CHAPTER 9 Withholding, Estimated Payments & Payroll Taxes

1. CHAPTER 9Withholding, Estimated Payments& Payroll Taxes Income Tax Fundamentals 2010 Gerald E. Whittenburg Martha Altus-Buller Student’s Copy 2010 Cengage Learning

2. Withholding Methods • 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. Compute Withholding • 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. Pension & Deferred Income • 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. Estimated Payments • 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. FICA Tax • 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. Federal Tax Deposit System • 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. Federal Tax Deposit System • 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 • 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. FUTA Tax • 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