Payroll Tax Update: IRS Embarks on Audit Program Targeting Businesses

As part of the National Research Project, examiners for the Internal Revenue Service will begin 6,000 planned audits of businesses to take place over the next 3 years.  The audits will focus on employment taxes, specifically backup withholding for 1099s, fringe benefits, employee-independent contractor status, and executive/officer compensation.  The purpose of this article is to discuss the most common employment tax issues included in the audit, understanding the difference between a W-2 employee and a 1099 independent contractor.

Being in the payroll industry, we get asked this questions frequently: Do I have to withhold taxes if I have an agreement with my employees that they will pay their own taxes?  The answer is yes.  The distinction between employee and independent contractor is not determined by an agreement between the employer and the individual.  It is determined by the IRS and many business owners/officers (especially new businesses) simply do not understand this.

It is also common among larger employers to misclassify independent contractors based on a particular job function that is not directly related to the day-to-day operations, such as a janitorial crew.

So the question becomes, how do you determine if the individual is an employee?

To answer this question, first lets look at the Common Law test, then we will review the factors used by the IRS in determining employee status and what to do if you think you have misclassified workers.

Common Law Test

The basis of the common law test is pretty simple:  Does the employer have the right to control what work will be done and how that work will be done?  If the answer is yes, then the worker is an employee subject to payroll tax withholding.  If the employer has the right to control the result and not the method in which the result is achieved, then the worker generally qualifies as an independent contractor.

The table below is used for determining whether a worker is an employee under the Common Law test:

Although this seems easy to understand on the surface, lets take a closer look at the factors that the IRS uses to determine worker classification.   

Factors Used By IRS

Currently the IRS does not have any official rules governing worker status, however IRS auditors look at the following three categories: Behavioral Control, Financial Control, and the Relationship of the Parties.

Behavioral Control - Does the employer have the right to direct or control how the worker performs the specific task?  More specifically, ask yourself the questions below and if you answer yes then the worker is most likely an employee.

 

• Are instructions given about when, where, or how to work?
• Are directions provided as to which tools or equipment to use?
• Are worker's told whom to hire or assist with work?
• Is management approval required before taking certain actions?
• Do workers undergo periodic or ongoing training?

Financial Control - The most significant evidence of financial control is whether or not the worker has an opportunity to either make a profit or suffer a loss.  If so, the worker is most likely an independent contractor.  The following four aspects can be used to determine financial control.

Investment - for a worker to be treated as an independent contractor, the worker must have an investment in facilities and tools used in the course of performing services.

Expenses - independent contractors will normally incur expenses at their own cost that impact the worker's opportunity for profit.  The focus here is on unreimbursed expenses, specifically fixed or ongoing costs that are incurred regardless of whether or not work is performed.  Examples are:

 

•         Rent
•         Utilities
•         Training
•         Advertising
•         Insurance
•         Wages to others
•         Licenses

Marketable Services - independent contractors will offer their services to the available market and will normally maintain a visible location and advertise their business.  Lack of these activities may point to the worker be classified as an employee.

 

Method of Payment - in general independent contractors are paid a flat fee or commission for a performing a task.  Employees however are generally paid by the hour, day, or pay period indicating a guaranteed return for their work.

Relationship Of The Parties - How do the worker and business view each other in terms of control.

Written Contracts - a written agreement describing the worker as an independent contractor and indentifying the payment terms, reimbursable expenses, and work performance methods may be used to classify the worker as an independent contractor, but in itself is not sufficient evidence.

Employee Benefits - benefits such as sick or vacation time and health insurance are normally only provided to employees and would weigh heavily in determining that a worker is an employee.

Termination - the ability to immediately terminate the worker would indicate employee status.  However this should not be confused with a business' ability to refuse payment to an independent contractor for unsatisfactory work.

Continuing Relationship - independent contractors are usually hired for a specific period of time or task to be performed.  Employees are usually hired for an indefinite period.

Regular Business Activity - if a worker's services are a primary aspect of the regular business activity of the organization, then the worker is most likely subject to a certain amount of control by the business and is, therefore, considered an employee.

