1. CHAPTER 3 SOCIAL SECURITY TAXES Payroll Accounting 2012 Bernard J. Bieg and Judith A. Toland Developed by Lisa Swallow, CPA CMA MS

2. Learning Objectives  Identify which persons are covered under social security law  Identify types of compensation that are defined as wages  Apply current tax rates and wage base for FICA/SECA purposes  Describe different requirements/procedures for depositing FICA/FIT taxes  Complete Form 941

3. Coverage under FICA  FICA (1935)  Federal Insurance Contributions Act  Tax paid both by employees and employers  6.2% OASDI plus 1.45% HI  SECA (1951)  Self-Employment Contributions Act  Tax upon net earnings of self-employed  (6.2% + 6.2%) = 12.4% OASDI plus (1.45% + 1.45%) = 2.9% HI  3 issues  Are you an employee or an independent contractor?  Is service rendered considered employment?  Is compensation considered taxable wages? http://www.ssa.gov/employer LO-1

4. Independent Contractor (SECA) vs. Employee (FICA)  Employer “employs one or more individuals for performance of services in U.S.”  IRS uses common-law test to determine status  See Figure 3-2 on p. 3-5 to determine status  Certain occupations specifically covered  Agent- and commission-drivers of food/beverages or dry cleaning  Full-time life insurance salespersons  Full-time traveling salespersons  Individual working at home on products that employer supplies and are returned to furnished specifications  If employer misclassifies employees, there is a penalty (generally equal to employer’s share of FICA plus income taxes/FICA that were not withheld from employees’ earnings) LO-1

5. More Specific Situations  Government employees – certain exemptions from OASDI/HI depending upon date of hire  In-patriates - may be exempt from FICA (20 countries)  Family employees – in certain situations, children may be exempt from FICA  Household employees  If they make cash wages of $1,700 or more per year  Must pay if domestic employee, like a nanny, is under your control  Additional exemptions - inmates, medical interns, student nurses and workers serving temporarily in case of emergency LO-1

6. Independent Contractor  Persons may be classified as independent contractors if they conduct an independent trade or business  See Figure 3-2 (page 3-5) for characteristics of independent contractors  Hiring agent does not pay/withhold FICA on worker classified as independent  Independent contractor liable for his/her own social security taxes on net earnings LO-1

7. What are Taxable Wages?  Cash  Wages and salaries  Bonuses and commissions  Cash value of meals/lodging provided (but only if for employee’s convenience)  Fair market value of noncash compensation, examples include:  Gifts (over certain amounts)  Stock payments  Fringe benefits like personal use of corporate car  Prizes  Premiums on group term life insurance > $50,000  Other types of taxable wages found in Figure 3-3 (page 3-6) LO-2

8. What are Taxable Wages?  Tips greater than $20 or more per month  Employee can report tips to employer using Form 4070  Employer calculates FICA on tips and withholds from regular paycheck on these reported tips  Must withhold on first paycheck after tips are reported  Employer must match FICA on reported tips  “Large employers” (11+ employees) must allocate  [(Gross receipts x.08) – reported tips]  Don’t have to withhold FICA on allocated tips, only reported tips  Have to show allocated tip income on W-2 and employer files Form 8027 at year-end with IRS showing food/beverage receipts and reported tips  Employer can claim a credit for SS/Medicare taxes paid on certain employees’ tips on Form 8846 LO-2

9. Specifically Exempt Wages  Meals/lodging for employer’s convenience  Sick pay  After 6 consecutive months off (personal injury)  Sick pay by 3 rd party (insurance company/trustee) with specific stipulations for ER match  Pay for difference between employees’ salary and military pay for soldiers/reservists activated more than 30 days  Employer contribution to pension plan  Employer-provided nondiscriminatory education assistance  Job-related educational expenses not subject to FICA  Payments for non-job related expenses up to $5,250 LO-2

10. FICA Taxable Wage Base  OASDI wages cap at $110,100 for 2012  HI wages never cap – since there is not ceiling, employers compute HI tax on full amount of wages  The Patient Protection & Affordable Care Act of 2010 created additional.9% HI tax on taxpayers receiving wages in excess of $200,000 ($250,000 if married filing jointly) beginning in 2013 Interesting note: In 1950 there were 16 workers paying into Social Security for every one person collecting benefits. By 2042, that ratio is projected to be 2 to 1. LO-3

11. Calculating FICA Facts: Tamara earns $132,000/year and is paid semimonthly on the15th and 30th; determine FICA for October 30th payroll  First must find prior payroll year-to-date gross $138,000/24 =$ 5,750.00  Hint: how many payrolls were run before the 10/30 payroll? Multiply that by the gross per payroll  $5,750.00 x 19 payrolls (before today)= $109,250.00  How much will be taxed for OASDI?  $110,100.00 – $109,250.00 = $850.00  OASDI tax is $850.00 x 6.2% = $52.70  How much will be taxed for HI?  HI tax is $5,750.00 x 1.45% =$ 83.38  How much is total FICA?  Total FICA is $52.70 + $83.38 =$136.08 LO-3

12. Another Example - Calculating FICA Facts: Ahmed earns $175,000/year and is paid the first of every month; determine FICA for August 1 payroll  What do we calculate first?  $175,000/12 = $14,583.33 per paycheck  Year to date gross prior to current payroll =$14,583.33 x 7 = $102,083.31  $110,100.00 – $102,083.31 = $8,016.69 taxed for OASDI  $8,016.69 x 6.2% = $497.03 OASDI tax  $14,583.33 x 1.45% = $211.46 HI tax (remember - no cap!)  Total FICA = $497.43 + $211.46 =$ 708.49 LO-3

