Each year, the U.S. Department of Treasury issues its General Explanations of the Administration’s Revenue Proposals, commonly known as the “Green Book.” This year, the Treasury proposed clarifications and amendments to the Internal Revenue Code to address on-demand pay arrangements. The agency released the Green Book the same day as President Joe Biden’s FY 2023 budget.
Employers and third-party payors increasingly allow employees to receive payment of earned wages before their regularly scheduled pay dates (these arrangements are referred to here as “on-demand pay” or “earned wage access programs” or “EWA”).
EWA are particularly valued by lower-income or hourly workers who often live from paycheck to paycheck, and they can have quick access to their accrued wages before the end of their regular pay cycle using mobile applications.
EWA’s popularity is growing. Industry analysts estimate nearly 55.8 million transactions (around $9.5 billion) were facilitated in 2020, up from 37.2 million (around $6.3 billion) in 2019 and 18.6 million (around $3.2 billion) in 2018.
The problem is that according to the current law, employees with access to an on-demand pay arrangement may be in constant constructive receipt of their wages as they are earned, and employers that offer on-demand pay arrangements should maintain either a daily or a miscellaneous payroll period and should withhold and pay employment taxes on employees’ earned wages on a daily basis.
This represents a significant burden for employers because treating employees with access to on-demand pay arrangements as being in constructive receipt of their wages would mean that employers or third-party payors need to configure their payroll systems and make payroll deposits on a daily basis. To avoid treating employees as being in constant constructive receipt of their wages, some employers or third-party payors ignore the constructive receipt issue entirely or treat the arrangement as a loan from the employer to the employee, according to the Treasury.
“Legislation addressing the tax treatment of on-demand pay would provide certainty and uniformity for taxpayers,” the Treasury said in the Green Book.
The Treasury Department is proposing several amendments to the Internal Revenue Code to provide more clarity on this issue. First, the Treasury recommends amending the code to provide that the payroll period for on-demand pay arrangements is treated as a weekly payroll period, even if employees have access to their wages during the week. Second, the Treasury is also recommending amending the code to provide for a standard definition of on-demand pay arrangements “as an arrangement that allows employees to withdraw earned wages before their regularly scheduled pay dates.” Third, the Treasury will also amend the code to expressly clarify that on-demand pay arrangements are not loans.
This last point is important because, according to consumer advocates, the Consumer Financial Protection Bureau (CFPB) guidance isn’t clear about the distinction between on-demand payment arrangements and extensions of credit, what has led to employers seeking guidance from the Treasury on this point.
These amendments, if enacted, would be effective after Dec. 31. Thus, for companies offering on-demand payments, they may have to adjust their biweekly or semimonthly payrolls to run weekly payrolls to comply with the proposal.
Read more: 45% of Independent Contractors Want to Be Paid Daily or on Demand
