This 3 part series is adapted from a Webinar which I instructed recently. It was such a hit with so many who attended I wanted to provide my narrative to our readers in the form of articles rather than simply provide the ‘talking points’ in a copy of the PowerPoint presentation. In Part 1, we looked briefly at the history of computerized payroll processing as well as discussing the most significant payroll myth of all, “payroll rules and regulations don’t apply to me or my business.” We also examined the first 3 of the 15th Myths presented during the webinar: #1 – “They’re Not Employees, they’re Independent Contractors!!”, # 2 – “I don’t need W-4 forms, do I?”, and # 3 – “Can late or wrong ‘tax deposits’ trigger an IRS employment tax audit?”.
In this article (Part 2) we will examine the following myths:
Myth # 4 – “All of my employees are on ‘salary’, I never pay overtime.”
Personally I can’t understand how anyone with that kind of attitude can even hire, or retain, any employees. In reality very few employees working at a small business fit the requirements to be truly salaried employees without considerations for the Fair Labor Standards Act (FLSA) which is commonly known as the ‘Wage and Hour’ or ‘Overtime’ laws.
Recently President Obama announced that his administration would in fact be ‘knuckling down’ in enforcement of the rules regulating ‘overtime’ by helping to insure that employees are properly re-classified as being eligible for overtime. (In other words, improper categorization of employees as FLSA Exempt, would be cracked down on by the Labor Department.) If you would like more information on President Obama’s initiative on this topic I suggest you read this newsletter content which summarizes the various proposed changes to DOL rules regarding overtime.
So for any business a major question is whether their employees must be paid overtime or not. As I just mentioned the U.S. Department of Labor is responsible for the enforcement of the rules set forth under the Fair Labor Standards Act. This means that ultimately they determine if an employee is either ‘exempt’ from the provisions of the act, or is a ‘non-exempt’ employee subject to the provisions of the act.
Most workers in small to medium businesses are pair by the hour, or by the day, and they are non-exempt and must thus be pair overtime when applicable. But the rules are complex, and they are also compounded by the fact that the act allows States to pass their own regulation, and where any states’ provisions are more stringent (which means they favor the employee) than the federal provisions, the state provisions shall apply. So employers must be aware of not only what FLSA says, but what the State regulations require for each state in which an employee performs any work duties.
The problem lies in the fact that many employers simply do not know the rules. For example an employer may believe that simply because they designate someone as a supervisor or foreman that they are ‘exempt’, or because they choose to pay someone a ‘flat amount of pay’ (an annual salary) that the person is not eligible for overtime.
While much of the time the focus on differentiating an exempt from a non-exempt employee centers around areas such as managing others or the authority to hire, promote, or terminate the employment of others, this is NOT the sole determining factor. Did you know that an otherwise ‘exempt’ employee, by the definition of ‘managing’ others, or even having the ability to hire and fire, is NOT exempt if that employee performs the same work as any non-exempt employee for more than 20% of their total time?
Let’s look at an example of this: let’s say you have two people working in your Accounts Payable office, and one of them is your Accounts Payable Supervisor and the other is your Accounts Payable Clerk. Even if the Supervisor has the authority to hire, give raises or terminate the Clerk, if the Supervisor performs essentially the same A/P duties as the clerk more than 20% of the time, then they are not ‘exempt’ and the Supervisor must be considered as eligible for overtime in exactly the same way the Clerk is eligible for overtime.
A “non-exempt” employee can in fact be paid a per-day salary, but must still be paid overtime after working more than 40 hours in a week (unless state rules are more stringent).
Nothing is ever simple though, this is government folks, so there are lots of other specific requirements that define and regulate “administrative” and “professional” employees, and, as with all federal employment rules, there are exceptions for certain specific industries and jobs. One rule (or set of rules) does not fit all, you have to figure out exactly which regulations apply in case of every position for which you employee someone.
