On Payroll Taxes, Mr. Read Says…
1. Myth: Transforming employees into independent contractors to save on payroll taxes is easy.
Reality: You probably know that it costs less to use an independent contractor than to have an employee on staff. The reason: the cost of payroll taxes, along with insurance and benefits apply only to employees. But don’t think you can simply reclassify a worker who’s been your employee as an independent contractor. The IRS, as well as other government agencies, are on the lookout for just such action.
The classification of a worker depends on many factors, most of which boil down to a matter of control. Essentially, if you have the right to say when, where, and how work gets done, you’re likely dealing with an employee. The IRS uses three categories of factors to assess the degree of control: behavioral, financial, and type of relationship. Many states, including California, use an ABC test.
- Is free from the control and direction of the hirer in connection with performing the work.
- Performs work outside of the usual course of the hiring entity’s business.
- Is usually engaged in an independently established trade, occupation or business of the same nature as the work performed for the hiring entity.
Mr. Read Says:
- The savings in using an independent contractor is mostly illusionary. If you are not paying the Social Security and Medicare taxes, the independent contractor has to pay them.
- The independent contractor also has to handle their benefits on what you pay them. If you think you are saving money, you are in reality cheating the contractor.
- You should be paying them all of the costs that you are making them pay for. There is no free lunch.
You are also forgoing the upside of hiring employees.
- You don’t get to decide whether a worker is an employee or an independent contractor. There are numerous regulations governing
- There are 20 common law rules for determining whether a worker is an independent contractor or not. See them here.
- A preponderance of those 20 rules determines the outcome. The common law rules are the law.
In the end, if there is a dispute, the court will decide.
Learn more about W2s versus 1099s here.
2. Myth: All tax-free benefits are exempt from payroll taxes.
Reality: Receiving tax-free fringe benefits means that employees do not have to pay income tax on what they receive. However, it does not mean that employers are off the hook for payroll taxes. For example, 401(k) contributions made by employees through salary reductions are still subject to FICA. And adoption assistance is exempt from income tax withholding because the benefit is tax-free to employees but is still subject to FICA and FUTA taxes. You can find a list of various fringe benefits and their tax treatment for employment tax purposes in Table 2-1 in IRS Publication 15B.
Mr. Read Says:
- Qualified benefits offered under a cafeteria or Section 125 plan are exempt from FICA.
- This includes contributions made toward a medical, dental, vision and accident insurance plan and a flexible spending account, such as dependent care assistance and medical care reimbursements.
- Payments toward health savings accounts and group-term life insurance of $50,000 or less, plus qualified transportation expenses and disability insurance, are exempt from FICA.
3. Myth: You can pay employment taxes with your quarterly employer tax return.
Reality: In general, you must deposit federal income taxes withheld and both the employer and employee share of FICA with the U.S. Treasury using the Electronic Federal Tax Payment System (EFTPS). Also, deposits are required for FUTA tax for the quarter within which the tax due is more than $500.
Mr. Read Says:
- FICA: If your total FICA tax liability does not exceed $2500.00, you can pay those taxes quarterly with your 941 filing.
- 944 Filer: If you are a 944 filer and your liabilities, don’t exceed $2500.00 for the year you can make payment with your 944 filing.
- Liabilities: If your liabilities exceed $2500.00 in any quarter, you become a monthly depositor with deposits due by the 15th of the following month.
- Payroll Taxes: If your payroll taxes exceed $50,000 per year in the lookback period or ever exceed $100,000.00 in a period, then you become what is called a semiweekly depositor and must deposit far more often.
- Deposits: In any deposit period your liability exceeds $100,000.00, those liabilities must be deposited the next business day.
- See Circular E-Publication 15 from the IRS for exact details on these two paragraphs. They take several pages in the publication to cover the details.
4. Myth: Outsourcing to a payroll service provider relieves you of liability.
Reality: Rather than handling payroll in-house, many businesses use an outside payroll service provider to handle the chore of computing payroll taxes, withholding them from employees’ paychecks, remitting payroll taxes to the government, and filing employment tax returns. What happens if a payroll provider fails to remit your money to the government? Or it fails to timely file employment tax returns? Unfortunately, you’re still on the hook for these obligations. You may have a lawsuit against the payroll service provider for theft, breach of contract, or other bad action. You can even file a complaint with the IRS on Form 14157 if you suspect your payroll service provider of improper or fraudulent activities regarding the deposit of your taxes or the filing of your returns. But it doesn’t relieve you of your obligations to the government.
Mr. Read Says:
Let’s face it. Doing payroll sucks. In reality, a payroll outsourcing company can solve many of the hassles of payroll.
- Guarantee: They guarantee their work and back it up.
- Solve Problems: They can solve the problems that crop up when the IRS makes a mistake, or you make a mistake.
- CPA’s: They should have CPA’s or even Tax Court Practitioners on their staff who can advocate for you.
Do you think the IRS does not make mistakes?
The IRS issues over six billion dollars in penalties of which 40% are abated, normally by highly trained and experienced professionals which your service bureau should make available to you. Some don’t have such experts available to their clients, and those service bureaus should be avoided.
5. Myth: Incorporating relieves you of liability for unpaid employment taxes.
Reality: You may think that having incorporated your business or formed a limited liability company (LLC), you have complete personal liability protection. You don’t. If you are a person responsible for withholding, accounting for, or depositing withheld employee taxes (their income tax withholding and their share of FICA) and you willfully fail to do so, you can be held personally liable for all of these taxes, plus interest. This is called a trust fund recovery penalty, and it can be applied to business owners even if they have corporations or LLCs.
Mr. Read Says:
- The trust fund recovery penalty is only for the taxes that were withheld from the employee’s payroll.
- That portion of the employment taxes that the corporation is required to pay is dischargeable in bankruptcy of the corporation or LLC, and you will not be held personally liable, period.
- Further, the trust fund recovery penalty is only for responsible parties as defined by the IRS and the courts.
Final Thoughts from Mr. Read
The field of employment taxes is large and complex. There are over 15,000 governmental agencies that tax payroll at all levels of government. It is an area that few people are really well versed in. If you have questions, you need to seek a well-qualified and experienced professional with the appropriate credentials a CPP or CPA at a minimum.
You can find the original article here. https://www.sba.gov/blogs/5-myths-about-payroll-taxes?utm_medium=email&utm_source=govdelivery
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Charles Read, CPA, USTCP, IRSAC
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