Congress repeals 3% withholding rule for government contractors, boosts credit for hiring veterans

On November 16, Congress passed H.R. 674, the “3% Withholding Repeal and Job Creation Act” (the Act), and sent it to the President for his expected signature. As explained by this Special Study, the Act repeals Code Sec. 3402(t) 's controversial 3% withholding requirement on government contractor payments; amends the Code Sec. 51 work opportunity tax credit (WOTC) to give employers a bigger credit for hiring certain qualified veterans through Dec. 31, 2012; extends the Code Sec. 6331(h)(3) continuous 100% tax levy on “specified payments” to vendors for goods and services sold or leased to the federal government to include payments for property; and tightens eligibility for the refundable health-related tax credit under Code Sec. 36B .

 Only Title I of H.R. 674 (Three Percent Withholding Repeal and Job Creation Act), as first passed by the House of Representatives on October 28, survived after the Senate's amendment of the bill (which the House then accepted). The Senate on November 10, struck the rest of H.R. 674 as first passed by the House, and inserted Titles II (Vow to Hire Heroes), Title III (Other Provisions Relating to Federal Vendors), Title IV (Modification of Calculation of Modified Adjusted Gross Income For Determining Certain Healthcare Eligibility), and Title V (Budgetary Effects). The engrossed version of H.R. 674 as passed by the House and Senate is not yet ready. The legislative language of all five Titles of H.R. 674 is carried in the two documents that follow.

Repeal of 3% Withholding Rule for Government Contractors

Under pre-Act law, Code Sec. 3402(t) , which was added to the Code by the Tax Increase Prevention and Reconciliation Act of 2005 (TIPRA, P.L. 109-222 ), requires the Federal government and the government of every state, political subdivision of a state, and instrumentality of a state or state subdivision (including multi-state agencies) making certain payments to a person providing any property or services (e.g., payments to a government contractor) to deduct and withhold 3% from that payment.

Although the withholding requirement was originally set to apply to payments made after 2010, it was subsequently deferred to apply to payments made after 2011 by §1511 of the American Recovery and Reinvestment Act of 2009 (ARRA, P.L. 111-5 ), then deferred again by final regs to apply to payments made after 2012).

In its explanation of H.R. 674 (H Rpt 112-253), the Ways and Means Committee cited the following reasons for repealing the Code Sec. 3402(t) withholding requirement:

... the withholding requirement would reduce cash flow to many cash-strapped employers that contract with governmental entities and undermine job creation;

... the “looming implementation” of the withholding requirement is contributing to the uncertainty facing employers during already uncertain economic times;

... the withholding requirement would impose substantial costs on Federal, State, and local governmental agencies required to withhold payments; and

... the withholding requirement could also cause small businesses contracting with governmental entities to adjust their prices in order to address the changes in their cash flows, potentially resulting in increased procurement costs at all levels of government.

New law. Act Sec. 102 repeals the Code Sec. 3402(t) withholding requirement, effective for payments made after 2011.

 Even though the withholding rule wasn't scheduled to apply until after 2012 under final regs, the repeal applies to payments made after 2011 because that was the statutory deferred date under ARRA.

Enhanced Work Opportunity Tax Credit (WOTC) for Hiring Qualified Veterans

Under pre-Act law, the work opportunity tax credit (WOTC) allows employers who hire members of certain targeted groups, including qualified veterans, to get a credit against income tax of a percentage of qualifying first-year wages up to $6,000 per employee ($12,000 for certain qualified veterans; and $3,000 for qualified summer youth employees). Generally, the percentage of qualifying wages is 40% of first-year wages, for a maximum WOTC of $2,400 (.4 × $6,000), or $4,800 for certain qualifying veterans (.4 × $12,000); it's 25% for employees who have completed at least 120, but less than 400, hours of service for the employer. Different rules apply for recipients of long-term family assistance.

The individual must begin work for the employer before Jan. 1, 2012 for the WOTC to apply.

Under pre-Act law, a qualified veteran is a veteran who is certified by the designated local agency as meeting either of two tests:

(1) The individual is a member of a family receiving assistance under a food stamp program under the Food Stamp Act of '77 for at least three months, all or part of which is during the 12-month period ending on the hiring date.

(2) The individual is entitled to compensation for a service-connected disability, and either:

(a) has a hiring date that isn't more than one year after having been discharged or released from active duty in the U.S. Armed Forces, or

(b) has aggregate periods of unemployment during the 1-year period ending on the hiring date that equal or exceed six months.

