Payroll describes the entirety of a company’s processes, reporting, and standards for paying their employees. Not only does payroll include the actual procedures for distributing money to employees via checks or direct deposits, but also the accurate keeping of detailed records of all payments as well as the process of ensuring all taxes on employee payments are paid.
Payroll process for employees
The process for payroll of a specific employee begins when they are hired and fill out a W-4 form. This form gives details about the individual’s tax status as well as how they want their taxes to be paid. Whether an employee is paid hourly or on an annual salary, they are still required to complete and submit a W-4 to their employer.
After a W-4 is submitted and the employee begins work, they are paid regularly (usually every two weeks, sometimes every week). The employer is required to withhold certain taxes from that employee’s pay, including federal and state income taxes, as well as Medicare and Social Security. This requirement is put on employers in order to reduce the amount of individuals who fail to contribute enough to their taxes at the end of each year.
This process, which includes calculating employee pay and withholdings, scheduling and distributing payments is generally known as payroll processing. This process also includes special circumstances that affect paychecks like time off, overtime requests, and more. We’ll discuss these in greater detail later.
A company’s overall record of all calculations for employee pay is known as their payroll register.
Payroll management is one of the important tasks a business must handle. It not only affects the direct ability to pay employee salaries, it’s also directly connected to employee loyalty and morale and a company’s overall reputation as an honest and on-the-ball organization. Late paychecks or improperly managed payroll are some of the fastest ways to erode employee trust and motivation.
Meanwhile, payroll management is essential to remain compliant with federal regulations. The way employees are paid, and the way their taxes are withheld and paid to the government, are carefully monitored by the IRS and government regulatory bodies.
How to manage payroll
Payroll management is the process by which a business manages its payroll— the employees, salaries, hourly wages, processed payments, and taxes relating to payroll. It also includes administration of bonuses and other special instances relating to payments made to employees. Payroll can be managed one of three ways: by completing it in-house by oneself or with a dedicated team, by outsourcing payroll processing to a third party firm or individual, or by using automated payroll software in order to streamline as much of the process as possible and save time and money.
There are advantages and disadvantages to each of these three methods for payroll management, so it’s worth considering how each one will affect one’s business and company processes in both the short-term and the long-term.
Completing payroll by hand will require a business owner to learn how to process payroll themselves, if they’re a sole proprietor or run a small business, or having an internal team manage it if the business is a bit larger. Unfortunately, this approach is significantly time-consuming and requires a certain level of expertise in how payroll and tax withholding works so that the owner can ensure to stay on the right side of regulations and laws.
Third-party payroll accounting
Many companies outsource payroll processing to a third party firm or individual. While this means that a company wouldn’t need to spend internal resources (time) to process payroll, it would instead come with the monetary cost associated with paying an outside firm.
As payroll processing software becomes more powerful and inexpensive (sometimes free), the use of software to automate nearly every part of the payroll process has become extremely popular. It leads to less hours spent processing payroll, less user error, and a less expensive process overall. Payroll software is now capable of automatically calculating wages and necessary tax withholdings, generating checks or deposits, and even submitting required taxes.
A company must have a W-4 form on file for each of their employees, which gives the employer information about how much federal tax to withhold and the social security number associated with those taxes. No payroll can be processed or distributed for an employee until this information is on file.
For hourly employees, proper tracking of time worked is vital for payroll processing. Some companies will also track the hours of salaried employees, simply to ensure that they’re putting in enough work hours to justify their salary.
Many companies include information about time off (vacations, sick days, holidays, etc.) in their payroll processing. This is particularly important for the majority of companies that have a set amount of specific days off that employees are allotted each year.
Salaries and wages
Payroll records include information about how each employee is paid and how much. For salaried employees, this would include their annual salary and what that equates to in terms of payment periods. For example: a $24,000 salary split into 26 two-week periods equates to $923 in gross salary every two weeks before taxes are deducted.
Hourly wage rates are also tracked and recorded for each hourly employee at a company.
Companies are required to provide overtime pay when employees are asked to work beyond 40 hours in a single week. Pay for hours worked overtime must be at least 1.5x their normal hourly wage (or what one hour would come out to, calculated by their annual salary).
Non-salary or wage benefits can also fall under payroll processing, and can include things like health insurance, retirement contributions, and other incentives. These should all be reported and tracked in payroll.
Other sources of pay include tips, commissions, and bonuses. These must be recorded and processed through payroll, as well. While tips are paid directly from customers to employees, employees must still report the exact amount of their tips so that they can be properly taxed via payroll taxes.
