Pennsylvania ends same-gender marriage ban – are you taxing benefits correctly?

On May 20, 2014, a US District Court judge overturned Pennsylvania’s 1996 ban on same-gender marriage ruling it unconstitutional. (Deb Whitewood, et al, vs. Michael Wolf, 1:13-cv-1861) Governor Tom Corbett chose not appeal the ruling making it the 18th state plus the District of Columbia that now allows the issuance of marriage licenses to same-gender couples. Pennsylvania has never recognized civil unions or registered domestic partnerships, and until now, was the only state in the northeast region that prohibited same-gender marriage.

The May 20th ruling ends a wave of legal challenges that began in September 2013. Guidance has not yet been issued by the Pennsylvania Department of Revenue; however, it is assumed that fringe benefits provided to a same-gender spouse will receive the same state and local tax treatment that was extended to a lawful spouse under prior law.

State and local taxation of same-gender partner benefits isn’t as easy as it seems. That’s because a state’s civil laws governing marriage do not necessarily govern the income tax and unemployment insurance coverage rules. Take Missouri for instance. The state prohibits marriage between a couple of the same gender; however, a same-gender couple lawfully married in another state is treated as married for Missouri income and unemployment insurance tax purposes.

Speak to a trusted employment tax advisor about the payroll tax treatment of same-gender partner benefits.

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California gives new tax break on same-sex partner benefits

california_mapErnst & Young LLP issued a tax alert explaining that recently enacted legislation will temporarily exclude from California personal income tax (PIT) the amount of federal income tax that employers pay for health insurance benefits provided to employees who are a member of a registered domestic partnership.

The law is effective immediately and applies for taxable years beginning on or after January 1, 2013 and through December 31, 2018.  (AB 362, signed by the governor on October 1, 2013.)

 Under all other circumstances, federal income tax paid by employers on behalf of their employees generally is included in wages subject to California PIT.

For the definition of a registered domestic partner see: https://www.ftb.ca.gov/individuals/faq/dompart.shtml

Prior law

Since January 1, 2002, employer-provided accident and health insurance provided to the domestic partner of an employee (and that partner’s dependents), along with several other benefits, has been excluded from California gross income (Revenue and Taxation Code section 17021.7) 

Prior to the passage of AB 362, an amount reimbursed by an employer to the employee for the federal income tax incurred on these benefits was not excluded from California PIT.

Employer payment of federal income tax under the new law

Assembly Bill 362, the Same Sex Couple Tax Fairness Act, excludes from California gross income any amounts received by an employee from an employer to compensate for additional federal income taxes that are incurred by the employee on employer-provided health-care benefits because, for federal income tax purposes, the domestic partner of the employee is not considered the spouse of the employee.

The exclusion from gross income also applies to any amount of the employer-provided health-care compensation paid to an employee that represents the “grossed-up” amount that an employer includes to offset additional federal income taxes incurred on such compensation.

According to new Revenue and Taxation Code Section 17141:

“Gross income shall not include any amount received by an employee from an employer to compensate for the additional federal income tax liability incurred by the employee because, for federal income tax purposes, the same-sex spouse or domestic partner of the employee is not considered the spouse of the employee under Section 105(a) or Section 106(a) of the Internal Revenue Code, including any compensation for the additional federal income tax liability incurred with respect to those amounts.”

The Act was introduced to the California state legislature on February 14, 2013, months before the US Supreme Court Windsor decision that overturned section 3 of the Defense of Marriage Act (DOMA) and allowed same sex married couples the same tax break on a federal level as opposite sex married couples. It was intended to cover both same sex married couples and those involved in a domestic partnership. As a result, the Act has a lesser impact than originally intended by the bill’s author.

Impact of the new law on California same-sex partner benefits

According to Forbes, (http://www.forbes.com/sites/hbsworkingknowledge/2013/06/26/how-overturning-doma-will-benefit-businesses), as of the date of the Supreme Court decision, 38 US companies used the gross up calculation to cushion employees from the unequal federal income tax rules applicable to for employer provided same-sex partner benefits. The California senate summary for AB 362 states that 71 California companies use the gross up method for this purpose.

It’s been estimated that employees working for companies that provided same sex benefits, but did not gross up, incurred an average of $1,069 extra taxes per year—possibly more if the partner’s dependents were also included in coverage.