A “veteran” is an individual who is certified as having either served on active duty (other than for training) in the U.S. Armed Forces for more than 180 days, or must have been discharged or released from active duty in the U.S. Armed Forces for a service connected disability. However, individuals serving on active duty for more than 90 days (other than for training) must be further certified as not having served any of the active duty during the 60-day period ending on the hiring date.

A hired individual won't generate a WOTC unless one of the two following conditions is satisfied: (a) on or before the day he begins work, the employer has received a certification from the “designated local agency” that the individual is a member of a targeted group. The certification must be in writing and state that the individual is a member of a specific targeted group; (b) on or before the day the individual is offered employment, the employer completes a pre-screening notice for the individual and submits the notice (signed by the employer and the individual under penalties of perjury), not later than the 28th day after the individual begins work for the employer, to the designated local agency as part of a written request for a certification. If an employer uses the latter approach, it also must receive a certification from the agency that the individual is, in fact, a member of a targeted group before claiming the WOTC for hiring the individual.

Under pre-Act law, the WOTC is not available for tax-exempt employers.

New law. The Act extends the WOTC for hiring qualified veterans, broadens the classes of qualified veterans and increases the WOTC for hiring some of them, “fast-tracks” the qualification process for qualified veterans, and provides tax-exempt employers with a credit against payroll tax for hiring qualified veterans.

Extension of WOTC for hiring qualified veterans. Under the Act, employers will be able to claim the WOTC for qualified veterans who begin work for the employer before Jan 1, 2013. ( Code Sec. 51(c)(4) , as amended by Act Sec. 261(d))

 RIA observation: In other words, the WOTC gets a one-year lease on life, but only with respect to employers that hire qualified veterans.

Broadened categories of qualified veterans. Under the Act, effective for individuals who begin work for the employer after the enactment date, a qualified veteran is a veteran who is certified by the designated local agency as falling within one of the following four categories ( Code Sec. 51(d)(3)(A) , as amended by Act Sec. 261(b)):

(1) The individual is a member of a family receiving assistance under a food stamp program under the Food Stamp Act of '77 for at least three months, all or part of which is during the 12-month period ending on the hiring date. ( Code Sec. 51(d)(3)(A)(i) )

(2) The individual is entitled to compensation for a service-connected disability, and either:

(a) has a hiring date that isn't more than one year after having been discharged or released from active duty in the U.S. Armed Forces, or ( Code Sec. 51(d)(3)(A)(ii)(I) )

(b) has aggregate periods of unemployment during the 1-year period ending on the hiring date that equal or exceed six months. ( Code Sec. 51(d)(3)(A)(ii)(II) )

(3) The individual has aggregate periods of unemployment during the 1-year period ending on the hiring date which equal or exceed four weeks (but less than six months). ( Code Sec. 51(d)(3)(A)(iii) )

(4) The individual has aggregate periods of unemployment during the 1-year period ending on the hiring date which equal or exceed six months. ( Code Sec. 51(d)(3)(A)(iv)

 The Act adds the third and fourth categories of qualified veterans but leaves the first two categories unchanged.

Larger WOTC for hiring certain qualified veterans. Under the Act, effective for individuals who begin work for the employer after the enactment date, the maximum amount of qualifying first-year wages against which the WOTC may be claimed is:

(A) $12,000 for an individual who is a qualified veteran under Code Sec. 51(d)(3)(A)(ii)(I) , i.e., is entitled to compensation for a service-connected disability and has a hiring date that isn't more than one year after having been discharged or released from active duty in the U.S. Armed Forces.

 Thus, the maximum WOTC for hiring qualified disabled veterans in Category A is $4,800 (.4 × $12,000 maximum qualifying first-year wages).

 The maximum WOTC for hiring qualified veterans in this category is unchanged from pre-Act law.

(B) $24,000 for an individual who is a qualified veteran under Code Sec. 51(d)(3)(A)(ii)(II) , i.e., is entitled to compensation for a service-connected disability and has aggregate periods of unemployment during the 1-year period ending on the hiring date which equal or exceed six months.

 Thus the maximum WOTC for hiring qualified disabled veterans in Category B is $9,600 (.4 × $24,000 maximum qualifying first-year wages).

(C) $14,000 for an individual who is a qualified veteran under Code Sec. 51(d)(3)(A)(iv) , i.e., has aggregate periods of unemployment during the 1-year period ending on the hiring date which equal or exceed six months. ( Code Sec. 51(b)(3) , as amended by Act Sec. 261(a))

 Thus the maximum WOTC for hiring qualified veterans in Category C—i.e., longer-term unemployed veterans—is $5,600 (.4 × $14,000 maximum qualifying first-year wages).