What To Do Now

If you feel you may have workers misclassified, the best course of action would be to reclassify the workers, back to the beginning of the current year.   If you have doubts about a worker's status, the IRS offers assistance to employers and workers by filing out form SS-8 and sending it to IRS.  You can access form SS-8 here:   http://www.irs.gov/pub/irs-pdf/fss8.pdf

In the event the IRS reclassifies an individual to an employee, the employer will most likely be required to pay employment tax that was not withheld on payments during the misclassification.  IRS code allows for employment tax payments of 1.5% of the employee's federal income tax liability and 20% of the amount that should have been withheld for the employee's FICA taxes.  In addition, if the employer failed to file 1099s during the period of misclassification, the employer's liability doubles to 3% and 40% respectively.  Employers that are required to pay this liability may not recover any tax from the employee or deduct these amounts from future compensation.

Any intentional disregard to withhold taxes will most likely result in more stringent penalties.  

In the event you are unsure as to how to classify a worker, it is best to err on the side of caution and classify the worker as an employee.  It is always less painful to receive a tax refund than it is to pay a tax penalty. 

 

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For more information about APS services and software visit:

Payroll Tax Compliance | Payroll Processing | HR | Time and Attendance Solution 

The information on this Site is provided for informational purposes only. It does not, and is not intended to, provide any financial, insurance, legal, accounting, tax or other professional advice, and should not be relied upon by you in that regard. It is not a substitute for professional advice from a competent, independent advisor in your jurisdiction. 

 

Payroll Tax Update: Higher Employee Income Tax Withholding in 2010

2010 Federal Tax Withholding Changes
As a result of the new IRS tax tables, employees will see an increase in their federal tax withholding in 2010.  The increase is minimal in most cases, however lower wage earners that are filing as married will be impacted the most.  The table below is an illustration of the withholding increase (expressed as a percentage) from 2009 to 2010 for an employee claiming zero exemptions and filing either single or married.

To access the complete 2010 tax tables, you can download the IRS Publication 15 (Circular E) here:  http://www.irs.gov/pub/irs-pdf/p15.pdf?portlet=3.

How This Impacts Your Payroll
Employee take home pay will decrease while your 941 payment liability will increase.  For those employees that have elected to have additional federal withholding deducted from their pay, they may want to evaluate their withholding status and submit a new W-4.  The new 2010 form W-4 can be accessed directly from the IRS website using the following link: http://www.irs.gov/pub/irs-pdf/fw4.pdf?portlet=3.

Nonresident Alien Withholding
The IRS has established a new procedure for calculating the amount of income tax to withhold from the wages of nonresident aliens.  A new chart has been created that requires additional income to be added to wages for calculating the tax withholding amount only.  In addition, a new withholding table for nonresident aliens must be used in conjunction with the new tax withholding tables used to figure withholding tax on other employees.  The result of the new procedure is that withholding for nonresident aliens in 2010 is over 250% more than it was in 2009.  To learn more, review section 9 of IRS publication 15 (Circular E) Employer's Tax Guide for 2010.  You can download it from the IRS website using the following link: http://www.irs.gov/pub/irs-pdf/p15.pdf?portlet=3.

 

 

Learn more about APS Payroll Tax Services.

 

APS Customer Note: This payroll tax update is for informational purposes only. No action is required on the part of APS customers to comply with the information contained in this release.

 

Payroll Tax Update: COBRA Subsidy Program Extended

Payroll Tax Update: Many States to Increase Unemployment Wage Base

APS Customer Note: This payroll tax update is for informational purposes only. No action is required on the part of APS customers to comply with the information contained in this release.

As a result of the rise in unemployment claims this past year, several states have depleted their unemployment fund.  Those states are now increasing their unemployment wage base to replenish their funds.

What is unemployment tax?

Unemployment tax is a payroll tax that employers pay on employee wages.  It is not a tax withheld from employee wages.  Each state issues an employer an unemployment rate and establishes a state-wide unemployment wage base. The wage base is the maximum individual employee compensation upon which the unemployment rate will be applied.  For example, if a state's unemployment wage base is $10,000, an employer pays taxes on the first $10,000 of wages paid to each employee.  Assuming an employer unemployment tax rate of 2%, the employer would pay $200 in unemployment taxes, per employee earning at least $10,000 per year.

The unemployment rate is based on several factors, which we will address in a future blog article, so check back frequently. 

How does this effect your payroll tax expense?