 Correcting 2013 wages and PIT for active employees

For active employees, employers should immediately adjust 2013 California PIT taxable wages using one of the methods below:

(1)   Refund or credit the overpaid PIT for the previous nine months to affected employees prior to December 31, 2013 and file adjusted quarterly tax returns with the Employment Development Department (EDD)

(2)   Don’t refund or credit overpaid PIT for the previous nine months, but inform employees that the law change may result in a California PIT refund on their personal income tax returns.

 Regardless of the approach an employer takes, the 2013 Form W-2, box 16 must reflect the correct amount of California taxable wages.

According to an EDD representative, employers must first credit or refund the overwithheld amount to the employee during the current 2013 calendar year. Then, the employer should file Form DE 9ADJ, Quarterly Contribution and Wage Adjustment for each affected quarter to claim a credit or refund of the overpaid amount.

The EDD also recommends that employers require employees to sign a statement indicating that the overwithheld PIT has been credited or refunded. The employer must complete box 2 of the Form DE 9ADJ indicating that the overpaid amount has been refunded to the employee and that the amount to be credited will not be reflected on the Form W-2.

Form DE 9ADJ can be found at http://www.edd.ca.gov/pdf_pub_ctr/de9adj.pdf.

Correcting 2013 wages and PIT for terminated employees  

According to the Form DE 9ADJ instructions, an employer may claim a credit or refund of PIT overwithheld from an employee’s wages when the excess amount is credited or refunded to the employee during the same calendar year and the excess amount is not shown on the Form W-2 issued to the employee.

An employer that has already issued the 2013 Form W-2 to employees should not refund the PIT overwithholding nor change the PIT withholding amount on the Form W-2.

The employee will receive a credit when the California Resident Income Tax Return (Form 540) is filed with the California Franchise Tax Board.

Employers must adjust the California state wages for calendar year 2013 on Form W-2 (box 16).

Ernst & Young LLP insights

Employers should be aware that the law applies only to California gross income, and does not affect the rules applicable to taxes imposed under other laws, or in other jurisdictions.

Employers that gross up domestic partner benefits and reimburse employees for the additional federal income tax incurred due to coverage of a domestic partner must still include these amounts as federal taxable wages on Form W-2.

Federal legislation has been introduced for consideration that would extend the definition of marriage to include individuals and their dependents who are a member of a registered domestic partnership, civil union, or similar arrangement recognized under state law.  (SB 729/HR 2499, the Tax Parity for Health Plan Beneficiaries Act of 2013)

Same-sex partner benefits | Do you have a plan?

The Supreme Court’s ruling, in United States v. Windsor, that Section 3 of the Defense of Marriage of Act (DOMA) is unconstitutional has triggered guidance from Treasury, Internal Revenue Service,  US Department of Labor and state taxing authorities changing the manner in which employers retroactively and prospectively administer, tax and report same-sex spousal benefits.

Integrating the new rules into multiple business practices means analyzing, implementing and communicating with employees in a short time frame.

To start you off in the process, Ernst & Young LLP has  prepared a handy check list and sample work plan.

You can download the check list and sample work plan at  http://response.ey.com/CSG3/?doma

New Jersey judge strikes down same-sex marriage ban

The New Jersey courts have ruled that the state’s same-sex ban marriage is unconstitutional. The governor is expected to challenge the decision; however, the ruling marks the first time that a state has banned same-sex marriage on the basis of the  US Supreme Court decision in Windsor.

What we see playing out in New Jersey underscores the shift employers can expect to see in state and loca laws, particularly in those states that recognize civil unions and domestic partnerships rather than same-sex marriage.

Here’s the link to New York Times article.  http://www.nytimes.com/2013/09/28/nyregion/new-jersey-judge-rules-state-must-allow-gay-marriage.html?emc=edit_na_20130927&_r=0

To Have and To Hold | Employment Tax Considerations in Same-Sex Partner Benefits

This summer, the Supreme Court ruled in United States v. Windsor, that Section 3 of the Defence Defense of Marriage of Act (DOMA) (P.L. 104-199) is unconstitutional, meaning that lawfully married same-sex spouses may be treated as married for federal tax purposes. The ruling has broad implications and raised myriad questions about how federal tax laws should be applied to same-sex spouses retroactively and going forward.