 The maximum WOTC for hiring veterans who qualify under Code Sec. 51(d)(3)(A)(i) (i.e., food stamp recipients) stays unchanged at $2,400 (.4 × $6,000).

 The maximum WOTC for hiring veterans who qualify under the new category in Code Sec. 51(d)(3)(A)(iiii) (i.e., veterans who are unemployed for four weeks or more, but less than six months) is determined under the general rule for computing the credit, and is $2,400 (.4 × $6,000).

 The enhanced maximum amounts of qualifying wages also would seem to apply if the qualified veteran completes at least 120, but less than 400, hours of service for the employer during the one-year period beginning with his or her hire date. For these reduced hours, a reduced credit percentage (25%) applies under Code Sec. 51(i)(3)(A) .

 On Jan. 3, 2012, ABX Inc., hires Jack, a highly skilled computer programmer. Jack is a qualified veteran who is entitled to compensation for a service-connected disability, and had total periods of unemployment during the 1-year period ending on the Jan. 3, 2012 hiring date of six or more months. During 2012, the veteran only works 385 hours and is paid a total of $15,400. Under the Act, for 2012, ABX would seem to be eligible for a WOTC of $3,850 for hiring Jack (.25 × $15,400). If he were paid a total of $24,000, the WOTC for Jack would be $6,000 (.25 × $24,000).

Fast-tracked qualification process for qualified veterans. Under the Act, effective for individuals who begin work for the employer after the enactment date:

... A veteran will be treated as certified by the designated local agency as having aggregate periods of unemployment meeting the requirements of Code Sec. 51(d)(3)(A)(ii)(II) or Code Sec. 51(d)(3)(A)(iv) (see above), if he or she is certified by the local agency as being in receipt of unemployment compensation under State or Federal law for not less than six months during the 1-year period ending on the hiring date. ( Code Sec. 51(d)(13)(D)(i)(I) , as amended by Act Sec. 261(c))

... A veteran will be treated as certified by the designated local agency as having aggregate periods of unemployment meeting the requirements of Code Sec. 51(d)(3)(A)(iii) (see above), if he or she is certified by the local agency as being in receipt of unemployment compensation under State or Federal law for not less than four weeks (but less than six months) during the 1-year period ending on the hiring date. ( Code Sec. 51(d)(13)(D)(i)(II) , as amended by Act Sec. 261(c))

Additionally, IRS at its discretion may provide alternative methods for certification of a veteran who is a qualified veteran because of unemployment (i.e., is described in Code Sec. 51(d)(3)(A)(ii)(II) , Code Sec. 51(d)(3)(A)(iii) , or Code Sec. 51(d)(3)(A)(iv) ). ( Code Sec. 51(d)(13)(D)(ii) , as amended by Act Sec. 261(c))

Tax-exempt employers get a payroll-tax credit for hiring qualified veterans. Under the Act, effective for individuals who begin work for the employer after the enactment date, a tax-exempt employer (one described in Code Sec. 501(c) and exempt from tax under Code Sec. 501(a) ) may, subject to the limits described below, claim a credit for the WOTC it could claim for hiring qualified veterans if it were not tax-exempt. The credit is allowed against the OASDI (Social Security) tax that the exempt employer would otherwise have to pay on the wages of all its employees during the “applicable employment period” (with respect to any qualified veteran, the one-year period beginning with the day he or she goes to work for the tax-exempt organization). ( Code Sec. 52(c)(2) and Code Sec. 3111(e) , as amended by Act Sec. 261(e))

 The credit that a tax-exempt employer can claim applies to the four categories of qualified veterans under Code Sec. 51(d)(3)(see above). Thus, it applies to both the old categories of qualified veterans and the new categories created by the Act.

The credit for hiring qualified veterans, which can't exceed the OASDI tax otherwise payable for employment of all the tax-exempt's employees during the “applicable employment period,” is calculated as it would be under Code Sec. 51 , but with the following modifications:

·         The general credit percentage of qualifying first-year wages is 26% (instead of 40%).

·         The credit percentage of qualifying wages is 16.25% (instead of 25%) for a qualified veteran who has completed at least 120, but less than 400, hours of service for the employer.

