IRS Payroll Tax and Withholdings Deposit Rules
As most of you are probably already aware, the IRS requires employers to deduct social security and medicare from their employee's wages and to match what is deducted from their employee's pay for social security and medicare. Social security is deducted from an employee's earnings at the current rate (2020) of 6.2 % and medicare is deducted at the current rate (2020) of 1.45% or a combined rate of 7.65 %. The employer is also required to pay (match) 6.2% and 1.45% of an employee's earnings.
In another lesson, we deducted these amounts when calculating our employee's pay. Taking the deductions is only half the battle. The other half of the battle is monitoring, filing the proper forms, and depositing these deductions.
The IRS requires an employer to pay or deposit these taxes "as you go". Since these taxes are deducted from an employee's earnings (reduce the amount directly paid to the employee) the employee has incurred an unpaid liability to the IRS on behalf of his employees.
Additionally the employer has also incurred a liability to the IRS for his employer's share. These amounts can build up fast and become substantial liabilities if not paid at regular intervals. Unfortunately, many businesses have had to shut their doors because they didn't timely deposit these taxes and tried to operate using these funds to pay their other bills. Note:This is very expensive financing because the IRS charges penalties and interest for not depositing or depositing these taxes late. In addition, owners and employees may be held personally liable for the business not making these required deposits.
If your business is having a tough time making these deposits this situation should be considered a red flag and decisions and corrective actions are probably necessary in order prevent your business from having to shut its doors.
IRS Publication 15 provides detailed instructions and guidance on payroll taxes and tax deposit requirements. I've tried to simplify and summarize some of the main rules and requirements in order to give you the "basics in a nutshell".
Normally, a business must periodically deposit income tax, social security and medicare withheld from employee's wages along with the employer's matching contribution for social security and medicare in an authorized financial institution or use the Electronic Federal Tax Deposit System.
A payroll tax deposit is comprised of the federal income taxes withheld from your employee's wages and both the employee and employer portions of social security and medicare taxes.
Businesses that have quite a few employees normally are required to make periodic deposits of payroll taxes and withholdings based on a determination made at the beginning of each new calendar year. The two methods of making deposits are (1) Monthly and (2) Semi-Weekly.
The determination involves determining what the liability was for what the IRS refers to as the look back period. If this liability is less than or equal to $50,000 the Monthly Schedule Deposit Rules are used; otherwise, the Semi-Weekly Deposit Rules are used.
If your business qualifies for the Monthly Deposit Rules, the deposit for taxes on wages paid during a month must be made by the 15th of the following month. In other words, taxes on wages paid in January must be deposited by February 15, taxes on wages paid during February by March 15, and so on.
For those that must adhere to the Semi-Weekly Deposit Rules:
- If your payday is on Wednesday, Thursday, and/or Friday, you must deposit these taxes by the following Wednesday.
- If your payday is on Saturday, Sunday, Monday, and/or Tuesday, you must deposit these taxes by the following Friday.
Note: Regardless of the method you use for determining when to make deposits, you must make a deposit by the next banking day if your tax and withholding liability reaches $100,000 at any time. If you are currently a Monthly Depositor, you are also required to begin using the Semi-Weekly Deposit Rules.
You must make all federal tax deposits using electronic funds transfer, generally by using th Electronic Federal Tax Payment System (EFTPS). EFTPS is a free service provided by the Department of Treasury. For your EFTPS deposit to be on time, you must schedule the deposit by 8 p.m. Eastern Standard Time the day before the date the deposit is due. Penalties for not abiding by the deposit rules can be quite steep !
Forms Used To Report IRS Taxes and Withholdings
As I stated earlier, not only does a business have to pay or deposit these deductions as they go but periodically they must also file forms that summarize and report the information about these deductions.
Form 941 is filed each quarter to report and summarize the deductions made from your employee's wages and the deposits made to the IRS for these taxes and withholdings. Penalties for not filing timely can be quite steep !
