Employers in 20 States May Face Higher 2011 FUTA Rates Absent Legislative Fix

Employers pay FUTA tax at a rate of 6.0% (beginning July 1, 2011) on the first $7,000 of covered wages paid annually to each employee. The rate for the first half of 2011 was 6.2%, including the 6% permanent tax rate and the 0.2% temporary surtax that expired on June 30, 2011 This tax may be offset by credits of up to 5.4% against their FUTA tax liability for amounts paid to a state unemployment fund by January 31 of the subsequent year. As a result, the net FUTA rate for many employers is 0.6% in the second half of 2011 (0.8% in the first half).

Under Title XII of the Social Security Act, states with financial difficulties can borrow funds from the federal government to pay unemployment benefits. However, if a state defaults on its repayment of the loan, the normal credit available is reduced. This effectively increases the employer's FUTA tax rate by 0.3% beginning with the second consecutive January 1 in which the loan isn't repaid, then an additional 0.3% annually thereafter. Thus, the net FUTA tax rate paid by an employer in a state that has had an unpaid loan with the federal government for two consecutive years will be 0.3% higher than the net 0.6% rate used by employers in states without past due loans. The net FUTA tax rate continues to rise 0.3% for each additional year that the loans remain unpaid.

Possible credit reduction states for 2011. The DOL list includes the following 23 states, and the Virgin Islands: Alabama, Arkansas, California, Connecticut, Florida, Georgia, Idaho, Illinois, Indiana, Kentucky, Michigan, Minnesota, Missouri, North Carolina, New Jersey, Nevada, New York, Ohio, Pennsylvania, Rhode Island, South Carolina, Virginia, the Virgin Islands, and Wisconsin. However, the DOL spokesperson has told RIA that employers in Alabama, Idaho, and South Carolina (see below for more details) are not likely to be on the final list of credit reduction states on the 2011 Form 940, Schedule A, Multi-State Employer and Credit Reduction Information.

As of July 16, 2011, 29 states and the Virgin Islands had outstanding loans with the federal government for two or more consecutive years that they had to repay by Nov. 10, 2011 in order for employers in those states to be eligible to claim the full 5.4% normal credit.

• Alabama and Idaho.Alabama and Idaho repaid their federal UI loans by Nov. 10, 2011 and thus aren't likely to be subject to the credit reduction.
• South Carolina.South Carolina has started paying back its federal UI loans and has requested under Code Sec. 3302(g) to not be subject to the credit reduction in 2011. South Carolina was a credit reduction state in the 2010 tax year, so South Carolina employers would be subject to a 0.6% credit reduction if the state does not qualify for relief under Code Sec. 3302(g) .
• Michigan.Michigan employers may be subject to a 0.9% credit reduction because of Michigan's failure to repay its outstanding federal loans for four consecutive years.Thus, in Michigan, an employer may end up paying an extra $63 per employee as compared to an employer in a state with no outstanding loans. This reflects the $7,000 subject to FUTA, multiplied by the 0.9% difference between the rate that Michigan employers pay (1.7% for the first half and 1.5% for the second half of 2011) and the rate that employers in states without unpaid federal loans pay (0.8% for the first half and 0.6% for the second half of 2011).
• Indiana.Indiana employers may be subject to a 0.6% credit reduction because of Indiana's failure to repay its outstanding federal loans for three consecutive years.
• Other states and Virgin Islands.Except as otherwise specified above, employers in the other 23 states and the Virgin Islands face a possible 0.3% credit reduction on their 2011 FUTA tax return.

Possible legislative fix? On November 4, House Democrats introduced the “Emergency Unemployment Compensation Act.” This legislation, which would extend federal unemployment insurance (UI) programs through 2012, also would prevent employers from paying a higher 2011 federal unemployment tax (FUTA) bill.

Sec. 202 of the Act would amend Code Sec. 3302(c) to eliminate automatic tax increases under FUTA that are due in January 2012 (for tax year 2011) for employers in states with outstanding UI loans to the Federal government. This tax relief would be conditioned on a state entering into a voluntary agreement under Sec. 203 of the bill. During the period of the agreement, a state could not alter the method of determining eligibility for, or calculating the amount or duration of, regular unemployment benefits.