·         The tax-exempt employer may only take into account wages paid to a qualified veteran for services in furtherance of the activities related to the purposes or function constituting the basis of the organization's exemption under Code Sec. 501 . ( Code Sec. 3111(e)(2) and Code Sec. 3111(e)(3) , as amended by Act Sec. 261(e)(2))

 In 2012, a tax-exempt organization dedicated to eradicating cancer hires Tricia, a disabled veteran, as a statistical analyst, and pays her $50,000 a year. Tricia was out of work for nine months before being hired by the organization (and thus is a qualified veteran under Code Sec. 51(d)(3)(A)(ii)(II) ). The organization can reduce its 2012 OASDI bill by $6,240 (.26 × $24,000).

Note that the Act also includes special rules related to the hiring of qualified veterans in U.S. possessions, including American Samoa, Guam, The Commonwealth of the Northern Mariana Islands, the Commonwealth of Puerto Rico, and the U.S. Virgin Islands. (Act Sec. 261(f))

100% Continuous Levy against Delinquent Federal Contractors Expanded to Include Payments for Property

IRS has the power to collect taxes by levy and distraint, meaning that, subject to certain exemptions, it may seize the property of a delinquent taxpayer, sell it, and apply the proceeds to pay unpaid taxes. ( Code Sec. 6331(a) )

Under Code Sec. 6331(h)(1) , IRS can “continuously levy” (i.e., from the date the levy is first made until it is released) up to 15% of certain “specified payments” to or received by a taxpayer. Specified payments include any federal payment for which eligibility isn't based on a payee's income and/or assets, worker's compensation payments, unemployment benefits, and other specified types of payments.

Under pre-Act law, IRS could, under Code Sec. 6331(h)(3) , continuously levy up to 100% of specified payments due to a vendor of goods or services sold or leased to the federal government.

New law. The Act provides that IRS can continuously levy up to 100% of specified payments due to a vendor of property in addition to payments for goods and services sold or leased to the federal government. This applies for levies issued after the enactment date. ( Code Sec. 6331(h)(3) , as amended by Act Sec. 301)

 A nearly identical provision was included in the Small Business Penalty Fairness Act of 2009, which passed the Senate by unanimous consent but never became law.

The Act also directs the Secretary of the Treasury, in consultation with the Director of the Office of Management and Budget and others, to conduct a study on how to reduce the amount of Federal tax owed but not paid by current and prospective Federal contractors (“delinquent contractors”). Among other things, the study should include an estimate of the amount of back taxes owed by, and recommendations on how to better identify, delinquent contractors. The study is to be submitted to House Ways and Means Committee, the Senate Committee on Finance, the House Committee on Oversight and Government Reform, and the Senate Committee on Homeland Security and Government Affairs, no later than 12 months after the enactment date. (Act Sec. 302)

Modified Adjusted Gross Income (MAGI) for Premium Assistance Credit Includes Exempt Social Security Income

For tax years ending after Dec. 31, 2013, there's a premium assistance tax credit under Code Sec. 36B , for eligible individuals and families who buy health insurance through an exchange. The premium assistance credit, which is refundable and payable in advance directly to the insurer, subsidizes the purchase of certain health insurance plans through an exchange. The premium assistance credit is available for individuals (single or joint filers) with household incomes between 100% and 400% of the Federal poverty level (FPL) for the family size involved who do not receive health insurance through an employer or a spouse's employer.

Household income is defined as the sum of: (1) the taxpayer's modified adjusted gross income (MAGI), plus (2) the aggregate MAGI of all other individuals taken into account in determining that taxpayer's family size (but only if those individuals must file a tax return for the tax year). Under pre-Act law, MAGI is adjusted gross income increased by: (1) any amount excluded by Code Sec. 911 (exclusion from gross income for citizens or residents living abroad), plus (2) any tax-exempt interest received or accrued during the tax year. (The Code Sec. 36B definition of MAGI is incorporated by reference for purposes of determining eligibility to participate in certain other healthcare-related programs.)

Under Code Sec. 86 , part or all of the Social Security income received by a taxpayer is excluded from income.

New law. The Act revises the Code Sec. 36B definition of MAGI to include the amount of the taxpayer's Social Security benefits that is excluded from gross income. Thus, for purposes of the premium assistance credit, MAGI is defined as adjusted gross income plus: (1) any amount excluded by Code Sec. 911(exclusion from gross income for citizens or residents living abroad); (2) any tax-exempt interest received or accrued during the tax year; and (3) the amount of Social Security benefits of the taxpayer that is excluded from gross income under Code Sec. 86 . ( Code Sec. 36B(d)(3)(B) , as amended by Act Sec. 401(a)) The revised definition is effective on the enactment date (Act Sec. 401(b)), but since the premium assistance credit won't apply until tax years ending after Dec. 31, 2013, the change applies for tax years ending after Dec. 31, 2013.

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