READ TIME: 6 MINUTES
Providing paid family and medical leave can be a valuable benefit for employees, but it also creates direct payroll costs for employers. To encourage employers to offer paid leave programs, federal tax law includes a Paid Family and Medical Leave (PFML) employer tax credit under Internal Revenue Code Section 45S. This credit allows eligible employers to claim a general business tax credit for a percentage of wages paid to employees while they are on qualifying family or medical leave.
Overview of the Paid Family Leave Tax Credit
The Section 45S Section 45S employer credit was originally introduced as part of the Tax Cuts and Jobs Act of 2017 to incentivize employers to voluntarily provide paid family and medical leave. Under this provision, eligible employers may claim a credit equal to 12.5% to 25% of wages paid to qualifying employees during periods of family or medical leave.
The credit is calculated based on wages paid during qualifying leave for up to 12 weeks per employee each year. The minimum percentage is 12.5% and is increased by 0.25% for each percentage point by which the amount paid to a qualifying employee exceeds 50% of the employee’s wages, with a maximum of 25%.
Employer Eligibility
To claim the credit, employers must meet several statutory requirements.
1. Employers must maintain a written leave policy that:
- Provides at least two weeks of paid family and medical leave annually for full-time employees
- Provides proportionate leave for part-time employees
- Guarantees that employees will not face retaliation for taking leave
2. The leave policy must provide at least 50% of the employee’s normal wages during leave. Higher wage replacement rates generate larger tax credits. The credit applies only to qualifying employees, generally defined as workers who:
- Have been employed for at least one year (or shorter if permitted under updated rules)
- Earn below a specified compensation threshold in the prior year
Types of Leave That Qualify
Qualifying leave generally mirrors leave covered under the Family and Medical Leave Act (FMLA) and includes
- The birth of a child
- Adoption or foster placement
- The employee’s serious health condition
- Caring for a spouse, parent, or child with a serious health condition
- Certain military-related family leave situations
Employers can design policies that align with these categories while maintaining flexibility in the way the benefit is administered.
Claiming the Credit
Employers claim the paid family leave tax credit as part of their annual federal business tax return. The typical filing process includes:
- Calculating qualifying wages paid during leave
- Applying the applicable credit percentage
- Filing IRS Form 8994 (Employer Credit for Paid Family and Medical Leave)
- Reporting the credit through Form 3800 (General Business Credit)
Employers must also reduce their deduction for employee compensation by the amount of the credit claimed.
Interaction With State Paid Leave Programs
Many states now operate mandatory paid family leave programs funded through payroll contributions or employer taxes. Federal tax rules treat these programs differently. State-required leave can count toward meeting the minimum leave requirement, but wages required by state law generally cannot be included when calculating the federal credit amount. As a result, employers in states with mandatory programs may only be able to claim the credit for leave benefits exceeding state requirements.
Employer Action Items
Employers considering a paid leave program or evaluating an existing one should carefully review the Section 45S credit.
- Evaluate current leave policies.
Many employers already offer some form of paid parental or medical leave. HR teams should review whether current policies meet the requirements for the federal credit, particularly for minimum wage replacement, eligibility rules, and written policy requirements. Small policy adjustments may allow employers to qualify for the credit. - Understand the interaction with state leave laws.
Employers operating in states with mandatory paid family leave programs should confirm:
– What portion of leave is required by state law
– Whether additional voluntary benefits are offered
– Which wages may be eligible for the federal credit
Coordination between federal tax rules and state programs is essential. - Maintain documentation to be prepared if the IRS requests verification. This includes:
– The written paid leave policy
– Employees who took qualifying leave
– Wages paid during leave
– Payroll and benefit calculations used to determine the credit - Coordinate with tax advisors.
The credit affects both tax filings and payroll accounting, so employers should work with tax advisors or accounting teams to confirm eligibility requirements, credit calculations, and proper filing. This is particularly important for employers claiming multiple business tax credits. - Consider the role of paid leave in benefits strategy. Beyond tax considerations, paid family leave policies may also support employee recruitment and retention, and well-being during major life events. For some employers, the tax credit may partially offset costs while supporting broader workforce strategies.