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The key to payroll procedures for tax withholding is to keep things organized. Make sure all employees have submitted W4 forms and collect time cards and other earnings records. To calculate payroll taxes you need IRS Publication 15 (Circular E) plus any state or local tax instructions. Finally, you should have a list of each employee's non-tax withholdings such as health insurance premiums and retirement plan contributions, divided into those that are deductible for tax purposes and those that are not.
Next, total an employee's gross wages. Gross wages includes hourly pay or salary plus tips, commissions and other taxable compensation. Don't include reimbursements for business expenses. Those should be added to an employee's paycheck after all tax computations are completed. -
Calculating federal income ax withholding is a two-step process. First, multiply the employee's claimed withholding allowances by the amount of one allowance for the length of your pay period and subtract the result from gross wages. For example, if an employee has earned $1000 for two weeks and claims 2 allowances, multiply $140.38 (2009 biweekly allowance) by 2 and subtract from $1000 (leaving $719.24). Next, subtract tax deductible items like contributions to retirement accounts. The result is the employee's taxable earnings for federal income tax purposes.
Federal income tax withholding is figured on a sliding scale so the more the employee earns the higher the tax rate. Use the tax tables in Publication 15 (Circular E) or updated supplements. For example, if the biweekly taxable income is $500, deduct zero tax for the first $102 and 10 percent of earnings from $102 to $400 ($29.80). Deduct 15 percent of the amount over $400. In the example this is 15 percent of 100 or $15.00. Total the amounts to find the federal income tax to be withheld ($29.80 plus $15.00 = $44.80). Again, these figures are based on the 2009 tables. -
Each state or local government that levies income taxes has its own formula. Contact the appropriate department of taxation or revenue to obtain instructions. Follow these instructions to calculate state/local income taxes.
For Social Security multiply the employee's gross wages by 6.20 percent up to the annual earnings cap (this amount changes each year). Once an employee's year-to-date earnings reach the cap, do not deduct any further Social security tax. The Medicare tax is 1.45 percent of all gross wages with no income cap. - Once all withholding taxes have been computed, subtract each tax amount from the employee's gross wages. Subtract non-tax items to be withheld and add any compensation for business expenses if you include these with the paycheck. The result is the employee's net pay. Make out the paycheck and enter each amount on the paycheck stub.