Using the same example above, if the unemployment wage base increases by $1000, then the employer would pay an additional $20 per year, per employee.  To calculate your additional tax expense, reference the table below to see if your state(s) increased their wage base.  If so, take the increase (the difference between the 2009 and 2010 wage base), multiply the increase by your tax rate, then multiply the result by the number of employees that you expect to reach the maximum wage base.  Or, use the formula below:

                                    2010 Increase
                                X  Tax Rate
                                X  Number of Employees
                                =  Additional Tax Expense

APS clients can find their unemployment tax rate by clicking the SETTINGS tab in APS OnLine. Under the Company Preferences section, choose tax details to see your company's Tax Reporting ID & tax rate (shown as a percentage).

Preparing for Year-End from an HR and Payroll Perspective

As the end of the year quickly approaches, many payroll and HR departments feel a sense of urgency to meet certain deadlines.  With a little planning and communication with employees the stress level can ease significantly. 

If you are currently outsourcing your payroll, you will only need to focus on the following four steps.  If you process your payroll in-house, you will also need to address the second section of this article. 

 1.  Review employee contact information
Make sure employee names, addresses, and social security numbers are up-to-date.  Since most W-2s are mailed to the employee, it is important to have the correct address on file.  Send out reminders to employees asking them to confirm this information before the last payroll of the year.  Depending on your payroll solution, if employee self-service is integrated, this simple task can be performed by the employee at any time using an online portal. 

Some payroll solutions also identify missing or invalid employee data which helps insure data integrity and eliminate unnecessary headaches.

2.  Address how W-2 reprints will be handled
Some companies charge a fee to the employee for a duplicate W-2.  If this is the case, inform your employees of this fee so that they will be more cautious in storing the original document.  However, with employee self-service, employees can access their W-2 electronically at no charge and without inconveniencing the payroll department.

3.  Verify that all manual checks or voids have been processed
Sometimes checks will be issued to employees outside of the payroll system.  It is important that these checks are recorded and the tax liability paid prior the the start of the new year.  Likewise, any checks that have been voided will also need to be recorded.

4.  Gather year-end W-2 adjustment information
Adjustments such as excess group term life, third-party sick pay, taxable fringe benefits, and COBRA assistance credits need to be processed no later than your last payroll of the year.  Other W-2 items that do not have a direct payroll tax implication, such as two percent S-Corp health insurance or reimbursable moving expenses, can be added to the W-2 after the final payroll.

Payroll Tax Update: COBRA Assistance Payments Must Be Claimed in 4th Quarter

What's the Big Idea Behind Payroll Outsourcing?

Often the question is asked, "why should I outsource the payroll function of my business?"

I talk to hundreds of companies every year and am frequently asked several questions:

What exactly does a payroll outsourcing company do? What are the benefits of payroll outsourcing and how much labor expense can I save by outsourcing payroll? There are a lot of rotating parts to my payroll, what else can you offer?

What exactly does a payroll outsourcing company do?

Before we can get to the bottom of this, it is necessary to understand what parts of the payroll process can be outsourced and what parts cannot.

A few core areas of the payroll function can be completely outsourced: payroll tax compliance ,including timely payment of payroll taxes, quarterly payroll tax return filing, printing payroll checks, transmitting direct deposits, issuing W2s,  garnishment management and new hire reporting. In each of these examples, the payroll outsourcing or payroll processing company becomes the payroll tax filing agent and is responsible for filing and paying the payroll taxes to local, state and federal agencies.

Most payroll outsourcing companies guarantee compliance and will pay for any penalties/interest that result in an inaccurate payroll tax payment or return. That said, there are companies that offer payroll tax services but actually use a third party to pay taxes - they outsource what you outsourced to them. I would definitely avoid this situation since the third party model adds a layer of complexity to the process that can negatively impact customer service if an issue or question arises.

There are areas of the payroll function that cannot be completely outsourced. This is where technology comes into play. Payroll service companies that own and develop their software normally have expanded capabilities and are growing in popularity. Superior technology in the online payroll software application can bring many benefits to the table, such as: 

• Expanded reporting
• Employee self service
• Easy employee edits
• Integrated time and attendance software
• Automatic allocation of wages 
• General ledger and 401k integration
• Advanced HR tracking

For areas that cannot be completely outsourced, your payroll service company's ability to offer superior technology is essential to streamlining the process. 

