2023 Potential Credit Reduction States
The United States Department of Labor Employment and Training Administration has identified 5 states that may potentially see a reduction in their state’s FUI tax credit in 2023, if their outstanding balance is not paid by November 10, 2023.
These states are:
- California
- Connecticut
- Illinois
- New York
- Virgin Islands
Continue reading our September 2022 post for additional information and how to accrue the additional tax in your Datatech software.
Will your state be affected by the 2022 FUI Credit Reduction? And what does this mean for employers? This article will discuss which states may be affected, what you need to know about the credit reduction, and how to review/adjust your Datatech Software settings to prepare for this tax adjustment.
Instructions for accruing the credit reduction tax in your software are below.
In March 2022, the Bloomberg Tax website posted an article identifying 9 states that may potentially see a reduction in their state’s FUI tax credit in 2022.
These states are:
- California
- Colorado
- Pennsylvania
- Connecticut
- Illinois
- Massachusetts
- Minnesota
- New Jersey
- New York
- (and the U.S. Virgin Islands)
The May – California EDD UI Forecast all but confirmed this for California employers.
Federal Unemployment Tax Act (FUTA) Credit Reduction: If a state has relied on a federal loan for two consecutive years, in order to repay the principal on the loan, employers face a federal tax increase for the following tax year, which is called the FUTA credit reduction. Current federal law provides employers with a 5.4 percent tax credit. However, as required by federal law, this credit is expected to be reduced, due to California’s insolvency, by 0.3 percent to 5.1 percent for the 2022 tax year due to the outstanding federal loan. Each year thereafter, the federal tax rate will continue to increase by an additional 0.3 percent and may be subject to additional credit reductions in future years. The federal tax rate is applied to the first $7,000 in wages paid to covered employees. Thus, employers’ federal tax liability is expected to increase by $21 per employee beginning in January 2023 when the 2022 tax year contributions are collected, and will continue to increase in order to repay the principal on the federal loan.
What You Need To Know About Credit Reduction
As we receive updates from other states, we will inform customers in the respective states. The following information discusses the credit reduction and the impact it will have on employers.
A state with financial difficulties can borrow funds from the federal government to pay its unemployment benefits. If the loan spans two consecutive years and has not been repaid by November 10 of the current year, the employers in that state are assessed a credit reduction. The state is then called a Credit Reduction State.
The Federal Unemployment Insurance rate is 6.0%. Normally employers received a 5.4% credit for unemployment taxes paid to their state. The difference between the Federal Unemployment Insurance tax rate and the credit for State Unemployment Insurance determines the net Federal Unemployment Insurance tax rate. So, the expected net FUI rate for most states is .6%.
The first year that a state is in Credit Reduction status, this credit is lowered from 5.4% to 5.1%. When the credit for state unemployment taxes is lowered, the net FUI rate increases. For each year that the state cannot repay the loan, the credit reduction increases by .3%.
For example, in California the effect of the .3% credit reduction brings the net FUI rate to .9%
A state is not officially deemed a Credit Reduction State until the IRS has determined it has not repaid all of its federal loans. This determination is made in November and it applies to wages that you have paid throughout the entire year.
You are not required to pay the additional tax liability on your regular tax deposits throughout the year. If a state is deemed a Credit Reduction State, you must make the additional tax payment with your fourth quarter tax deposit. You will then fill out Schedule A of the Form 940 to include the Credit Reduction in your total 940 annual tax liability.
The IRS does not officially release the list of Credit Reduction States until the end of the year, so there is no way to know for sure if your state will be a Credit Reduction State.
Some states have such a large loan balance that employers have assumed the state will not be able to pay off the loan and that they will remain a Credit Reduction State. For example, the EDD UI Fund Balance exhibit in the article linked above shows a continuing deficit into 2023.
The last time California was in credit reduction status was 2011 – 2017, where in 2017 the additional FUI tax was 2.1% before the loans were finally paid off.
Is Datatech Changing the Tax Tables? What Should I Do Now?
As mentioned above, the IRS will not announce the official determination of the credit reduction until November. We will not update the 2022 Tax Rate Tables.
However, some employers may choose to enter the credit reduction rate so they can anticipate the additional tax. Below you will find more information on how to manually enter and accrue this tax.
We will include the anticipated 2023 credit reduction rates on the respective states with the 2022 year-end update.
Financial Impact of Not Including Credit Reduction In Your Regular Tax Payments
A company with a large amount of FUI Taxable Wages will feel the impact of the credit reduction the most.
Example: Some farm labor contractors have such a large turnover of employees, most of their labor falls under the $7,000 taxable limit. For example, there may be cases where an FLC will have $10 million in payroll, and $7 Million of that is taxable for FUI. This could mean an additional $21,000 payment in 2022. In 2023, if the rate increases to .6%, the additional cost would be $42,000.
If a labor contractor is charging his growers a commission based on actual cost (bill by the tax %), they may also want to include this in their normal billings or consider raising their flat commission percentage to include the additional rate.
We recommend that you speak with your accountant to decide how you want to handle the accruing/payment of the projected tax (and for labor contractors whether you will pass this increase onto your growers).