Payroll taxes which are not withheld from employees are expenses of the employer. Two examples of payroll taxes that are not withheld from employees but which must be remitted to the government by the employer are the employer’s portion of the FICA or Social Security and Medicare taxes and the state and federal unemployment taxes. Since these are to be paid by the employer, these are expenses. They are also liabilities until the employer remits the required amounts to the government.

Learn more about Payroll Accounting.

1.  Social Security and Medicare taxes that were to be withheld plus your company’s matching of those taxes.

2. State and federal unemployment taxes. Your state can tell you the rate for your company and the wages to which the rate applies. For example, it might be 5% on the first $9,000 of annual wages and salaries. The federal rate is 0.8% on the first $7,000 of annual wages and salaries.

3. Check with your city, county, and state for any other payroll taxes.

In addition to the payroll taxes, you may have payroll related liabilities for worker compensation insurance, health insurance, 401-k contributions, pensions, vacations, and so on.  Your liabilities will also include other payroll withholdings that were to be remitted for the employee, but have not yet been remitted. 

Learn more about Payroll Accounting. In addition try our Crosswords and Word Scramble puzzles on payroll accounting.

Let’s assume that the net cost of worker comp insurance after discounts and dividends is 5% of the wages and salaries of  direct and indirect manufacturing employees. If for the month of January the direct labor is $40,000, then $2,000 of the worker comp cost should be included as direct labor. If indirect labor for January is $60,000 then $3,000 of worker comp cost should be included as the cost of the indirect labor.

If the general office worker comp rates are 0.2% of the general office wages and salaries, then 0.2% of January’s general office wages and salaries will be expensed as worker comp insurance expense.

If the employer remits each month’s worker comp cost to its insurance company each accounting period, there will be no prepaid insurance nor will there be a liability for accrued worker comp expense.

If the employer remits worker comp premiums to the insurance company in advance of the cost associated with wages and salaries, the amount that is prepaid as of the balance sheet date should be reported as Prepaid Insurance, a current asset. If the employer has remitted less than the worker comp cost associated with the wages and salaries, the amount owed to the insurance company as of the balance sheet date is reported as a current liability such as Accrued Worker Comp Payable.

Learn more about accruals and deferrals under the topic Adjusting Entries.

Let’s illustrate this with a company that has an accounting year ending on December 31, 2007 and only one employee. The company’s handbook specifies that the employee’s vacation accrues monthly and that the vacation check will be paid on each July 1. Let’s assume that on July 1, 2008 the employee will be entitled to 80 hours of vacation pay at the employee’s pay rate on that date. On December 31, 2007 the employee’s pay rate is $15 per hour and the company’s liabilities include $600 for accrued vacations (80 hours X 6/12 year X $15). On June 30, 2008 the company will report an accrued liability of $1,200 (80 hours X $15). However, on June 10, 2008 the employee received a 3% pay rate increase. This means the employee’s vacation check on July 1, 2008 will be $1,236 ($15.45 X 80 hours). The difference of $36 ($1,236 v. $1,200) is simply charged to Vacation Expense in the period of the vacation pay entry. In other words, the vacation pay entry will include a debit to Vacations Payable or Accrued Vacations Liability for $1,200 (the amount that has been accrued in earlier periods) and a debit to Vacation Expense for $36. The credits will include the payroll withholdings and the liability for the net payroll amount or Cash.

As shown above, the additional $36 was simply debited to Vacation Expense in the period of the vacation pay entry. The past monthly accruals were not changed or restated as the they were estimates and the amount of difference is immaterial. 

The recording of wages that have been earned but not yet paid or processed through the routine payroll entries is referred to as accruing wages. This is done through an accrual-type adjusting entry.

Learn more about Payroll Accounting and Adjusting Entries. AccountingCoach.com also has FREE interactive crossword puzzles on each of these topics.