Why should I "outsource payroll" and how much labor expense can I save?

A company should consider a few internal scenarios when it comes to outsourcing payroll. If ABC company hires an employee to handle payroll, and a tax penalty results due to employee negligence, will that employee pay the penalty and interest? Probably not. 

If ABC company hires an employee to do payroll, is that all the employee will ever do? In most cases, that employee will grow with the company and start to take on tasks other than payroll processing and tax compliance. The labor expenses saved by outsourcing payroll - paired with guaranteed compliance and access to better technology - usually outweigh the fees charged by the payroll service company.

No one can outsource payroll completely. You cannot simply wipe your hands clean of the payroll function of your business, but some payroll service companies do a good job of streamlining as much of the process as possible.

Your payroll service company should take the payroll processing and tax compliance burden off your company while effectively streamlining the entire payroll function and other HR tasks.

There are a lot of rotating parts to my payroll, what else can you offer?

There are other core areas of payroll that payroll service companies are trying to streamline: time and attendance, hourly data input, accounting/general ledger update, deduction payments, 401k updating and reporting functions.

Payroll is a meticulous and detailed process. Payroll service companies that streamline the process allow their clients to control the data that they need without having to manage tedious back end procedures.

Payroll tax compliance, processing and distribution can be handled effectively by your selected payroll service company to increase efficiency in all areas of your business plan.

 

View a demo, get a $25 Starbucks Gift Card.

If you're considering a payroll solution, let us show you first hand how APS OnLine can benefit your business, and you'll receive a free $25 Starbucks gift card. Whether it lasts you a month or a day, it will be a treat to pull it out of your pocket to pay. Click here to sign up.

 

 

 

 

Author: Scott Lasseigne

slasseigne@apspayroll.com  

The APS Payroll Blog - Covering Industry and Company News

APS Releases the APS Payroll Blog

We started this blog as a way to keep you informed about important topics in payroll outsourcing, payroll software, and payroll tax services. In addition, we want to provide you with useful information and to make you aware of product releases. 

You might have noticed that we have also launched a Twitter account and Facebook fan page for quick updates, but for information that requires more than a headline, we will post it here. The APS Payroll blog will remain the main place for coverage of industry, company, and product news.

We have been low key for the past several years and have focused on our customers' experience and helping to make their businesses run smoother. This continues to be our focus; however, we want to bring these benefits to more businesses. We see this blog as a way to open up a dialogue with a larger audience on the web and to interject our views and experiences into the industry where they can make a meaningful contribution and add value.

We want to hear from you. Are there issues you want us to cover or questions you have that you want to see a post about? If so, leave us a comment.

Christian Valiulis
cvaliulis@apspayroll.com

About APS:

Founded in 1996, APS is a technology leader in online payroll software and payroll tax compliance services for small and mid-size businesses. By combining superior technology, guaranteed tax services and outstanding support, APS is raising the standard for value in payroll technology and services. APS OnLine, the company's proprietary web-based technology uses a single system design that includes payroll, human resources, time and attendance, reporting, document management and accounting integration all delivered over the Internet via Software as a Service.

Three Steps to a Paperless Payroll Solution and Paperless Office

Interest in moving to a completely paperless payroll solution is growing across all business types looking to streamline the entire payroll process. At APS, we are experiencing this first hand as more customers choose to eliminate the distribution of paper reports, direct deposit vouchers,and checks.

The time and money saved from eliminating paycheck delivery costs and report storage costs are the primary reasons why companies choose paperless payroll. Another is the convenience to employees of having 24/7 access their pay information and the efficiency of accessing reports and data electronically. This post summarizes the steps to achieve a paperless payroll solution for your company.

1)     Start by using a payroll software solution

Payroll software comes with a wide variety of capabilities which you will want to evaluate. For purposes of this discussion you will need an online payroll solution with integrated employee self-service. APS provides online payroll software that allows our customers to run payroll from anywhere at anytime. 

2)     Pay your employees electronically

The most common electronic payment method is direct deposit. Direct deposit allows your employees' pay to be transferred into their bank account or multiple bank accounts if desired. Another option of paying employees electronically is to use pay cards. A pay card is similar to a debit card issued through a bank. The card is tied to an actual bank account that does not have the services that a normal checking account would have, such as checks or statements. Instead, employees can access their pay from an ATM or use it as a debit card at numerous merchants.

