How State Paid Family and Medical Leave Benefits Are Taxed and Reported

9/15/2026

For years, the federal tax treatment of state paid family and medical leave (PFML) programs was settled mostly by old revenue rulings written for state disability funds, plus whatever each state and each payroll vendor decided to do. That ended in January 2025, when Treasury and the IRS issued Revenue Ruling 2025-4. It answers, contribution by contribution and benefit by benefit, who includes what in income, what counts as wages for FICA and FUTA, and who has to report it.

The answers are not symmetrical. Employee contributions, employer contributions, employer "pick-ups" of the employee share, family leave benefits and medical leave benefits each get different treatment, and the medical leave benefit itself splits into two pieces depending on who funded it. Some of the hardest compliance pieces were also put on hold through a transition period that the IRS extended into 2026. Payroll teams need to know which rules already apply to them and which ones are still waiting.

This guide walks through the federal treatment as the IRS has published it. It does not cover contribution rates or which states run programs; for that, see our state paid family leave updates for 2027.

What Rev. Rul. 2025-4 Covers, and What It Does Not

The ruling uses a hypothetical "State X" program that looks like most of the newer state programs: a single fund, a contribution rate set as a percentage of wages, contributions split between employer and employee, an option for the employer to pay the employee's share voluntarily, and an option to opt out through an approved private plan. From those facts it issues seven holdings.

Three limits matter before you apply it:

• It addresses state-run fund programs. A footnote states that the ruling does not address contributions to private or self-insured family or medical leave plans, or benefits paid under them. If your company covers a state through an approved private plan or insurance policy, the ruling does not answer your questions directly. Talk to your carrier and your tax adviser.
• It is federal only. Whether a state taxes its own PFML benefits, or allows a state deduction for employee contributions, is a state question. Many states do not follow the federal treatment.
• It is effective for payments made on or after January 1, 2025, subject to the transition relief discussed below.

The ruling also amplifies or modifies older rulings, including Rev. Rul. 72-191 on state nonoccupational disability funds. If your payroll setup for a state disability or family leave program dates back many years, the federal logic behind it may have shifted, even where the results look similar.

Contributions: The Payroll Side of the Ledger

Employee contributions withheld from pay

When the state requires employees to contribute and the employer withholds that amount from wages, the ruling treats the contribution as the employee's payment of state income tax. Three consequences follow:

1. The withheld amount remains in the employee's gross income and in wages for federal income tax withholding, Social Security, Medicare and FUTA. It is not a pre-tax deduction for federal purposes.
2. The employer must include it in wages on Form W-2. The 2026 General Instructions for Forms W-2 and W-3 repeat this directly.
3. The employee may deduct it on their own federal return as a state income tax, but only if they itemize and only within the SALT deduction limit.

For payroll, the practical rule is simple. Set up employee PFML deductions as after-tax deductions for federal purposes. If the deduction code in your system was built as pre-tax, or if a vendor template reduced federal taxable wages by the PFML amount, Boxes 1, 3 and 5 are understated. State taxable wages are a separate setting and follow the state's own rules. Our guide to pre-tax vs. post-tax deductions explains how the deduction setup drives each wage box.

Mandatory employer contributions

When the state requires the employer to pay a share from its own funds, the ruling treats that amount as an employer excise tax. The employer deducts it as a business tax, and the amount is not included in the employee's gross income. It does not belong in any W-2 wage box.

This is the cleanest piece of the ruling, and it matches how most employers already handled their own share.

Employer pick-up of the employee share

Many programs let the employer pay some or all of the employee's required contribution instead of withholding it. Employers often do this as a benefit, or to avoid the administrative work of a small deduction. The ruling treats the pick-up very differently from the employer's own required share:

• The pick-up is additional compensation to the employee.
• It is wages for federal income tax withholding, Social Security, Medicare and FUTA.
• It must be reported on Form W-2.
• The employer deducts it as an ordinary business expense (compensation), not as a tax.
• The employee can treat it as a state income tax payment on their own return, subject to the same itemizing and SALT limits.

The 2025 transition relief let employers skip treating pick-ups as wages for calendar year 2025. Notice 2026-6 did not extend that piece. The notice says the IRS expects employers to treat voluntarily paid employee contributions as wages for federal employment tax purposes and to report them on Form W-2 for 2026. If your company picks up the employee share anywhere, the gross-up and imputed wage setup needs to be live for 2026 wages, and the year-end W-2 review should confirm it.

The mechanics resemble other imputed income items: the pick-up amount is added to taxable wages, withholding is calculated on it, and the cash never passes through the employee's net pay. If you want to keep the employee's net pay whole, that is a gross-up decision, and the gross-up is wages too.

Benefits: Family Leave vs. Medical Leave

When an employee goes out on leave and the state pays benefits, the ruling separates family leave (bonding, caring for a family member and similar reasons) from medical leave (the employee's own serious health condition). The tax result differs sharply.

Family leave benefits

Family leave benefits paid by the state are included in the employee's federal gross income whether they trace back to employer or employee contributions. They are not wages for federal employment tax purposes, so no FICA or FUTA applies and the employer has no withholding duty.