The Medicare tax rate remains at 1.45% on all earnings. The Medicare tax of 1.45% is withheld from every dollar of employees’ earnings (wages, salaries, etc.) and is also matched by the employer. This results in the total Medicare tax of 2.9% on all employees’ earnings in 2008.

The combined Social Security and Medicare tax, also known as FICA, will be 7.65% withheld from employee earnings up to $102,000 in the year 2008. With the employer’s matching, the total combined Social Security and Medicare tax will be 15.3% on the first $102,000 of earnings in 2008. Each employee’s earnings above $102,000 will be subject only to the Medicare tax.

Self-employed individuals are responsible for both the employee and the employer portion of these taxes.

Learn more about Payroll Accounting. AccountingCoach.com also has three FREE interactive Crossword Puzzles on payroll accounting.

For example, the accrued payroll as of December 31 would include all of the wages that the hourly-paid employees have earned as of December 31, but will not be paid until the following pay day (perhaps January 5). The employer’s portion of the FICA, unemployment taxes, worker compensation insurance, and other benefits pertaining to those wages should also be included as accrued payroll in order to achieve the matching principle of accounting.

Learn more about Payroll Accounting.

Under accrual accounting (as opposed to the cash basis of accounting) wages expense is the hourly pay rate multiplied by the hours worked during the accounting period.

Wages and Salaries Expense will match the wages and salaries (that are not part of a manufacturer’s product cost) with the revenues earned during the accounting period shown on the income statement.

Learn more about Payroll Accounting. Learn more about manufacturing costs.

Wages is best associated with employee compensation based on the number of hours worked multiplied by an hourly rate of pay. For example, an employee working in an assembly plant might work 40 hours during the work week. If the person’s hourly rate of pay is $15, the employee will receive a paycheck showing gross wages of $600 (40 x $15). If the employee had worked only 30 hours during that week, her or his paycheck will show gross wages of $450 (30 x $15). Because the paycheck needs to be computed based on the actual hours worked, the employee earning wages will likely receive her or his paycheck five days after the work period.

Salary is best associated with employee compensation quoted on an annual basis. For example, the manager of the assembly plan might earn a salary of $120,000 per year. If the salaried manager is paid semi-monthly (perhaps on the 15th and last day of each month), her or his paycheck will show gross salary of $5,000 for the half-month. Since the salary is the same amount for each pay period, the salaried employee’s paycheck will likely cover the work period through the date of the paycheck.

Generally, the hourly-paid employees will ean wages at the rate of time and one-half for the hours in excess of 40 per week. The salaried employees in high pay positions are not likely to receive additional pay for the hours in excess of 40 per week. However, employees with low salaries are entitled to overtime pay. (In the U.S. see your state’s laws and the federal wage and hour laws.)

Learn more about Payroll Accounting.

In the year 2007, the employer must withhold Social Security taxes of 6.2% of each employee’s first $97,500 of wages. The employer then matches that amount. This means the employer must remit 12.4% of each employee’s wages that are not in excess of $97,500 in the year 2007. The result is a maximum withholding from an employee in 2007 of $6,045; a maximum matching by the employer of $6,045; and a maximum remittance to the federal government of $12,090.

The second part of the FICA tax is the Medicare tax. The Medicare tax of 1.45% must be withheld from every dollar of each employee’s wages and the employer must also match that amount. In other words, the employer must remit 2.9% of all wages during 2007 as the Medicare portion of FICA.

The employers’ cost of matching the FICA taxes (the matching amounts for the Social Security tax and the matching amounts for the Medicare tax) are recorded by the employer as an additional expense or manufacturing cost.

You can learn more about FICA by visiting www.AccountingCoach.com. Select Payroll Accounting under the following tabs: Topics Explained, Drills/Exams, and Crosswords. You can also find the rules in the Internal Revenue Service Publication 15 (Circular E) Employer’s Tax Guide at its website www.irs.gov/pub/irs-pdf/p15.pdf.

Learn more about Payroll Accounting.

