What are payroll deductions?

Payroll deductions are wages withheld from an employee’s total earnings in order to pay taxes, garnishments, and benefits, such as Social Security.

How do payroll deductions work?

Employers use information from the W-4 to calculate employee deductions. Payroll departments can also receive court orders to withhold a certain amount of an employee’s wages for garnishments.

The payroll department typically uses a standard procedure for gathering payroll deduction information, accounting for employees in multiple geographic locations with different state and local tax rates. As a business grows, they may opt to use a payroll and payments platform.

What are common payroll deductions?

A few common payroll deductions include:

• Federal income tax
• State income tax
• Social Security
• Medicare tax
• Insurance policies
• Retirement
• 401(k) plan, IRA, or other retirement savings plan contributions
• Child support
• Union dues
• Wage garnishments
• Supplementary health insurance
• Medical, dental, or vision health insurance plans
• Flexible spending account or pre-tax health savings account contributions
• Life insurance premiums (often sponsored by the employer)
• Charitable or employer-sponsored charitable giving plans
• Short-term disability insurance plans
• Payment for job-specific items, such as clothing, uniforms, or tools
• U.S. Savings Bond purchases
• Purchases of company merchandise (computers or other retired equipment)
• Tuition or professional certification fees

The money taken out of an employee’s paycheck falls into two categories: withholdings and deductions. Withholdings are required by federal and state governments, and deductions may be voluntary or court-ordered.

What are the mandatory payroll deductions?

Mandatory payroll deductions are federal income tax, state income tax, Social Security, and Medicaid. Some cities and counties also require other income taxes.

What are examples of incorrect payroll deductions?

Examples of incorrect payroll deductions include:

• Deducting the wrong amount for taxes
• Taking out too much for benefits an employee doesn’t receive
• Charging employees for company-required equipment
• Failing to process court-ordered garnishments
• Making mistakes with retroactive payments (i.e. overpaying or underpaying an employee due to incorrect calculations)

How to calculate payroll deductions

Companies can calculate payroll deductions in several steps, although a global payments platform simplifies the process for faster, more accurate results. To manually calculate payroll, follow the steps below:

1. Gather employee documents: Employees must complete forms such as the W-4 and I-9 and, sometimes, a direct deposit authorization form, to begin the payroll process.
2. Calculate gross pay: Determine the employee’s total earnings before deductions. Include wages, overtime, bonuses, or commissions.
3. Determine tax withholdings: Calculate the amount withheld for federal, state, and FICA taxes based on the employee’s earnings and W-4.
4. Add in deductions: Include voluntary (e.g. retirement contributions) and involuntary (e.g. garnishments) deductions from the gross pay.
5. Determine net pay: Calculate the net pay by subtracting all tax withholdings and deductions from the gross pay. Finally, add any expense reimbursements to get the final figure.

What are payroll deductions for insurance?

Most employer-sponsored health insurance is paid for with pre-tax gross income. However, employees may have post-tax premium payments. Employees who purchase insurance through a provider and do not enroll in employer-sponsored plans pay post-tax premiums.

How are payroll deductions reported?

Employers need to file a quarterly tax return with Form 941 with the IRS (or Form 944 on an annual basis) to report payroll deductions. This form reports the total amount of taxes withheld from employees’ paychecks for the quarter. Employers must also file the following every year:

• Form 940: Reports federal unemployment taxes withheld
• W-2: Outlines the total amount of income earned and taxes withheld during the tax year for each employee

Employers may have state or local reporting responsibilities, which can vary between jurisdictions. In general, states with an income tax require employers to withhold state (sometimes local) income taxes from their employees’ wages.

Withheld amounts must be reported on the appropriate state tax forms and submitted to the relevant tax authorities. Employers may also need to deduct, remit, and report payments for other state-specific programs, such as disability insurance or state-operated workers’ compensation funds.