Just before Labor Day Weekend, the Treasury and the Internal Revenue Service (IRS) issued much-anticipated guidance addressing how the federal definition of marriage is  amended as it pertains to same-sex partners. At the same time, the IRS posted Frequently Asked Questions to its website.

Revenue Ruling 2013-17 is located here:

http://www.irs.gov/pub/irs-drop/rr-13-17.pdf

FAQS are found here:

http://www.irs.gov/uac/Answers-to-Frequently-Asked-Questions-for-Same-Sex-Married-Couples]

and here:

 http://www.irs.gov/uac/Answers-to-Frequently-Asked-Questions-for-Registered-Domestic-Partners-and-Individuals-in-Civil-Unions]

State and Country of Celebration is Federal Standard

In a nutshell, for federal tax puproses, a couple is considered married if their marriage is valid under the laws of a state or foreign country.  Sensitive to the administrative hardship of applying a jurisdiction of residence rule, the IRS will look instead to the jurisdiction where the marriage was granted (i.e., the jursidiction of celebration.)

Treasury /IRS clarify that it will not deem as married a same-sex couple given only civil union or domestic partnership standing in the jurisdiction, even if such jursidcition grants these individuals the rights and responsiblities of married persons for purposes of that jurisdiction’s income tax.

So, Who’s Married Now?

It seems on the surface that it should be clear which couples now meet the federal marriage definition.  For instance, as of September 1, 2013, same-sex marriages were  recognized under the laws of 13 states and the District of Columbia.

End of story?  Not necessarily.

Individuals may assert, and correctly so, that they hold marriage licenses outside of these 14 U.S. jurisdictions.   For instance, certain counties have been issuing marriage licenses in states  (e.g., New Mexico and Pennsylvania) whose laws do not specifcally recognize same-sex marriages.

Additionally, same-sex marriage laws are rapidly evolving.  The courts are weighing in on the validity of same-sex marriage bans in some states (e.g., New Jersey, Ohio, Virginia), and some legislators have expressed support to legalize it in others (e.g., Hawaii).   Like the U.S., 2013 saw an increase in the number of countries recognizing same-sex marriages (e.g., France, Uruguay).

Without question, state and international same-sex marriage practices are quickly changing, in some instances resulting in temporary confusion as to the validity of a jurisdiction’s marriage license.

It is uncertain if Treasury or the IRS will issue updates as to those jurisdictions where marriage licenses have valid standing for federal purposes.

Same Sex Partner Benefits Post Windsor 8-28-2013

Retirement plans must adopt new standards by September 16, 2013

Tax-qualified retirement plans are required to recognize the validity of a same-sex marriage (as Revenue Ruling 2013-17 defines the term) prospectively as of September 16, 2013.   Plans are given more time to make plan amendments, and the IRS expects to issue further guidance on this topic.

Payroll must respond quickly, but not so fast

IRS FAQs tell affected taxpayers that they may immediately file for income tax refunds for prior years, which the IRS has clarified is only tax years 2010, 2011 and 2012, unless the statute of limitations is open (e.g., a protective refund as filed).  At the same time, the IRS announced that it will, sometime in the future,  issue streamlined procedures that employers may follow for employee and employer Social Security/Medicare (FICA) refunds for prior years.

There are a few important steps that payroll departments can take while awaiting the official word from IRS.

  1. Identify prior Forms W-2 that are implicated by the retroactive effect of same-sex spousal benefits
  2. Quantify adjustments that will need to be made to wages previously reported in boxes 1, 3 and 5.  Part of this analysis should also include 2013 wage and tax overstatements pursuant to same-sex partner benefits and how federal income tax and FICA withholding adjustments will be made.

For retroactive refund purposes, what fringe benefits are affected?

 The IRS has stated that only the fringe benefits shown in the chart below are implicated in prior-year refund requests; however, future guidance will include information as to other benefits that also may be involved. 

IRC Section   Fringe Benefit
106 Health and accident benefits including employee pre-tax contributions under a Section 125 plan, health savings accounts, health reimbursement arrangements and long-term care
117(d) Qualified scholarships
119 Meals and lodging for employer’s convenience
129 Dependent care assistance
132 No-additional cost services and qualified employee discounts