13. SECA and Independent Contractors  Employee and employer portion of FICA is paid if net earnings exceed $400  Net Earnings = Net income + distributive share of partnership income  If you own more than one business - offset losses and income and calculate FICA based on combined net income  Can have W-2 and self employment income  Count both towards calculating cap of $110,100 for OASDI  Report on Schedule C “Profit or Loss from Business”  Also file Schedule SE “Self-Employment Tax”  Must include SECA taxes in quarterly estimated payments LO-3

14. Calculating FICA with W-2 and Self-Employed Earnings Facts: Celia’s W-2 = $117,768 and her self- employment income = $14,500; how much is her FICA on $14,500?  No OASDI is due because she capped on W-2  HI = $14,500 x 2.9% = $420.50  Total FICA = $420.50 LO-3

15. Calculating FICA with W-2 and Self-Employed Earnings Facts: Felipe’s W-2 = $78,000 and his self- employment income = $36,000; how much is FICA on $36,000?  OASDI ($110,100 - $78,000) = $32,100 taxable OASDI wages x 12.4% = $3,980.40  HI = $36,000 taxable HI wages x 2.9% = $1,044.00  Total FICA due on self-employment = $3,980.40 + 1,044.00 = $5,024.40 LO-3

16. How to Get Set Up with SSA  One employer identification number (EIN) per employer obtained by completing a Form SS-4 (see Figure 3-5 on page 3-15)  Obtain directly from http://www.irs.gov with no preregistration necessaryhttp://www.irs.gov  TELE-TIN to obtain (EIN) immediately at 1-800-829-4933  Can still fax/mail Form SS-4  If purchasing an existing business, new owner needs own EIN  SSN required for everyone that is employed or self-employed  To apply for social security number file SS-5  W-7 completed for aliens who must file a tax return, but are ineligible for social security #  Required for children age one or over who are claimed as dependents on federal income tax return  Employer can verify SS numbers by internet or telephone LO-3

17. Depositing FIT & FICA  FICA & FIT always deposited together  Each November, IRS notifies ER whether they will be a monthly or semiweekly depositor for next calendar year  Monthly - pay FICA and FIT by 15th of following month  Semiweekly – pay within 3 business days; however, if any of the 3 days is a nonbusiness day, add one business day to the required deposit date However, there is an exception: One-day rule states that if $100,000 or more of federal payroll tax liability is due, taxpayer has until close of next banking day  Different requirements for agricultural and household employees  New employers are monthly depositors unless $100,000+ of liability triggers one-day rule and converts them to semiweekly Amount deposited may be affected by safe harbor rule (see p. 3-19) LO-4

18. Credit Against the Required 941 Deposits  Consolidated Omnibus Budget Reconciliation Act (COBRA) gives employees involuntarily terminated between 9/1/08 – 3/31/10 the option to continue coverage under company’s group health insurance  Can continue coverage up to 15 months  Government subsidizes 65% of premium cost  Company is ‘reimbursed’ its 65% by taking a deduction on Form 941  Employee pays 35% of premium LO-4

19. How to Deposit FIT and FICA Electronically  Employers must use EFTPS (Electronic Federal Tax Payment System)  Most employers must use EFTPS – only exception is for businesses owing $2,500 or loss in quarterly tax liabilities  Enroll in EFTPS Online at http://www.eftps.govhttp://www.eftps.gov  All new employers automatically pre-enrolled  Two methods  EFTPS (direct) – withdraw funds from employer’s bank account and route to Treasury  EFTPS (through financial institution) – employer instructs his/her bank to send payment directly to Treasury LO-4

20. How to Report and Reconcile FIT/FICA  File Form 941 (Employer’s Quarterly Federal Tax Return)  Download at www.irs.gov/formspubs/ or call 1-800-829-3676www.irs.gov/formspubs/  Due on last day of month following close of quarter  January 31, April 30, July 30, October 31  If that falls on weekend or legal holiday, file next business day  Payments made with Form 941 if taxes for quarter are less than $2,500 or making monthly deposit (attach 941-V)  Electronic filing options available for employers who meet requirements  Complete an e-file application & then electronically submit 941 or apply for a PIN on IRS website and file electronically through third-party transmitter LO-5

21. Employer’s Annual Federal Tax Return  Employers who owe $1,000 or less per year may file Form 944  Employer must have made timely deposits for prior two years  Can also be used by new employers paying wages of $4,000 or less per year  Employer should contact IRS and express interest and IRS will respond with notification letter  Employer may chose to file Form 941 quarterly instead – need to notify IRS  Can correct errors on previously filed Form 941 by filing Form 941-X LO-5

22. Types of Penalties  Failure-to-comply penalties will be added to tax and interest charges; negligence can also result in fines/imprisonment  Interest set quarterly, based on short-term Treasury bill rate  Penalties imposed for following:  Not filing employment tax returns on time  Not paying full taxes when due  Not making timely deposits  Not furnishing W-2s to employees on timely basis  Not filing information returns with IRS on time  Writing bad checks Note: IRS estimates a full 30% of all employers incur penalties for insufficient/late deposits of payroll taxes!! LO-5