Payroll Taxes
It’s essential for businesses to maintain their profit and loss statements, income statements, and balance sheets to ensure accurate tracking of income, expenses, and net profit. While many businesses manage most of these financial documents effectively, balance sheets often receive less attention, leading to inaccuracies. Since a balance sheet reports assets, liabilities, and equity—elements that directly impact the profit and loss statement—any errors can distort the overall financial picture, including net profit.
One common area where balance sheet management falters is payroll liabilities, particularly payroll taxes. These liabilities are unique because they involve both expenses that should appear on the profit and loss statement and amounts that must be recorded on the balance sheet as obligations to be settled by the business.
Payroll liabilities always have two sides. The first side is what’s being paid to the vendor, typically the IRS or the state government, in the case of payroll taxes. The other side is what’s being incurred or withheld from employee paychecks. Incurred liabilities fall under employer-only taxes such as federal unemployment, state unemployment, and, depending on the state, other taxes that are specific to that state, such as California’s requirement that employers contribute to the Employment Training Tax.
In most cases, employees will not contribute to these, and, at minimum, a company is the sole payee for federal and state unemployment. Some exceptions exist, such as in Alaska, New Jersey, and Pennsylvania, where employees contribute to state unemployment. There’s nothing a company can do to avoid having to pay these; just by paying employees, a business is responsible for paying for unemployment.
Federal unemployment is a standard rate, with employers being required to pay 6% on the first $7,000 paid to each employee in a given year as of January 2025. State unemployment varies from state to state on both the rate and the wage base and is affected by different factors unique to each state and business, e.g., the number of employees who have had an unemployment claim. Click here to find information on doing business, taxation, and links for employers in each state.
Where things get tricky is with the expense side of unemployment; in most cases, all of it will be expensed so long as the payroll integration is set up correctly. When payroll is run, the federal and state unemployment should show up on the profit and loss as an expense while also showing up on the balance sheet as a liability until it’s paid.
Generally, states require unemployment to be paid monthly and typically require a state-specific form to be filed with the payment at least quarterly. The federal government requires that a business file Form 940 and make their unemployment payment in January of the following year.
Employee-only taxes are another aspect of payroll that businesses need to manage. These typically consist of federal and state income withholdings from employees’ paychecks—this is the tax they report when filing their tax returns. The amount of income tax withheld from each employee will depend on how they have filled out their W-4
While these withholdings are the responsibility of the company to file and pay, they are not an expense that the company has. The employee is having the wages paid to them reduced, and the company is simply holding onto that money to pay them to the government on the employee’s behalf. That is to say, if the company pays an employee $2,000 and they have $200 withheld from their paycheck, they’ll receive $1,800.
What this means for the books is that the total wage of $2,000 would be recorded as an expense on the profit and loss while the $200 in withholding taxes would be recorded on the balance sheet. This would then be paid to the federal and state governments.
However, how often they’re paid is determined by the agency and is generally dependent on the size of the company and the amount a company pays in payroll every year. When these are paid, the liabilities should be reduced to zero. While payment schedules can vary from quarterly to semi-weekly, the IRS requires a Form 941 to be filed quarterly, while states vary on their filing frequencies.
Some payroll taxes require the employer and employee to contribute, such as FICA taxes, which consist of Social Security and Medicare. The FICA taxes are a 50/50 split, with the current rates as of January 2025 totaling 15.3% of an employee’s gross wages. Employees will have 7.65% of their wages withheld, and the company will pay a matching 7.65%. The portion withheld from an employee’s paychecks will be recorded the same as the withholding taxes, as this tax also is not an expense to the company but an expense of the employee’s that the company is paying on their behalf.
However, the portion that the employer pays would be recorded as an expense on the profit and loss sheet while still needing to be recorded on the balance sheet as a liability. Going back to that $2,000 paycheck and rounding down the FICA tax to 7.5%, the employee would have $150 deducted from their paycheck, reflected on the balance sheet, and the employer would contribute their own $150, making the total for that liability $300.
The federal government has two deposit schedules for paying FICA taxes – monthly and semi-weekly, while the payments and filing would be reported on Form 941 with the income taxes. Certain states will have state-specific taxes that are the responsibility of both the employee and the employer, such as Washington’s Paid Family and Medical Leave.
Understanding the employee’s responsibility regarding any tax is crucial. Anything that’s an employee’s responsibility will be listed under payroll or employee compensation on the profit and loss statement, not under payroll tax expenses because those are not company-incurred expenses.
Those are employee-incurred expenses that the company is simply paying on behalf of the employee—recording these on the balance sheet reflects the money the company is holding until those accounts are paid. Any payroll taxes that are the business’ share or sole responsibility are what would be categorized under payroll tax expenses.
If a company is looking to calculate how much an employee will cost them, the general rule of thumb is that each employee will cost an additional 10-15% in addition to their salary. The variation of this extra cost will mainly come from the unemployment rate set by the state for the company.
To break this down, if an employee is getting paid $2,000 and the company’s portion of taxes equates to 10%, the $2,000 paycheck would go on the profit and loss as a payroll expense or employee wages, and then $200 would go on the profit and loss under payroll taxes. The total cost to the company for that employee for one paycheck would then come to $2,200.
While on the balance sheet, $200 would be recorded under payroll tax liabilities for what the company owes as an employer, this is already accounted for as an expense on the profit and loss and does not factor into the overall cost of the employee—this is just a reflection of what the company now owes to the government agencies.
Check out this YouTube video to see an example of how these are recorded on a set of books. It recaps everything discussed in this blog but also provides a look at a profit and loss statement and balance sheet later in the video.
If you or someone you know needs help with sorting out their payroll taxes, whether that’s setting them up for the first time to ensure accuracy from the start or requiring assistance with cleaning up mistakes from the past, don’t hesitate to reach out!
Waterford Business Solutions is here to help you navigate your books in all areas of accounting, and we’d be happy to work with you to help you understand and become a master of your finances. You can schedule a free consultation with us online, email us at info@waterfordbusiness.com, or call our office at 864-351-0852!