Compensation and Benefits
CLIENT E-ALERT
May 2010

A WIN FOR ALL: HIRING THE UNEMPLOYED

Introduction

The HIRE Act

1. The New Employee Must be a "Qualified Employee"
2. All Employers (Including Tax Exempts) May Benefit
3. The Partial Exemption for FICA Taxes
4. The Income Tax Credit
5. Procedures to Obtain HIRE Act Tax Benefits

Work Opportunity Tax Credit

1. Overview of WOTC
2. The 12 Preferred Groups Under WOTC
3. The Amount of the WOTC Credit
4. Not All New Hires Will Qualify for WOTC
5. Procedures to Obtain WOTC Tax Benefits
6. Compare the HIRE Act and WOTC
7. Conclusion

Appendix

Note: This alert will be updated from time to time to reflect new guidance from the government. It is now current through May 12, 2010.

INTRODUCTION

The Hiring Incentives to Restore Employment Act (the HIRE Act), enacted March 18, 2010, offers a significant two-stage tax benefit for employers if they hire, or rehire, persons who have been employed for less than 40 hours in the preceding 60 days.

For each Qualified Employee, an employer will save its retirement share of FICA taxes — 6.2% of wages up to $106,800 — for wages paid during the period March 19 through December 31, 2010.

There is also an employer income tax credit for each Qualified Employee who is retained for 52 consecutive weeks, and whose wages during the last 26 weeks of that period are at least 80% of the wages paid in the first 26 weeks. The credit is equal to the lesser of $1,000 or 6.2% of wages paid during the 52 weeks. The credit can be claimed in the first tax year starting after March 18, 2010 and carried forward.

This alert summarizes current IRS guidance on the HIRE Act and the procedures employers should follow. It also describes the Work Opportunity Tax Credit ("WOTC"). Enacted in 1996, WOTC has gone through numerous revisions and consolidations with other federal programs. WOTC incentivizes employers to hire among 12 categories of persons most likely to be unemployed.

For employees qualifying under each law, an employer may claim the WOTC and the HIRE Act income tax credits. However, if an employer claims the HIRE Act FICA exemption, it forfeits the right to use WOTC in most cases. Read on for more detail and have your calculator handy for employees who qualify under both programs.

The HIRE Act

1.   THE NEW EMPLOYEE MUST BE A "QUALIFIED EMPLOYEE"

A Qualified Employee is a person who:

• begins employment after February 3, 2010 and before January 1, 2011,
• is not a replacement for a worker who was terminated so that the employer could hire a new employee to get the credit,
• has been unemployed, or employed for less than 40 hours, during the 60-day continuous period ending on the date employment begins, and
• is willing to verify his or her previous unemployed status, under penalties of perjury, either in an affidavit or on the new W-11 Form, which IRS has developed just for this purpose.

Notes:

• The job description doesn't matter. CEOs and janitors can all be Qualified Employees.
• A person with a first job, such as a recent graduate, can be a Qualified Employee.
• A former employee who is rehired after a bona fide termination can be a Qualified Employee (but not if the employee was terminated and rehired just to make his or her wages eligible for the HIRE Act benefits).
• The W-11 Form (or a comparable employee affidavit) does not have to be filed with IRS, but should be retained in case of IRS audit.
• If the W-11 is not signed prior to the applicable quarterly 941 filing date, all is not lost. A late W-11 can be the basis for amending a previously filed 941 with Form 941-X.
• An employee who is related to an owner of more than 50% of a business cannot be a Qualified Employee.
• A household employee will not qualify. The employee must be working in connection with a business or, if the employer is tax exempt, in furtherance of its mission. ¹
• Temp agencies may also claim HIRE Act benefits, based on the first day of employment with the agency.

2.   ALL EMPLOYERS (INCLUDING TAX EXEMPTS) MAY BENEFIT

All businesses and tax-exempt organizations can benefit, regardless of size or form of organization, and even if they are start-ups without previous employment history. Tax exempt organizations will benefit solely from the FICA exemption and may not use the tax credit, even if they have unrelated business taxable income. ²

3.   THE PARTIAL EXEMPTION FOR FICA TAXES

As mentioned, an employer can save its retirement share of FICA taxes, which is 6.2% of covered wages (i.e. up to $106,800) during the period March 19 through December 31, 2010.

Notes:

• The employer must still pay the hospital tax (Medicare) portion of FICA, which is 1.45% of all wages.
• The Qualified Employee must still pay all of his or her FICA taxes. The HIRE Act tax incentives are only for employers.
• There is no penalty or offset if an employer claims credits for 65% COBRA assistance to former employees and FICA exemptions when they are hired back. In fact, this will often be the case when laid off employees are called back to work.
• Special note for restaurant and bar employers:
  
  An employer that applies the HIRE Act FICA exemption with respect to a qualified employee will obviously get a smaller Section 45B credit (for FICA paid on tips) because it won't be paying the 6.2% retirement portion of FICA on those tips. In other words, the Section 45B credit will be reduced to Medicare tax only on reported tips to prevent double dipping (i.e. claiming a HIRE Act exemption on tips and then asking for a 45B credit for those exempted taxes).

