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As an entrepreneur, it's essential to have a basic understanding of payroll taxes. Eventually, your team will expand in tandem with your business. With multiple employees, you’ll be responsible for employee payroll taxes and everything included under that bracket.
There are a lot of different factors that play into how to record and file payroll taxes each year. Nobody wants to deal with tax troubles, especially during the early years of your company’s life when money is tight.
This article will comb through every relevant aspect of employee payroll tax so you can file confidently and efficiently.
In the United States, payroll taxes are taxes imposed by the government on employers or employees. The money is taken from each check and sent to the IRS by the employer. Payroll taxes cover benefits, wages, salaries, and unemployment insurance.
There are four basic types of payroll taxes: Social Security, Medicare, federal unemployment, and national income.
Social Security and Medicare deductions are labeled as MedFICA or FICA on the employee’s pay stubs. The amount taken out for Social Security and Medicare taxes depends on the employee’s wages, annual salary, and tips.
FUTA (federal unemployment tax) goes to your unemployment insurance provider. Employers are responsible for 6% of payments towards unemployment insurance unless your state has a 5.4% tax credit lowering the payment to 0.6%.
It is the employer’s responsibility to pay the withheld amount to the government on behalf of the employee. Calculating the amount needing withheld from each employed individual also falls on the employer’s shoulders.
To ensure tax payments go smoothly, there are necessary actions all employers must take after each hire. Founders can process payroll taxes themselves by following the steps on an employee’s W-4, but we highly recommend hiring a proper payroll specialist to handle this side of the business.
Beyond following basic W-4 directions, below is a more complete checklist of all employer payroll responsibilities from start to finish:
When starting a business choosing a structure (LLC, sole proprietorships, or a corporation) and applying for an EIN (employer identification number) are two of the first steps to establishing legality. If you haven’t completed these, you’ll need to take care of this administrative work before beginning payroll.
Afterward, you’ll need to choose which tax year works best for your business. Companies can base their tax year on the end of the calendar year or fiscal year on September 30th and solidify this with the IRS after filing business income tax for the first time.
There are two ways to calculate payroll taxes: the Wage Bracket Method and the Percentage Method.
The Wage Bracket Method is the most widely used. Although this method isn’t effortless, it gives employers the most translucent answer.
Depending on when the employee was hired, you can use W-4s from 2019 and prior or W-4s from 2020 onward. Each method requires looking up IRS Publication 15-T first.
Calculating employment taxes on W-4s from 2019 and prior:
1. Find the employee’s filing status (married or single) and the number of any dependents claimed.
2. Input taxable wages for the payroll period, including earnings an employee has paid taxes on (salaries and cash tips) on the line marked 1a.
3. The amount recorded in step 3 is what you’ll use when looking up the Tentative Withholding Amount. Find the table that lines up with your payroll’s structure and the marital status of your employee.
4. After identifying the wage and the correlating column using the number of reported allowances on the W-4, look for the cell where each column aligns in the middle. In the cell, you’ll see the amount to withhold.
5. Input withholding on line 1b.
6. Line 2a is where any additional withholdings should be recorded.
7. The sum of lines 1b and 2a is the total amount withheld from the employee’s wages
Calculating employment taxes on W-4s from 2020 onward:
1. Locate employment tax filing (single or married).
2. Record taxable wages on line 1a for the payroll period. This includes earnings from salaries and cash tips.
3. Record number of pay periods on line 1b using Table 5.
4. Enter the employee’s other income (if applicable) on line 1c and then divide by the number of pay periods. Record the amount on line 1d.
5. Calculate the total earnings of all income sources by adding lines 1a and 1d and record the sum on line 1e.
6. Enter deductions on line 1f found on step 4b of the W-4, then divide by the number of pay periods. Record this number on line 1g.
7. Subtract 1g from 1e to acquire the Adjusted Wage Amount on one h. When the amount is 0 or less, you enter 0.
8. Use the table that correlates with your payroll period and employee’s marital status to find the Tentative Withholding Amount.
9. To determine how many tax credits (if applicable – found on Step 3 of their W-4), use lines 3a-c. If not applicable, record the amount from 2a onto 3c.
10. If applicable, record any other amounts to be withheld from Step 4c of the W-4 to line 4a. When you add the quantity of 3c, you’ll have the total amount to withhold, which is recorded on 4b.
We don’t recommend the percentage method due to its complexity. If you want to learn more about the tax percentage method, you can read it in IRS Publication 15-T.
It’s essential to calculate payroll taxes for both employers and employees correctly. Flawed reporting can result in a growing percentage penalty for late filing or, in the worst case, a felony and a hefty $10k fine.
If you plan on doing your own, record and manage required information using online calculators and spreadsheets. You’ll have to keep track of multiple employee details as your team grows. If you hire freelancers, hourly, and salaried employees, you’ll be responsible for keeping track of different wages, benefits, and withholding requirements on the federal, state, and local levels.
Companies with few employees benefit the most from managing their payroll, but it isn’t sustainable for long.
Overall, before tackling your own payroll taxes (or taxes in general), make sure you fully understand the whole process.
As you see above, recording and calculating payroll taxes take many detailed steps to complete.
We suggest looking into payroll software as an alternative to manually managing employee paperwork and payroll paperwork. Eventually, your company will expand to the point of needing a full-time bookkeeper to monitor payroll and other day-to-day financial record keeping. Handling all bookkeeping and accounting needs in-house is typical for small businesses when they start, but it can get complicated and expensive quickly.
Managing a growing team gets complicated fast. Payroll software can ease the burden on your shoulders, but the help stops there.
With Zeni, you’ll have access to extensive bookkeeping services, payroll management, and the option to add additional tax services. This includes helping you set up payroll software, managing banking information, ensuring payroll processes properly, and that all worker’s comp and tax regulations are in place.
We will also pair you with a team of finance professionals with years of experience, including expertise in payroll management. Your Zeni team is here to help in all aspects of your growing business and to ensure your company follows all tax regulations with ease!