You have got to learn the rules, apply them correctly, and apply them consistently. Never think your mistakes won’t catch up with you. A disgruntled worker stairs at the overtime poster (required for every workplace by DOL/FLSA rules) every single day they are work and tells themselves “I’m getting shafted on my pay, I should be getting paid overtime, and I’m not”.
Even if they don’t report you as violating FLSA to the DOL right now, just wait till they leave your employment….the complaint is on its way, it’s just a little delayed.
Myth # 5 – “Overtime hours and rates only apply to interstate commerce.”
We can see that Myth 5 is closely akin to Myth 4 because they both deal with overtime. The truth is that many small employers are under the impression that overtime requirements and rates only apply if the business has employees involved in interstate commerce. Well just accept a credit card from an out-of-state customer, or receive merchandise from an out-of-state supplier and you are involved in interstate commerce as least as far as the FLSA is concerned.
Employees must be paid according to all of the mandates of the Labor Department and the states. Are you calculating the overtime rate properly?
So you have an employee who goes on long-haul deliveries, and while they are on those deliveries (across the country) they stop and make sales from the back of their truck. Even though their employment contract is based in the home state of your business, the fact that they conduct business in another state, on your behalf, means that they are conducting interstate commerce. The work they perform within any state where they conduct such interstate commerce activities is subject to that states’ regulations.
Another common business practice designed to reduce ‘cash costs’ of overtime pay is the granting of compensatory time or “comp time” (time off) instead of actually paying overtime as legally required. In most situations his is illegal. Under the FLSA, only state or government agencies may legally offer comp time, and even then it’s subject to a raft of exclusions. Some states do allow it, but it’s very tricky, usually only allowing comp-time among governmental personnel who do not provide services directly to the public.
Everyone knows hourly employees get time-and-a-half for overtime. Right? Again the answer is: Not always. Overtime is not always 1.5 times the employee’s hourly rate. In fact, you must add in other payments, such as production bonuses or shift differentials, in calculating an employee’s overtime rate. And the rules change with state regulations as well.
Go to California and the rules change. You must follow any state’s Wage and Hour regulations if they are more generous than the federal rules. In some states Overtime must be calculated on time in excess of 8-hours per shift.
Myth # 6 – “Do I really need to file Form 1099 if my contractors are providing ‘value’ as well as ‘services’?”
IRS regulations specify payments made to vendors or contractors in the amount of $600 or more for services. Believe it or not a great deal of computer time is spent ‘matching’ 1099 records with both Income and Expense records of the millions of US taxpayers including small businesses.
Each year, IRS audits examine the validity of 1099’s reported to them and interpreting the regulation regarding ‘incidental value’.
For example if you pay a contractor for to paint your offices, and you pay them a flat amount, is that amount reportable under 1099 regulations or not? You may want to argue that the contractor was providing ‘value’ in excess of their services and because you cannot segregate the two that this is not reportable – well you would be wrong. Value, even goods, provided incidental or inclusive within a service are reportable under 1099.
The IRS finds that businesses make countless mistakes in the forms required for independent contractors. If your business provides services and is not incorporated, you may receive a Form 1099-MISC from your own clients totaling their payments to you for the tax year.
Whatever the structure of your own business, however, you are required to send a Form 1099 to report all payments for services of $600 or more to all of your own independent contractors. None is required for payments to a corporation or for goods.
But there are exceptions to the ‘corporate’ rule, (most notably the rules regarding ‘lawyers’) so be sure to review 1099 guidelines for specific.
1099 forms are due to your independent contractors every year by January 31 and to the IRS by February 28. And there are ‘stiff’ penalties for not sending them on time.
The simplest way to get the information you need for them is to send your vendors a Form W-9 (before paying their invoice!) which requests name, address, and Tax ID Number (either Social Security or Employer ID Number). Be sure to transfer the information carefully. The IRS says mismatching names to taxpayer identification numbers is the most significant mistake occurring on Form 1099.
