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Payroll Compliance for Small Businesses: Common Mistakes and How to Avoid Them

Small businesses are often faced with the challenge of managing payroll, and errors can occur, resulting in penalties and interest charges that can be costly for the business. According to the Small Business Administration, payroll taxes are the most common compliance issue for small businesses, with a majority of small business owners reporting that they have had trouble understanding and complying with payroll tax regulations.

 

1. Failing to deposit and report payroll taxes on time

One of the most common payroll errors that small businesses make is failing to deposit and report payroll taxes on time. The IRS imposes penalties for late deposits and late filings, which can add up quickly. The penalty for failing to deposit payroll taxes on time is 2% per month, with a maximum penalty of 15%. The penalty for failing to file payroll tax returns on time is 5% per month, with a maximum penalty of 25%. This means that if a small business is late on both its deposit and filing, it could be facing a penalty of 40% of the taxes owed.

 

2. Failing to accurately calculate and withhold payroll taxes

Another common payroll error is failing to accurately calculate and withhold payroll taxes. This can happen when an employer doesn’t understand the tax laws or when they use incorrect tax tables. If the IRS finds that an employer has under-withheld taxes, they will be liable for the unpaid taxes, plus interest and penalties. In addition, if an employer is found to have willfully under withheld taxes, they can face criminal charges and fines.

 

3. Misclassifying employees

Inaccurately classifying employees as independent contractors can also lead to payroll errors and penalties. Employers are required to withhold taxes for employees, but not for independent contractors. If the IRS determines that an employee has been misclassified, the employer will be liable for unpaid taxes, plus penalties and interest.

It’s not only the federal government that penalizes businesses for payroll errors, states also can impose penalties. Some states have their own wage and hour laws that employers must comply with, and failure to do so can result in fines or penalties.

What will payroll errors cost my business?

The cost of penalties and interest related to payroll errors can be significant for small businesses. Not only can it lead to financial strain, but it can also negatively impact the business’s reputation. To avoid these costly penalties and interest, it’s essential for small business owners to educate themselves on payroll tax laws and regulations, and to ensure that their payroll processes are accurate and compliant.

One way to avoid payroll errors and penalties is to outsource payroll to a professional payroll service provider. These companies have the expertise and experience to ensure that payroll is processed accurately and on time and that all required tax forms are filed correctly. Additionally, they can help small businesses stay up to date with changing regulations and laws.

In summary, payroll errors can be costly for small businesses, leading to penalties and interest charges that can strain the business financially and harm its reputation. Common payroll errors include failing to deposit and report payroll taxes on time, failing to accurately calculate and withhold payroll taxes, and misclassifying employees as independent contractors. To avoid these errors, it’s essential for small business owners to educate themselves on payroll tax laws and regulations, and to ensure that their payroll processes are accurate and compliant. Outsourcing payroll to a professional payroll service provider can also help small businesses avoid errors and stay compliant with changing regulations and laws.

Christina Hageny

Christina Hageny

President - Valor Payroll Solutions

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