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Bigger Paychecks in 2011: Most Taxpayers Benefit From Payroll Tax Holiday

payroll tax holiday The first few paychecks of 2011 will be issued soon. If you think you see a few extra dollars in yours, you aren't mistaken: You're benefiting from the new payroll tax holiday.

The payroll tax holiday is a special, one-year break for taxpayers created under The Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010. The term "holiday" is a bit misleading since you'll still be subject to payroll taxes in 2011. You'll just be paying in at a reduced rate.Your employer's payroll tax contributions for federal purposes will remain the same at 6.2%. As an employee, however, you'll get a break. Your payroll tax contributions will be reduced by 2% -- instead of paying in at 6.2% for Social Security taxes (for wages up to $106,800), your contributions will be 4.2% for Social Security taxes. Contributions for Medicare remain the same with no wage cap, meaning that you pay Medicare on every dollar of wages -- even if you're Facebook's Mark Zuckerberg.

In terms of dollars, this is good news for those at the middle and at the top. A taxpayer making $50,000 per year will see a savings of $1,000 (2% of $50,000). If a married couple each makes $100,000, the savings would be a combined $4,000 (2% of $200,000).

At the low end, though, taxpayers miss out. The payroll tax holiday is intended to replace the Making Work Pay Credit. That credit still applies for tax year 2010, but under the tax deal, it has been eliminated for 2011. Since the credit was a flat $400 for individuals and $800 for married couples, taxpayers at the lower end could get the full credit even if they didn't make that much money (at the higher end, phase-outs applied). However, the payroll tax holiday is based on a percentage, which means fewer dollars back for lower income families. For example, a married couple making $20,000 and filing jointly would have received $800 with the Making Work Pay Credit but under the payroll tax holiday, will only receive $400.

Self-employed persons also benefit under the payroll tax holiday. Instead of paying self-employment tax of 12.4% for the year, the amount is reduced to 10.4%. That reflects the same 2% discount as employees receive.

Who won't be able to take advantage of the payroll tax holiday? Federal workers covered by the Civil Service Retirement System. Under the old law, those workers were eligible for the Making Work Pay Credit, but under the new law, they are eligible not for the payroll tax holiday because they don't pay into the Social Security system. Despite calls for reform (federal workers have suggested a 2% break on their actual income tax to compensate for the "oversight"), it appears the rules will stay as is.

The hope is that the payroll tax holiday will put more money into the hands of taxpayers more quickly. Taxpayers who have extra dollars are likely to spend them and that, Congress hopes, will stimulate the economy.

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