The 2014 Tax Act and Professional Employer Organizations (PEOs)

We know that Congress passed, and the President signed, the Tax Increase Prevention Act of 2014 at the end of last year. This is the tax bill that retroactively resurrected certain tax deductions that many taxpayers have become used to, such as deducting sales taxes (rather than state income taxes)  should one live in Tennessee, Florida or Texas or deducting (a certain amount of) tuition payments if one’s child is in college.

There is something else this bill did that was not as well publicized.

It has to do with professional employer organizations, known as PEO’s. These are companies that provide human resource (HR) functions, such as the paperwork involved in hiring, as well as running payroll and depositing payroll taxes and other withholdings.

There has long been a hitch with PEOs and payroll taxes: the IRS considered the underlying employer to still be liable for withholdings if the PEO failed to remit or failed to do so timely. The IRS took the position that an employer could not delegate its responsibility for those withholdings. To phrase it differently, the employer could delegate the task but could not delegate the responsibility.

You can guess what happened next. There were cases of PEO’s diverting withholdings for their own use, then going out of business and leaving their employer-clients in the lurch. If you were one of those employer-clients, the experience proved to be very expensive. You had paid payroll taxes a first time to the PEO and then a second time when the IRS held you responsible.

The answer was to watch over the PEO like a hawk. The IRS encouraged employer-clients to routinely go into the electronic payment system (EFTPS), for example, to be certain that payroll taxes were being deposited.

That unfortunately collided with many an employer’s reason to use a PEO in the first place: to have someone else “take care of it.”

Back to the tax bill. Stuck in with the tax extenders was something called the ABLE Act, which is a Section-529-like-plan, but for disabled individuals rather than for college expenses.

Stuck (in turn) onto the ABLE Act was a brand-new Code section just for PEOs. The provision requires the IRS to establish a PEO certification program by July 1, 2015. There will be a $1,000 annual fee to participate, but – once approved – the IRS will allow the PEO to be solely responsible for the employer-client’s payroll taxes.

You have to admit, this is a marketing bonanza if you own a PEO. It will separate you from a non-PEO who is bidding on the same prospective client.

The PEO will have to post a bond in order to participate in the program. In addition the PEO will have to be audited annually by a CPA. The PEO will have to submit that audited financial statement to the IRS.

I do not know the answer as of this writing, but I have a strong suspicion the AICPA was in the room when that audit requirement was included. Why do I say that? Because only CPAs are allowed to render an opinion that financial statements are “presented fairly in accordance with generally accepted accounting principles.” 

NOTE: That would be CPAs who practice as auditors. There are CPAS who do not. For example, I specialize in taxes.

There is – by the way – risk to the PEO. This is not a one way street. The PEO will be responsible for the payroll taxes, even if the employer-client does not pay the PEO.