its fiscal year 2023 “Green Book” of revenue proposals in March 2022, with a measure on page 106 to clarify the tax treatment of pay-as-you-go arrangements. Labor tax regulations state that wages are considered paid when they are received constructively by the employee. This means that the wages are set aside or made available so that the employee can access that amount at any time. “He’s in constructive receipt as soon as he can access them, whether he accesses them or not,” Daum said.
As such, Treasury says employees with access to a pay-on-demand arrangement can be in constant constructive receipt of their wages as they are earned and advises employers offering EWAs to maintain a daily or miscellaneous payroll period in which they withhold and pay labor taxes on the wages earned by employees on a daily basis.
The Treasury once again proposes the constructive receipt rule
The effective date of this proposal would be January 1, 2023. However, 2022 ended without any such legislation being enacted. However, the Treasury “Green Book” for fiscal year 2024 again includes the employment tax clarification of the pay-as-you-go arrangement on page 207. “It is a proposal from the Administration, but I think it is clear how the The IRS sees these agreements is that there is a constructive receipt issue,” Daum stated.
Specifically, the Treasury proposal would amend various sections of the Internal Revenue Code as follows:
- Security Code 7701provide a definition of a pay-as-you-go arrangement as an arrangement that allows employees to withdraw wages earned before regularly scheduled pay dates.
- Sec Code 3401(b)provide for on-demand pay arrangements to be treated as a weekly pay period, even if employees have access to their wages during the week.
- Security Code 3102, Security Code 3111and Security Code 3301to clarify that pay-as-you-go arrangements are not loans.
- Security Code 6302to provide special payroll deposit rules for pay-as-you-go arrangements.
The proposals show how the IRS views the EWA
“From an employer’s perspective, these proposals should make them aware that…if the IRS ever looks at your particular arrangement, they may wonder why you haven’t been remitting taxes more often than you have.” . Daum said. He provided an example where an employer could pay its employees monthly, implement an EWA program, and then find that the IRS may view the change as if the employer was paying its employees using the EWA benefit as a daily payday. “I think this proposal should put employers on notice that that’s the way the IRS sees things,” Daum added regarding the potential exposure employers may be opening themselves up to.
The proposal could provide certainty
As to whether the proposal was signed into law sometime this year and went into effect in 2024, Daum thinks it could be welcomed by employers and tax professionals. “It would give some certainty about how all of this should be dealt with,” he began. “I think if they enacted legislation like this, it would give everyone a better roadmap for exactly how to handle it.”
EWA State Laws and Propositions
While there is currently no specific rule in effect regarding EWA and implicit receipt for federal employment tax purposes, some states have enacted laws regarding on-demand payment arrangements. Others are in the process of adding or amending existing rules or regulations. For example, the California Department of Financial Protection and Innovation has comment period extended to May 17 for proposed regulations related to EWA.
A bill proposed earlier this year in Georgia limit mandatory fees EWA service providers may charge 10%. Other states such as Kansas, Missouri, New York, and Vermont have proposed legislation to require EWA providers to register with the state.
Although Congress does not have any pending legislation at this time regarding Treasury’s EWA proposal, the EWA continues to trend in a positive direction. While Daum prefers not to predict the future, he said that without guidance, EWA is currently “overtly difficult to work with,” which may prove to be an obstacle to implementation, as EWA will become “more prevalent… [the] technology just keeps getting better and better.”
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