January 12, 2011

2% Payroll Tax Cut vs Making Work Pay Expiration : Who Comes Out Ahead?

You may have heard that in 2011 we are getting a temporary 2% reduction in the payroll tax.   This is part of the e Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010.    That means that your take home pay should be 2% more than normal due to the lower payroll tax.   Usually your portion of the payroll tax for social security is 6.2% but in 2011 they reduced it to 4.2%.    (Note that this 2% reduction does not change how much your social security benefits at retirement are calculated)

A 2% tax cut is nothing to sneeze at.    News reports kindly point out that it is "worth as much as $2,136 for a worker or $4,272 for a working couple."   That sounds great and for many people it is great.    BUT... at the same time the 'making work pay' tax credit is expiring so people will see their IRS withholding go down a little compared to last year.

The 'making work pay' credit was $400 for a single person and $800 for a married couple.    2% of your pay from the payroll tax cut may or may not be as much as you're losing from the expired 'making work pay' credit.   Some low income people will see lower take home pay after income tax withholding and the payroll taxes in 2011 compared to 2010.

For 2% to be more than $400 you would have to make over $20,000 a year.   (400/.02 = 20000)
For 2% to be worth more than $800 for a married couple you would have to have household income of $40,000 or more

The break even point is $20,000 for single or $40,000 for married.   The more you make over those amounts then the more the 2% payroll cut will put you ahead this year versus the making work pay credit from last year.  

Another detail is that if you make over $75,000 for a single person or $150,000 as a married couple then the making work pay credit in 2010 started to phase out.  Every dollar of wages over the threshold cut 2¢ off the making work pay credit.  The credit was completely phased out if you made over $95,000 for a single filer or $190,000 as married.

Lets put it all together and see how the two benefits compare for different wages.  For a single person here is how the making work pay credit in 2010 would compare to the 2% payroll tax cut for 2011: 

Making Work Pay 2% Payroll
$7,250 $400 $145
$20,000 $400 $400
$40,000 $400 $800
$75,000 $400 $1,500
$80,000 $300 $1,600
$100,000 $0 $2,000
$106,800 $0 $2,136

 Social security withholding caps off at the $106,800 for a single payer so the benefit of the 2% payroll cut would max out at $2,136 for an individual.

Lower income individuals and families will have less take home this year than last year.    Most people however will come out ahead this year.

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