IRS Provides New Guidance on the Section 45S Paid Family and Medical Leave Credit

What You Need to Know

• In August 2026, the Treasury Department and the Internal Revenue Service (“IRS”) issued Notice 2026-28 (the “Notice”), their first substantive guidance on the Section 45S federal paid family and medical leave tax credit since the credit expanded on January 1, 2026.
• Written comments on the Notice, which the IRS will review to assist in developing forthcoming proposed regulations, are due by October 16, 2026.
• The Notice focuses on the new premium-based method for claiming the tax credit as opposed to the separate but somewhat overlapping original method involving wages paid to employees on qualifying leave.
• The Notice addresses three important questions for employers: (i) which insurance premiums qualify, (ii) how employers may allocate premiums covering both qualifying and non-qualifying benefits, and (iii) when employers may use the premium and wage methods together.

Background

Section 45S provides a federal tax credit to eligible employers that offer qualifying paid family and medical leave. In general, an employer must maintain a written policy providing at least two weeks of annual paid family and medical leave, prorated for part-time employees, at a wage-replacement rate of at least 50 percent. The credit generally ranges from 12.5 percent to 25 percent of qualifying costs, depending on the level of wage replacement, and may apply to up to 12 weeks of qualifying leave per employee each year.

Section 45S was amended in July 2025 by the One, Big, Beautiful Bill Act (“OBBBA”). The Section 45S changes driven by the OBBBA took effect in January 2026. Among other amendments, the OBBBA established an additional method for calculating the tax credit. Specifically, beginning in 2026, employers can calculate the credit using either wages paid to employees on qualifying leave (referred to in the Notice as “the wage method”) or qualifying premiums paid for insurance coverage that funds those benefits (referred to in the Notice as “the premium method”). In prior years, the premium method was not an option.

Key Takeaways from the Notice

As noted above, in August 2026, the Treasury Department and the IRS issued the Notice, their first substantive guidance on the expanded Section 45S credit. Key takeaways from the Notice include:

• Employers may claim the credit based on qualifying insurance premiums even if no employee takes leave during the year. This makes the premium method potentially useful for employers that insure their paid family and medical leave obligations but have a workforce with limited or irregular leave usage.
• Not all premiums will qualify. A premium is creditable only to the extent it funds benefits that would qualify under the traditional wage method of claiming the tax credit. Portions attributable to non-qualifying employees or leave, state- or local-mandated benefits, or benefits that would not constitute qualifying wages must be excluded.
• Employers have flexibility in allocating blended premiums. When one policy covers both qualifying and non-qualifying benefits or employees, an employer may use any reasonable allocation method, consistent with the policy terms, supported by records and applied consistently across employees.
• The wage and premium methods may be combined. An employer may use both methods in the same year, including for a benefit funded partly through insurance and partly from the employer’s assets. Notably, the employer cannot claim both credits for the same cost or the same portion of a leave benefit.
• Employers may rely on the Notice now. Taxpayers may rely on the Notice for taxable years beginning after December 31, 2025, and before proposed regulations are issued.

The New Premium Method

Under the premium method, an employer that maintains an insurance policy covering paid family and medical leave may elect to calculate the credit based on qualifying premiums paid or incurred during the taxable year. Unlike the wage method, the premium method does not require a qualifying employee to take leave during that year. An employer may therefore be able to claim the credit based on qualifying insurance premiums even if no covered employee actually uses the benefit.

The premium method does not, however, allow an employer to claim a credit for the full cost of every employer-provided short-term disability or paid family or medical leave benefit covered by an insurance policy. The Notice ties the premium method to the existing wage-method requirements. An insurance premium qualifies for the tax credit only to the extent it funds a benefit that would have qualified for the credit under the wage method if the benefit had actually been paid. The Notice refers to this as “creditable coverage.”

A premium is not attributable to creditable coverage to the extent it funds:

• leave that does not qualify as family and medical leave under Section 45S;[1]
• coverage for an individual who is not a qualifying employee when the premium is paid or incurred;
• leave required by state or local law or paid for by a state or local government; or
• a benefit that would not constitute qualifying wages under Section 45S.

Allocating Blended Premiums

Many insurance policies do not separate qualifying Section 45S coverage from other coverage. For example, a single short-term disability policy may cover both qualifying and non-qualifying employees, or it may fund both qualifying family and medical leave and other types of absences. The Notice refers to a premium for a policy providing both creditable and non-creditable coverage as a “blended premium.”

