Alert
Employer Paid Family and Medical Leave Credits Expanded by OBBBA
The One Big Beautiful Bill Act (OBBBA) makes permanent the paid family and medical leave (PFML) income tax credit under Internal Revenue Code § 45S (IRC § 45S), originally introduced by the Tax Cuts and Jobs Act.
Beginning with tax years starting after December 31, 2025, employers may choose between two methods for calculating the credit: a wages-paid method or a newly introduced premium-based method.
Wages-Paid Method
Currently, employers that voluntarily provide paid family and medical leave to qualifying employees can claim a tax credit ranging from 12.5% to 25% of the wages paid during leave, depending on the percentage of normal wages replaced during the leave. The credit increases incrementally from 12.5% when the employee is paid 50% of regular wages, up to 25% when the full wage is paid.
Example
XYZ Corporation has implemented an 8-week paid family and medical leave program, covering employees at 100% of regular wages. The impact of the federal PFML tax credit varies by state, depending on whether state-mandated paid leave benefits are in effect and the percentage of wages paid that may exceed 50% of the employee’s normal wages.
Because California mandates a paid leave program funded through state contributions, the employer’s supplemental wages don’t qualify for the PFML credit. As a result, no federal tax credit is available for the 50 California employees.
Texas and Utah don’t provide state-mandated benefits allowing XYZ Corporation’s PFML wage payments to qualify for the credit. At 100% of wages, the 25% credit rate applies resulting in a tax credit of $187,500 for Utah wages paid and $375,000 for Texas wages paid.
Wages-Paid Method Enhancements
Revisions to IRC §45S made by the OBBBA permit employers in states with mandatory PFML programs to now claim the federal PFML tax credit for employer-funded paid leave that exceeds state-mandated benefits. This change allows employers to capture the credit for any supplemental leave they voluntarily provide, such as increasing a 60% state wage replacement to 100%, or extending the duration of leave beyond the state-mandated period.
States that currently have mandatory PFML programs include:
- California
- Colorado
- Connecticut
- District of Columbia
- Massachusetts
- New Jersey
- New York
- Oregon
- Rhode Island
- Washington
In addition, Delaware, Maine, Maryland, and Minnesota have enacted PFML laws with benefits becoming available in 2026 and 2027, respectively.
In PFML-mandated states, the state-funded portion of benefits is considered in determining whether the 50% wage replacement requirement is met. Once that threshold is satisfied, the credit applies to the employer-funded portion of leave wages that exceed what the state mandates or reimburses.
For example, if a state program provides 60% wage replacement for 12 weeks, and the employer voluntarily pays the remaining 40% or extends the leave to 16 weeks, the additional 40% wage replacement and the four extra weeks may qualify for the credit—provided the employer has a written policy describing the enhanced benefit. The result is a 22.5% credit of the employer-paid portion of leave wages available to the employer.
This expansion enables employers in PFML jurisdictions—who previously assumed the credit was off-limits due to state mandates—to now realize meaningful federal tax savings by offering leave benefits that go above and beyond baseline state requirements.
Example
Using the example above, the calculation percent remains the same for under the OBBBA enhancements. However, California’s mandated paid leave program funded through state contributions, the employer’s supplemental wages will now qualify for the PFML credit. As a result, a federal tax credit of $75,000 is available for the 50 California employees.
No change in the federal tax credit in Texas and Utah, as these states don’t provide state-mandated benefits, allows XYZ Corporation’s PFML wage payments to qualify for the credit.
Premium-Based Method
Added under the OBBBA, the premium-based method allows employers to claim the credit without requiring an employee to take leave, so long as the employer maintains an insurance policy providing PFML coverage.
In this case, the credit is calculated as a percentage of the insurance premiums paid or incurred by the employer, rather than the wages paid. The applicable percentage mirrors the structure of the wage-based credit where the credit ranges from 12.5% to 25% of the insurance premiums.
Example
XYZ Corporation maintains an insurance policy costing $75,000 annually to provide an 8-week paid family and medical leave program that covers employees at 100% of their regular wages. Under the OBBBA expansion of the credit, these premium costs now qualify for the credit even if no PFML wages are paid during the tax year.
PFML Policy Requirement
To qualify under either method, an employer must have a written policy that provides qualifying employees with at least two weeks of paid family and medical leave annually, paid at a minimum of 50% of their regular wages.
However, the OBBBA introduces a new exception: if the employer doesn’t have a written policy, it may still qualify if it can demonstrate a substantial and legitimate business reason for that omission.
Non-Qualifying Mandated Contributions
Employers can’t claim the credit for any amounts paid by a state PFML program, even if the program is funded by required employer payroll contributions.
Benefits that are mandated by state law, such as a required wage replacement percentage or minimum duration of leave and don’t qualify unless the employer voluntarily exceeds those minimums. Premiums paid into state-run PFML funds through payroll taxes are also not creditable.
Further, employers may not claim the credit for benefits paid under a third-party insurance policy unless the employer directly funded the premiums. Only employer-paid, non-mandated leave benefits are eligible for the credit under IRC §45S.
Finally, additional guidance from the IRS is anticipated regarding the application of the premium-based method for calculating the PFML credit. This guidance is expected to clarify how employers should allocate state-mandated contributions and employer-funded benefits when determining eligible wages for the credit.
Reporting the Tax Credit
The PFML tax credit under IRC §45S is treated as a general business credit for federal income tax purposes. As such, it falls under the rules of IRC §39, which allow for both carryback and carryforward of unused credits. If an employer cannot fully utilize the PFML credit in the year it is generated, the unused portion may be carried back one year to offset tax liability from the prior tax year. Any remaining credit that isn’t absorbed may then be carried forward for up to 20 years until it is fully used.
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To learn more about how the PFML tax credit is impacted by the OBBBA and how your business can benefit from the changes, contact your firm professional.