Payroll and Payroll Taxes - Online Tutor, Practice Problems & Exam Prep

Payroll expenses are significant for businesses, encompassing gross pay, taxes, and employee benefits. Gross pay is the total earnings before deductions, while net pay is what employees receive after tax withholdings. Employers and employees share payroll tax responsibilities, including federal and state income taxes, FICA (7.65% each), and unemployment taxes (FUTA and SUTA). Employee benefits, such as health insurance, also contribute to payroll expenses. Understanding these components is crucial for accurate accounting and financial management.

Payroll Liabilities

Paying your employees is one of the largest expenses for the business, right? So let's dive into these payroll expenses and the related payroll liabilities. Okay, so when we talk about payroll, we're going to be focused on this idea of salaries and wage expense. And that's where we keep track of all the money associated with paying our employees. So this salary and wage expense, it's going to include the gross pay earned by the employees. And when we talk about gross, gross basically means total. So this is the total amount that they earned but we don't usually pay them their gross amount earned, right? We usually withhold some for taxes. Net is usually what they get paid. The net amount is what they get paid. We take the gross, adjust it for some things like taxes, and then we give them their net pay. Okay? That becomes important when we start making journal entries, right? Because we might take the salary expense as our debit, but we don't pay that total amount in cash to the employee. What we do is we withhold some of that money and then we pay that to the government on their behalf, right? If you've ever received a paycheck and it's got all of these adjustments before you get to your final pay, well, that's the company paying things on your behalf. So they're going to take on some liabilities on your behalf. Credits, right? These are the payroll liabilities and then they're also going to pay you cash. So we won't just see one credit for just the cash because they're withholding some of it that they'll later remit to the government on your behalf and they'll also have their own taxes that they're going to have to pay, okay? So what we'll see is that the employees are liable for certain payroll taxes and that's what we see here, that the company is paying them less, right? They're taking a credit for some of those salary expenses and paying them a little less because they're withholding and then they'll later pay those on behalf of the employee. But the employees aren't the only ones that pay taxes. Employers are also liable for their own payroll taxes. So, everybody is paying taxes around here, isn't that great? So let's go ahead and discuss some of the main taxes. Luckily in your class, they don't dive into so much detail about these calculations. Most of the time, they're just going to give you the numbers. They might say, the federal income taxes withheld from employees was $20,000, and they'll just tell you the number. You don't have to do percentage calculations. Some teachers like to do it because they want to make you deal with the percentages, but it's not that hard. We'll practice a little bit. Okay? So the first ones we see here, the first types of taxes are those income taxes. We've got federal and state income taxes. Luckily, I'm here in Florida and we don't have to pay state income tax. That's one of the great benefits of living in Florida. Well, we still have to pay federal income taxes and as an employee, I would be liable for some of that, okay? So what happens is when I get paid, well, I get paid a little less because the company is going to pay the government on my behalf, some of this money. So when we calculate those federal income taxes, there's going to be a tax schedule, okay? And that's beyond the scope of this class, it depends on how much money you make, how much taxes you're going to owe. They're just going to give you this number. They'll just say this is the amount of federal taxes owed. Same thing with the state income taxes. And especially because every state is different, they're not gonna have you learning all these different rules for each state. Nothing like that. They're just going to be giving you numbers when these income taxes come up. But remember that the person responsible for these is the employee. So the employee is the one paying these taxes, but we, as the company, are the ones remitting the taxes to the government, okay? So when the employee earns their paycheck, we give them a little less money because we're holding a bit of that to pay to the government. And that's those liabilities I was talking about above, okay? Because we're liable to pay those to the government on the employee's behalf. So we've got those income taxes. Next, we have the FICA tax. The FICA tax is the Federal Insurance Contributions Act and this is basically the Social Security tax. So this one includes Social Security and Medicare. Okay? Not only is the employee responsible for paying some of these taxes, the employer also pays these taxes as well. And each of them pays 7.65% of the gross pay. So that means if the employer is paying you $50,000, well, you're going to have to pay 7.65 percent and the employer is also going to pay 7.65% of that $50,000, okay? Sometimes they make you calculate this one. Like I said, most times when you deal with payroll in this class, they're just giving you numbers. But this would be the most likely one they make you calculate because this precise percentage of 7.65%. Okay? So that's the FICA tax. And then we also deal with, on the employer side. So just like the employee above had to deal with the income taxes, well the employer deals with unemployment taxes. Unemployment taxes are paid by the employer. And those, there can be federal and state again, right? So there's going to be a federal unemployment rate and this is going to be 6.2 percent of the first $7,000 earned by the employee. That can get complicated. Like I said, it's usually, they'll just make you deal with the 6.2% or they'll just give you numbers altogether. Mostly, I just want you to be exposed to these taxes and who has to pay them, okay? So the income taxes is the employee, the unemployment taxes is the employer, and the FICA tax is both. Cool? Alright. So state unemployment taxes, a similar thing there. We call that one SUTA. So we got FUTA and SUTA for our unemployment taxes. And the last part of our salary expense, right? Because we're dealing all with payroll here, the salary expense is the employee benefits. We might pay benefits to the employee, we might offer them health insurance, 401(k) plans, things like that. Well, that's part of their compensation and it's part of the salary and wage expense. Okay? So whenever this happens, we might have additional withholdings from the employee, so the employee might take even less on their paycheck and we're going to pay stuff on their behalf. So we'll get liabilities like that. Or we're just going to be directly paying if it's an employer-sponsored healthcare that they pay for the employee's healthcare. Well, that's going to be a salary expense for us, but it's going to be coming off of our books. We're going to be paying those with our cash. Cool? So this is basically everything that goes into salary and wage expense. We've got the actual compensation, the cash that we pay them. Then we've got to deal with the taxes and the employee benefits. Those are the 3 basic components of this payroll stuff. So let's go ahead and dive into an example so you can kinda see it all in action, alright? Let's do that in the next video.

