Correcting withholding errors in the 0.9% additional Medicare tax added by the Affordable Care Act continues to cause some confusion, since these corrections don’t follow the regular FICA correction rules. An updated frequently-asked-questions document from the IRS provides details on how to correct withholding errors in the additional Medicare tax.
Correcting errors in the same calendar year. To correct an underwithholding error made in the same year wages are paid, you must make an interest-free adjustment on Form 941-X. Then, withhold the additional amount from employees’ wages before the end of the current year; you may withhold from payments that are otherwise excluded from FICA taxes.
If you can’t make up the underwithholding by the end of the year, you must still report and remit the proper amount of tax, even if that means digging into the company’s wallet. How you settle this with employees is a private matter. Warning: If employees don’t pay back the company by the end of the year, you’ll have to gross up the payment on their W-2s for the current year.
Overwithholding errors made in the same year are corrected by making an interest-free adjustment on Form 941-X. But you must first repay or reimburse employees the overwithheld amounts.
Correcting errors in the next calendar year. Unlike errors in the regular Medicare tax, which can be corrected any time, errors in the additional Medicare tax that are discovered in a later year can’t be corrected. Reason: The additional Medicare tax is treated like income taxes.
If employees are overwithheld, they will get larger income tax refunds when they file that year’s Form 1040. If they’re underwithheld, they’ll owe more income taxes. You aren’t liable for the underwithholding, provided employees pay the tax with their tax returns; you remain liable for underwithholding penalties.
Finally, the FAQ notes that you can’t make an interest-free adjustment if employees pay back wages received in a prior year, say, from a signing bonus that’s subject to repayment if certain conditions aren’t met in the current year. Employees can file Form 1040X to claim a refund.