3)     Launch an Employee Self-Service Solution (ESS)

Employee self-service is the term that has been coined for a payroll solution that allows employees to access their pay history, personal information, and company information through a unique login name and password. As it relates to a paperless payroll process, ESS enables employees to receive their direct deposit vouchers electronically,therefore eliminating the need to print and distribute checks or vouchers. In our online payroll solution, APS OnLine, employee self-service is part of the HR and payroll solution. This means that changes to employee information and new pay stub information is available in real-time over the Internet.

Beyond the Status Quo in Paperless Payroll - the Paperless Office

The status quo from payroll outsourcing companies when it comes to a paperless payroll solution stops at some type of electronic delivery of pay stubs.

However,this doesn't address some of the biggest areas of waste. To start, many payroll outsourcing companies send print copies of the payroll reports to their customers rather than making these reports available in a digital format. An ideal payroll solution will make all payroll reports and data available online and accessible on demand. Some companies provide payroll reports on CD's and then purge the original data, which reduces paper but still wastes time since it requires loading the CD's one at a time to retrieve the desired information.

While a paperless payroll solution is a great start, it doesn't deliver on the full opportunity to reduce waste and save money. Companies themselves spend a large amount of money printing handbooks, enrollment forms, time-off requests, and time cards. Each of these items can be managed electronically if the right software is available. In our case, APS OnLine allows companies to extend the paperless environment by using our web based time and attendance software, electronic document management, and accounting integration features.

Is a Paperless Payroll Solution Right for Your Business?

To evaluate this it is important to consider the potential benefits to employees, as well as to your staff that performs routine payroll and HR tasks.  Here are some questions to ask:  

• Is direct deposit a payment option for your employees?
• Do your employees have Internet access?
• How many forms do you print and distribute to your employees?
• How do you track employee time & attendance data?
• What is the process for employees to request time off?
• How many check stubs or W2s do you reprint for employees?
• How are you currently storing your payroll reports?
• How often do employees inquire about vacation or sick time balances?

Based on the questions above you probably discovered some areas of improvement.  The reality is paper is not going away, but in payroll it can.

Can your company benefit from a paperless payroll solution and paperless office?

Payroll Tax Update: 2010 IRS & SSA Wage Base & Pension Plan Limits.

APS Customer Note: For APS customers this payroll tax update is for informational purposes only. There is no action required on your part to comply with the information contained in this release, since our payroll tax compliance service monitors the various federal and state agencies.  

Social Security Wage Base for 2010:For the first time since 1975, the Social Security Administration will not be increasing the OASDI (Old-Age, Survivors, and Disability Insurance) wage base, also referred to as Social Security wage base.  For prior years, the annual wage base increase has been the result of an automatic cost-of-living adjustment (COLA), but since there will not be a COLA increase in the amounts paid to Social Security beneficiaries in 2010, the wage base will remain unchanged at $106,800.  At the current Social Security rate of 6.2%, the maximum amount an employee may have withheld in 2010 remains at $6,621.60.

Pension Plan Limits for 2010:
In similar fashion, the IRS will not increase pension plan limits for 2010.  Plan limitations are as follows:

    Plan Type    Annual Limit       Catch-Up    
    401(k)            $16,500            $5,500 (maximum total contribution is $49,000)

    403(b) - (SIMPLE)     $11,500            $2,500

The optional catch-up contribution is for employees age 50 and greater that want to make additional contributions to there pension plan.  In some cases, the matching criteria is different for catch-up contributions than for regular contributions that fall under the annual limit.  In this case, it may be necessary to setup a different deduction for the catch-up amounts so that the match can be applied properly. By defualt, APS OnLine, our online payroll software, will stop all employee contributions at the annual limit unless the "Max Override" deduction field is used for specific employees that want to make additional contributions. 

 

Comment if you have questions about this new payroll tax update.  

The information on this Site is provided for informational purposes only. It does not, and is not intended to, provide any financial, insurance, legal, accounting, tax or other professional advice, and should not be relied upon by you in that regard. It is not a substitute for professional advice from a competent, independent advisor in your jurisdiction.