An employer must allocate a blended premium between its creditable and non-creditable portions. The Notice does not prescribe a particular formula. Instead, it allows an employer to use any reasonable method that:

• is consistent with the terms of the insurance policy;
• uses objective criteria;
• is supported by contemporaneous records; and
• is applied consistently throughout the taxable year and across all entities treated as a single employer under the Section 45S aggregation rules.

The lack of a required formula gives employers the flexibility to develop an allocation method that suits their particular policies and employees. That flexibility also makes recordkeeping important.

Employers May Use Both Methods

The Notice confirms that the wage and premium methods are not mutually exclusive across an employer’s entire paid leave program. An employer may use both methods during the same taxable year, with an important caveat. The employer cannot claim both credits for the same cost or the same portion of a leave benefit.

By way of example, assume an employer provides qualifying paid family and medical leave through a short-term disability insurance policy and a supplemental employer-funded benefit. The insurance policy covers 60 percent of an employee’s qualifying leave benefit, while the employer pays the remaining 40 percent from its general assets. The employer may claim the premium-based credit for the qualifying portion of the insurance premium and the wage-based credit for the qualifying wages paid from its general assets. It may not also claim a wage-based credit for benefits funded or reimbursed by the insurance policy, because that would result in claiming both credits for the same portion of the benefit.

If the insurance policy also covers non-qualifying leave or non-qualifying employees, the premium would be a blended premium. The employer would first need to allocate the premium between creditable and non-creditable coverage using a reasonable method that is consistent with the policy terms, based on objective criteria, supported by contemporaneous records and applied consistently. Only the creditable portion would enter the premium-based calculation for the 45S tax credit.

State and Local Leave Considerations

State- or local-mandated leave may be counted in determining whether an employer provides enough paid family and medical leave to satisfy the threshold requirements for Section 45S eligibility. However, wages or premiums attributable to leave required by state or local law, or paid for by a state or local government, remain excluded from the credit calculation.

For multistate employers, this distinction may complicate both the 45S eligibility and calculation analyses. An employer may need to identify which portions of its leave program satisfy state or local requirements and which portions represent employer-provided benefits beyond those requirements. The same distinction must be reflected when determining the creditable portion of an insurance premium.

The Notice does not fully resolve how these rules apply to premiums paid through a voluntary state-facilitated paid family and medical leave program administered by private insurance companies. Treasury and the IRS specifically requested comments on that issue.

What Employers Should Do Now

Employers that provide paid family and medical leave directly or through an insurance arrangement should review their programs now. The review should focus on:

• whether the employer’s written policy satisfies the Section 45S requirements;
• whether the employer is otherwise eligible for the 45S credit;
• which employees and types of leave are covered;
• whether a short-term disability or other insurance policy funds qualifying leave;
• which portions of the employer’s premiums may constitute creditable coverage;
• how any blended premiums can be allocated and documented;
• whether state or local leave requirements affect eligibility or the credit calculation; and
• whether the wage method, the premium method, or a combination of both produces the best result.

Additional Guidance

Taxpayers may rely on the Notice for taxable years beginning after December 31, 2025, and before proposed regulations are issued. Treasury and the IRS have indicated that the proposed regulations will be consistent with the Notice. Final regulations are expected to apply prospectively to wages and insurance premiums paid or incurred after the final regulations are issued.

As noted above, Treasury and the IRS requested comments by October 16, 2026, particularly regarding:

• the factors used to allocate blended premiums and to substantiate allocations;
• the treatment of premiums paid through voluntary state-facilitated programs administered by private insurers; and
• what constitutes a “substantial and legitimate business reason” for failing to provide a qualifying written policy under the aggregation rule.

With the paid leave landscape continuing to expand in complexity, we encourage companies to reach out to their Seyfarth contact for guidance on complying with these laws and addressing paid leave requirements more generally. To stay up to date on paid leave developments, please click here to sign up for Seyfarth’s Paid Leave mailing list. Companies interested in Seyfarth’s paid sick leave laws survey should reach out to paidleave@seyfarth.com.

 

[1] The IRS’s FAQs on 45S, which have not been updated to reflect the Notice or broader amendments based on the OBBBA, state that for purposes of the tax credit, “family and medical leave” means “leave for one or more” of the qualifying absences under the federal FMLA.