4.   THE INCOME TAX CREDIT

In addition to the FICA exemption, an employer may claim a HIRE Act income tax credit for each Qualified Employee whom it retains on its payroll for 52 consecutive weeks following hire. There is no credit for an individual whose wages in the last half of that period fall below 80% of the wages in the first 26 weeks.

This "retention" tax credit may be claimed on the federal tax return for the first tax year starting after March 18, 2010. The credit is the lesser of $1,000 or 6.2% of wages during the 52 week period.

The retention credit is a general business tax credit under IRC Section 38. However, unlike the typical credit, a one-year carryback is not allowed. Carry forward for 20 years is permitted, however. A tax exempt organization, even one with unrelated business taxable income, may not use the income tax credit.

5.   PROCEDURES TO OBTAIN HIRE ACT TAX BENEFITS

Employee verification. An employer must obtain verification that the employee is a Qualified Employee. IRS has developed a model employee affidavit, new Form W-11, although an employer may use a similar custom form.

Notes:

• An employer does not have to file these affidavits with IRS, but should maintain them in the event of audit.
• An employee cannot be forced to execute an affidavit. Frankly, it's a realistic concern that an unemployed person may have had unreported cash income during the previous 60 days. An employee signs Form W-11 under pains of perjury. Employers should not force a new employee to sign, or to believe that it is a condition of the job, or that it is just "boilerplate." The tax breaks cannot be claimed without an affidavit, but that is better than the headache of an employee later saying he was induced to lie in order to get a job.

Obtaining the FICA tax exemption. It's easy. An employer claims the FICA tax exemption on the quarterly Form 941 which it files for payroll taxes. That is much faster (and easier) than the WOTC process described later in this memo. IRS has already developed a draft 941 form, which will go live for the second quarter of 2010.

Note:

• The FICA exemption for wages paid to Qualified Employees during the period March 19 through March 31, 2010 will be reported on the new Form 941 for the second quarter. It is not reported on the first quarter 941. The IRS will treat the credit as a deposit made on the first day of the second quarter for quarterly payroll tax return filers.
• See the revised IRS web page for more details.

Filing for the federal "retention" income tax credit. As mentioned, a "for-profit" employer will claim this general business credit on its income tax return for the first year starting after March 18, 2010. IRS will develop an appropriate form to attach to the income tax return.

Work Opportunity Tax Credit

1.   Overview of WOTC

WOTC has been in effect since 1996, and has gone through numerous revisions and consolidations with other federal programs, most recently as part of the American Recovery and Reinvestment Act of 2009 (the "Stimulus Act").

WOTC encourages employers to hire from 12 groups which Congress determined most likely to need employment assistance. Depending on the circumstances, the WOTC federal credit against income tax may be higher (or lower) than the HIRE Act benefits, but the paperwork is cumbersome, including the need to process IRS and Department of Labor certification forms for the federal tax break through a state's unemployment office. Also, the tax relief is limited to an income tax credit, so the dollars are returned more slowly than under the HIRE Act, with its partial exemption for current FICA taxes.

Still, there are many cases when the WOTC credit is big enough to offset the bureaucratic inconvenience,³ so let's explore WOTC for those who hire among the 12 groups. And for those employees who qualify under the WOTC and the HIRE Act, careful analysis is required. See Section 6 below.

2.   THE 12 PREFERRED GROUPS UNDER WOTC

The 12 WOTC categories are listed below. Each of these categories is described in the instructions to IRS Form 885 and at the website of the US Department of Labor (the "DOL"). For convenience, we refer to the categories by numbers 1-12 (like the IRS) rather than as letters A-L (like the DOL).

1. Title IV-A welfare recipient, and family members, receiving assistance in any nine of the 18 months preceding hire ⁴
2. Qualified Veteran
3. Qualified Ex-felon
4. Designated Community Resident ⁵
5. Vocational Rehabilitation Referral
6. Qualified Summer Youth Employee
7. Qualified Food Stamp Recipient
8. Qualified Supplemental Security Income Recipient
9. Hurricane Katrina Employee
10. Long-Term Family Assistance Recipient
11. Unemployed Veteran (broader category than "Qualified Veteran")
12. Disconnected Youth

Notes:

• New Categories 11 and 12 (Unemployed Veterans and Disconnected Youths were added by the Stimulus Act. See the Appendix to this article for more information.
• Unless extended, WOTC is not available for employees hired after August 31, 2011, and categories 11 and 12 are closed after December 31, 2010.

