What is Form 940 and How is it Used by Small Businesses?
An employer's annual Federal Unemployment Tax return, the IRS’ Form 940, is an annual form filed with the IRS by businesses with one or more employees. It's used to figure the employer's federal unemployment tax based on the business's annual payroll.
Understanding IRS Form 940
Each year, every business with employees must file Form 940 to compute the amount of unemployment tax that must be paid on the federal level. This payroll tax is based on the first $7,000 of wages of each employee (including owners of S corporations who receive a salary for work performed for their businesses).
The form is a single one-page return listing the total payments to all employees, reduced by any payments exempt from Federal Insurance Contributions Act (FICA) such as certain fringe benefits, group term life insurance, and dependent care assistance.
If an employer has employees in more than one state it may also have to complete Schedule A of Form 940 to figure the tax if they're in states that have a credit reduction for wages under unemployment compensation laws. This reduction of the 5.4% credit for state unemployment taxes results when states have borrowed from the federal government to cover their unemployment benefits obligations and have not yet repaid these amounts.
What is Form 940 and what is it used for?
Although unemployment benefits for former employees are paid by the states, the federal government provides a backstop. This is done by collecting federal unemployment tax to provide funds to the states when needed to meet their benefits obligations. The Federal Unemployment Tax Act (FUTA) created a payroll tax for this purpose, and IRS Form 940 is used to report the employer's annual tax obligation.
What is the difference between a 940 and a 941 form?
Don't confuse Form 940, which is an annual employer return for unemployment tax purposes, with other employer returns, such as:
- Form 941, Employer's Quarterly Federal Tax Return, which is used to report wage withholding for income taxes as well as the employees' share of Social Security and Medicare (FICA) taxes, plus the employer's share of FICA.
- Form 943, Employer's Annual Federal Tax Return for Agricultural Employees, which is used instead of Form 941 to report once a year on the amount of withheld federal income and FICA taxes (the employee and employer share).
- Form 944, Employer's Annual Federal Tax Return, which is filed instead of the quarterly employer returns if the employer is "small." This applies to employers with annual tax liability withheld federal income tax, FICA (employee and employer share) totaling $1,000 or less.
Filing federal Form 940
Form 940 is filed once a year, regardless of whether the business has laid off any workers and has been notified by the state that employment benefits have been claimed. It can be filed on paper or electronically.
Do I need to file Form 940 for my business?
A business must file Form 940 if it paid at least $1,000 in wages during any calendar quarter (January through March, April through June, July through September, and October through December) in the current or previous year. The basic federal unemployment tax rate is 6% on the first $7,000 of each employee's wages for the full year. However, there is a credit for state unemployment taxes of up to 5.4%, which brings the net tax rate to 0.6%.
An employer with employees in more than one state or with a location in a credit reduction state, must file Schedule A of Form 940.
When is Form 940 due?
Your 940 tax form is due at the end of January following the year in which wages were paid. For 2019, the Form 940 due date is January 31, 2020. The filing of this form is done annually even though tax payments may have to be made quarterly.
When and where to send the payment
Even though Form 940 is filed once a year, an employer may have to make quarterly tax deposits. If the federal unemployment tax is more than $500 for the calendar year, at least one quarterly payment must be made. The deposit must be made by the last day of the month after the end of the calendar quarter. So, if an employer's federal unemployment tax totals $600 based on payroll for January through March, the tax must be deposited by April 30.
If the quarterly liability is $500 or less in a quarter, it carries over to the next quarter. If liability for the first quarter of the year is $400, this carries over and is added to the liability in the second quarter to determine whether a payment is required.
If quarterly payments are required, they must be deposited with the federal government. This can be done through EFTPS, a free and secure online federal tax payment program.
For small businesses with 11 employees or fewer, annual payment of the tax will suffice because the quarterly payment threshold will not be surpassed. For example, if you have five employees who receive compensation in the first quarter of $10,000 (only the first $7,000 counts), $8,000 (only the first $7,000 counts), $6,000, $4,000, and $1,000, respectively, no payment for this quarter is due. The tax liability for this quarter is $150 ($25,000 x .006), which is less than the $500 payment deposit threshold.
Where do businesses file a federal Form 940?
Form 940 is filed with the IRS. If you file the return on paper, it must be sent to the address listed in the instructions on Form 940. The address is based on the location of the employer and whether the form is accompanied by a payment. The address can change from year to year, so this should be verified before mailing.
Can it be filed electronically?
You can file your 940 tax form electronically, and the IRS encourages you do to so. Forms filed in this manner are done through the IRS' e-file program. This means buying IRS-approved software to complete the return and submit it electronically to the agency. Usually there's a fee for this. Alternatively, you can use a tax professional or a payroll service provider.
How do I avoid penalties for my business?
Attending to employer responsibilities for federal unemployment tax can help you avoid any penalties and interest. This means:
- Filing Form 940 by the due date (and making sure it's complete and accurate).
- Depositing the full amount of federal unemployment tax due when required (and being sure the deposits are honored by your financial institution that payments are drawn upon).
Form 940 instructions
Form 940 is a simple form to complete as long as you have all the required information on hand.
- Enter your business name, address, and Employer Identification number (EIN). If you're a sole proprietor, enter your name on the "name" line, with your trade name on the "trade name" line. No entry is required on the trade name line if the business's name and trade name are the same.
- Indicate the type of return being filed if necessary. This includes checking a box to show it's an amended return, a return for a successor employer, a return with no tax liability because there were no wages paid during the year, or if the business has closed and stopped paying wages (so the IRS won't be looking for an unfiled return in the following year).
- Figure the tax by entering total payments to all employees, reduce this by payments exempt from the tax (e.g., employer payments of health coverage, employer contributions to qualified retirement plans), and then enter the total payments to each employee in excess of $7,000 to arrive at taxable wages. Multiply this amount by 0.006 to determine the tax before adjustments.
- Make any required adjustments, such as credit reduction amounts described earlier.
- Determine the final tax due and whether there's a balance due or an overpayment based on deposits made for the year. If any balance due is $500 or more, it must be deposited (as explained earlier). If the balance due is less, payment can be made along with the return. If there's an overpayment because too much has already been deposited, it can be refunded or applied to the next return (complete Form 940-V, Payment Voucher) to ensure that the payment is credited to your tax account.
Keeping track of your unemployment taxes
One of the important responsibilities of an employer is keeping track of unemployment taxes and filing the 940 tax form on time. These responsibilities can be simplified with the help of a payroll services provider.