You can get notified that information is incorrect for a contractor and that you will be required to do ‘backup withholding’, you can even get this kind of notice when the contractor information is correct. You have an obligation to comply with any backup withholding requirements for which you are notified by the IRS.
Myth # 7 – “Aren’t FUTA and SUTA the same tax?”
To answer this question I should tell you that I have a fundamental view of Government that goes something like this: “The basic and fundamental purpose of Government is to spend money, so why would Government ever have One Tax when they can have Two Taxes for the exact same purpose at twice the expense and twice the bureaucracy?”
That pretty well answers the question, doesn’t it?
Unemployment taxes are employer-paid taxes intended to run state-based programs created under federal mandate. The Social Security Act of 1935 required all states to set up unemployment compensation programs, and the Federal Unemployment Tax Act (FUTA) was passed to assist states in funding them. If an employer fails to pay their State Unemployment Tax (SUTA) on time, they can lose the federal unemployment credit at the end of the year, which reduces their FUTA tax.
Each state runs their own unemployment program, and each state has their own rules regarding that program, including employer contribution rates, wage base, maximum wage base, etc. Employers need to insure they are paying the correct rate for their company, and using the correct wage base maximum when calculating the wage base upon which the tax is based.
Unemployment information is another area where employers are required to provide notice to their employees, typically by posting a poster of applicable rules. An employer who fails to provide notice can be sued if an eligible employee fails to file a timely claim because their employer didn’t comply with the notice requirements and they were unaware they had the right to file such a claim.
Myth # 8 – “I’ll go to jail before I garnish the wages of my employees!”
I once had a payroll clerk say that exact thing to me when I ask her if she needed help setting up a garnishment. The funny part about it was that she worked in the state office of personnel’s payroll department and the garnishment was from the Child Welfare department. Typical government!
Because most garnishments are the result of some type of ‘court order’, you can in fact go to jail for not garnishing wages when required to do so.
To convicts behind bars, the first convict asks, “So what are you in jail for, murder, robbery, what?” The second convict mumbles the answer, “Oh I didn’t garnish an employee’s wages”
Now I ask you, where do you think that puts you on the jail totem pole?
As part of your payroll, you may have to pay money your employee owes to a third party. Long ago, the government decided that the best way to collect certain court-determined debts was to go to the source, the employer, and collect the money directly from the employee’s paycheck.
If someone wins a money judgment in court against one of your workers, they can garnish the wages of that worker. You MUST withhold it, write a check, and send it to the third party. Similar rules apply to workers with court orders to pay child support through payroll deductions. Certain levies can also be applied against a worker’s wages.
This can be a quagmire for employers of every size. There are a lot of rules for withholding, for how much of their pay an employee must be allowed to retain, and for which claim must be paid first, if there are multiple claims against the workers’ wages.
Naturally, the states also get involved, typically requiring child support be paid first. But, if a federal tax levy arrives in your office first, it typically gets deducted first. Except for the exceptions, naturally.
Employers have to stay abreast of all of these rules and regulations in order to stay compliant and thus ‘keep themselves’ out of jail over their workers’ garnishments.
Myth # 9 – “What do you mean that is a ‘taxable inclusion’?”
Taking the corporate jet on vacation? How about driving the business truck home on weekends?
What about the ‘value’ of that Christmas gift you gave 10 year employees? The tax man cometh, and he taketh away.
You need to withhold taxes from more than wages. All gifts, prizes, bonuses, and awards employees receive are taxable, including any use of a company car.
Unlike wages, there are several ways to withhold taxes from these items. Pay the amount on a regular paycheck, and it’s taxed at the normal rate. Pay it separately, and you must withhold at the supplemental tax rate (25% in 2015). Or “gross it up,” paying the tax due on the gift yourself, but that becomes income, too!
Don’t let the complexities stop you from giving those gifts and awards. We all know for many small businesses how critical incentives are, just remember to withhold taxes for them.
Be on the look out for for the conclusion of this 3-part series when we look at the remaining Payroll Myths and Mistakes.