Payroll taxes are all taxes that are collected by federal, state, and local governments, based on salaries and wages paid to employees. These taxes must be withheld from wages by all businesses that have employees. They are remitted on a monthly or semi-weekly basis, depending on the quantity owed.
The Internal Revenue Service (IRS) requires most businesses with employees to withhold and deposit federal payroll, Social Security, and Medicare taxes. Withholding, filing, and remitting payroll taxes can be complicated, but they are tasks that business owners must get right to achieve payroll tax compliance. Failure to make proper tax withholdings or deposits can result in significant fines and penalties for a business.
While the withholding percentage may vary from employee to employee, all employees are subject to a minimum of federal payroll taxes. These taxes are specified in the Federal Insurance Contributions Act (FICA) and include federal income, Social Security, federal unemployment, and Medicare taxes. These tax-withholding rules apply regardless of whether employees are part-time, seasonal, or full time.
In addition to the minimum required federal payroll taxes, different states may require specific withholdings as well. Here are some additional details on federal and state payroll taxes important for employers to understand in order to ensure payroll tax compliance:
Federal, State and Local Payroll Taxes
Type of Tax
How It Works
Who Is Responsible
Federal Income Tax
Federal income tax is considered a pay-as-you-go tax that is withheld of an employee’s paycheck by the employer each time the employee is paid. The tax rate is determined by withholding tables that are published each year by the IRS as of Publication 15 – The Employer’s Tax Guide.
The employer is responsible for withholding federal income tax by taking it out of the employee’s paycheck with each payroll.
Federal Insurance Contribution Act (FICA) Taxes
These are Medicare and Social Security Taxes. Rates are reviewed on an annual basis.
FICA taxes are split evenly between the employer and the employee. The employer is responsible for withholding the employee amount and depositing the employer amount with each payroll.
State Income Tax
Every state with the exception of Alaska, Florida, Nevada, South Dakota, Texas, Washington and Wyoming, has an income tax. Tennessee and New Hampshire only tax dividends and interest income, but not wages.
The employer is responsible for withholding state income tax by taking it out of the employee’s paycheck with each payroll.
State Unemployment Tax (SUTA)
ment Tax (SUTA)
Every state has an unemployment tax that works in conjunction with the federal tax. The rates are determined by the state tax authorities and assigned to businesses upon registration.
In most states SUTA taxes are employer paid. In Alaska, New Jersey and Pennsylvania, both the employee and the employer contribute to these taxes.
These can be local income, school board, transit, municipality or almost any other kind of taxes.
Responsibilities vary depending on the tax authority and type of tax.
Payroll tax and income tax are similar concepts because both taxes are based on an employee’s wages or salary. However, while these terms are used interchangeably, they are different. Since employers are responsible for withholding, reporting, and paying taxes, they need to understand the differences between payroll and income tax to achieve maximum payroll tax compliance.
The payroll tax system usually refers to taxes for Medicare and Social Security that are withheld at essentially a flat rate from employee pay, with a portion also paid by the employer. Income tax is a more complex system because of taxing money earned from sources other than work and employing deductions, exemptions, and credits. Income taxes are mainly used for funding defense and national security programs.
Income taxes are withheld from an employee’s pay based on projected annual tax. They are deducted from employee wages or salary, based on a Form W-4 that the employee files, showing marital status, a number of exemptions for dependents and other allowances, and any additional amount an employee wants to be withheld. An employee does not have to have tax withheld for all dependents and can add any desired amount to the withholding.
Income and payroll tax obligations are often misunderstood, but it is critical for employers to know the difference and the impact they can have on businesses and employees. Understanding who is responsible for paying each, and the filing and payment deadlines can help employers prevent mistakes and maintain effective payroll tax compliance.Handle the ever-changing regulatory landscape and payroll tax compliance pressure with unique software that enables electronic administration, timely procedures, and guaranteed compliance.
For effective payroll tax compliance, it is important to know which forms apply at various stages throughout the employee life cycle. Failure to submit the proper paperwork within the federal guidelines can result in significant fines for businesses.
Before business owners can legally employ anyone in the U.S., they are required to register their company with the federal government and obtain an Employer Identification Number (EIN). This number is like a Social Security Number for businesses and is used to help track all employees’ tax payments. In addition to this, businesses may also need the following forms:
Form W-2 (Wage and Tax Statement Form) is an IRS tax form used in the United States to report wages paid to employees and the taxes withheld from them. Employers must complete a Form W-2 for each employee to whom they pay a salary, wage, or other compensation as part of the employment relationship. An employer must mail out the Form W-2 to employees on or before January 31. This deadline gives taxpayers about 2 months to prepare their returns before the April 15 income tax due date. The form is also used to report FICA taxes to the Social Security Administration.
