TN 23 (06-10)
RS 01402.010 Salary Reduction Agreement
A. Definition of the Salary Reduction Agreement
A salary reduction agreement is an agreement between the employer and the employee in which the employee agrees to a reduction in salary or to forego an increase in salary. The amount of the salary reduction, or the increase in salary foregone by the employee, is contributed by the employer to a plan.
B. Salary Reduction Agreement Policy
1. Salary reduction agreement rules
The employee may not make more than one agreement with the same employer during the taxable year. The agreement must:
apply only to amounts earned by the employee after the agreement becomes effective; and
be legally binding and irrevocable, with respect to amounts earned while it is in effect.
The employer may terminate the agreement for amounts not yet earned.
2. Wage exclusion status
Whether the employee is given the option to choose the salary reduction agreement or, as a condition of employment, is required to make a contribution that reduces his or her compensation, the amount of the salary reduction is wages for social security purposes because it has been constructively received by the employee. For instructions regarding constructive receipt of wages, see RS 01401.030.
EXCEPTION: If the salary reduction is used to purchase qualified benefits in a cafeteria plan that meets the requirements of section 125 of the IRC, such amounts are excluded from wages. For information regarding cafeteria plans, see RS 01402.030
C. Procedure for qualifying wages
Assume that the employer has correctly treated payments as to whether or not they are wages, unless a question is raised.
If the employer did not withhold social security taxes from the payment, assume the benefit is qualified and is not wages.
If the employer withheld social security taxes from the payment, assume the benefit is not qualified and is wages.
Develop only if deductions would apply or the PIA would be affected by $1 or more. For developing questionable pay refer to RS 01402.510.