Most states have payroll taxes that are normally only paid by the employer and are used to accumulate funds for paying employees when they are unemployed. The federal government also collects these taxes and uses the money to administer the unemployment programs. If your business has any employees, you will normally have to pay both state and federal unemployment taxes.
If you have at least one employee for 20 calendar weeks during the current or preceding calendar year, or you pay at least $1,500 in wages during any calendar quarter in the current or preceding year you are required to pay federal unemployment taxes.
Form 940 is used to report and account for Federal Unemployment Taxes. The report is filed annually and is due by January 31. If all Federal Unemployment taxes have been paid (deposited) when due, you may take some additional time and file on or before March 10.
The taxes are calculated and paid (deposited) quarterly. They should be deposited by the last day of the first month following the end of a quarter. If the calculated amount for any quarter is less than $500, the calculated amount may be carried over to the next quarter. In other words, the tax needs to be paid when the balance is $500 or more.
The federal unemployment tax rate is 6.2 % but this rate is reduced by a maximum of credit of 5.4% for payments made to your state unemployment tax fund. If your business qualifies for the maximum state credit, the rate used to compute your federal unemployment tax is .8 %.
How do I calculate the federal unemployment tax ? Simply determine the wages paid during the quarter that are subject to the tax and multiply by the federal unemployment tax rate of .8 % (in most cases). The federal unemployment tax only applies to the first $7,000 of wages that you pay to each of your employees so in order to determine the wages paid during a quarter that are subject to the tax you need to calculate what is called their exempt wages. Exempt wages are wages paid to any of your employees during a quarter that exceed $7,000.
Not only does a business have to pay or deposit these taxes as they go, but periodically they must also file forms that summarize and report the information about these taxes.
State Unemployment Taxes
Normally, state unemployment taxes are imposed directly on employers and the business (employer) does not withhold these taxes from employees' wages. In most of the states, if you're required to pay federal unemployment tax you're also required to pay state unemployment tax.
Actually all employers should check with their state to determine what if any special rules apply. The tax is usually reported and calculated quarterly and the state supplies the forms used for reporting and calculating the tax.
Normally, like the Federal Government each state has a maximum wage amount on which the tax is imposed on each employee's wages. Once an employee's wages for the calendar year exceed the maximum amount, you as an employer are not required to pay any more employment tax with respect to that employee. In other words, if the limit per employee for your state is $7,000 , once an employee's earnings exceed this limit you will not have any additional unemployment liability resulting from any additional wages paid to this or any other employee whose earnings are $7,000 or greater.
In order to calculate the tax, the state assigns a rate (experience rating) for the business to use normally based on their experience. In other words, if your business has a lot of layoffs your assigned rate will be higher than if your business has relatively few layoffs. If your starting a new business, an initial rate will be assigned and won't be adjusted until you've contributed to the state's unemployment compensation program for a specified period of time and have established a history where a new rate based on your experience can be assigned. Rates for established businesses are normally adjusted each year.
The state supplied forms are relatively easy once you have the information assembled for making the calculation. For the quarter, you will need the total amount of wages paid to your employees and the amount of what is normally called exempt wages. These are wages paid to each employee during a quarter that exceed the state's maximum limit. Calculating what you owe is just a matter of multiplying the total wages paid less the exempt wages for a quarter by the businesses' assigned rate.
Most small business owner's don't want to fool with preparing these forms and have their bookkeeper or accountant prepare them for them. You should, however, at least be familiar with your deposit and reporting requirements and make sure that they are performed in a timely manner.
In this lesson, I hope you learned at least a little about how to report and deposit the amounts deducted from employee's wages for social security, medicare, and income tax.
You did recall that you (company), as an employer, are also required to match the amounts deducted from your employee's wages for social security and medicare didn't you ? In addition, we discussed other payroll related taxes such as federal and state unemployment.
What's Next ?
Payroll Taxes Video