Form W-2 is a multipart form:
For each Form W-2, employers need to include information about their business:
For each employee, employers need to update personal information:
It is necessary to provide information on total wages and withholding for each employee for last year:
In Box 12, for each Form W-2 employers need to indicate if each employee participates in a retirement plan or a nonqualified plan with a company, if this employee is a statutory employee, or if the person received third-party sick pay.
Box 13 of the Form W-2 requires information about deductions for employee benefit plans and other deductions that must be reported on the employee’s income tax return.
Employers may want to add an internal control number on each Form W-2 if they are paying many employees.
After gathering all the necessary information and proper forms, employers need to follow instructions provided by the IRS in order to secure payroll tax compliance and avoid any errors.
Employers send the Form W-2 to the Social Security Administration (SSA) by the end of February. The forms can be submitted online to the SSA by using their Business Online service. In case there are 250 or more W-2 forms, employers have to submit them to the SSA online.
The Families First Coronavirus Response Act (FFCRA) was signed into law on March 18, 2020, as the second major legislative initiative designed to address the COVID-19 pandemic. The Act, which is effective April 1 through December 31, 2020, addresses the impact of COVID-19 by providing expanded nutrition assistance, paid sick leave, enhanced unemployment insurance coverage, free coronavirus testing, and increased federal Medicaid funding.
On July 8, 2020, the IRS and the Treasury Department issued Notice 2020-54, providing guidance for employers when reporting the FFCRA wages. According to this Notice, employers need to report Qualified Sick Leave Wages and Qualified Family Leave Wages separately, either on Form W-2 2020 or in a statement provided with the Form W-2. The guidance also gives employers some optional language they can use in the Form W-2 2020 instructions for employees.
Employers with fewer than 500 employees are required to provide mandatory sick and family leave pay to employees unable to work as a result of COVID-19. As these payments are taxable wages, they are reported in boxes 1, 3, and 5 of Form W-2 2020. However, FFCRA amounts must be separately reported either in Box 14 of Form W-2 or on a separate statement. If a separate statement is provided and employees receive a paper Form W-2 2020, the statement should be included with the Form W-2. In the case employees receive an electronic Form W-2 2020, the statement should be provided in the same manner and at the same time as the Form W-2.
Employers that are subject to paid leave requirements need to ensure that their Form W-2 reporting meets the new requirements. In spite of additional efforts to maintain Form W-2 tracking and reporting in accordance with the FFCRA paid leave wages, this is necessary for ensuring payroll tax compliance and adhering to complex and changing tax regulations.Use this detailed Form W-2 guide to assure payroll tax compliance, prevent or address common mistakes that lead to audits and costly fines, and replace a complex, time-consuming process with an effective one.
Form W-4 is an IRS form that an employer uses to gather tax withholding information for an employee. Form W-4, which is the employee’s withholding allowance certificate, is typically provided once an employee has accepted an offer of employment and it needs to be completed prior to the first payroll. The payroll department will use the information on the W-4 to determine how much federal, state, and local taxes need to be taken out of the employee’s paycheck, based on what they choose on the Form W-4. The employee must indicate:
The Tax Cuts and Jobs Act (TCJA) made signiﬁcant changes to tax rates, deductions, tax credits, and withholding calculations, beginning in 2018. New IRS withholding tables were published in January, and the 2018 Form W-4 was released in February. The IRS made few changes for 2018 and determined that employees would not be required to complete a new Form W-4 for 2018. However, it was strongly recommended and for some people, it may be advisable.
Employees may change the amounts on Form W-4 at any time and as often as they wish. There is no time limit on how long Form W-4 stays in effect – it remains in effect until the employee changes it. At termination, Form W-4 continues in effect for withholding of FICA taxes for payments made after the termination date.
The most current Form W-4 must be signed by the employee and kept in the employee’s payroll folder to verify the amount of federal income tax withholding.
Many U.S. states use their own variation of the Form W-4 to record state withholding amounts. Some states do not allow electronic capture of W-4 information.
On December 5, 2019, the IRS issued the redesigned 2020 Form W-4 that was expected ever since the enactment of the Tax Cuts and Jobs Act (TCJA) in 2017. The 2020 Form W-4, Employee’s Withholding Certificate, is an updated version of the previous Form W-4, Employee’s Withholding Allowance Certificate. Major revisions included in the new form aim to simplify the process of filling out Form W-4 for employees and improve tax withholding accuracy.
