The Expanded §45S Tax Credit Provides a New Planning Opportunity for Employers

By Gilbert Gomez, CPA | Gomez CPA | Insights

Employee benefits represent a significant expense for many businesses. Health insurance, retirement plans, paid time off, and other compensation arrangements all contribute to the cost of maintaining a workforce. Recent changes to the federal tax code, however, have created an additional opportunity for employers to offset certain costs associated with paid family and medical leave.

Beginning in 2026, changes to Internal Revenue Code (IRC) §45S allow qualifying employers to claim a federal income tax credit based on eligible paid family and medical leave insurance premiums, even when no employee takes leave during the year.

For businesses already providing these benefits, the expanded credit may offer tax savings that were previously unavailable. For others, it provides another consideration when evaluating the cost of introducing or modifying employee benefit programs.

The opportunity is worth examining as part of an employer's 2026 tax planning strategy.

What Changed in 2026?

The employer credit for paid family and medical leave was originally established under the Tax Cuts and Jobs Act of 2017. It generally allowed qualifying employers to claim a percentage of wages paid to eligible employees while they were on family or medical leave.

Section 70304 of Public Law 119-21, enacted July 4, 2025, made the credit permanent and expanded its application beginning with tax years after December 31, 2025.

Under the revised provisions, employers may calculate the credit using qualifying wages paid during family and medical leave or eligible insurance premiums paid to provide such coverage.

The credit generally ranges from 12.5% to 25% of qualifying expenditures, depending on the applicable wage-replacement percentage.

The most significant change concerns the insurance premium method. Previously, an employer generally needed to pay qualifying leave wages to generate a credit. Beginning in 2026, an employer may qualify based on eligible insurance premiums, regardless of whether employees actually take leave during the tax year.

In August 2026, the IRS issued Notice 2026-28, providing guidance on qualifying insurance premiums, policies covering multiple benefits, and the interaction between the wage based and premium based methods.

Why This Creates a Tax Planning Opportunity

The expanded credit gives employers several reasons to revisit their existing benefit arrangements and consider whether changes may be appropriate.

Review Existing Employee Benefits

Businesses that already provide paid family and medical leave or maintain insurance covering these benefits should examine their existing arrangements before considering additional coverage.

Some employers may already be paying premiums for benefits that qualify under the expanded provisions without having previously evaluated the potential federal tax credit.

However, not every insurance policy qualifies. Employers must distinguish eligible paid family and medical leave coverage from general health insurance, ordinary sick leave, and other benefits outside the scope of §45S.

When an insurance policy covers multiple benefits, only the portion of premiums attributable to qualifying coverage may be eligible.

The starting point should be a review of existing benefits, policies, and insurance expenditures to determine whether the business already has a potential tax planning opportunity.

Evaluate the Cost of Introducing Qualifying Coverage

Employers considering new paid-leave benefits should include the expanded credit in their financial analysis.

Paid family and medical leave insurance can help provide income replacement when an employee experiences a qualifying medical condition, welcomes a child, or needs to care for an eligible family member.

The potential federal tax credit may reduce the after-tax cost of providing that coverage.

However, an employer should not purchase insurance simply to generate a tax credit. Premium costs, coverage limitations, workforce needs, administrative responsibilities, and potential tax savings should all be considered when evaluating a new benefit arrangement.

Coordinate Insurance With Employer Paid Leave

Some businesses provide paid family and medical leave directly through payroll. Others use insurance to fund some or all of the benefits.

The revised rules allow employers to evaluate how these arrangements can work together.

For example, a business may maintain qualifying insurance coverage while supplementing the insured benefits with additional paid leave funded directly by the employer. Depending on the circumstances, both the qualifying premiums and additional eligible leave wages may generate credits.

The same benefits cannot generate duplicate credits, however, and the employer must properly distinguish insured benefits from separately funded leave payments.

This creates an opportunity to review how existing policies are structured and whether adjustments would be beneficial from both a financial and tax perspective.

A Practical Example: When No Employee Takes Leave

Consider a business with 25 employees that maintains a qualifying paid family and medical leave insurance policy.

The employer pays $20,000 annually in premiums attributable entirely to qualifying coverage. The policy provides 100% wage replacement for eligible leave, and the employer satisfies the other requirements of §45S.

During 2026, none of the employees takes qualifying family or medical leave.

Under the previous wage based method, the business generally would not have generated a credit because no qualifying leave wages were paid.

Under the expanded premium based method, however, the employer may qualify for a credit even though no employee used the benefit.

At the maximum 25% credit rate, the calculation is straightforward.

Annual qualifying insurance premiums are $20,000. Applying the 25% credit rate produces a potential federal income tax credit of $5,000.

There is an additional tax consideration. IRC §280C requires an employer to reduce its otherwise allowable deduction for qualifying premiums by the amount of the credit.

In this example, claiming the full $5,000 credit would reduce the deductible insurance expense from $20,000 to $15,000.

Consequently, the employer's incremental federal income tax savings may be less than the $5,000 credit because of the corresponding reduction in deductible expenses. The actual benefit depends on the applicable tax rate, the availability of the deduction, and the employer's ability to utilize the credit.

