18 payroll accounting lecturer assoc. prof. m.v. leleka
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18 Payroll Accounting
Lecturer Assoc. prof. M.V. Leleka
It's a fact of business–if a company has employees, it has to account for payroll and fringe benefits.
In this explanation of payroll accounting we'll introduce payroll, fringe benefits, and the payroll-related accounts that a typical company will report on its income statement and balance sheet. Payroll
and benefits include items such as:•salaries•wages•bonuses & commissions to employees•overtime pay•payroll taxes and costs
•Social Security•Medicare•federal income tax•state income tax•state unemployment tax•federal unemployment tax•worker compensation insurance
employer paid benefits •holidays
•vacations•sick days
•insurance (health, dental, vision, life, disability)•retirement plans
•profit-sharing plans
Many of these items are subject to state and federal laws; some
involve labor contracts or company policies.
Salaries are usually associated with "white-collar" workers such as office employees, managers, professionals, and executives.
Salaried employees are often paid semi-monthly (e.g., on the 15th and last day of the month) or bi-weekly (e.g., every other Friday) and their salaries are often stated as a gross annual amount, such as "$48,000 per year."
The "gross" amount refers to the pay an employee would receive before withholdings
are made for such things as taxes, contributions to United Way, and savings plans.
Since salaried employees earn a specified annual amount, it is likely that their gross pay
for each pay period is the same recurring amount. For example, if a manager's salary is $48,000 per year and salaries are paid semi-
monthly, the manager's gross pay will be $2,000 for each of the 24 pay periods.
(If the manager is paid bi-weekly, the gross pay would be $1,846.15 for each
of the 26 pay periods.) A salaried employee's work period usually ends
on payday; for example, a paycheck on January 31 usually covers the work
period of January 16–31. This is convenient for accounting purposes if
the company prepares financial statements on a calendar month basis.
Wages are often associated with production employees (sometimes referred to as "blue-collar" workers), non-managers, and other
employees whose pay is dependent on hours worked.
The pay for these employees is generally stated as a gross, hourly rate, such as "$13.52 per hour." Again, the "gross" amount refers to
the pay an employee would receive before withholdings are made for such things as taxes, contributions, and savings plans.
Employees receiving wages are often paid weekly or biweekly. To determine the gross
wages earned during a work period, the employer multiplies each employee's hourly rate times the number of work hours recorded for the employee
during the work period.
Due to the extra time needed to make calculations for each employee, hourly-paid employees typically receive their paychecks
approximately five days after the work period has ended.
Overtime PayOvertime refers to time worked in excess of 40
hours per week (36 h ). Whether or not employees are paid for overtime depends on each employee's
job responsibilities and rate of pay—some employees are exempt from overtime pay and
some are not.
For example, executives are considered to be "exempt"; their
employers are not required to pay them for their overtime hours
because (1) their compensation is high, and (2) they can control their
work hours. Executives do not need state or federal wage and hour laws
to protect them from company abuse.
Overtime PremiumAn overtime premium refers to the "half" portion of "time-and-a-half" or "time-and-one-half" overtime pay. For example, assume an employee in the production department is expected to work 40
hours per week at $10 per hour. If the employer requires the employee to work 42 hours in a given week, the extra two hours are paid at time-and-a-
half and the employee earns a total of $430 for the week (40 hours × $10 per hour, plus 2 overtime
hours × $15 per hour). It can also be computed as 42 hours at the straight-time rate of $10 per hour
plus 2 hours times the overtime premium of $5 per hour.
The income tax system—as well as most state income tax systems—requires employers to
withhold payroll taxes from their employees' gross salaries and wages. The withholding of taxes and
other deductions from employees' paychecks affects the employer in several ways: (1) it reduces the cash amount paid to employees, (2) it creates a current liability for the employer, and (3) it requires
the employer to remit the withheld taxes to the federal and state government by specific
deadlines. Failure to remit payroll taxes in a timely manner results in interest and penalties levied on
the employer; flagrant violations trigger more severe consequences.
Payroll withholdings include:
•Employee portion of Social Security tax•Employee portion of Medicare tax•Federal income tax•State income tax•Court-ordered withholdings•Other withholdings
A key component of payroll accounting is the Social Security tax (The Social
Security tax along with the Medicare tax make up what is referred to as FICA). Social Security tax is withheld from an
employee's salary or wages and is matched by a contribution from the
employer.
In other words, the employer is responsible for
remitting to the federal government two times the amount of Social Security
tax withheld from each employee.
As a result, Social Security tax is both an employee withholding and an employer
expense. (The official title for the system financed by the Social Security tax is Old
Age, Survivors and Disability Insurance, or OASDI.
As the name indicates, this system pays retirement, disability, family, and survivors'
benefits.)
In 2010, the amount of Social Security tax that an employer must withhold from an employee is 6.2% of the first $106,800
of the employee's annual wages and salary; any amount above $106,800 is not subject to Social Security tax
withholdings.
For example:If an employee earns $40,000 in wages in
2010, the entire $40,000 is subject to withholdings at 6.2%, for a total annual
withholding of $2,480.If an executive earns $300,000 in salary in
2010, only the first $106,800 of the salary is subject to the Social Securuity tax of 6.2%, for a total annual withholding of $6,621.60.
(The remaining $193,200 of salary is not subject to Social
Security tax withholdings, although it
will be subject to the Medicare tax discussed
in the next section.)
The amount withheld—and the employer's matching amount—are reported as a current liability until the amounts are
remitted to the government by the employer.
Medicare tax is also withheld from an employee's salary or wages and is matched by a contribution
from the employer. In other words, the employer is responsible for remitting to the federal government two times the amount of Medicare tax withheld from
each employee. As a result, Medicare tax is both an employee withholding and an employer
expense.
(The Medicare program helps pay for hospital
care, nursing care, and doctor's fees for people
age 65 and older as well as for some
individuals receiving Social Security disability
benefits.)
The combination of the Social Security tax and the Medicare tax is referred to as FICA (an
acronym for Federal Insurance Contribution Act).
An employer must withhold 1.45% of each employee's annual wages and salary for
Medicare tax. Unlike the Social Security tax, this percentage is applied on every employee's total salary no matter how large the salary might be—an executive's salary of $300,000 has Medicare tax withholdings of $4,350 (the entire $300,000
times 1.45%).
The amount withheld—and the employer's matching amount—are reported as a current liability until the amounts are remitted to the government by the
employer.
4. State income taxIn most states payroll accounting will involve
a state income tax. In those states an employer is required to withhold the state
income tax that an employee is expected to owe based on salaries or wages.
Like its federal counterpart, the amount withheld is
rarely the exact amount of income tax that the
employee will owe to the state government. (It
should be noted here that some states do not levy a
personal income tax.) 15 % (17 %) - in Ukraina
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