The 2020 Form W-4 no longer uses the concept of withholding allowances to account for additional income, deductions, and tax credits. However, it includes lines where employees can enter those amounts directly so they can be used to calculate the withholding amount. Even though this Form W-4 is different, the IRS designed the withholding tables to work with a prior year form or the 2020 form and simplify payroll tax compliance.
Also, the IRS does not require all employees to complete a new form. However, the new form is required for all new hires in 2020 and for employees who have completed a Form W-4 before 2020 and want to make changes to their withholding in 2020. Employers may not require employees to complete a new form, they may ask them to do so. To explain how withholding is calculated with the prior year and 2020 Form W-4, the IRS also created Publication 15-T, Federal Income Tax Withholding Methods.
IRS Form 940 is the federal unemployment tax annual report form. This form is used to report and pay unemployment taxes to the IRS.
The form calculates the employer’s federal unemployment tax liability, then adjusts for any state unemployment taxes paid, and calculates the unemployment tax due. Finally, the form compares the unemployment tax due for the year to the tax already paid. Employers need to pay any unemployment tax still due to the IRS.
Businesses have to file Form 940 if:
The due date for Form 940 is January 31, for the previous year.
IRS Form 940 is used to compute the amount of federal unemployment tax liability of a business from the previous year. The form also is used to determine the amount of unemployment tax owed for the previous year, and any unpaid and due unemployment taxes.
The process of completing Form 940 includes:
Form 941 is the form used by employers to report withholding amounts for federal income taxes and FICA taxes, employer payments for these withholding amounts, and any amounts due to the IRS.
Form 941 includes quarterly calculations and reports:
Form 941 is due on a quarterly basis, at the end of the month following the end of the quarter, on the following schedule:
If the due date falls on a weekend day or holiday, the due date is the next business day.
Form 941 calculations include totals for:
The form requires a calculation of the total taxes and the total deposits made during the period. The difference between the total taxes due and the total deposits is the amount still owed that must be paid.
Form 941 may be submitted electronically using Federal E-file.
Given that several COVID-19 legislation introduced recently, including tax credits for employers, the IRS released the updated version of Form 941 for quarters two, three, and four of 2020. The purpose of the updates is to allow employers to report wages paid out due to the Families First Coronavirus Response Act (FFCRA) and the Coronavirus Aid, Relief and Economic Security Act (CARES).
Form 941 is an essential part of claiming FFCRA and CARES credits. Therefore, it is critical that employers take into account not only updates to Form 941 but also to Schedule B and Schedule R in order to avoid costly disputes with the IRS and maintain payroll tax compliance.
The updated version of Form 941 includes many new fields for reporting data on coronavirus-related employment tax relief. The form itself has three parts, and while Part 1 and Part 3 have the new fields, Part 2 has no changes. Also, employers reporting tax credits under the CARES Act or FFCRA are required to complete Worksheet 1, Credit for Sick and Family Leave Wages, and the Employee Retention Credit.
These two forms are often confusing, but they are used for different types of taxes that employers must pay. Both forms go to the IRS.
It is easy to disregard some of the IRS requirements, especially when it comes to different forms that all seem similar. However, if taxes are paid without the proper form or with a form that contains inadvertent or deliberate errors, the taxes are not considered paid in full, resulting in penalties. Therefore, to avoid huge and costly mistakes and maintain payroll tax compliance, employers have to understand the differences between various IRS forms.Without a clear understanding of payroll taxes, employers may easily find themselves at risk. By relying on outsourced services, you can make an informed decision, ensure payroll tax compliance, and ensure tax savings.
Once an employer either withholds or pays a payroll tax amount, these funds must then be paid to the appropriate tax authority:
Payments to tax authorities follow a specific schedule that is often set by the size of a company and the amount of tax paid. When employers register their business with the IRS and any other authorities, they are given a payment schedule. If the schedule changes, they should receive a notification.
To ensure payroll tax compliance, employers have to file regular reports of the payroll tax amounts collected from payroll and paid to the IRS, state, and local tax authorities.
There are a number of variables involved in setting and calculating the rates necessary for maintaining effective payroll tax compliance. The following is a general overview of where the current payroll tax rates can be found and how each of the main payroll taxes works:
Once employers pay over payroll taxes and file any necessary returns and reports, their last significant obligation necessary for payroll tax compliance is to maintain records that substantiate the payroll taxes they paid.
For federal tax purposes, employers need to retain records for at least four years after the due date of the return or the date the taxes were paid, whichever is later. A similar record-keeping requirement exists in each state, with varying time periods.
There is no particular form prescribed for properly retaining records. However, the records should be kept in a manner that will enable the IRS and state tax authorities to ascertain whether any tax liability has been incurred and if so, the extent of that liability.
