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Handling other deductions
In addition to amounts you withhold from employees' pay for payroll and income taxes, you may also make other payroll deductions. With payroll deduction, an employee authorizes you to deduct a pre-set amount from his or her salary each pay period.
For example, if you sponsor a defined-contribution retirement plan, you make payroll deductions to fund employees' retirement accounts.
If you sponsor a retirement plan, you generally hire a plan administrator. The plan administrator ensures that your plan is compliant with ERISA, the federal law that governs tax-qualified retirement plans. The plan administrator also keeps track of the amount of contributions that employees make to their accounts. Periodically, it prepares a report that shows amounts and investment performance of employee contributions.
You also make regular payroll deductions if you sponsor a Section 125 plan. Section 125 plans, named for the section of tax code that governs them, are also called cafeteria plans. With a Section 125 plan, you usually hire a third-party administrator (TPA) to keep track of employee accounts. You may wish to administer the plan yourself to control costs. Section 125 plans include dependent care (DCRAs) and health care reimbursement accounts (HCRAs).
You benefit in more than one way by offering a tax-qualified retirement plan or Section 125 plan. Employees can save for their retirements or immediate needs while reducing their tax bills. As a result, they are likely to have a greater sense of financial security. In short, these kinds of payroll-deduction plans are a great employee benefit.
You also benefit financially by offering payroll-deduction plans. For one, you reduce the amount of payroll taxes you pay on behalf of your employees. For example, let's assume your monthly payroll is $100,000. If you deduct $15,000 in employee contributions toward a retirement and cafeteria plan, you owe payroll taxes on $85,000 of payroll. At a combined rate of 7.65%, your monthly payroll tax savings is estimated at $1,150, or almost $14,000 a year.
If you make matching contributions to a retirement plan, you can generally deduct the amount of contributions as a business expense, lowering your income tax bill.
Though harder to measure, a decision to offer these kinds of employee-benefit programs is likely to be rewarded by more satisfied and loyal employees. For additional information on payroll-deduction plans, see IRS Pub. 15
The above information is educational and should not be interpreted as financial advice. For advice that is specific to your circumstances, you should consult a financial or tax adviser.
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