Strange as it may sound, your higher payroll taxes are not the result of a tax increase.
When describing what he believed to be the unrealistic alimony demands of a recently-divorced woman who had grown “accustomed” to a certain lifestyle, comedian Chris Rock said, “You go to a restaurant, you’re accustomed to eating. When you leave, you’re not eating anymore. They don’t owe you a steak.”
Rock may as well have been talking about the way the public is handling the expiration of the payroll tax cut.
As a reminder, while the fiscal cliff deal extended the income tax rates for 99 percent of Americans, one expiring provision that was not given new life by the 11th-hour negotiations was the 2 percent reduction to an employee’s share of Social Security payroll taxes. For 2011 and 2012, employees paid only 4.2 percent of their wages towards Social Security. Beginning Jan. 1, that burden reverted back to 6.2 percent. As a result, if you earn a salary, you may have noticed that your first paycheck in 2013 was 2 percent lighter than your last check in 2012, assuming equal pay.
And that has left some people awfully angry, and pointing the finger squarely at President Obama. Early last week, a friend of mine sent me a link to an editorial posted on investors.com. It includes the following sentence: “What does it say to these Obama supporters that the first thing the president does after being elected is raise the payroll tax for ‘ordinary folks’ from 4.2 percent to 6.2 percent?”
Now, let me be clear: I’m not thrilled about my reduction in take-home pay either. But there’s one fact that can’t be ignored: The president did not covertly increase your payroll taxes when you weren’t looking; rather, they were always set to expire.
When originally enacted in December 2010, the 2 percent reduction in an employee’s share of Social Security taxes was originally scheduled to last only one year, its finite nature evidenced by its description in the statute as a “payroll tax holiday.”
The point of the provision, as you might imagine, was to help lower- and middle-class taxpayers weather the recession by putting more after-tax cash in their pockets. Specifically, the payroll tax cut replaced and expanded upon the Making Work Pay Credit, because the 2 percent reduction applied to the first $106,800 of wages — a taxpayer could shave as much as $2,136 off their tax bill.
As 2011 drew to a close and the sun was originally due to set on the payroll tax cut, Congress could have simply allowed the provision to expire as intended. With a recession still in place — and with both parties in Congress looking to curry favor with voters in the upcoming presidential election — an as-scheduled expiration was never a realistic possibility. Instead, Congress did what it does best, agreeing to a last-minute, ill-conceived two-month extension. In February 2012, they did it again, this time continuing the 2 percent reduction through the end of the year.
During this time, Americans got accustomed to their fatter paychecks, though few realized that their increased after-tax income was attributable to recently enacted legislation. And that’s the double standard of tax changes — we rarely take notice when they go in our favor. Had we been paying attention, however, we would have noticed that the good times were coming to a close.
Leading up to the presidential election, neither Barack Obama nor Mitt Romney promised to further extend the payroll tax cut. In fact, if one were to have looked closely at each candidate’s tax proposals, one would have seen that both Obama and Romney always intended to allow the temporary reduction to expire.
An extension, it appears, was no longer palatable to either party, in part because of the effect of the payroll tax cut on the government’s already bloated deficit. The two-year life of the cut removed approximately $240 billion from the government coffers, and since Congress neglected to pay for the reduction with reduced spending or revenue offsets, the government simply added it to its tab, borrowing an additional $240 billion to continue funding the Social Security program. And while opinions on the validity of the Social Security trust fund are as varied as falling snowflakes, the government has made promises with regards to Social Security that it needs to be able to deliver.
So here we are, and effective Jan. 1, the payroll tax reverted to 6.2 percent, a change that’s got everyone up in arms. But as Chris Rock might explain it, just because we grew accustomed to the government giving us extra money in our paychecks for two years doesn’t mean they continue to owe it to us.
While you may argue that the government can’t “give” us anything because the money is ours to begin with, the simple fact is that we elected this system long ago and authorized the government to tax our earnings, and are thus subject to the changing tides of Congress as they relate to tax policy.
While my refusal to call the rise in payroll taxes a “tax increase” may appear to be nothing more than a stubborn adherence to semantics, as a dedicated tax geek, I assure you it is done in the pursuit of fairness and accuracy. While our payroll tax burden has indeed risen, it was not the result of an overt action by Congress; rather, in a rare showing of bipartisan agreement, lawmakers simply allowed a previously enacted reduction in the tax rate to expire as it was always intended.
And yes, those are two different things. To illustrate, assume your local store offers an item normally priced at $100 as part of a buy-one, get-one free promotion for that day only. On the next day, has the price of the item doubled from $50 to $100? No, the price was always $100; the temporary sale has simply ended. And when that happens, it’s hard to justify getting angry at the guy who put the item on sale to begin with.
Tony J. Nitti, CPA, MST, can be reached at email@example.com .