The types of information employers should retain include:
To ensure payroll tax compliance, it is necessary to keep all required records at convenient and safe locations that are accessible to IRS representatives, so they can be available in case of IRS inspections.Manage your direct and indirect payroll tax compliance and reporting obligations effectively and get full support no matter what area of employment tax is required.
There are not many opportunities for reducing exposure to payroll taxes. It is unwise to try and avoid employment tax liability by classifying workers as independent contractors. The IRS, the Department of Labor, and their state counterparts are aggressively targeting employers to uncover misclassification, and the penalties are severe. The biggest opportunity for realizing any kind of real savings is for employers to make sure they tend to obligations and avoid getting hit with penalties.
The biggest risk employers face in administering payroll tax obligations is that they can be held personally liable for all income and FICA taxes that they willfully either fail to withhold from employees’ wages or fail to pay to the IRS and state tax agencies.
Even if employers avoid the 100-percent penalty because their conduct wasn’t willful, they could face smaller penalties if their failure to withhold was due to misclassification of an employee as an independent contractor. In the context of tax penalties, willfulness requires that the individual’s conduct be intentional, knowing, and voluntary. In some cases, a reckless disregard of obvious facts will be enough to show willfulness.
If employers fail to prepare a Form W-2 for employees, or willfully furnish incorrect ones, they will be subject to a penalty per each statement that should have been sent or that was incorrectly prepared.
Failing to pay payroll taxes on time can happen to any employer given the different responsibilities they need to keep track of. To avoid this, employers have to closely follow constantly changing IRS announcements and resources. Also, each state has rules for depositing and reporting payroll taxes at the state level. Thus, to secure payroll tax compliance, employers need to pay close attention to state payroll tax regulations in the states where their employees work.
As the biggest relief bill in U.S. history, the CARES Act aims to reduce the economic impacts of COVID-19 and offer assistance to tens of millions of affected Americans. Apart from supporting small and large employers and specific industries, one of the key provisions of the CARES Act refers to payroll tax changes, in the form of payroll tax deferment and payroll tax credits.
Typically, employers have to remit their share of Social Security taxes for each employee’s covered wages on a semi-weekly or monthly basis. However, Section 2302 of the CARES Act allows employers to defer certain payroll taxes incurred between March 27, 2020, and December 31, 2020.
As a result, employers can defer their 6.2% share of the Social Security tax on each employee’s covered wages for the rest of the year and pay half at the end of 2021 and a half at the end of 2022. However, it is important to note that payroll tax changes do not cover other payroll taxes such as the Medicare tax or employee’s share of the Social Security tax. Also, there is no dollar cap on the total amount of employer social security taxes that may be deferred through December 31, 2020.
The CARES Act also provides tax credit for eligible employers to encourage them to continue paying employees. This benefit allows a 50 percent refundable payroll tax credit on wages paid up to $10,000 during the crisis. It can be claimed for employees who are retained but not currently working due to the crisis for firms with more than 100 employees, and for all employee wages for firms with 100 or fewer employees.
While 2020 payroll tax changes may be attractive to many employers, it is important to understand that they constitute a deferral, rather than a waiver of tax obligations. Therefore, employers should maintain concise records of their tax deferrals and credits, and be prepared to make timely payments of their payroll taxes when they come due.
As the impacts of the coronavirus change constantly, it is critical that employers keep a close eye on the latest developments and legislation affecting their payroll taxes, especially tax-saving and tax-deferral mechanisms. Also, to assure payroll tax compliance, employers have to follow laws as they adjust at the federal, state, and local levels of government.
Even though the relief legislation is beneficial to businesses, payroll tax updates present employers with new compliance challenges and potential penalties for errors. Outsourcing payroll tax management is the most effective and secure way to stay ahead of tax obligations and payroll tax changes. Thus, employers can ensure payroll tax compliance and adherence with ever-changing tax laws and regulations. As a result, they minimize tax and payment compliance risks, possibly reduce taxes and other expenses, and efficiently handle all aspects of the tax filing and remittance process.The information contained within this document is general in nature and is not intended and should not be construed as legal, HR, or opinion by Emtpech. Please contact Emptech or another subject matter professional prior to acting on any information provided in this document.We recommend caution when contemplating acting on any information provided in this document as it may not be applicable or suitable for the specific viewer’s needs. Emptech assumes no obligation to update any viewer of any changes in law, rule, or regulation that could affect the information contained herein.Without express written permission from Emptech, no part of this document may be reproduced, re-transmitted, or otherwise redistributed in any form or by any means, including, but not limited to photocopying, electronic, facsimile transmission, or using any other information storage and retrieval system.