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Thursday, March 1, 2012

Extending the Temporary Payroll Tax Reduction: A Brief Description and Economic Analysis


Donald J. Marples
Section Research Manager

Molly F. Sherlock
Analyst in Economics


Social Security is financed by payroll taxes, which are paid by covered workers and their employers. In the absence of a payroll tax reduction, employees and employers would each pay 6.2% of covered earnings, up to an annual limit, whereas self-employed individuals would pay 12.4% of net self-employment income, up to an annual limit.

In an effort to stimulate the economy, Congress, in December 2010, temporarily reduced the employee and self-employed shares by two points (to 4.2% for employees and 10.4% for the selfemployed), with the Social Security trust funds “made whole” by a transfer of general revenue. The temporary reduction was scheduled to expire at the end of 2011, but the reduction was extended for two months as part of the Temporary Payroll Tax Cut Continuation Act of 2011 (P.L. 112-78).

As part of the agreement on the Temporary Payroll Tax Cut Continuation Act of 2011, a conference committee to reconcile House-Senate differences in H.R. 3630 is considering a fullyear extension of the payroll tax reduction. Extending the reduction through the end of 2012 would, by itself, increase the deficit by an estimated $99.5 billion—raising concerns about the apparent incompatibility of an extension with long-term goals of fiscal sustainability.

Most proposals to extend the payroll tax reduction include some form of budgetary offset to reduce or eliminate the effect on the deficit and address concerns about long-term fiscal sustainability. Among the budgetary offsets mentioned in extension proposals are a surtax on high-income individuals (The Middle Class Tax Cut Act of 2011, S. 1917), freezing federal employee pay (The Temporary Tax Holiday and Government Reduction Act, S. 1931; and the Middle Class Tax Relief and Job Creation Act of 2011, H.R. 3630), and limiting certain federal benefits to high-income individuals (Temporary Tax Holiday and Government Reduction Act, S. 1931; the Middle Class Tax Cut Act of 2011, S. 1944; and the Middle Class Tax Relief and Job Creation Act of 2011, H.R. 3630). An exception to the inclusion of offsets is the Temporary Payroll Tax Cut Continuation Act of 2012 (H.R. 4013), which would extend the payroll tax rate reduction for the remainder of 2012 without offset.

Budgetary offsets are contractionary—as they either reduce spending or increase revenues. The degree to which they are contractionary in the short term, however, depends on design and the populations affected. For example, having offsets occur after the period of economic weakness has passed could limit short-term contractionary effects while simultaneously promoting longterm fiscal sustainability. In contrast, offsets that fall on individuals facing financial constraints would be expected to have larger contractionary effects.

This report briefly discusses economic stimulus considerations related to temporary payroll tax reductions. In addition, as the Social Security trust fund is made whole through a transfer from the general fund, select options to offset this increase in the deficit will be examined to illustrate how the choice of offsets can affect the net amount of economic stimulus provided. For a discussion of Social Security policy considerations concerning a temporary payroll tax reduction, see CRS Report R41648, Social Security: Temporary Payroll Tax Reduction, by Dawn Nuschler.



Date of Report: February 14, 2012
Number of Pages: 19
Order Number: R42103
Price: $29.95

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