Payroll tax is a type of tax that is deducted from an employee's paycheck. The tax can be withheld from the employee's pay, covered by the employer, or split 50/50 between the two. The specific payroll taxes and their rates vary from one jurisdiction to another.
Correctly managing payroll taxes is a significant task for payroll teams. In this article, we explore the key challenges faced when it comes payroll tax, and how to minimze the risks involved.
Disclaimer: The following content is for informational purposes only and should not be considered tax or legal advice.
Payroll taxes: Employer responsibilities
As an employer, your payroll tax management responsibilities will depend on where your organization and employees are located.
For instance, in the United Kingdom, payroll taxes are levied on employees’ wages to finance their social security programs, which include Pay As You Earn (PAYE) income tax and National Insurance contributions.
In the US, some examples of payroll taxes include Federal Insurance Contributions Act (FICA) taxes, which cover Social Security and Medicare, as well as state and local taxes.
Local governments may also use payroll tax to support public transportation, and infrastructure repairs, or to ensure workers have access to a living wage upon retirement.
Employer payroll tax responsibilities may include:
- Ensuring all deposits and tax returns are submitted accurately and on time to local, state, and federal agencies
- Distributing the appropriate tax forms to employees
- Preparing and filing amendments for quarterly and annual filings
- Validating tax filing and amendment information during auditing and reconciliation processes
- Monitoring tax law changes in all jurisdictions where the business and employees operate
- Understanding the distinction between taxable workers, such as employees vs. independent contractors (employers are responsible for employee payroll taxes, independent contractors manage their own taxes)
- Determining which compensation is taxable, including tips, expense reimbursements, fringe benefits, health and life insurance premiums, bonuses, retirement contributions, non-cash payments
- Identifying which payroll taxes apply and how to calculate them, including the taxes employers are responsible for, employees are responsible for, and those split between employer and employee
- Familiarizing themselves with the forms, returns, filing requirements, and payment timelines for each jurisdiction
Common payroll tax management mistakes and consequences
When employers fail to adhere to payroll tax regulations, they may face a variety of penalties, fines, and legal implications. Here’s a look at some of the most common payroll tax management errors and their consequences.
Misclassifying employees as independent contractors
Misclassifying workers can result in serious consequences. For example, in the US, employers may face tax violation fines of up to 3% of the wages of misclassified employees, as well as 100% of unpaid FICA taxes and up to 40% of non-withheld FICA taxes.
Failure to file IRS Form W-2 may result in a penalty of $50 USD per form not filed. Employers who are found guilty of violating federal law may face fines of up to $1,000 per misclassified employee, in addition to legal fees. Depending on the severity of the offense, employers may also face jail time of up to a year.
See also: Employee Misclassification Penalties: Examples And Protections
Inadequate workers’ compensation
Tax authorities or governing bodies may flag you for non-compliance with workers’ compensation requirements if you fail to file the appropriate forms, file forms incorrectly, pay benefits late, or don’t pay the proper amount due. The penalty is typically a fee.
For example, in the Canadian province of Manitoba, the Workers Compensation Board (WCB) can charge companies the following administrative penalties for infractions related to payroll reporting:
- Late filing: 5% of the current year’s premiums up to a maximum of $5,000 CAD
- Non-filing penalty: 10% of the current year’s premiums up to a maximum of $5,000
- Under-reporting actual payroll: 15% of the difference in premium between the audited and actual payroll up to a maximum of $5,000
Failing to keep payroll records
Different regions require payroll records, such as payments, deductions, and taxes, to be kept for specific durations. Failing to retain these records for the required period can result in legal issues if your company is audited and you’re unable to provide proof of compliance.
Under India’s Payment of Wages Act, employers have to maintain registers and records for the work, wages deduction, and receipts of an employee. These records must be kept for three years after the last entry is made. The penalty for not maintaining records is a fine no less than INR 1,500 and up to INR 7,500.
Incorrect withholding rates, tracking, and payments
Withholding payroll taxes at the wrong rate can lead to fines, penalties, legal expenses, audits from the government, and reputational damage.
Companies can face consequences for not tracking or paying overtime, not paying payroll taxes on time, or under or overpaying workers. These errors are commonly the result of incorrect pay rates, incorrect calculations of hours worked, or withholding taxes at the wrong rate.
In France, if an employer fails to submit the withholding tax return or submits it late, a penalty of 10% is imposed on the tax that should have been declared. If there is an error in tax calculation or a failure to declare the tax withheld due to an omission or use of an incorrect withholding tax rate, a penalty of 5% is applied to the amount of tax that was not declared.
If there’s an insufficient or absent payment on the due date, an additional 5% increase is added to the payable amount.
Stay compliant and pay your entire global workforce right from your Deel platform.
How to reduce payroll tax management risks
When it comes to payroll tax management, being proactive is always better than being reactive. Here’s how companies can set their finance teams up for success:
Stay informed on tax legislation updates
Staying informed and compliant with the latest local payroll tax regulations not only prevents financial penalties and legal issues but also positions your business as a trustworthy and reliable employer.
The key to managing payroll tax risks is to stay on top of the latest legislative requirements wherever you hire. Deel’s Compliance Monitor tool is designed to serve this purpose, automatically tracking and explaining the latest regulatory changes in over 150 countries.
