What are payroll taxes and who pays them?
Both employers and employees pay payroll taxes, which are based on the wages that employees earn. The main types of payroll taxes are federal income tax, state income tax, Social Security tax, Medicare tax, federal unemployment, and state unemployment. Social Security tax and Medicare tax are generally known together as Federal Insurance Contributions Act (FICA) taxes.
For their employees, employers pay half of the Social Security tax and half of the Medicare tax. Employers also pay the federal unemployment tax. In most states, the employer pays state unemployment tax, too. However, some states require the employee to pay it as well.
Employees generally pay federal and state taxes through tax withholdings. The employee is also responsible for paying the other half of the Social Security tax and Medicare tax. Employees do not make these payments directly to the government. Instead, the employer withholds the employee's part of the payroll taxes from the employee's pay. The employer then sends both the employee's part and their own part of the payroll taxes to the right taxing agency.
Federal unemployment taxes (FUTA) are paid only by the employer. In most states, the employer also pays state unemployment taxes (SUTA). However, a few states, such as Alaska and Pennsylvania, may also require employees to pay into SUTA. Depending on the state, these taxes may not be called SUTA, but rather SUI tax, reemployment tax, or state unemployment insurance.
How do employers calculate withholdings from employee paychecks?
Social Security taxes are equal to a percentage of the employee’s pay up to a certain wage limit, which is updated periodically by the IRS. The employer and the employee each pay one-half of the Social Security taxes. Medicare tax is a smaller percentage of all of the employee’s pay and is also split equally between the employer and the employee. There is an additional Medicare tax on pay above a certain threshold, which only the employee pays.
Employers must also pay FUTA tax on the first portion of each employee’s pay. Most employers are also required to pay SUTA, but the amount differs from state to state. Some states may also charge the employee a SUTA tax. Although the FUTA tax appears to be simple, most employers get a tax credit to lower their FUTA cost based on the amount of SUTA they pay on their employee’s earnings.
To calculate your employee’s withholding, you will need the employee’s Form W-4, the employee’s gross pay for the pay period, and the IRS income tax withholding tables and tax calculator. These tools help determine the correct amount to withhold for federal income taxes based on each employee’s filing status and income. You can do a similar calculation to find your state withholdings.
Withholding mistakes can be costly. Until a business owner is confident that they can complete withholding calculations correctly on their own, they may want to use a reliable payroll service or software to handle calculations and deposits.
What happens if I make a mistake calculating withholdings?
Mistakes can easily happen when calculating payroll tax withholdings. If you withheld too much from an employee’s paycheck, you are usually required to refund the employee. You can do so by giving the employee a check for the extra amount you withheld or by withholding less from the employee’s future checks until the issue is corrected.
If you withheld too little from an employee’s paycheck, you can withhold more from their future paychecks until you have withheld the proper amount. The other option is that your business could pay the missing amount.
Once you have corrected the payroll tax withholding amount, you may need to change the payroll tax return documents. Depending on the type of error and the tax documents you filed before discovering it, you may need to file a corrected return or amended form such as Form 941-X or Form W-2c. Fines and interest may be charged if you did not pay the right amount of payroll taxes on time.
What do employers do with employee tax withholdings and deductions?
The law usually requires you, the small business owner, to send or deposit federal and state income tax withheld from your employee’s wages to the proper government agency. This may include FUTA, SUTA, and the employer’s and employee’s portions of Social Security and Medicare taxes. Federal payroll taxes must be paid through the Electronic Federal Tax Payment System (EFTPS). You will likely need to sign up with the EFTPS before sending in federal payroll taxes.
Your business will also generally be required to register with each state where you have employees. Your SUTA payments and state income tax withholdings will be paid directly to that state. Also, your business will probably be required to file a variety of payroll tax returns. Form 941, Employer’s Quarterly Federal Tax Return, and Form 940, Employer’s Annual Federal Unemployment (FUTA) Tax Return, are two of the most commonly required payroll tax return forms.
There are various filing deadlines for the different types of payroll taxes. The filing dates may also depend on the size of your business or the state you have employees in.
Employers are generally required to deposit federal employment taxes either monthly or semiweekly, depending on their deposit schedule. FUTA is typically paid quarterly. SUTA and state income tax withholding vary by state. Most states have guides available online that explain how and when to turn in payroll taxes.
Figuring out the right timing for your payroll tax payments can be complicated. Using payroll software or consulting official IRS and state guidance can help ensure payments are made on time.
What do I need to know about paying small business taxes for the first time?
You might be confused while trying to pay your business taxes for the first time. However, proper tax planning at the time you are forming your small business can save you headaches down the road. How and when you file your small business taxes usually depends on the type of business you run. It is important to remember that you may have to file taxes for your business even if it was not operating during the tax year.
If you own a sole proprietorship or a disregarded LLC, you will probably file your business taxes on a Schedule C. The Schedule C is a form that is attached to your personal income tax return and has the same general due date in the spring. If you run a C-corporation, partnership, or S-corporation, your business will likely file a tax return separate from your personal one.
Whether you file your small business taxes on your own or work with an accountant, it is important to have accurate financial records for your business. You will generally need a Profit and Loss statement and a Balance Sheet to prepare your business tax return. If you are not familiar with bookkeeping, you may want to hire an accountant who can set up your business’s accounting system.
If you have a legal question about payroll or small business taxes, you can reach out to a Legal Pro for affordable legal help.
Please note: This page offers general legal information, not but not legal advice tailored for your specific legal situation. Rocket Lawyer Incorporated isn't a law firm or a substitute for one. For further information on this topic, you can Ask a Legal Pro.