An alternative would be to credit a liability (e.g., Employee Withholdings for Insurance) for the $75 withheld from the employee. When the company pays the insurance bill of $300, it will debit the liability account for $75.

Under either method, the company’s expense is $225 per pay period.

Learn more about Payroll Accounting.

Part 1 of the guide is entitled Who Are Employees? and it provides this general rule: “…an individual is an independent contractor if you, the person for whom the services are performed, have the right to control or direct only the result of the work and not the means and methods of accomplishing the result.”

Part 2 of the guide is entitled Employee or Independent Contractor? It addresses your question in detail. In Part 2 you will find a thorough discussion of the rules and many examples to help you distinguish between independent contractors and employees.

You can find a copy of Publication 15-A at http://www.irs.gov/pub/irs-pdf/p15a.pdf.

Learn more about Payroll Accounting.

The other part of FICA is the Medicare tax which is 1.45% of the entire amount of an individual’s salaries and wages. In other words, the FICA tax is 7.65% of the first $97,500 of an individual’s 2007 salaries and wages and then 1.45% on the 2007 salaries and wages in excess of $97,500.

Companies must withhold the Social Security and Medicare taxes from employees and must also match that amount. For an employee earning $50,000 in the year 2007, the employer is required to (1) withhold $3,825 from the employee, (2) incur an additional expense of $3,825 because of the matching, and (3) remit both amounts—a total of $7,650—to the federal government.

You can get more information on federal payroll taxes by visiting www.irs.gov.

Learn more about Payroll Accounting. AccountingCoach.com also has three FREE interactive Crossword Puzzles on payroll accounting.

Semimonthly payroll refers to paydays that occur 24 times per year, such as paydays that occur on the 15th day and the last day of every month.

Learn more about Payroll Accounting.

If a company is a manufacturer, the costs of worker compensation insurance for the employees in the manufacturing operations should be included in the costs of the products manufactured. The products that have been sold will have their costs (including their share of worker compensation costs) reported as the cost of goods sold on the income statement. The costs associated with the unsold products (including their share of worker compensation costs) will be reported as inventory in the current asset section of the balance sheet. The worker compensation costs associated with selling and general administration should be reported as an expense on the income statement.

Any worker compensation insurance costs that have been prepaid should be reported as a current asset (such as Prepaid Insurance) on the balance sheet. Any worker compensation premiums that have been incurred, but not yet remitted to the insurance company, should be reported as a current liability.

Under double-entry accounting, the FUTA tax will result in 1) a liability, and 2) a cost that is immediately expensed or assigned as a product cost. (The cost of the FUTA tax on employees involved in manufacturing activities will be assigned to products. The cost of the FUTA tax on employees in the selling and administrative activities should be expensed with their salaries and wages as selling and administrative expense.)

For a painless way to learn about FUTA tax, you can view an excellent nine minute video from the Internal Revenue Service. Go to www.irs.gov. Select the tab Business. Next select Employment Taxes from the left panel. Then select What are Employment Taxes? At the bottom of that page you will find Online Classroom Lesson 9 - What you need to know about Federal Unemployment Taxes (FUTA) which is a link to the video.

Learn more about Payroll Accounting.

The employer-paid FICA and unemployment taxes should appear as an expense in the same period that the employees’ wages and salaries are expensed. The payroll tax expense is part of each employee’s compensation and should be matched with the associated revenues if possible, or matched to the period when the wages and salaries occurred.

For example, if a company does not manufacture products, the company-paid payroll taxes are likely to be part of the selling and administrative salary and wage expenses. These will be reported on the income statement in the accounting period when the wages and salaries were earned by the employee.

