Understanding Payroll Tax Responsibilities
Whether you have one employee — including yourself if you work for your own corporation — or many employees, you face many payroll tax responsibilities. If you fail to meet your obligations, you could face costly penalties. Here is a checklist of your payroll tax responsibilities:
- Withholding income taxes from employees' taxable compensation. Usually, federal income tax withholding is based on an employee’s claim for withholding allowances reported on Form W-4. An employee may claim exemption from withholding on this form. Special withholding rules apply to supplemental wage payments (payments that aren't regular wages, such as bonuses, commissions, awards, and prizes).
- Withholding for state taxes and benefits. If you are located where there are state and local income taxes, you must withhold according to those rules. There may be additional state benefit withholding requirements, such as amounts for paid leave, short-term disability, unemployment benefits, and workers’ compensation.
- Withholding the employee share of FICA. You must withhold Social Security and Medicare (FICA) tax from an employee's taxable compensation. For 2017, this means withholding 6.2 percent on amounts up to $127,200 for the Social Security portion, and 1.45 percent for the Medicare portion of FICA.
Also, when an employee's taxable compensation exceeds $200,000 in a year, you must withhold an additional 0.9 percent on the excess amount; this is an additional Medicare tax. This withholding is required regardless of the employee's marital status and the fact that he or she may not actually owe this tax because earnings are below the wage base for a married person filing jointly.
- Paying the employer share of FICA. You must pay the same amount of FICA as your employee. However, an employer does not match the 0.9 percent additional Medicare tax.
- Paying unemployment tax. The federal unemployment tax (FUTA) applies on a per-employee basis. The rate is 6 percent on the first $7,000 of an employee's wages. Usually, there is a credit of 5.4 percent, so the net FUTA rate is 0.6 percent (e.g., up to $42 per employee). But the credit is reduced for states that have outstanding unemployment funds borrowed from the federal government. California and the U.S. Virgin Islands had FUTA loans outstanding for 2017, and consequently the DOL dropped their FUTA credit from 5.4 percent to 3.3 percent, with a net FUTA tax rate of 2.7 percent.
- Paying special state payroll taxes. States may impose additional payroll taxes on employers. For example, in California, there is an employment training tax.
- Depositing payroll taxes. In most cases, taxes must be deposited electronically. This can be done using the Electronic Federal Tax Payment System (EFTPS). With the exception of those with payroll taxes of less than $2,500 per quarter so that they can be paid with a tax return (explained later), you must follow an IRS-set deposit schedule. Depending on the amount of employment taxes involved, you may be a:
- Semiweekly schedule depositor if your employment taxes were more than $50,000 in the four quarters of a lookback period; or
- Monthly schedule depositor if your employment taxes were $50,000 or less for the same lookback period.
Very large employers with $100,000 in payroll taxes to deposit are subject to a next-day deposit rule.
If you fail to deposit withholdings from employees' pay, you may be 100 percent liable for a trust fund recovery penalty.
- Issuing W-2s. You must provide each employee with an information return listing their wages, withholding amounts, and details about many different benefits received. You must also transmit copies of the forms along with a transmittal statement, Form W-3, to the Social Security Administration. For 2017 W-2s, all of this must be done no later than January 31, 2018. If you are late completing these tasks, you could face penalties.
- Filing federal returns. Normally, you must file a quarterly return, Form 941 to report both withholdings from employees' wages and employer payroll taxes. For those with agricultural workers, there's Form 943, which is filed annually. If you are a very small employer (your employment taxes for the year are $1,000 or less) and don't have agricultural workers, you may still be eligible to file annually on Form 944.
- Filing a return for federal unemployment taxes. You must file annually on Form 940 to report your FUTA taxes.
This checklist is merely an overview of your payroll tax responsibilities. Your obligations become more complex, for example, when you have workers in multiple states. And there are other duties, such as determining whether a worker is classified as an employee or an independent contractor. If you feel overwhelmed by your payroll tax responsibilities, you can use a third party such as Paychex to help. As the employer, you remain liable for taxes, but using a reliable payroll provider can help alleviate the burden of processing payroll and meeting payroll tax responsibilities you'd have if you did it on your own.