More than a million service members had an increase in their September mid-month pay because of the payroll tax deferral program set forth by President Trump. The presidential memorandum directs employers to stop withholding payroll tax until the end of the year to “support working Americans during these challenging times.”
While most civilian companies have declined to implement this directive, the federal government has given service members and civilian employees who make less than $4,000 biweekly or less than $104,000 annually no way to opt-out.
So how does this affect you and your family?
Six things military families might want to consider with the new payroll tax deferral
You will see a boost in pay – but there’s a BIG catch.
For those who are eligible, pay will go up 6.2%, which is the amount of payroll tax that is normally paid on wages. This raise in pay will continue through December 31, 2020.
The potential pitfall will come in the new year, between January and April 2021, which is when the taxes that are currently being deferred are slated to be paid back, possibly by taking out twice the normal payroll tax amount each pay period.
The payback will come at a particularly bad time, since most families struggle in the first few months of the new year, while holiday spending bills come due and they wait for their tax refunds.
Do you invest in the TSP, an IRA, or a 529? You may get a nasty surprise in January
While I am a big proponent of automatic investing through payroll deduction or bank transfer since it allows you to “set it and forget it,” this is one instance where a good savings habit could potentially trip you up.
But service members (and their bank accounts!) may be in for a shock if they have their “usual” contributions to the TSP and other investments withdrawn from their pay in January and then have the additional payroll tax deducted as well.
The annual pay raise may offset some of the pain, but it’s not confirmed yet
The proposed defense authorization bill would give service members a 3% pay increase in 2021, so this could help ease the pain of paying back extra payroll taxes next year. However, the final bill has not yet been passed by Congress.
Adjusting withholding doesn’t help.
There has been some talk on the internet about adjusting withholding taxes to somehow make up for the payroll tax. This is not a great solution, since the two taxes are not the same. If you increase your withholding, that’s going toward your future income tax bill, not payroll taxes, so it won’t offset January’s tax payback.
If you overpay in withholding tax, you will have to wait until you file income taxes to recoup it.
Save the extra, and save yourself some pain next January
The easiest way to make sure that repaying the deferred payroll tax isn’t a painful experience is to set the extra money aside. The DFAS website says that military members can estimate their payroll tax by taking their monthly base pay and multiplying it by .062 and repeating that process for the four months that the tax is deferred, September through December.
This money can then be saved in a separate, yet easily accessible account. Unfortunately, interest rates are currently very low, so you won’t earn very much interest in such a short time, but at least the money will be available early next year, when it’s due to be repaid.
Read: What the payroll tax deferment means and why you shouldn’t spend that extra money
Getting out? You still have to pay it back
Retired pay is not affected, since it is not earned wages. If a service member leaves the military before the taxes are repaid, they are still on the hook for repayment. Failure to repay these taxes in a timely manner may result in penalties and interest fees.
While it’s possible that service members won’t be required to repay the deferred tax, it’s best not to count on that: it would take action by Congress in order to do that. But if you’ve set aside the funds already, and it turns out that the amount is forgiven, then you will be well on your way to establishing an emergency fund or adding to your existing savings.
DFAS has a dedicated page on the Social Security Payroll Tax deferral. If military families have more questions or concerns, they should contact their installation financial readiness personnel or Military OneSource.
For more savings strategies and inspiration, follow us on social media and visit militarysaves.org and take the Military Saves Pledge, the start of your own personal spending plan.
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