Reporting falls on the state, not the employer. The ruling holds that the state must file a Form 1099 with the IRS and furnish one to the employee. The IRS added Box 10, "Family leave benefits," to Form 1099-G for this purpose. The Form 1099-G instructions direct states to report the total paid if it meets the applicable reporting threshold set out in Pub. 1099, and to show federal income tax in Box 4 if the recipient asked for withholding.

For payroll this mostly means not doing something: family leave benefits paid by the state do not go on the employer's Form W-2. Employees who expect withholding on those benefits need to arrange it with the state program, if the program offers it, or make estimated payments.

Medical leave benefits: the split

Medical leave benefits are split according to who paid the contributions that funded them:

• The portion attributable to employee contributions (including any employer pick-up of the employee share) is excluded from gross income under the accident-and-health rules. It is not wages and not sick pay.
• The portion attributable to employer contributions is included in gross income, is wages for Social Security, Medicare and FUTA, and is a third-party payment of sick pay. The ruling says the state must comply with the employment tax and reporting rules that apply to third-party sick pay.

That second bullet is where employers come back in. Under the third-party sick pay rules in IRS Publication 15-A, the payer and the employer share the work:

• The third-party payer withholds the employee's Social Security and Medicare tax. Federal income tax is withheld only if the employee requests it on Form W-4S.
• If the payer meets the requirements for transferring liability, the employer pays the employer share of Social Security and Medicare tax and FUTA, reports the sick pay on its Forms 941 and 940, and reports it on Form W-2.
• The payer must furnish the employer a sick pay statement by January 15 of the following year, and Form 8922 reconciles third-party sick pay with the employment tax returns.
• Social Security, Medicare and FUTA do not apply to sick pay paid more than six calendar months after the last calendar month the employee worked.

How exactly state programs will carry out these steps, and how they will tell employers which share of a benefit is employer-funded, is still being worked out. That is why the IRS gave a transition period. Our post on third-party sick pay reporting covers the general mechanics of liability transfer and year-end reconciliation, and the page on Social Security, Medicare and FUTA taxes on sick pay covers the six-month rule.

The Transition Period: 2025, Extended to 2026

Rev. Rul. 2025-4 treated calendar year 2025 as a transition period for IRS enforcement and administration. Several states asked for more time, and on December 17, 2025, the IRS issued Notice 2026-6, which extends part of that relief through calendar year 2026.

Relief item	2025	2026
Third-party sick pay withholding and information reporting on the employer-funded share of medical leave benefits	Relieved	Relieved (Notice 2026-6)
Employment tax withholding, payment and related penalties on the employer-funded share of medical leave benefits	Relieved	Relieved (Notice 2026-6)
Treating an employer pick-up of the employee share as wages	Relieved	Not extended; treat as wages and report on Form W-2

 

Read the relief precisely. For medical leave benefits a state pays during 2026, with respect to the portion attributable to employer contributions, neither the state nor the employer is required to follow the third-party sick pay withholding and reporting rules, neither is required to withhold and pay the associated taxes, and neither will be liable for the associated penalties.

The relief covers enforcement and administration. It does not change the underlying holdings. It does not touch the treatment of employee contributions, which were already wages, or of family leave benefits, which the state reports on Form 1099-G. And the notice is effective only for benefits paid during calendar year 2026. Whether there will be relief for 2027 is not known as of this writing. Plan as if the full rules apply to medical leave benefits paid from January 1, 2027, and watch IRS.gov for further guidance.

A Payroll Checklist for PFML Taxes

Work through this for every state where you have employees covered by a state-run PFML fund.

Deduction and earning codes

• Employee PFML contribution: after-tax for federal income tax, Social Security, Medicare and FUTA. State taxability set according to that state's rules.
• Employer-required contribution: an employer liability or tax line only, never an employee earning.
• Employer pick-up (if any): an imputed earning taxable for federal income tax withholding, Social Security, Medicare and FUTA, flowing to W-2 Boxes 1, 3 and 5.

Year-end and Form W-2

• Confirm that W-2 wages include the withheld employee contributions. Many employers also show the employee PFML deduction in Box 14a ("Other") as an informational item; check what your state requires or recommends.
• For 2026, confirm that every pick-up dollar is in wages. This is the item most likely to be missed, because 2025 relief let it slide.
• Review our W-2 preparation guide and the state W-2 filing requirements for the rest of the year-end sequence.

Benefits paid during leave

• Family leave benefits: no employer reporting. Tell employees to expect a Form 1099-G from the state.
• Medical leave benefits, employer-funded share: no employer action required for benefits paid in 2026 under Notice 2026-6. Ask each state program now how it intends to notify employers from 2027.
• Employer top-ups: any amount the employer itself pays during leave, such as a salary continuation top-up or substituted PTO, is ordinary wages through your own payroll and is not part of the state benefit.

Private and insured plans

• If you meet a state's requirement through an approved private plan or insurance policy, Rev. Rul. 2025-4 does not govern. Get the tax treatment in writing from the carrier and your adviser, and determine whether the carrier acts as your agent or as a third party for sick pay purposes.