3.   THE AMOUNT OF THE WOTC CREDIT

Generally, the WOTC credit is based on qualified wages paid to the employee for the first 12 months of employment, and qualified wages are capped at $6,000. The credit is 25% of the first-year's qualified wages for those employed for 120 - 399 hours and 40% for those employed 400 hours or more. In other words, the credit will normally be $2,400 (40% of the first $6,000.)

Summer youth qualified wages are capped at $3,000 for 16- and 17-year-olds working for a 90 day period between May 1 and September 15. Disabled veteran qualified wages are capped at $12,000. Long-term (18 months) Category 1 welfare recipients' qualified wages are capped at $10,000, but the one-year cap is extended for a second year, and the credit is 40% for the first year and 50% for the second year.

Notes:

• Although the typical WOTC income tax credit will be $2,400 (40% of the first $6,000), it could be $4,800 for disabled veterans (40% of the first $12,000). For a long term Category 1 welfare recipient who is employed for two full years, the credit could be $9,000.
• The WOTC is a general income tax credit, not a FICA exemption, and is claimed with the annual federal tax form. Unlike the HIRE Act credit, which cannot be carried back, a one-year carryback is allowed. Like the Hire Act credit, it can be carried forward for 20 years.
• Because the WOTC credit is not new, it can be claimed on a tax form for years commencing prior to March 18, 2010.

4.   NOT ALL NEW HIRES WILL QUALIFY FOR WOTC

As is the case with the HIRE Act, no credit can be taken for hiring an employee who is related to an owner of more than 50% of the business.

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5.   PROCEDURES TO OBTAIN WOTC TAX BENEFITS

This is more work, and more bureaucracy, than with the HIRE Act. For WOTC, employee verification is on IRS Form 8850, and confirms that the employee is in one of the 12 WOTC categories. The employer and employee must complete the IRS Form 8850 no later than the day of the employment offer, and it must be signed by both and submitted to the state unemployment office no late than the 28th day after work starts. In addition, the IRS Form 8850 must be accompanied by a signed ETA Form 9061 or ETA Form 9062.

Addresses and telephone numbers for Massachusetts and New Hampshire clients are below:
WOTC Unit, First Floor
19 Staniford Street
Boston, MA 02114
(617) 626-5730

HES
32 So. Main St.
Concord, NH 03301
(603) 228-4079

The ETA Form 9062 is a conditional certification that the individual will be eligible for WOTC credit, provided that employment occurs no later than a date specified on the form. Applicants rarely have them, unless working through a vocational agency, although an enterprising applicant can obtain a Form 9062 by dealing directly with the state unemployment office (staffed in Massachusetts and New Hampshire by helpful persons).

If the applicant does not have an ETA Form 9062 (usually the case), an ETA Form 9061 will have to be completed so that the state unemployment agency can certify WOTC eligibility to the federal government and to the employer. The instructions permit either the employer, the employee, or a third-party consultant to complete ETA Form 9061 and to sign it. It certifies that, to the best of that person's knowledge, the employee is WOTC-qualified. Suggested documentation is listed on the Form 9061.

• Sending copies of the documentation with the filing will expedite getting the necessary WOTC Employer Certification letter, ETA Form 9063.

Employers should keep all ETA 9063 certifications in their records, along with the IRS Forms 8850 and the applicable ETA Forms 9061 or 9062, with documentation, in the event of audit. The WOTC credit is claimed by attaching IRS Form 5884 to the federal tax return. See the instructions on that form for more detailed information.

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6.   COMPARE THE HIRE ACT AND WOTC

Using the FICA exemption of the HIRE Act can disqualify an employer from using WOTC. Careful analysis is necessary to decide whether the HIRE Act FICA exemption is worthwhile. Let's review the rules.

HIRE Act	WOTC
FICA exemption = 6.2% of first $106,800 of wages paid in period from March 19, 2010 through December 31, 2010.	No FICA exemption under WOTC.
Tax credit = lesser of $1,000 or 6.2% of first 52 weeks of wages. Employee must be on payroll for 52 consecutive weeks following hire and employee's wages in the last half of that period must be at least 80% of the wages in the first 26 weeks. Tax credit claimed on employer return for first fiscal year starting after March 18, 2010 (i.e. 2011 for calendar tax payers).	Tax credit is variable (see No. 3 above) and will generally be $2,400 for employees who earn at least $6,000. No long term employment requirement. Generally, full credit earned with first $6,000 of wages (see No. 3 above). Tax credit generally claimed for year wages were paid, subject to receiving Form 9063 certification. It is OK to claim the WOTC and the HIRE Act income tax credit with respect to the same wages.
Claiming FICA exemption requires loss of WOTC tax credit with respect to wages in first 12 months of employment.	This means WOTC could only be claimed for second year employment, which makes it useless for WOTC except in the case of Category 1 long term welfare recipients, for whom a second year of credit is allowed.