Anything withheld or subtracted from an employee’s pay is known as a deduction. This can include payroll taxes like federal income tax, state income tax, Medicare tax and social security tax.
When an individual owes significant back taxes, the IRS may issue a garnishment over their wages. The individual would be required by the IRS to withhold some or all of their paycheck until the tax debt is repaid.
What type of payroll records do I need to keep?
Much of payroll processing is regulated and required by the government and regulatory bodies— for example, payroll tax records must be maintained for at least four years after the tax is due or is paid (whichever is later) according to legal requirements.
In fact, there are 20 total unique payroll-related records that must be maintained in order to meet the requirements set forth by the federal government. They generally fall under three umbrellas: income tax withholding records, Social Security (FICA) tax records, and Federal Unemployment Tax (FUTA) records.
Income tax withholding records
Income tax withholding records are any records relating to the calculated withholding of taxes from employee paychecks. Because each employee owes taxes to the federal government on their wages, businesses are required to withhold some of employee taxes and submit them directly to the government after each fiscal year. Keeping careful records of these tax withholdings are essential. Some related records to keep include:
- Name, address, and Social Security number of each employee
- Amount and date of each payment for compensation
- Amount of wages subject to withholding in each payment
- Amount of withholding tax collected from each payment
- Reason that the taxable amount is less than the total payment
- Statements relating to employees' nonresident alien status
- Market value and date of non cash compensation
- Information about payments made under sick-pay plans
- Withholding exemption certificates
- Agreements regarding the voluntary withholding of extra
- Dates and payments to employees for non-business services
- Statements of tips received by employees
- Requests for different computation of withholding taxes
Social Security (FICA) tax records
Every employee’s paycheck includes a deduction designed to be paid into their social security, a fund designed to provide for former workers after retirement. Companies are required to keep records on their social security taxes, including the amount of each payment subject to these taxes, amount and date of social security tax collected from each payment, and an explanation of any differences or areas where the figures don’t align. Related records include:
- Amount of each payment subject to FICA tax
- Amount and date of FICA tax collected from each payment
- Explanation for any difference
Federal Unemployment Tax (FUTA) Records
Federal unemployment tax records are payroll records relating to a company’s unemployment tax payments. Records that are required by the federal government relating to federal unemployment tax include total unemployment tax paid during a calendar year, amount of payroll subject to unemployment tax, amount of contributions paid into the state unemployment fund, and any other necessary information that’s directly requested on an unemployment tax return. Related records include:
- Total amount paid during calendar year
- Amount subject to unemployment tax
- Amount of contributions paid into the state unemployment fund
- Any other information requested on the unemployment tax return
Keeping proper payroll records
Keeping correct, up-to-date, and compliant payroll records is essential. Many of the regulatory standards relating to payroll record keeping were established in the Fair Labor Standards Act (FLSA), which sets forward the requirements for employers to keep accurate records for every non-exempt worker.
How to control employee accessibility
In addition to ensuring that financial information relating to payroll is accessible at all times for regulatory bodies, it’s also important (and legally required) that employees have access to specific information relating to their payroll. These include benefits summaries, 401(k) summaries, check history and deduction totals, direct deposit details, time clocks, and paid time off information.
Other features that employee accessibility features for payroll might include the ability to access and download relevant documents, like tax withholding info and W-2s, change their individual withholding settings, make inquiries, and ask questions relating to their pay.
The more transparent and easily accessible this information is for employees, the more satisfied they’ll be with their payroll experience at a company.
How do you process paychecks?
Processing paychecks accurately, effectively, and on-time isn’t just a legal requirement, it’s also essential for keeping employees happy. Nothing makes employees feel more quickly disconnected from their employer’s leadership than late paychecks, incorrect payments, and other issues. Salaries, hourly wages, owed overtime payment, and bonuses should all be verified and included in paychecks where necessary. Meanwhile, necessary tax deductions should be included in paychecks to avoid getting a company (and employees) in hot water with the IRS.
How do you handle payroll taxes?
Generally, many companies have a specific role that oversees payroll management—fittingly, the position is usually called the Payroll Manager. Payroll managers are in charge of determining tax deductions and other elements of payroll— including the completing of forms that document payroll taxes and filing W-2s for each employee. Juggling required documents, filing deadlines, and more requires an organized and focused skillset, making payroll tax managers a valuable addition to a business.
Is payroll part of HR or accounting?
Payroll typically falls under human resources, since it deals with employee compensation. However, because it’s essentially an accounting function, some companies may place payroll within their finance or accounting division.