In late 2010, Congress and President Obama passed new tax laws that take effect in 2011 (Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010).
The Making Work Pay tax credit is gone.
As a result, most people will benefit from a cut in Social Security taxes (also known as Payroll Taxes).
Previously, people paid 6.2% toward Social Security. Under the new law, people will be paying 4.2%, a reduction of 2% in their Social Security tax withholding rate.
That is good news for many Americans as it essentially means a 2% increase in your paycheck.
Under the old Making Work Pay credit, Americans making less than $75,000 were able to save a flat $400 over the course of the year. That amount was spread out over each paycheck.
Under the new law, all Americans will save 2% on their first $106,800 of income (that’s the Social Security wage base limit or the maximum that wage earners have to pay into Social Security). That is great news for higher income earners (those in the 25-28% Federal Tax brackets). After all, they did not benefit at all from the Making Work Pay credit.
It is also good news for those who make mid-range salaries. For every $1,000 you make, $42 will be withheld. That’s $20 more in your pocket per $1,000 you make.
Due to the timing of the new laws, you may not see the changes in your first paycheck of the year. It may take some time for payroll departments to implement the changes. However, it will be made up. If you don’t see the 2% savings in your first check, you will see it in your next check. Additionally, you will see a 2% reimbursement to make up for the previous check. After that, you will see your regular 2% savings in each check.
Low income earners will actually find themselves making less money under the Payroll Tax Cut.
If you make over $20,000 a year, the new tax law will benefit you.
This is because you are saving more than the $400 you would have saved under the Making Work Pay credit. If you make exactly $20,000, you will see equal savings.
If you make less than $20,000, you will see less savings.
This affects about 45 million households. On average, low income earners will see $210 less over the course of the year. For example, let’s say you make $15,000 a year. Under the Social Security tax cut, you save $300. That’s one hundred less than the $400 you would have saved under the Making Work Pay tax credit.
For some people who work for state and local governments, the savings will be even less.
Many people in those categories don’t pay in to Social Security. Therefore, they won’t see any savings under the new tax laws. There are about six million households that fit that category.
For those earning over $20,000 a year, the new payroll tax break will be a benefit.
A 2% increase in your paycheck is a nice way to open the year.
Still, there are those that fear that the payroll tax cut will hurt an already weak Social Security system that needs money. Add to that the fact that low income earners won’t benefit and many have questioned whether this is a wise tax cut.
Update 2013 – The Taxpayer Relief Act of 2013 was signed by President Obama. In the Act there is officially no extension of the Payroll Tax Cut.