President Donald Trump signed an executive order on Saturday authorizing a payroll tax holiday. With the move, Trump is making an end-run around Congress, which has been deadlocked in negotiations to help Americans struggling with the financial effects of the coronavirus crisis.
But don’t call it a tax cut.
Trump’s order is actually a deferral of those payroll taxes Americans pay to support Social Security. Here’s the difference and why it matters.
Tax cut vs. tax deferral
Trump’s directive will have the Department of Treasury defer the 6.2 percent Social Security tax paid by American workers, though the order will apply only to those making less than $4,000 in biweekly salary, about $104,000 a year. The deferral would last from September 1 until the end of the year. The tax deferral applies only to working Americans, not the unemployed.
This executive order is part of a larger package of directives that funnel financial assistance to struggling Americans.
Payroll tax is normally collected through your employer, who deducts it automatically from each check. So the move would see working Americans take home more pay during the deferral period. However, the taxes would still be due later — a key difference between an actual tax cut and a deferral.
Trump has suggested that, if re-elected in November, he would make the tax deferral permanent, effectively turning the deferral into a tax cut. However, it’s unclear if he meant this specific deferral would be forgiven or whether he intended to eliminate the payroll tax on an ongoing basis, getting rid of a key source of funding for Social Security.
Following the president’s executive orders and comments, administration officials said that Trump meant that this one-off deferral would be forgiven, effectively turning it into a tax cut.
Key problems with the tax deferral
Trump’s executive order to defer Social Security taxes leaves many issues unsolved, and it’s not clear that the tax deferral will achieve its objective of providing relief to American workers.
“First, the action is a deferral of these taxes, not an elimination of them,” says Mark Hamrick, senior economic analyst at Bankrate. “So the bill is still due, it just isn’t due in the short-term.”
“And workers would be rightly concerned about having their paychecks taxed more heavily in the future to make up the difference,” says Hamrick. “It’s the old idea of ‘pay me now, or pay me later.’”
The plan also doesn’t assist Americans who need help the most, those who are out of work and need income. More than 31 million Americans were recently receiving some form of unemployment assistance, according to a July 23 report from the Department of Labor.
“The jobless rate for July, reported at 10.2 percent, remains above the peak seen in the Great Recession,” says Hamrick. “Bars and restaurants, for example, lacking sufficient customers, aren’t going to be saved by a payroll tax holiday.”
The payroll tax deferral also provides relatively modest relief over an extended period of time, rather than a powerful shot in the arm all at once.
For example, in the case of a worker earning $50,000 a year, the tax deferral would amount to a short-term increase of about $1,033 over the entire four-month period. That’s about $260 per month, or less than $60 per week. While help is certainly needed for those in dire straits, the tax deferral doesn’t move the needle significantly and the deferral would still be due later anyway.
On top of these concerns are the logistical issues with enacting the policy.
“Commentary from payroll processing firms indicates that it will be problematic, if not impossible, for businesses to make the changes needed to pass the extra money along,” says Hamrick.
So the proposed plan has serious flaws and doesn’t address some of the key issues created by the pandemic. Other fundamental measures could provide more effective solutions to the crisis.
Does the tax deferral hurt Social Security?
Under Trump’s executive order Social Security taxes are deferred, not eliminated, so theoretically the move doesn’t hurt funding for the popular social program. Moreover, Trump’s executive order may not be fully implemented anyway as political reality takes hold.
“It’s worth remembering that one of the reasons this action wasn’t passed by Congress is because the notion is unpopular among members of both parties,” says Hamrick.
“However, it is mind-boggling that the president would say he’d look to make it permanent if re-elected, as if to say he’s against further funding of Social Security,” he says.
Such a permanent move would be tremendously unpopular among Americans, many of whom rely on the consistent benefits to fund a portion of their retirement budgets. The average retiree receives more than $1,500 from Social Security each month.
However, turning even this one-off tax deferral into a tax cut would hurt funding for the program, which is already projected to experience shortfalls. In 2021, the program’s costs are expected to exceed its funding, and by 2035 the program is expected to have exhausted its trust fund. Absent some other solution, that would be a reduction in benefits for Americans.
With three weeks or so remaining before a deferral would come into effect, it’s not clear whether the move will actually be implemented. What is clear, however, is that the payroll tax deferral would not help many Americans who desperately need assistance, such as the unemployed, even as it helps many others with a modest boost in their take-home pay for now.