Hiring employees can make a world of difference when it comes to eliminating your stress and streamlining operations and understanding employment taxes. But, it also launches you into a new world filled with tax regulations and withholding obligations.
Mastering employment taxes can trip up many business owners, but failing to do so correctly can land you in hot water. Find out which taxes you must withhold, contribute, and pay when you have employees at your business.
What Are Employment Taxes?
When you have employees, you need to deal with employment taxes. Employment taxes include income, FICA, and unemployment taxes.
In Wyoming and Washington, workers’ compensation insurance may be treated like an employment tax. However, this article will focus on IRS employment taxes.
Withhold income and the employee portion of FICA taxes from your employees’ gross wages. And, you are responsible for paying unemployment tax plus the employer portion of FICA taxes.
Learn more about each type of employment tax and how to determine tax amounts below.
You must withhold income tax from your employees’ wages. There are three types of income taxes: federal, state, and local. All employers are required to withhold federal income tax. Depending on where your employee lives and works, you might also withhold state and local taxes.
Federal income tax is not a flat rate. The amount you withhold depends on how much an employee earns and how many withholding allowances they claim on Form W-4. You need to deposit and report these taxes to the government.
To determine an employee’s income tax liability, use their Form W-4 and the tax withholding tables in IRS Publication 15.
There are rare cases where an employee might be exempt from federal income tax. If an employee marks that they are tax exempt on Form W-4, do not withhold federal income tax. Marking tax exempt on Form W-4 might also exempt the employee from state or local income taxes, but some states require an additional form. If the employee is also exempt from state and local income taxes, do not withhold them.
Contact your state for information on state and local income taxes.
FICA tax is both an employee and employer employment tax. This means that you withhold the tax from each employee’s wages and contribute a matching amount. Social Security and Medicare taxes make up FICA tax.
Withhold 7.65% of an employee’s wages and contribute a matching 7.65% for FICA tax. However, there are wage base limits and additional taxes you need to know about.
Out of the 7.65%, 6.2% goes toward Social Security tax. There is a Social Security wage base limit, meaning you will stop withholding and contributing taxes after an employee earns a certain amount. For 2019, the SS wage base limit is $132,900.
Medicare tax makes up 1.45% of the FICA rate. There is not a wage base for Medicare. However, there is an additional Medicare tax you need to know about. After an employee earns $200,000 (single), $250,000 (married filing jointly), or $125,000 (married filing separately), you must withhold an additional 0.9% from their wages. Do not contribute the additional 0.9%; continue contributing 1.45%.
In addition to calculating payroll taxes, you are responsible for depositing and reporting these taxes.
Unemployment tax is an employment tax you pay. There are two types of unemployment taxes: federal and state.
Federal unemployment (FUTA) tax is an employer-only tax. The FUTA tax rate is 6% on the first $7,000 paid to each employee per year. However, most employers receive a tax credit of 5.4% that reduces their FUTA tax rate to 0.6%. Don’t forget to deposit and report your FUTA tax liability.
State unemployment (SUTA) tax is generally an employer-only tax. However, some states (Alaska, New Jersey, and Pennsylvania) subject employees to state unemployment tax withholding in addition to the employer liability. SUTA tax rates and wage bases vary, so check with your state for more information.
If you don’t withhold and pay employment taxes, you face IRS penalties. Understanding employment taxes, rates, and requirements can help you avoid unnecessary headaches.
I’ve mentioned a few times that you need to deposit and report taxes. So, here’s more information on your depositing and reporting responsibilities for federal taxes. For state and local taxes, you will need to contact your state.
Depositing: Some businesses deposit federal income and FICA taxes semiweekly while others follow a monthly schedule. Your depositing schedule is determined by the IRS and is based on a four-quarter lookback period.
You must deposit federal unemployment taxes on a quarterly basis. You can view Publication 15 for more information on depositing taxes.
Reporting: When you are responsible for handling employment taxes, you also need to report the amounts to the government.
Most businesses are required to use Form 941 to report income and FICA tax quarterly.
However, the IRS tells some businesses to file Form 944 annually. You will receive a notice from the IRS if your annual tax liability (for Social Security, Medicare, and withheld federal income taxes) is $1,000 or less.
To report federal unemployment tax, file Form 940.
To further simplify your responsibilities, you could try using payroll software. The software calculates each employee’s tax liability, freeing up your time and helping you avoid costly mistakes. And, some full-service payroll solutions deposit and file taxes on your behalf.
This is not intended as legal advice. It should not be used as a substitute for consultation with professional accounting, tax, legal, or other competent advisers.
This article has been written by one of our guest bloggers for CorpNet.com
Rachel Blakely-Gray is a content writer at Patriot Software, LLC. She provides accounting, payroll, and small business tips in her writings. Patriot Software offers affordable accounting software and payroll services for small businesses.