Does filing taxes seem boring? Well, we won’t say they aren’t but you need to get it right as a business owner. Filing, remitting, and withholding taxes can be quite overwhelming if you do not understand the basics.
Though they are complicated, it’s no rocket science. This blog explains to you all the nuances of payroll tax or as you say employer payroll taxes.
First, let’s start getting the basics right!
What is Payroll Tax?
Payroll tax is paid by employers as a direct contribution and employees as deductions from their salaries to the state, local or federal governments. It is imposed to support the funding of public programs.
For example, social security is a payroll tax providing retirement income to disabled individuals, adults aged 62 years and above, and certain other taxpayers’ survivors.
What is the difference between payroll tax and income tax?
- Employer payroll taxes have flat rates. They help fund specific public programs like Medicare and social security, etc. On the other hand, income taxes are imposed on the total income. Income taxes have progressive rates that vary with the income and they serve the purpose of funding different government initiatives.
- Employment payroll taxes are sent directly to the funding program for which they are intended. Alternatively, income taxes are first sent to the US Treasury Department, unlike employer payroll taxes, where they may be used for funding.
What are the types of Employment taxes?
Before we get into the types of Employment taxes, let’s discuss briefly what employment taxes are all about!
Employment taxes are related to the taxable compensation of employees levied by federal and state taxes. To simplify it further, these are the taxes paid on the salaries and wages of the employees.
Employment taxes can be of different types. Let’s discuss more on these.
1. Income Tax
Income tax withholding is directly deducted from employee compensation on the basis of the information provided by them on Form W-4. This deduction goes to the government as the individual’s tax liability.
The Federal Insurance Contributions Act is paid by employees and employers equally. It comprises Medicare taxes and Social Security.
The amount for Medicare allows the ones aged 65 years & above (plus certain others) to get Part A Medicare Coverage without extra cost. Plus, additional coverage through Parts B, C & D for an additional amount as premium.
The part paid for Social Security provides benefits to retired adults, former and present spouses, dependent children (in some cases), and disabled individuals who are under retirement age.
The Federal Unemployment Tax Act is legislation that levies a payroll tax on employers exclusively. The taxes are used for funding unemployment benefits for people who aren’t employed.
4. State Unemployment Tax
This tax is paid exclusively by employers. However, few states require employee contributions as well.
Employer Payroll Tax Responsibilities
An employer’s responsibility goes beyond just issuing paychecks. You, as an employer, are responsible for the payment of employer share of payroll taxes, withheld taxes from employee earnings, and the payroll taxes levied on employers exclusively.
However, it’s not the same if you employ contractors. Generally, you are not required to withhold or pay any payroll tax on payments made to independent contractors. Know more about payroll tax employee vs contractor before getting involved in payroll tax activities.
Here’s a list of your employer's payroll tax responsibilities that you need to fulfil.
1. Paying the employer portion of payroll taxes
Employer share of payroll taxes or employer payroll taxes has to be paid by you at regular intervals. For example, your part amount contribution to FICA (Social Security and Medicare Taxes) and exclusive contribution to Federal Unemployment Tax Act and State Unemployment Tax Act, the taxes that are imposed on employers.
2. Withholding and filing of payroll tax returns
Before filing the payroll tax returns, employers must withhold taxes from employees periodically like federal taxes, state and local income tax, FICA, etc. You are required to withhold the income tax using the W-4 form. The FICA taxes, however, are deducted as a percentage from the gross pay.
After withholding comes filing. Employers are required by the law to file payroll tax returns, withheld from employee earnings periodically, with various local and state agencies. Failing to do so might result in a 100% penalty.
3. Set aside funds
As an employer, you have the responsibility of setting aside funds for payroll taxes. This includes both the employer and employee portion of the Social Security and Medicare taxes. These funds are known as trust fund taxes which means that they are held in trust until they are paid to the designated agencies.
4. Depositing withheld taxes from employee’s compensation
While as an employer, you are required to pay the employer payroll taxes, you also need to deposit the withheld portions of employee earnings. For example, FICA tax (Social Security and Medicare Taxes) needs to be paid by employers and employees in equal proportions. Also, income taxes that employers withhold from employee salaries must be deposited.
5. Reporting Employer Payroll Taxes
Employers must report the taxes owed to the appropriate agency and employees as required by the law. The reports may include Form 940 – Unemployment Tax Report and Form 941 – Employer’s Quarterly Wage and Tax Report. Certain other reports are required to be submitted by employers to federal, local, and state agencies. For example, employers are required to report the employment status of all new employees.
6. Preparation of Reconciliation Reports
Employers are also responsible for preparing the financial reports, the income statement and the balance sheet. So, as you make the expenses related to payroll taxes like salaries/ wage expenses, deductions, etc., you need to record them accurately and report these costs when preparing your business's financial statements.
7. Preparation of financial reports accounting for the payroll tax-related expenses
Employers are also responsible for preparing the financial reports, that is, the income statement and the balance sheet. So, as you make the expenses related to payroll taxes like salaries/ wage expenses, deductions, etc. you need to record them accurately and report these costs when preparing the financial statements of your business.
How can employers avoid payroll tax penalties?
Running a business may sometimes be overwhelming for employers as they need to look after the management of the business. On top of that, the payroll tax is a heap of work in itself.
While you withhold employee’s share of payroll taxes and pay your portion of the taxes, there’s one more thing that employers should be alert of – payroll tax compliance.
Employers withhold the deducted portions of employee compensation and it is their responsibility to deposit the taxes on time. For example, FICA taxes (Social Security and Medicare) are withheld from employee salaries by the employer until remittance. This indicates that if an employer violates payroll tax compliance, the business may be liable to pay a trust fund recovery penalty.
So, as an employer, you must remember collecting, paying, and accounting for the payroll taxes amidst all responsibilities. This will save you huge penalties.
Here are a few tips to help you avoid payroll tax penalties:
- Keep yourself updated with changes in tax laws
The flat rates of employer payroll taxes and the wage base limits are subject to change by local, state, and federal governments. Hence, keep updating your payroll tax knowledge.
- Maintain a correct employee classification
Keep your employee classification accurate. Inserting employees in the list of independent contractors to avoid paying FUTA and FICA taxes is illegal.
- Remember to withhold and pay taxes on time
Paying a trade creditor using payroll funds instead of the IRS is considered a willful disregard. Consequently, you might have to pay a trust fund recovery penalty or TFRP. However, if you are forgetful, set reminders to pay taxes on time.
- Partnering up with a qualified payroll service provider might help
If you partner with a payroll service provider, handling payroll taxes might just get easier. Using payroll software you can automate the FICA calculations, payments, deductions, thereby maintaining accuracy.
- Use proper forms while filing tax report
Ensure that you are using the correct forms when filing tax reports. In case of uncertainty, check the list of forms and their usage. Making a mistake or using the wrong forms might result in filing amended returns.
Make tax management easier with Multiplier
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- Local payroll taxes
- Global payroll taxes
- And all other forms of taxes that you’re responsible for
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