Payroll is a complex and critical process for every business. Between the differences in payroll periods, and tax laws, there’s no clear roadmap for every company to follow. But unfortunately, one mistake can result in hefty penalties from the IRS, not to mention the potential cost to employee morale.
Are you wondering how to prevent any potential payroll pitfalls? Then continue reading for ten payroll mistakes every business makes and how to avoid them.
1. Failing to Timely Deposit Withheld Taxes
When you withhold taxes from your employees’ paychecks, you are responsible for depositing those funds with the government. The deposit must be made by the due date, typically the 15th of the following month. You must complete the deposit on time to avoid being subject to a penalty.
To avoid this mistake, set up a system for making deposits on time. This process may entail using electronic funds or setting up automatic payments from your business bank account.
2. Failure to Issue Form 1099s
If you pay any outside contractors $600 or more during the year, you must issue them a Form 1099-MISC. This form is used to report nonemployee compensation and must be sent to the contractor and the IRS by January 31.
3. Classification of Employees as Independent Contractors
You may be liable for employment taxes if you incorrectly classify an employee as an independent contractor. The IRS has strict rules about who can be classified as an independent contractor. Generally, the worker must be free from control and direction in performing the work and must be in business for him or herself.
4. Improper Treatment of Bonuses and Commission Payments
Bonuses and commissions are considered supplemental wages and are subject to different tax withholding rules than regular pay. You must withhold taxes on bonuses and commissions at a flat rate of 22% unless the employee elects to have taxes withheld at the higher rate of 37%.
To properly withhold taxes on bonuses and commissions, you must calculate the supplemental wage amount and withhold the appropriate amount of taxes. You will also need to send the employee a separate check for the bonus or commission and a statement indicating that taxes have been withheld.
5. Improper Classification of Workers in Multi-State Locations
If your business has employees in multiple states, you must withhold taxes for each state where the employee works. In addition, you will also need to pay unemployment taxes to these states.
To properly withhold and pay taxes in multiple states, you must register your business and obtain the appropriate tax ID numbers. You will also need to file quarterly tax reports in each state.
6. Forgetting About Bank Holidays
You must be aware of bank holidays if you utilize direct deposit for your employees’ paychecks. If a holiday falls on a day when banks are closed, your employees will receive their paychecks on the next business day.
To avoid this problem, plan and ensure you have the funds to issue paper checks on bank holidays. You can also consider using a payroll service that will deposit paychecks into employees’ accounts even when banks are closed.
7. Incorrect FICA Tax Withholding
The Federal Insurance Contributions Act (FICA) includes Social Security and Medicare taxes. The current Social Security tax rate is 6.2%, and the Medicare tax rate is 1.45%.
If you withhold the incorrect amount of FICA taxes from your employees’ paychecks, you may be subject to a penalty. To avoid this mistake, ensure you withhold the correct amount of taxes from each paycheck.
8. Errors in Health Insurance Premium Deductions
If you offer health insurance to your employees, you will need to deduct the premiums from their paychecks. The premium deductions must be made pre-tax, and the amount deducted must be reported to the employee on their pay stub.
If you make errors in deducting health insurance premiums, you may owe the IRS penalties and interest. Ensure you correctly calculate and deduct the premium amounts from each paycheck to avoid this problem.
9. Failure to Make Required Garnishments
If employees are subject to garnishments, you must withhold the appropriate amount from their paychecks and send it to the creditor. The most common type of garnishment is a child support order, but entities can also issue garnishments for outstanding debts, such as student loans or credit card debts.
To avoid this problem, ensure you correctly calculate the garnishment amount and withhold it from each paycheck.
10. Incorrect Calculation of Overtime Pay
If you have employees eligible for overtime pay, you need to make sure you are correctly calculating and paying the overtime wages. The overtime rate is 1.5 times the employee’s regular hourly rate, and overtime hours are those that exceed 40 hours in a week.
You may be subject to penalties and back pay if you fail to pay the correct overtime wages. To avoid this problem, ensure you correctly calculate the overtime rate and pay it for all eligible hours.
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