Seattle Payroll Tax Basics
On July 6, 2020, the Seattle City Council passed Council Bill 119810. The new law imposes a payroll tax on large employers doing business in Seattle, including nonprofit organizations. The law will be implemented on January 1, 2021 and will remain in effect until December 31, 2040.
Who Is Subject to the Tax?
Every “person engaging in business within Seattle” will be subject to the new tax. Based on the new tax law’s provisions on exemptions and limitations, the law effectively applies to businesses that: (1) have $7 million or more in payroll expenses in the last calendar year; and (2) pay $150,000 annual compensation to at least one employee or independent contractor.
The payroll tax law provides that it is imposed on the business and not on the employee. Hence, businesses are not allowed to deduct the tax from employee’s compensation.
Among those exempted in the implementation of the payroll tax are businesses engaged in grocery, insurance, certain motor vehicle fuel, certain liquor, and independent contractors whose compensation has been previously subject to a payroll tax in another business. Further, for the first three years of the implementation of the law, certain nonprofit healthcare entities are excluded from paying the tax on employees receiving less than $400,000.
Calculating Payroll Expense
The payroll tax is calculated as a percentage of payroll expense, which is the compensation paid to employees in Seattle.
Defining “Employee.” Under the payroll tax law, an employee is “any individual who performs work, labor, or personal services of any nature for compensation.” This includes individual independent contractors, temporary, or contracted workers of the business where their services are rendered even though they are employees of an employment agency. The definition also includes partners, members of limited liability companies, stockholders of S corporations, and owners of pass-through entities.
Defining “Compensation.” Compensation includes remuneration, net distributions, and incentive payments. For regular employees, this could include
- Severance payments
- Settlement agreement payments
- Paid time off
- Previously accrued compensation
It does not, however, include payment of tips or family or medical leave benefits received by the employee.
For partners and owners of pass-through entities, compensation includes distribution of net income. It does not, however, include payments made for services rendered by a pass-through entity owner such as return of capital, investment incomes, passive income, and undistributed income. It also does not include distributions that are not earned for services rendered or work performed.
Defining “Paid in Seattle.” Compensation to all employees and independent contractors is included in the payroll expense, provided that they:
- Are mainly assigned to a business located in Seattle;
- Perform 50% or more of their services in Seattle within the tax period; or
- Mainly reside in Seattle and do not render 50% or more of their services outside of the city.
The main test to know where the compensation is paid is to know the business location where the employee is primarily assigned to perform their duties. Due to the inadequate definition provided for by the payroll tax law, it is presumed that the provision is interpreted to mean the business location where the employees perform more or most of their duties as compared to other locations. Even if employees are physically located somewhere other than Seattle, provided that they render their services at a business location in Seattle, they would still be considered to be primarily assigned in Seattle.
Calculating the Payroll Tax
The law creates a variable payroll expense tax depending on the compensation received by the employee in Seattle. The payroll tax is computed based on the total Seattle payroll expense of the business multiplied by the applicable tax rate ranging from 0.7% to 2.4%.
The first payroll tax for the period covering 2021 will be due on January 31, 2022. Subsequent periods will be paid on a quarterly basis to be paid on the month after the close of each quarter until December 31, 2040.
DISCLAIMER: The subject matter discussed above is constantly evolving and may change on a frequent basis. The information contained in this post is for general education and informational purposes only.