Overview
Most new business owners will either take money out of their company in the form of profit distributions and/or personal salaries or wages. In any case, the government wants to collect its taxes on these amounts. These taxes include federal and state income taxes as well as FICA taxes (Social Security and Medicare).
Payroll Tax Reporting by Sole-Proprietors
Sole proprietors are considered self-employed individuals, as opposed to employees, for income tax purposes. As a result, a sole proprietor will simply extract money from his business when needed and is not required withhold income, Social Security or Medicare taxes on these payments. Instead, the individual will personally pay income taxes and self-employment taxes on the profits earned by the business. The government expects to receive these taxes ratably over the course of the year. Therefore, the sole-proprietor must consider making estimated tax payments each quarter of the year to the Federal government (and State) in order to avoid penalties assessed for underpayment of taxes. The same holds true for partners of a partnership or members of an LLC. All of these individuals are considered self-employed for income tax purposes and are not required to have taxes withheld from their pay.
Payroll Tax Reporting for Independent Contractors
Most businesses employ individuals who are paid on a regular basis. For tax purposes, these individuals are classified as either "independent contractors" or "employees." The classification is an important one and is based on all relevant facts and circumstances. If the individual worker is deemed to be an independent contractor, then the payer must furnish him or her with a Form 1099 after the year ends indicating the amount of compensation paid to the contractor. The contractor is responsible for payment of all taxes related to such compensation (see sole-proprietor above). In order to properly complete the Form 1099, the payer must know certain things about the contractor, such as his social security number, name and address. This information can be obtained by having the contractor fill our Form W-9 before he begins his work. In addition to Form 1099, the principal must also file Form 1096 with the IRS. This form is simply a summary of all Form 1099 information and includes a single total for all compensation paid to all independent contractors throughout the year.
Payroll Tax Reporting for Employees
If a worker is considered an "employee" rather than an "independent contractor" for tax purposes, then the related payroll reporting becomes much more complex. To begin with, employees must fill out Federal Form W-4 forms (and in North Carolina Form NC-4) to indicate the number of allowances claimed. These forms are kept on file with the company. Based on the number of allowances reflected on these forms, the employer then goes to various tables to determine how much tax to withhold from the employee’s pay.
Federal income taxes, Social Security taxes and Medicare taxes are all withheld from employee checks and deposited on a monthly or more frequent basis (depending on the amounts being withheld) using a Federal Deposit Tax Deposit Coupon (Form 8109 or 8109-B). Alternatively, the deposits can be made over the telephone via EFTPS (Electronic Funds Transfer Payment System) with the IRS. At the end of the quarter, Federal Form 941 must be filed to report the federal income, Social Security and Medicare taxes withheld and paid. The Social Security tax is 12.4% of gross wages (6.2% withheld from the employee’s pay; 6.2% paid by the employer) and the Medicare tax is 2.9% of gross wages (1.45% withheld from the employee’s pay; 1.45% paid by the employer). The amount of the federal income tax withheld is dependent on the number of allowances claimed on an employee’s Form W-4. It should also be noted that with respect to Social Security tax, the tax only applies up to a certain amount of each employee’s wages. This threshold amount is known as the "wage base" and typically changes annually.
North Carolina income tax is required to be withheld from employee paychecks and remitted to the state on a quarterly or more frequent basis. Quarterly depositors use Form NC-5. Those who are required to deposit more frequently use either Form NC-5M or NC-5P. A North Carolina Withholding ID number can be obtained by calling (704) 342-6121.
In addition to FICA and income taxes, the employer is also responsible for payment of federal and state unemployment taxes (FUTA and SUTA). The Federal liability is reported on Form 940 at the end of the year. However, every quarter the FUTA tax must be computed. If it exceeds $100 for the quarter (including undeposited amounts from prior quarters), it must be remitted at that time (i.e. at the end of the quarter). In North Carolina, SUTA is reported to the Employment Security Commission on a Quarterly Tax and Wage Report. A North Carolina unemployment tax reporting number can be obtained by filing Form NCUI-604 - Employer Status Report.
Aside from payroll tax reporting to the IRS and the state, North Carolina employers are also required to submit a report to the North Carolina New Hire Reporting Program shortly after a new employee is hired. These forms can be downloaded from the Internet at www.ncnewhires.com.
Payroll Services
As a company grows and adds employees, payroll reporting becomes a more involved task. Hiring a payroll service can be an easy and affordable way to ensure that all returns and tax deposits are timely handled and all employee checks are properly drafted. For further information, consult your CPA for recommendations or phone one of the many payroll services available.