The example illustrates the planning opportunity. Employers may now generate a federal income tax credit from maintaining qualifying coverage, even in years when no employee uses the benefit.

What Employers Should Review Before Year-End

Although the expanded credit offers additional opportunities, eligibility is not automatic. Businesses should review several matters before incorporating the credit into their year-end tax projections.

Written Leave Policies

Section 45S generally requires employers to maintain a qualifying written paid family and medical leave policy.

The policy must satisfy minimum leave and wage replacement requirements, including at least two weeks of annual qualifying leave for full-time qualifying employees, with proportionate benefits for part-time qualifying employees.

A general paid time off policy does not necessarily satisfy these requirements.

Employers should examine their existing policies and determine whether revisions are necessary to meet the statutory requirements. Any changes should be properly documented and implemented in accordance with the applicable eligibility rules.

Employee Eligibility

The 2026 amendments expanded certain employee eligibility provisions.

Qualifying employees generally must customarily work at least 20 hours per week and satisfy applicable service and compensation requirements. Employers may elect a six-month service requirement rather than the traditional one-year period. In addition, employees must meet a compensation limitation based on their prior-year earnings, as defined under §45S.

These provisions affect which employees qualify and, consequently, which insurance premiums or paid-leave wages may be included in the credit calculation.

Insurance Coverage and Documentation

Employers should review insurance contracts and premium statements to identify amounts attributable to qualifying family and medical leave coverage.

When policies include multiple benefits, an appropriate allocation may be required. The IRS has emphasized the importance of reasonable allocation methods and supporting documentation.

Businesses operating in states with mandatory paid leave programs should also evaluate how those requirements affect federal credit eligibility. State mandated or government paid leave may count toward certain policy requirements but does not itself generate qualifying expenditures for the federal credit.

Tax Projections and Credit Utilization

The §45S credit is included within the federal general business credit framework and is subject to applicable limitations.

Employers should evaluate the potential credit alongside projected taxable income, other available credits, and the required reduction of deductible expenses.

For partnerships and S corporations, the analysis should also consider how the credit and related tax adjustments affect the owners.

Looking Beyond the Tax Credit

Employee leave programs should not be evaluated solely on the availability of a federal tax credit.

Paid family and medical leave coverage may help businesses retain employees, provide financial protection during qualifying absences, and maintain competitive compensation packages.

At the same time, employers must consider recurring insurance premiums, workforce characteristics, coverage limitations, and administrative costs.

For businesses already maintaining qualifying coverage, the expanded credit may provide an additional tax benefit without requiring substantial changes to existing arrangements.

For employers considering new benefits, the credit may help offset some of the cost of providing coverage that supports their broader compensation strategy.

The underlying financial question remains the same: Does the benefit arrangement make sense for the business after considering its total cost, operational requirements, and available tax incentives?

The expanded §45S credit is one component of that analysis, not a reason by itself to introduce additional expenses.

How Gomez CPA Can Help

Effective tax planning involves reviewing more than income and deductions at year-end. Existing insurance arrangements, employee benefit policies, and other operating expenditures may also present opportunities to reduce federal income tax liability.

Gomez CPA works with businesses to identify applicable tax planning opportunities, evaluate their financial implications, and incorporate those findings into broader accounting and financial planning.

Employers currently offering paid family and medical leave, or considering adding these benefits, should evaluate whether the expanded §45S credit can contribute to their 2026 tax planning strategy.

References and Authorities

1. Internal Revenue Code §45S, Employer Credit for Paid Family and Medical Leave. https://www.law.cornell.edu/uscode/text/26/45S

2. Public Law 119-21, §70304, enacted July 4, 2025. Amendments expanding the employer credit for paid family and medical leave.

3. Internal Revenue Service, Notice 2026-28, Guidance on the Employer Credit for Paid Family and Medical Leave Under Section 45S, Internal Revenue Bulletin 2026-34, August 17, 2026. https://www.irs.gov/pub/irs-drop/n-26-28.pdf

4. Internal Revenue Service, IR-2026-86, Treasury, IRS Issue Guidance on the Permanent Expansion of Paid Family and Medical Leave, August 5, 2026. https://www.irs.gov/newsroom/treasury-irs-issue-guidance-on-the-permanent-expansion-of-paid-family-and-medical-leave-under-the-working-families-tax-cuts

5. Internal Revenue Service, Tax Tip 2026-64, What Employers Need to Know About the Enhancements to the Paid Family and Medical Leave Tax Credit, August 20, 2026. https://www.irs.gov/newsroom/what-employers-need-to-know-about-the-enhancements-to-the-paid-family-and-medical-leave-tax-credit

This article is provided by GOMEZ CPA for general informational and educational purposes only. It is not intended and should not be construed as tax, accounting, legal, customs, investment or financial advice. General information about federal income tax provisions is provided and is not a substitute for an evaluation of an employer's specific circumstances. Eligibility for tax credits depends on applicable statutory requirements and supporting documentation. Additional Treasury regulations and IRS guidance may affect the application of these provisions.

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