Who doesn’t love taxes? No one? Just us? Alright, well, in any case, taxes are just one of those things that everyone has to understand on some basic level. As a business owner, understanding taxes goes beyond just filing a few W-2 forms every year and crossing your fingers for a large tax refund. Not only do you have to understand how taxes work on an individual level, but you also have to understand how taxes function for a business. This can be a difficult task considering all the different kinds of taxes a business is required to pay on top of the fact that you’re required to, for example, furnish W-2 forms for your employees among other things.
At Payday HCM, we understand this stress. We have plenty of clients approaching us with tax-related questions all the time. We want to ensure that everyone, whether they are our client or not, has the resources available to understand the ins and outs of taxes. And, with our home state of New Mexico having a paid family and medical leave bill making its rounds through our state legislature, we got to thinking about these kinds of benefits and how they are taxed.
That’s why, in this article, we’re going to go over paid family and medical leave benefits—specifically how these kinds of benefits are taxed based on the Internal Revenue Service’s Revenue Ruling 2025-4, released in early 2025. We’ll briefly cover what paid family and medical leave benefits are and how they work, and then get into how these kinds of state-sponsored programs are treated in regards to taxes. By the end of this article, you’ll have all the information you need to know when it comes to paid family and medical leave and taxes (and maybe you’ll grow to love taxes just as much as we do).
In this article, you will learn:
- Understanding Paid Family and Medical Leave
- How Are Paid Family and Medical Leave Contributions Taxed?
- How Are Paid Family and Medical Leave Benefits Taxed?
Understanding Paid Family and Medical Leave
Before we get into how paid family and medical leave benefits are taxed, we’ll go over what these benefits are and how they work.
What Are Paid Family and Medical Leave Benefits?
While the federal government passed the Family Medical Leave Act in 1993, which provides employees with up to 12 weeks of leave for qualifying life events, this leave is unpaid. Paid family and medical leave, then, is in essence the same as the type of leave provided by the FMLA—it’s just paid.
These often state-level programs, implemented in various states and the District of Columbia, ensure wage replacement for employees taking time off for the recent birth of a child, personal medical conditions, or to care for family members with serious health issues.
How Are SPFML Programs Funded?
These programs are typically funded through mandatory contributions from both employers and employees. The funding mechanisms and percentages of these contributions vary by state, but they generally involve payroll deductions and employer contributions to a state-managed insurance fund.
This funding model operates similarly to how other employee benefits are paid out, like group health insurance plans. Given how these benefits function, questions arose in states with mandated paid family and medical leave benefits on how they should be taxed.
How Are Paid Family and Medical Leave Contributions Taxed?
Thus, on January 1, 2025, the IRS released Revenue Ruling 2025-4, which clarifies several tax-related aspects of paid family and medical leave programs.
Taxation of Contributions
The ruling establishes the tax treatment of both employer and employee contributions to state-level paid family and medical leave programs. However, to allow sufficient time for compliance, the IRS has designated 2025 as a transition period for states and employers to update their reporting systems.
Contributions made by employees are generally treated as after-tax deductions, meaning they are subject to federal income and employment taxes at the time of withholding. These amounts are to be included on an employee’s W-2 form in boxes 1, 3, and 5.
Employer contributions, on the other hand, may be deductible as a business expense but are not included in an employee’s taxable income. There are also no federal reporting requirements when it comes to mandatory employer contributions.
Employer-Paid Employee Contributions
In cases where employers voluntarily pay employees’ required paid family and medical leave contributions, the IRS specifies that such payments are treated as additional taxable compensation to the employee. As a result, these amounts are also subject to federal income tax withholding, Social Security, and Medicare taxes.
It’s important to note that the ruling only provides guidance for state-mandated paid family and medical leave programs. The ruling doesn’t provide any federal guidance for the taxation of employer-provided or private paid family and medical leave benefits. Employers who offer private paid family and medical leave benefits may be eligible for a tax credit.
How Are Paid Family and Medical Leave Benefits Taxed?
While the ruling treats paid family and medical leave benefit premiums as one whole, the ruling does make a distinction between family leave and medical leave in terms of benefits paid out.
Family Leave Benefits
The IRS distinguishes between benefits received for family leave and those for an employee’s own medical leave. Any family leave benefits paid out to an employee are to be included in an employee’s federal gross income.
However, any amount received in the form of family leave benefits is not considered taxable wages for federal employment taxes. An employee must be furnished with a 1099 form, which is to be filed by the state that paid out the benefits.
Medical Leave Benefits
Medical leave benefits may be partially or fully exempt from taxation, depending on the specific program’s funding structure and whether contributions were made on a pre-tax or after-tax basis.
For medical leave, these amounts would also be included in an employee’s gross income unless the benefits are paid out as a result of the employee’s own serious health condition. The taxation of the medical leave benefits would be dependent on the percent of the premium that is paid by the employer and employee.
Don’t Put Understanding Tax Guidance On Leave
When it comes to running a business, one of the more confusing and important elements can be taxes. While it is vital for a business owner to understand the kinds of taxes that they are required to pay, it can also be confusing and difficult to find information on what these taxes are and how they operate. Not only that, but different tax guidances are always being released based on changes to a variety of different things related to business operations. Recently, this includes the rise in paid family and medical leave benefits. Luckily, with the information provided in this article, you’ll have the knowledge you need to stay ready for any new state-sponsored paid family and medical leave act that may get passed.
If you’re a business located in a state that offers paid family and medical leave, the taxes on those premiums won’t be the only ones you pay. Get a better idea of all employer taxes to ensure you’re caught up on all your tax knowledge.
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