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Payroll Processors Say Two-Month Payroll Tax Fix Undoable

u.s. capitol at night_040711

In this April 7, 2011, file photo the U.S. Capitol in Washington is illuminated at night as Congress work late to avert a government shutdown.

House Republicans defending their opposition to a two-month payroll tax extension are pointing to a letter sent by a payroll processing trade organization that says even if the bill were made law, it's logistically impossible to make the changes in tax software before the extension expires.

In a letter to the the leaders of the House and Senate Ways and Means committees, the National Payroll Reporting Consortium, whose members serve 1.5 million employers and more than one-third of the private-sector workforce, wrote that the Senate's two-month extension allows "insufficient lead time" to institute changes by Feb. 29. 

The group wrote that a shortened deadline could create "substantial problems, confusion and costs affecting a significant percentage of U.S. employers and employees."

According to the proposed law, the two-month extension of a 4.2 percent taxable wage is applied only to the first $18,350 of income. Wages exceeding $18,350 paid during the first two months of 2012 would be subject to a 6.2 percent Social Security tax rate.

In 2012, Social Security is set to be taxed only on wages up to $110,000. A GOP aide said lowering the cap to $18,350 for the first two months of the year creates the illusion that no one earns more than one-sixth of the yearly prorated tax on wages.

Senate Democrats "wanted to make sure that, if for some reason the cut isn’t extended past the two months, wealthier people didn't get the full 110K worth of tax cut in the first two months (cause they hit 110K quickly), while lower income people would only see a couple months worth of it," the aide said in an email to the Fox Business Network.

"So they actually lowered the cap as if no one pays payroll tax above 18K a year. Nice thought, but it will require a massive re-coding of payroll tax software that makes it unworkable in practice," the aide said.

Pete Isberg, president of the NRPC, which claims neutrality on virtually all tax policy issues, wrote to the lawmakers that he understands Congress' concern about the seeming inequality of highly compensated employees getting their entire yearly tax break in the first two months of 2012.

"Nevertheless, with the first of January now only two weeks away and payroll departments trying to meet year-end compliance mandates and reconciliation, there simply is insufficient time to implement this major change in withholding requirements," he wrote.

"Many payroll systems are not likely to be able to make such a substantial programming change before January or even February. The systems affected tend to be highly complex, normally requiring at least 90 days for a change of this magnitude for software testing alone; not to mention analysis, design, coding and implementation," he wrote.

Isberg told Fox News that as employers prepare payroll for the first days of January, not only are they without a decision from Congress on taxes, but once that is decided, they also must await an IRS rule on how to institute Congress' changes to the tax schedule.

Isberg suggested Congress try a different approach to a tax cut than a two-month extension, including making the break last for at least a quarter of the calendar year, or extending the cut later and making it retroactive, which he said would be easier to implement than a two-month change.

"It will be a chaotic year" for employers if not, he said.