As a small business owner, you have your hands full with keeping the doors open and the business running. Payroll taxes can take a big bite of your time because they are as comprehensible as any other government regulation.
While you might like to tell Uncle Sam to stuff it and pay everyone in cash, that isn’t a viable (or legal) way to stay in business. This guide will explain payroll taxes and your responsibilities to make the process a little easier.
What Are Payroll Taxes?
Payroll taxes fund various government assistance programs:
- Social Security
The taxes are based proportionately on employee wages, and several are shared between the employer and employee. Others are solely the employer's responsibility, such as business-related taxes, or the employee's, such as income taxes.
Taxable Employee: an individual whose wages are subject to income tax and payroll taxes.
If you have even one employee, the federal, state, and local government can mandate that your business pays a payroll tax according to where the employee lives or works. If a company is incorporated, the same payroll tax regulation applies to the owner's paycheck, even if you don't have any employees.
However, you must pay estimated self-employment taxes every quarter if your small business is not incorporated.
Types of Small Business Payroll Taxes
Payroll taxes are split into various buckets from FICA to FUTA.
Federal and state income taxes are based on the employee's W-4 elections and are paid only by the employee. An additional Medicare tax may apply if the taxpayer is a high-wage earner:
- Single filers making up to $200,000
- Married filing jointly making up to $250,000
- Married filing separately making up to $125,000
Employers are required to deduct the additional Medicare tax but are not required to match it.
The Federal Unemployment Tax Act (FUTA) creates a liability for small businesses paying $1,500 or more in any calendar year or that have one or more employees for some part of a day in 20 or more different weeks. You can see how this gets confusing.
FUTA is 6% and is paid on the first $7,000 the employee earns for the year. The good news is you can claim credits against your gross FUTA payments to reflect the state unemployment taxes paid (see below).
SUTA is similar to FUTA — it’s the State Unemployment Act liability. Some states have their own programs and rates. If you pay on time and are not in a credit reduction state, you might qualify for a Federal tax credit or 5.4%, which lowers your FUTA to 0.6%.
Both Employer and Employee
The Federal Insurance Contribution Act, or FICA, covers Social Security and Medicare withholdings. Total liability for FICA is 15.3% of the employee’s gross earnings. The liability is evenly split between the employer and employee; each side pays 6.2% for Social Security and 1.45% for Medicare.
Sole proprietors or self-employed individuals must pay all 15.3% (12.4% for Social Security and 2.9% for Medicare) themselves when they pay their quarterly taxes.
For the tax year 2023, the Social Security base limit is $160,200. After an employee earns that much, you no longer have to withhold FICA. The base limit is recalculated annually for inflation. There is no base limit for Medicare, but hey! At least, that's the smaller portion.
Some states and local municipalities have payroll taxes that cover short-term disability, paid family medical leave, and other assistance programs. Check with the local or state government or a tax professional for rates and criteria.
Calculating Payroll Taxes for Small Business
You only need to withhold and pay payroll taxes for employees. Independent contractors take care of their own. But how do you know the difference?
The IRS has a definition, but briefly, an employee is someone whose work, including what will be done and how, is controlled by the employer (you). The employer has the right to direct and control the worker, although they may not exercise that right.
Employees cannot advertise services except in specific circumstances, and the length of the relationship between the employer and worker is not finite.
An independent contractor is not tied to a single company and has nearly total control over the working environment and how the work is accomplished once assigned by the employer. If the relationship exists for a finite period, such as the length of a project, the worker may be an independent contractor.
You also only need to pay payroll taxes on verified taxable wages. Some types of earnings are not taxable and include:
- Business expense reimbursements*
- Non-monetary holiday gifts
- Cash advances
*The reimbursement must be verified by receipts and be necessary, reasonable, and business-related.
Taxable wages include:
- Cash gifts
Before withholding payroll taxes, consider the pre-tax contributions to benefits packages and whether the employee may reach the base limit for Social Security.
Withholding Payroll Taxes
As the employer, you are responsible for withholding FICA and some SUTA taxes from your employee’s wages.
Determine each employee's gross taxable earnings and apply the appropriate payroll tax rate according to either the wage bracket table or the percentage table provided by the IRS. Brackets range from 10% to 37% based on income tax and are segregated into five different payroll periods:
The percentage table offers the same payroll periods and is segregated by filing status. You start by reducing wages by the value of the exemptions claimed on the W-4, then use the table corresponding to the employee's filing status to determine how much to withhold.
States with income taxes usually have tables similar to the Federal taxing authorities. Notably, Texas, Florida, Alaska, Wyoming, and Washington do not have state income taxes. New Hampshire and Tennessee do not tax wages, and some states require a fixed percentage of gross wages withheld, like Pennsylvania.
Reporting and Paying Payroll Taxes
Submit withholding and employee taxes to the IRS using the Electronic Federal Tax Payment System or EFTPS using the appropriate tax form.
- 941 - Employer’s Quarterly Federal Tax Return
- 944 - Employer’s Annual Federal Tax Return
- 943 - Employer’s Annual Federal Tax Return for Agricultural Workers
- 940 - Employer’s Annual Federal Unemployment (FUTA) Tax Return
The payment and reporting process varies by location, but you must meet the deadlines, or the IRS charges a penalty. The IRS could civilly or criminally charge you if it believes you willfully neglected to pay the taxes.
Pay Federal payroll taxes monthly or semi-weekly, depending on how much liability you reported during the previous period. Monthly payments are due on the 15th of the month, and semi-weekly payments are split according to when the pay period ends.
Pay periods ending on Wednesday, Thursday, and Friday are due the following Wednesday. Otherwise, the payments are due the next Friday.
As a small business owner, you are responsible for your employee(s) payroll taxes. Neglecting to do so can result in penalties and civil or criminal charges.
Federal payroll taxes support Social Security, Medicare, and unemployment insurance. State payroll taxes usually fund short-term disability, paid family medical leave, and other assistance programs.
Top Tax Defenders is happy to help if you need assistance figuring out your payroll taxes. Contact us for payroll tax assistance.