Payroll Liabilities

Alright. So let's try this example here. During April, the employees of Stern Company earned wages of $120,000. The related withholdings include $7,000 for Social Security FICA, $13,000 for federal income taxes, $4,000 in state income taxes. Additionally, costs incurred for federal and state unemployment totaled $180 and $300, respectively. Stern Company also paid $2,500 for an employer-sponsored health insurance program. So, prepare April 30th journal entries, assuming all amounts are paid in May. This last sentence implies we don't have any cash going out, as all these are just liabilities we're going to be accruing. Notice, they told us that the employees earn $120,000; that's their gross pay, the gross pay they have earned, but they're not going to get that amount in cash when they get paid, right? Let's go ahead and deal with this. I like to address these entries in three parts. First, I handle employee compensation, which includes their withholdings for FICA, and their income tax withholdings. Then, I address employer contributions, which covers the employer's part for FICA, as well as federal and state unemployment taxes. Finally, the third entry will relate to employee benefits. We have that health insurance plan to deal with.

Let's start with the employee side. The employees earned $120,000, so we're going to have a salary expense. We have to debit that for the $120,000 that they earned. However, they're not going to receive all of that in cash. Some will be withheld, such as $7,000 for FICA payable, and $13,000 for federal taxes payable. Additionally, $4,000 will be for state taxes payable. This means not all of the $120,000 will be paid directly to employees. We're withholding FICA, federal taxes, and state taxes, effectively holding this money to then pay to the government on behalf of the employees. There's a discrepancy here, with debits exceeding credits, so the balance of $96,000, which is $120,000 minus $7,000, minus $13,000, minus $4,000, is what will actually be paid to the employees, which we'll reflect as salaries payable.

Now for the employer's contributions. The employer is also liable for FICA, at the same rate as the employee, adding another $7,000 to FICA payable. Unemployment taxes for the employer include $180 for FUTA and $300 for SUTA. These too are liabilities the employer has to meet, resulting in a total employer tax expense of $7,480, which we'll add to the salary expense.

The third entry involves employee benefits, specifically the $2,500 paid for a health insurance program. Although typically treated as a salary expense because it is an employee benefit, we haven't paid this amount yet. Assuming payment will occur in May, we'll recognize this as insurance payable.

So, by making these three entries, we manage all payroll liabilities and expenses. In summary, for April, the total salary expense is the $120,000 from the employee's earnings, plus $7,480 for employer's taxes, plus $2,500 for health insurance, totaling $129,980. Remember, the complexity in payroll accounting often lies in correctly attributing and balancing the various employer and employee taxes and benefits.

Alright, why don't we pause here, and I'll encourage you to practice with another exercise related to payroll liabilities in our next video.

Here’s what students ask on this topic:

What is the difference between gross pay and net pay?

Gross pay is the total amount of money an employee earns before any deductions are made. This includes their base salary or hourly wages, overtime, bonuses, and any other earnings. Net pay, on the other hand, is the amount of money an employee takes home after all deductions have been subtracted from the gross pay. These deductions typically include federal and state income taxes, Social Security and Medicare taxes (FICA), and any other withholdings such as health insurance premiums or retirement contributions. Understanding the difference between gross and net pay is crucial for both employees and employers to manage finances effectively.

What are the main types of payroll taxes that employers and employees are responsible for?

The main types of payroll taxes include federal and state income taxes, FICA taxes, and unemployment taxes. Federal and state income taxes are withheld from employees' paychecks and remitted to the government. FICA taxes, which include Social Security and Medicare taxes, are shared between employers and employees, each paying 7.65% of the employee's gross pay. Unemployment taxes, such as FUTA (Federal Unemployment Tax Act) and SUTA (State Unemployment Tax Act), are paid solely by the employer. These taxes fund unemployment benefits for workers who lose their jobs. Understanding these taxes is essential for accurate payroll accounting and compliance with tax regulations.

How do employers calculate FICA taxes?

FICA taxes are calculated based on the employee's gross pay. Both the employer and the employee are responsible for paying 7.65% of the employee's gross earnings. This percentage is divided into two parts: 6.2% for Social Security and 1.45% for Medicare. For example, if an employee earns $50,000 annually, both the employer and the employee would each pay 7.65% of $50,000, which amounts to $3,825. This ensures that both parties contribute equally to Social Security and Medicare, which fund retirement, disability, and healthcare benefits for eligible individuals.

What are FUTA and SUTA taxes, and who is responsible for paying them?

FUTA (Federal Unemployment Tax Act) and SUTA (State Unemployment Tax Act) taxes are unemployment taxes paid by employers. FUTA taxes are used to fund federal unemployment programs and are calculated at a rate of 6.2% on the first $7,000 of each employee's annual earnings. SUTA taxes vary by state and are used to fund state unemployment benefits. Employers are solely responsible for paying both FUTA and SUTA taxes. These taxes help provide financial assistance to workers who lose their jobs through no fault of their own, ensuring a safety net during periods of unemployment.

What are employee benefits, and how do they impact payroll expenses?

Employee benefits are non-wage compensations provided to employees in addition to their regular salaries or wages. These benefits can include health insurance, retirement plans (such as 401(k) plans), paid time off, and other perks. Employee benefits impact payroll expenses because they represent additional costs that employers must account for. For example, if an employer offers health insurance, they may pay a portion or all of the premiums, which increases the overall payroll expenses. Additionally, some benefits may require payroll deductions from the employee's paycheck, further affecting the net pay they receive. Properly managing and accounting for employee benefits is crucial for accurate financial reporting and budgeting.