1. Income Tax Fundamentals 2010 Gerald E. Whittenburg Martha Altus-Buller Student’s Copy 2010 Cengage Learning

2.  Employer calculates income tax withholding from employees’ paychecks based on their Form W-4 ◦ Pay includes salaries, bonuses, commissions ◦ W-4 completed by employee, tells employer:  Number of allowances claimed by employee  Single, married, or married but withhold tax at higher single rate  Exempt status – employee can only claim exempt if he/she had no income tax liability last year and expects none this year ◦ If no W-4 filed, employer must withhold at highest rate 2010 Cengage Learning

3.  To compute amount to withhold from pay using percentage method ◦ Multiply number of allowances found on W-4 by allowance amounts ◦ Subtract that amount from employee’s gross wages ◦ Then, use IRS tables to calculate federal income tax based on wages after allowance amounts  Found in textbook in Appendix C  IRS also publishes Circular E – “Employer’s Tax Guide” 2010 Cengage Learning

4.  Withholding is mandatory on pension and other deferred income payments  Rates used depend on nature of payment ◦ Rates on periodic payments based on taxpayer’s W-4 ◦ FIT withholding at either flat 10% (or 20% for certain distributions) 2010 Cengage Learning

5.  Self-employed taxpayers must make quarterly estimated tax payments if ◦ Annual payment due for the year is ≥ $1000 (after withholding) ◦ Quarterly payments due April 15, June 15, September 15, and January 15 of next year  Total annual estimated payments is lesser of ◦ 90% of current year tax or ◦ 100% of prior year tax or ◦ 90% of current year TI, AMTI & annualized self employment (SE) income  Exception: if AGI > $150,000 for prior year, then annual required payment = 110% of prior year tax For 2009 only, qualified small business owners get a break on amount required to be paid in for estimated tax payments 2010 Cengage Learning

6.  Federal Insurance Contributions Act (FICA) was legislation intended to provide retirement and disability benefits for American workers and their families  FICA comprised of two taxes ◦ Social Security - 6.2% of first $106,800 of gross wages ◦ Medicare - 1.45% of total gross earnings, with no cap 2010 Cengage Learning

7.  Employer withholds both income tax and FICA from paychecks  Must deposit these taxes either monthly or semiweekly (IRS determines by analyzing deposits in lookback period) ◦ Monthly depositors make deposit by 15th of following month  All new employers are automatically monthly ◦ Semiweekly depositors make deposit either Wednesday and/or Friday (depending upon when payroll is run)  Very small employers with federal payroll tax liabilities of $1,000 or less can file/pay annually by using a Form 944 2010 Cengage Learning

8.  Deposits made either at authorized depository (select banks) with a Form 8109 coupon or may be electronically deposited via Electronic Federal Tax Payment System (EFTPS) ◦ Some employers must deposit using EFTPS  Form 941 (Employer’s Quarterly Federal Tax Return) must be accompanied by payroll taxes not yet deposited for quarter Note that if liability is less than $2,500, employer may skip monthly deposits and pay with Form 941 2010 Cengage Learning

9.  Self-employment tax is the same as FICA, except self-employed taxpayer pays both shares  Therefore, rates are: ◦ Social Security (OASDI) is 12.4% of first $106,800 of net self-employment income ◦ Medicare is 2.9% on total net self-employment income  If taxpayer has both W-2 wages and self- employment income, the $106,800 limit applies to the combined earnings ◦ FICA is not required if net earnings < $400 ◦ May take a Deduction for AGI for 1/2 of SE tax paid 2010 Cengage Learning

10.  Federal Unemployment Tax Act (FUTA) requires employers to pay tax to administer state unemployment programs  Employer pays 6.2% up to first $7,000 per employee per year ◦ However credit of up to 5.4% for state unemployment tax is taken against the 6.2%  Therefore, net FUTA rate =.8% (6.2% - 5.4%) ◦ Must deposit quarterly if over $500 ◦ Must file annual report Form 940 2010 Cengage Learning