Gregory S. DuPont
A Small Business Owner’s Guide to Payroll Taxes
One of the more onerous tax issues facing business owners is determining what type of employee compensation is taxable. This may be especially true for small business owners who often wear many administrative hats and may not have the luxury of an in-house accountant to answer complex tax reporting questions.
Generally, an employee’s wages are considered taxable compensation. However, the term “wages” can be somewhat misleading. In addition to actually earned compensation, federal and many state payroll tax laws generally define “wages” as any type of payment received for services rendered. Here’s a quick look at some of the other “wages” typically paid to employees that must generally be reported for payroll tax purposes.
Payments to any employee for future work or services are considered taxable wages. An advance is not considered a taxable wage if: 1) it’s used for expenses involved in performing a service for the employer; or 2) it is a loan to the employee that is properly documented and must be repaid.
Many employers have contests or give out awards for outstanding performance. In general, all awards and prizes are taxable wages with one exception. An employee award or prize is not included in taxable wages if it meets the following conditions: 1) the prize or award is not cash; 2) its value is less than $600; and 3) it is given as a reward for length of service or as a safety achievement award.
There are many types of benefits in the workplace. Generally speaking, any fringe benefit not specifically excluded by law is considered taxable compensation for payroll tax purposes. However, the list of benefits excluded from payroll taxation is fairly extensive. These include, but are not limited to, payments attributable to a health insurance plan, employer contributions to a qualified plan, workers compensation, and a wide array of other “perks.”
Generally, expenses cannot be reimbursed unless they are made via an advance or are specifically highlighted in an accountable plan. Under an accountable plan, an employee: 1) must be properly reimbursed for deductible expenses incurred while rendering services for the employer; 2) must keep accurate records that validate the reimbursement; and 3) must return any payment by the employer that exceeds the actual amount of reimbursement.
In general, any cash tips received by an employee are included in taxable wages. However, noncash tips (e.g., tickets to a sporting event) are generally not included in taxable wages.
Compensation paid to an employee serving jury duty is generally a taxable wage. However, actual taxation will vary based on how jury duty pay is actually paid. If you deduct jury duty pay from regular wages, payroll taxes apply to regular wages less jury duty pay. Likewise, if you pay an employee his or her regular wages but ask the employee to give you the jury duty pay, payroll taxes also apply to regular wages less jury duty pay. Finally, if you pay regular wages and allow employees to retain their jury duty pay, only regular wages are subject to payroll taxes.
If you offer your employees paid vacation, the compensation they receive while they’re on vacation is a taxable wage. In addition, if you allow employees to “buy back” unused vacation time, that is also considered wages.
Payroll taxation is just one of the many tax issues facing business owners. This article is meant to serve as a general overview. A qualified tax professional can help you ensure your business is on proper payroll tax footing.