In the United States, small businesses employ over 58.9 million people. Although small businesses are thriving and growing, they also face many challenges such as payroll mistakes.
Small businesses need to ensure they stay compliant with their payroll because they don’t count with the staff as large businesses do.
In this article, we’ll discuss the top payroll tax mistakes and why you should avoid them.
Failure to Classify Employees Properly
One of the biggest mistakes small businesses make when it comes to their payroll is not using the correct classification for their employees. The two most common classifications are independent contractors and employees.
For example, with independent contractors, you don’t have to pay them the minimum wage required by the state or overtime. Because they’re independent, you don’t have to withhold taxes. Independent contractors usually take care of their own tax contribution.
If you classify an employee as an independent contractor, however, they could have issues with their tax revenues and might not get the correct wage.
The consequences will not only be for your employees. Employers who fail to classify their employees correctly are responsible for the share of the taxes owed by both parties. Not to mention, employers risk paying penalties, additional interest, and they might have to also pay employees the lost wages.
The best way to avoid misclassifying an employee when you’re not sure is by filling out an SS-8 form with the IRS. The IRS will determine the classification of the employee.
Exempt Employee Classification
Once you classify a worker as an employee, you will need to determine if they’re exempt or nonexempt. If you hire an exempt employee you will not have to pay overtime when they exceed 40 hours a week.
With a nonexempt employee, you will have to pay overtime if they exceed 40 hours a week.
If you fail to correctly classify an employee and they’re entitled to overtime, you will owe them back wages. Those who want to exempt their employees from overtime should follow these guidelines:
- Pay a minimum salary of $24,600 a year
- Their job duties are key to the company’s operations
- They have a set salary
The laws of what constitutes an exempt or non-exempt employee vary from state to state. It’s important to stay current with any labor changed in the law.
The Correct Tax Rates
Not paying the correct tax rates is another common payroll issue employers face. Tax rates change from a given year to the next. If you formed your business five years ago, the tax rates are different than the current ones.
Chances are tax rates have changed in the last few years, so it’s imperative you stay on top of the correct rates.
Businesses who don’t stay on top of their current rates have to pay the difference in owed taxes, penalties, and any interest that has accumulated.
In order to stay compliant, make sure you update your tax rates every tax year for the following categories:
- Local tax
- Social Security tax
- Medicare tax
- Federal income tax
- Federal unemployment tax
- State income tax
- State unemployment tax
Checking the tax rates every year will help you avoid unnecessary errors in your payroll that could end up costing you a lot of money.
Overtime Wages
Although employers don’t love the term overtime, they still need to make sure their employees are properly compensated when it comes to overtime.
As you know, overtime and regular wages are different. Employers can get in trouble if they don’t code overtime wages correctly. It can result in owing back wages and other added interest.
According to the Fair Labor Standards Act (FLSA), if your employees have worked over 40 hours in a workweek, you need to pay them 1.5 times their normal wage.
For example, let’s say you pay them $20 dollars an hour. If they work 42 hours in a week, the extra 2 hours should be paid at a rate of $30 an hour.
Submitting Payroll Late
While it’s true your employees rely on you to pay them on time, you also need to comply with the payroll schedules designated by the state.
In most states, the common payroll frequencies are weekly, biweekly, semi-monthly, and monthly. State laws require employers to adhere to the payroll schedule.
Employers could pay more frequently if they wish but not less frequently. It’s important to choose the payroll schedule that serves your business.
The payroll schedule you choose will have an impact on your business’ operations and cash flow, so it’s important you choose the right one for your business.
Once you pick one, it’s important to stick to the payroll schedule. Your employees will expect you to always pay them according to the pay period. If you plan on making any changes, you should notify them in advance.
However, if you fail to stick to the payroll schedule, your employees will lose faith in you. Not to mention, you will lose your compliance with the state laws.
Calculating Net vs. Gross Pay
Based on all of the information covered before, you know there are many taxes that need to get deducted from an employee’s check. Taking all of this into account, it might be tricky to calculate the cost of an employee
You need to know the difference between gross and net pay, to calculate exactly how much it will cost you to hire an employee.
Lack of Record Keeping
Another mistake employers make is not keeping the proper payroll records. Employers should always keep records of all the hours worked, wages paid, vacation, overtime, bonuses, and sick pay.
If an employee ever wants to challenge overtime pay, for example, employers can pull up the records and settle any questions.
Common Small Business Payroll Tax Mistakes
Now that you know the common payroll tax mistakes small businesses make, you can avoid making them.
Remember to classify employees correctly, keep records, and always know the correct tax rates.
The best way to avoid payroll tax mistakes is by working with a certified public accountant. Contact us today.