Changing horses

In most cases, especially as the year progresses, the HIRE Act FICA exemption will not be as attractive as the WOTC. If eligible, an employer will usually be better off to claim the HIRE Act credit and WOTC and to forego the HIRE Act FICA exemption. What can be done later in the year if an employer has claimed the HIRE act FICA exemption and wants to forfeit it to use WOTC?

According to the IRS website, the employer may amend a previous 941 which claimed the FICA exemption. It's not clear of penalties for late payroll taxes will be excused (I see no basis for that) so for dual qualifiers - WOTC and HIRE Act - it may be best not to claim the HIRE Act FICA exemption at all.

Other Notes:

• For tax-exempt employers, who do ot qualify for HIRE act credits or WOTC, the above discussion is academic. Just claim the HIRE Act FICA exemption.
• Unless extended, the HIRE Act is not available for new hires after December 31, 2010 and WOTC is not available for new hires after August 31, 2011.

7.   Conclusion

A prudent employer will not hire new employees because of a relatively small tax break. However, for those employers who would hire anyway, the HIRE Act and the WOTC are welcome gestures. The HIRE Act will be especially helpful for employers who want to bring back laid off employees.Its partial FICA exemption will also benefit tax-exempt organizations which cannot qualify for business tax credits.

With its more streamlined administration, and quick means of recovery for the FICA portion of the tax break, the HIRE Act is a superior mechanism. However, in many cases of dual eligibility for HIRE Act and WOTC benefits, an employer should forego the FICA exemption under the HIRE Act and simply claim credits under it and under WOTC.

Any tax break for employers who are hiring is a good deal for the US, and the HIRE Act is a model of simplicity. Ideally, the government will extend its terms for new hires after 2010. Also, it should simplify WOTC administration in order to encourage more employers to hire from its 12 disadvantaged categories.

If you have questions about this client alert, please contact the author, George L. Chimento.

Appendix

The 2009 Stimulus act added these two new categories of persons for whom WOTC credits are available.

Unemployed Veterans. This is much broader than the older, and still existing, Category for Qualified Veterans. He or she is a person who (1) was hired during the two year period January 1, 2009 - December 31, 2010 (2) has been discharged or released from active duty in the U.S. armed forces at any time during the 5-year period ending on the hiring date, and (3) received unemployment compensation under state or federal law for at least 4 weeks during the 1-year period ending on the hiring date. To be considered a veteran, the person must have served on active duty (not including training) in the armed forces of the United States for more than 180 days or have been discharged or released from active duty for a service-connected disability.

Disconnected Youth. He or she is a person who (1) was hired during the two year period January 1, 2009 - December 31, 2010 (2) is at least age 16 but not yet age 25 on the hiring date (3) during the past 6 months, has not attended or has not regularly attended any secondary, technical, or post-secondary school for more than an average of 10 hours per week, not counting periods during which the school was closed for scheduled vacation (4) during each consecutive three-month period within the past 6 months, was not employed or was employed and earned an amount less than he or she would have earned working for the applicable minimum wage 30 hours every week during the 3-month period, and (5) does not have a certificate of graduation from a secondary school or a General Education Development (GED) certificate or has a certificate that was awarded at least six months ago and he or she has not held a job (other than occasionally) or been admitted to a technical or post-secondary school since receiving the certificate.

CONTACT

If you have questions about this client alert, please contact the author, George L. Chimento.

Endnotes

¹ This excludes spouses, children, grandchildren, siblings, stepbrothers, stepsisters, parents, grandparents and their ancestors, stepmothers, stepfathers, nephews, and nieces, uncles and aunts, and in-laws of all types. It also excludes individuals who reside with an owner for the entire year and are members of the owner's household.

² Although governments generally may not benefit, public colleges and universities and Native American tribes will qualify, but solely for FICA relief. The rules for employers in US possessions are too complicated for this article, and depend on whether the possession uses a mirror tax system.

³ Before writing this article, the author spoke with representatives in the unemployment offices in Massachusetts and New Hampshire who administer the federal WOTC program. They are extremely nice, enthusiastic, and helpful, and will make WOTC easier than it seems for small employers. Their telephone numbers and addresses appear a bit later.

⁴ These are recipients of Temporary Assistance to Needy Families ("TANF") under a state program qualified under Title IV-A of the Social Security Act.

⁵ For our Massachusetts and New Hampshire clients, these communities include parts of Boston, Lowell, Lawrence, and Coos County, New Hampshire. A person who resides in one of these areas and is at least age 18 and not yet age 40 at the date of hire is in a WOTC category. Check addresses at www.hud.gov/crlocator or call 1-800-998-9999.

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