I. REVENUE AREAS ADDRESSED BY THE PRESIDENT'S 1988 BUDGET PROPOSALS A. Employment Tax Provisions 1. Extend Medicare Payroll Tax to All State and Local Government Employees Present Law Before enactment of the Consolidated Omnibus Budget Reconciliation Act of 1985 (COBRA) (P.L. 99-272), State and local government employees were covered for social security and Medicare benefits only if the State and the Secretary of Health and Human Services (HHS) entered into a voluntary agreement providing such coverage. In COBRA, the Congress extended Medicare coverage (and the corresponding hospital insurance payroll tax) on a mandatory basis to State and local government employees hired after March 31, 1986, for services performed after that date. Under present law, State and local government employees hired before April 1, 1986, still are not covered for Medicare unless a voluntary agreement is in effect. Currently, 70 percent of all State and local government employees are covered under a voluntary agreement. Medicare coverage (and the hospital insurance payroll tax) is mandatory for Federal employees. For wages paid in 1987 to Medicare-covered employees, the total hospital insurance tax rate is 2.9 percent of the first $43,800 of wages; the tax is divided equally between the employer and the employee. President's Budget Proposal The President's budget proposal would extend Medicare coverage on a mandatory basis to all employees of State and local governments not otherwise covered under present law, without regard to their dates of hire. These employees and their employers would become liable for the hospital insurance portion of the tax under the Federal Insurance Contributions Act (FICA) and the employees would earn credit toward Medicare eligibility based on their covered earnings. This proposal would be effective January 1, 1988. Arguments for the proposal Pros and Cons 1. The current population survey conducted by the Bureau of the Census using March 1985 survey data found that 94 percent of individuals age 65 or older who reported receipt of a State or local government pension were eligible for Medicare. This is attributable to the fact that many State and local government employees who were not subject to the hospital insurance portion of the FICA tax are entitled to receive Medicare coverage due to other employment or spousal Medicare eligibility. Thus, it is only fair that State and local government employees hired before April 1, 1986, pay the hospital insurance portion of the FICA tax, just as Federal government employees, State and local government employees hired after March 31, 1986, and private sector employees do. 2. The benefits of Medicare coverage should be extended to all employees of State and local governments. Arguments against the proposal 1. Requiring State and local governments to pay the hospital insurance portion of the FICA tax for employees hired before April 1, 1986, would impose a significant cost burden on State and local governments. The COBRA legislation effectively phases in the burden of the tax. 2. State and local governments should retain the right to decide how to structure the retirement benefits of their employees hired before April 1, 1986. 2. Expand Employer Share of FICA Tax to Include All Cash Tips Present Law The FICA taxes imposed on the employee and the employer generally are equal. The employer is responsible for withholding the employee's share of the tax from the employee's wages and remitting the tax, together with the employer's share of the tax, to the Internal Revenue Service. The current tax rate for both the employer and the employee is 7.15 percent of wages, consisting of 5.7 percent for Old-Age, Survivors and Disability Insurance and 1.45 percent for Medicare Hospital Insurance. Special rules apply to tips, however. For purposes of the employee FICA tax, tips received by employees are considered remuneration for services and are subject to the tax. The tips are generally deemed to be received at the time the employee files a written statement with the employer reporting the receipt of the tips. The full amount of tips received by an employee is not, however, usually subject to the FICA tax imposed on the employer. The employee is deemed to receive wages for purposes of the employer's share of FICA taxes only to the extent of the excess of the Federal minimum wage rate over the actual wage rate paid by the employer. Any tips received in excess of the difference between the wages paid and the minimum wage are not subject to the employer's portion of the tax. President's Budget Proposal Under the President's budget proposal, all cash tips would be included within the definition of wages for purposes of the employer's share of FICA taxes. Thus, employers would be required to pay FICA taxes on the total amount of cash tips up to the Social Security wage base. This proposal would be effective January 1, 1988. Arguments for the proposal Pros and Cons 1. Benefits paid to employees are based on total cash tips. Employees must report and pay FICA tax on the total amount of tips received while employers must only pay FICA tax on a portion of such tips. This acts as a subsidy to the employer. In effect, tipped employees accrue a given benefit with lower contributions than any other employees covered by Social Security. 2. Implementation of this proposal would ease an administrative burden on the Social Security Administration ("SSA"). Currently, the SSA must maintain separate records of the amount of reported tips for tax accountability purposes. Each year the U.S. Treasury transfers to the Social Security trust fund the amount of FICĂ taxes due on the total wages reported to the SSA during the prior year. Because no FICA taxes are paid by the employer on tips (other than the amount necessary to bring the employee's salary up to the minimum wage), the SSA must keep a separate record of tips so that it will be able to tell the Treasury Department the total amount of wages on which both employer and employee taxes are due and the total amount on which only employee taxes are due. Arguments against the proposal 1. It is unfair to employers to tax them on amounts paid directly by customers to employees. 2. In the case of an individual who is employed by more than one employer, withholding may be applied on total wages in excess of the Social Security wage base. 3. Extend FICA Tax to Inactive Duty Earnings of Military Reservists and Certain Other Earnings Present Law The Social Security System is financed by payroll taxes imposed under the Federal Insurance Contributions Act ("FICA"). The 1987 rates of this tax are 7.15 percent paid by employers and 7.15 percent paid by employees on wages (up to a maximum of $43,800). An employee only receives Social Security credit for his earnings if his salary constitutes wages and if his job is included in the definition of employment ("covered employment") under section 3121. The Act generally defines wages to include all remuneration for employment but provides specific exemptions. President's Budget Proposal The President's budget proposal would eliminate the exemption from the definition of wages for several categories of earnings. The exemption would be repealed for the following: (a) Armed Forces Reservists.-Approximately 1.4 million Armed Forces reservists do not receive Social Security credit and are not subject to Social Security taxes for their inactive duty earnings, because "inactive duty training" (generally, weekend training drill sessions) has not been included as covered employment under section 3121. Earnings from full-time active duty or from "active duty for training" (training sessions lasting several weeks) constitute covered employment under current law. (b) Students.-Services performed by a student under various circumstances in an academic setting are excluded from coverage under Social Security and the student's wages are not subject to FICA taxes. Such students include those employed by a school they are attending (or college club or an auxiliary nonprofit organization of a school) and student nurses employed by a hospital or nurses' training school they are attending. (c) Agricultural workers.-Under present law, cash remuneration paid to an employee in any taxable year for agricultural labor is excluded from the definition of wages unless the employee receives more than $150 during the year for such labor or the employee works for the employer more than 20 days during the year. (d) Individuals Aged 18-21.-Services performed by individuals under age 21 who are employed by their parents, even if employed in the parent's trade or business, do not currently constitute covered employment. (e) Spouses.-Services performed by an individual in the employ of his spouse do not constitute covered employment. These proposals would be effective January 1, 1988. |