If the company is a manufacturer of products, the company-paid payroll taxes should be reported along with the respective wages and salaries. Let’s assume that a company has $1,000,000 of direct labor; $2,000,000 of indirect manufacturing wages and salaries; and $3,000,000 of selling and administrative salaries. Let’s also assume that the employer-paid FICA and unemployment taxes amount to $600,000 of which $120,000 is associated with the direct labor; $200,000 is associated with the indirect manufacturing wages and salaries; and $280,000 is associated with selling and administrative salaries. The $280,000 of payroll taxes pertaining to the selling and administration functions will appear on the income statement of the accounting period in which those employees earned the salaries (and the company incurred the expense). The $320,000 of employer-paid payroll taxes for employees working in the manufacturing activities of the company will be assigned to the products. When the products are sold, the assigned costs will appear on the income statement as part of the Cost of Goods Sold. If the products are not sold, these costs will be included as part of the products’ cost that are reported as Inventory on the balance sheet.

Learn more about Payroll Accounting.

Here are some thoughts from the AccountingCoach…

Paid vacations and paid holidays are fringe benefits earned by employees. They can be considered as part of the pay package. (In other words, employees often work for lower hourly pay rates because the fringe benefits are greater than another employer’s benefits.) If an employee earns 10 paid vacation days plus 10 paid holidays each year, the employee is earning 20 days off with pay because she or he is working the other 240 days (5 days per week times 52 weeks = 260 days minus 20 days off). Just as the employee is earning those paid vacation days and holidays when working, the employer is incurring the expense and the liability for the paid vacation days and holidays when the employee is working.

Companies following the accrual-basis of accounting, must be certain that their accounting and financial statements follow the matching principle. This means that expenses and liabilities should be recorded and reported when the company incurs them, not when the company pays them.

I suggest that the holiday and vacation pay be recorded as an expense and liability (remember double-entry) whenever wages are recorded for work performed. Using the example above, the amount to be recorded would be 8.333% (20 days divided by 240 days) of the wages earned when working. In a week when an employee works 40 hours at $10 per hour, there would be an additional journal entry made to debit Vacation & Holiday Expense for $33.33 ($400 X 8.333%) and to credit Vacation & Holiday Payable (or Liability) for $33.33. When an employee enjoys a paid holiday and therefore works only 32 hours during that work week, the accounting would include a debit to Wages Expense $320 and a debit to Vacation & Holiday Payable $80 (the credits would be the normal withholdings and net pay that occur every week). Note that the liability was reduced by the holiday taken. The company must also make the entry to record the routine entry to record and report the vacations and holidays earned by debiting Vacation & Holiday Expense $26.67 ($320 X 8.333%) and crediting Vacation & Holiday Payable $26.67.

When an employee takes a week of vacation, the company should debit Vacation & Holiday Payable $400—thereby reducing the company’s obligation. You would not debit expense, because the vacation expense was recorded each week when the employee was earning the vacation by working.

The benefit of “accruing” for vacation and holiday expense will become obvious if a company shuts down for one week and every employee is required to take vacation during that week. If the company prepared an income statement for that week, it will report little or no revenues and will have little or no wages expense during that week. That’s good matching and good accrual accounting.

Learn more about Payroll Accounting.

The Medicare tax is 1.45% and is based on each employee’s wages without limit. The Medicare tax is withheld from each’s employee’s wages and is matched by the employer. This makes the total Medicare tax equal to 2.9% on every dollar of wages.

The combination of Social Security taxes and Medicare taxes is referred to as FICA. Often we refer to the FICA tax rate as 7.65% (6.2% Social Security + 1.45% Medicare) of each employee’s first $94,200 of annual wages in 2006. Employee wages in excess of $94,200 are taxed only for Medicare at 1.45% for the employee and 1.45% for the employer. This makes the total FICA tax 15.3% (7.65% employee + 7.65% employer) on the first $94,200 and 2.9% (1.45% employee + 1.45% employer) on 2006 wages in excess of $94,200. (Self-employed persons are responsible for both the employee and employer portions.)

Social Security involves retirement and disability benefits. Medicare involves health care for people 65 years of age and older.

Learn more about Payroll Accounting.