For example, here are a few of the changes that occurred over the last year:
- Thailand saw amendments in employee tax exemption
- US federal income tax brackets changed in the US
- The UK experienced general holiday pay entitlement reforms
- Germany introduced new income thresholds for health and pension insurance
These are just a few of the payroll tax updates that companies have to be aware of and adhere to. Deel’s Compliance Monitor provides concise summaries of regulatory changes, their implications for your business, and actionable advice in simple language. As a result, your business can adapt to changes quickly, maintaining compliance and mitigating risks associated with payroll tax management.
See also: Regulatory Compliance Management Software for Companies
Use a reliable global payroll software solution
Companies operating in multiple countries must adhere to the tax codes of each jurisdiction, which takes a lot of time and resources to manage.
A global payroll solution simplifies this process by providing a single platform that can manage payroll across all locations, ensuring each is processed accurately according to the specific tax rules and regulations of the country.
Plus—as businesses grow and enter new markets‚ global payroll solutions can scale with the company, adapting to new tax laws and regulations without the need for additional resources or significant changes to payroll processes.
Using a global payroll system that leverages AI and automations greatly reduces the amount of manual work required to manage payroll taxes, minimizing the risk of human error. A global payroll solution automates calculations, reducing the likelihood of errors and the risk of fines or legal issues arising from inaccurate tax reporting.
By automating and consolidating payroll functions, global payroll solutions can also reduce the costs associated with managing payroll taxes manually, including the reduction of errors, avoidance of compliance penalties, and the need for fewer specialized in-house payroll staff.
See also: All-in-One Payroll: Why 300+ HR and Finance Leaders Say It’s The New Standard
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Conduct regular audits and compliance checks
Consistent internal payroll audits are crucial to catch discrepancies and ensure ongoing adherence to tax laws within your organization. A payroll audit is the process of reviewing a company’s payroll system and records to ensure compliance with relevant laws and regulations and that employees are paid correctly.
To conduct a successful payroll audit, start by reviewing your company’s payroll processes and procedures. This step includes examining the policies and procedures governing payroll activities, such as determining pay rates, calculating overtime, and administering employee benefits.
You also have to verify employment data and payments, which requires confirming the employee’s name, social security number, employment status, eligibility for overtime pay, and the correct amount of tax withholdings and income tax.
During the audit process, payroll reports are cross-checked with the general ledger to identify errors such as incorrect pay rates, overtime calculations, and benefit deductions. Regularly reviewing your payroll process, payments, and records takes a lot of time and resources, which is why some teams prefer to outsource global payroll management to experts.
See also: Payroll Compliance Checklist and Tax Law Guide for 2024
Ensure accurate employee classification
Correctly classifying workers as either employees or independent contractors is crucial for managing payroll tax obligations. Classification has significant implications for both businesses and workers in terms of tax liabilities, benefits, and protections.
Each country has its own set of criteria for worker classification, which can be influenced by specific case law and business-worker relationships. These criteria are constantly evolving, making it challenging for companies, especially those operating on a global scale, to stay compliant.
Traditionally, companies have had to manually seek out country-specific guidelines and classification tests established by governmental bodies to ensure they categorize their workers correctly in accordance with local employment laws.
With Deel's Worker Classifier, global companies can easily assess the classification of their workers worldwide more efficiently, ensuring compliance and reducing the risk of penalties.
Learn more: How Do You Determine Employment Status with Deel’s Worker Classifier
Maintain meticulous records
Keeping accurate records of income generated from business operations and any outflow costs is crucial, as it helps prevent overpaying payroll taxes or filing inaccurate tax reports.
Businesses should prioritize saving receipts and invoices for all expenses incurred during operations, including office supplies, equipment purchases, and employee compensation. These records should be kept for as long as legally required by the local jurisdiction.
It’s also important to maintain detailed records of each deduction made on an employee’s paycheck. This ensures that employees are not overpaying on their taxes and safeguards the business against potential errors.
See also: Global Payroll Laws Enterprise Finance Teams Should Know in 2024
Educate and train employees
Without clear guidance and procedures to ensure payroll tax compliance, companies may be opening up their team members to mistakes that lead to tax management risks. Organizations should provide their HR, payroll, and finance teams with education on tax laws, using payroll software correctly, and best practices in record-keeping and data security.
Training needs to focus on practical skills for calculating and processing taxes accurately, ensuring compliance with deadlines, and protecting sensitive employee data. Resources like guides, tutorials, and access to regulatory updates can support this training.
Ongoing education can also help workers stay informed about the frequent changes in tax legislation and technology. Companies should regularly update their teams on new laws, offer training tailored to specific roles within the finance department, and promote professional development.
See also: Your 2024 Guide For Training Remote Employees
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Create a culture of compliance
Creating a culture of compliance within an organization begins with leadership setting the tone by visibly committing to compliance and demonstrating their expectations through actions and communications.
Then, develop clear, accessible, and understandable compliance policies and procedures, with continuous, role-specific training to ensure employees are well-informed about their responsibilities. Consistent enforcement of compliance policies, recognition of compliant behaviors, and continuous monitoring to detect issues early are essential components of a strong compliance culture.
By creating a work environment where raising concerns is welcomed and valued, companies can foster a speak-up culture. To support this, maintain open communication channels for reporting and discussing compliance issues without fear of retaliation.
See also: The Enterprise Guide to Global Compliance Management in 2024
See how Deel can help
For businesses without in-house expertise, outsourcing global payroll to experts can not only minimize risks associated with payroll tax management but also allow them to focus on their core operations.
With Deel’s Global Payroll, you can consolidate and streamline your international payroll operations. We handle compliance, tax deductions, and filings wherever you have entities—all supported by our team of in-house payroll experts.
Learn more about Deel’s Global Payroll or book a demo to speak with an expert.
