On its website, the IRS has posted draft instructions for the 2020 Form 940, Employer’s Annual Federal Unemployment (FUTA) Tax Return. The draft instructions note that the US Virgin Islands (USVI) is the only jurisdiction potentially subject to the FUTA credit reduction, i.e., it is the only credit reduction state, for 2020. The Department of Labor, on its website, says that USVI’s credit will be only 3.7%, rather than 5.4%, if it does not pay back its federal unemployment insurance loans by November 10, 2020.
Background.
Form 940 is used to report annual FUTA tax. The FUTA tax provides funds for paying unemployment compensation to workers who have lost their jobs. The FUTA tax applies to the first $7,000 an employer pays to each employee during a calendar year after subtracting any payments exempt from FUTA tax. (Form 940, Instructions)
The FUTA tax rate is 6.0% on the first $7,000 of eligible wages an employer pays to each employee during a calendar year. Most employers receive a credit of 5.4% against the FUTA tax, unless their state is a FUTA credit reduction state. Thus, the net FUTA tax rate for most employers is 0.6% (i.e., 6.0% − 5.4%). (Form 940, Instructions)
A “credit reduction state” is a state (or US territory subject to FUTA) that has (1) borrowed money from the federal government to pay unemployment benefits to workers in that state (“UI loans”), and (2) not yet repaid the UI loans to the federal government. If an employer pays wages that are subject to the unemployment tax laws of a credit reduction state, that employer’s credit against FUTA tax is reduced. (Form 940, Instructions)
2020 draft Form 940 instructions.
The 2020 draft Form 940 instructions note that the US Virgin Islands (USVI) is the only potential credit reduction state in 2020.
The Department of Labor says that employers in the USVI will not get a 5.4% credit against their 2020 FUTA but a reduced 3.7% credit, if USVI’s UI loans are not repaid by November 10, 2020. (See “Potential 2020 Federal Unemployment Tax Act (FUTA) Credit Reductions (updated 8/2020)”, attached above)
Thus, the net FUTA tax rate for employers in the USVI would be 2.3% (6.0%-3.7%).
To continue your research on credit reduction states, see FTC 2d/FIN ¶H-4808.
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