Communication

• Update leave packets so employees know that family leave benefits are taxable federal income, that withholding is not automatic, and that the medical leave portion may be partly taxable.

Why the Contribution Split Matters for Reconciliation

Under the ruling, the taxable part of a medical leave benefit depends on the share of contributions the employer made. In the ruling's example, State X splits the standard rate 60% employee and 40% employer, so 40% of the medical benefit traces to employer contributions and is sick pay. Real programs use different splits. Some vary the split by employer size, and some states run separate family and medical funds with separate rates. The ruling says the same analysis applies to those variations.

That has a downstream effect on payroll records. Once the transition ends, the state will need to tell you, or the employee, how much of a benefit is taxable sick pay, and your Form 941 adjustments and W-2 amounts will depend on that figure. Keep clean records of which employer and employee contribution rates applied in each period. Mid-year rate changes, small-employer exemptions from the employer share, and pick-up arrangements all affect the ratio.

Reconcile PFML deductions and employer liabilities to the state contribution reports each quarter, the same way you reconcile SUI. Our year-end reconciliation guide covers the method.

Where This Sits With FMLA and Company Pay

State PFML benefits often run during an FMLA-protected absence, and employers frequently coordinate them with PTO or a salary top-up. Keep the three tax streams separate:

4. State benefit: taxed under Rev. Rul. 2025-4 as above, paid by the state.
5. Employer-paid PTO or top-up: regular wages, withheld and reported through your payroll like any other pay.
6. Short-term disability through an insured plan: governed by the general sick pay rules and your plan's premium split, not by the PFML ruling.

Whether an employer can require PTO to run alongside a state benefit, or allow a top-up, depends on the state program's rules on coordination and on FMLA regulations. The FMLA side is covered in our post on FMLA, ADA and workers' comp overlap. For a structured treatment of how these entitlements interact across states, the Leave Management Compliance Suite is the program built for HR and payroll teams administering leave.

Frequently Asked Questions

Are state PFML contributions withheld from employees pre-tax?

Not for federal purposes. Rev. Rul. 2025-4 treats mandatory employee contributions withheld by the employer as the employee's payment of state income tax. The amount stays in gross income and in wages for federal income tax withholding, Social Security, Medicare and FUTA, and the employer must report it on Form W-2. The employee may deduct it as a state income tax only if they itemize and only within the SALT limit. State taxable wages follow each state's own rules, which may differ.

Is paid family leave taxable income?

Federally, yes. Family leave benefits paid by a state PFML program are included in the employee's gross income, whether they come from employer or employee contributions. They are not wages, so no Social Security, Medicare or FUTA tax applies and the employer does not withhold. The state reports the payments on Form 1099-G, which now has a Box 10 for family leave benefits. Whether the state itself taxes the benefit is a separate question for each state.

How are PFML medical leave benefits taxed?

They are split. The portion attributable to employee contributions, including any employer pick-up of the employee share, is excluded from gross income. The portion attributable to employer contributions is taxable income, counts as wages for Social Security, Medicare and FUTA, and is treated as third-party sick pay. For benefits paid during 2025 and 2026, the IRS has relieved states and employers of the withholding, reporting and penalty exposure on that employer-funded portion.

What happens if the employer pays the employee's share of PFML?

That "employer pick-up" is extra compensation to the employee. It is wages for federal income tax withholding, Social Security, Medicare and FUTA, and the employer must include it on Form W-2. The employer deducts it as a compensation expense rather than as a tax. Relief from wage treatment applied only for 2025; Notice 2026-6 did not extend it, so pick-ups made in 2026 must be treated and reported as wages.

Does the employer report state paid family leave benefits on Form W-2?

No. Family leave benefits are reported by the state on Form 1099-G, not by the employer. The employer's W-2 obligations relate to the employee's withheld contributions and any employer pick-up, both of which are wages. The employer-funded share of medical leave benefits is third-party sick pay, which can eventually involve the employer in W-2 and Form 941 reporting. That piece is under transition relief for benefits paid in 2025 and 2026.

Does Rev. Rul. 2025-4 apply to private PFML plans?

No. The ruling expressly does not address contributions to private or self-insured family or medical leave plans or the benefits they pay. Employers that meet a state requirement through an approved private plan or an insurance policy need to confirm the tax treatment with their carrier and adviser. They also need to establish whether the carrier is acting as their agent or as an independent third party for sick pay reporting.

Going Deeper

PFML taxation sits where leave administration, deduction setup and year-end reporting meet, so a mistake in any one of them shows up on the W-2. For training that covers federal and state leave entitlements and how payroll handles them, see the Leave Management Compliance Suite.

• State paid family leave updates for 2027: programs and contribution rates
• Third-party sick pay reporting: liability transfer and year-end
• Payroll year-end checklist: where the PFML review fits

The federal treatment comes from Rev. Rul. 2025-4, Notice 2026-6, the 2026 General Instructions for Forms W-2 and W-3, the Form 1099-G instructions and IRS Publication 15-A, all published on IRS.gov. Check there for any guidance on calendar year 2027 before you configure next year's payroll.