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Payroll Accounting

Payroll Accounting

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Published by Manna Mahadi

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Published by: Manna Mahadi on Aug 04, 2013
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05/13/2014

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duction to Payroll Accounting
We also have 
, 
,and 
Q&A
 for the topic
Payroll Accounting
.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-relatedaccounts that a typical company will report on its 
 and 
.Payroll andbenefits include items such as:
 
salaries
 
wages
 
bonuses & commissions to employees
 
overtime pay
 
payroll taxes and costs
o
 
Social Security
o
 
Medicare
o
 
federal income tax
o
 
state income tax
o
 
state unemployment tax
o
 
federal unemployment tax
o
 
worker compensation insurance
 
employer paid benefits
o
 
holidays
o
 
vacations
o
 
sick days
o
 
insurance (health, dental, vision, life, disability)
o
 
retirement plans
o
 
profit-sharing plansMany of these items are subject to state and federal laws; some involve labor contracts or companypolicies.
NOTE
:
AccountingCoach.com focuses on
 financial statement 
reporting and not on
income tax return
reporting.
You should consult with a tax professional or review the Internal Revenue Servicepublications to learn how employers and employees are required to report salaries, wages, and fringebenefits for income tax purposes.For the years 2011 and 2012 only, the employee's tax rate for Social Security was 4.2% instead of theusual 6.2%. (The employer's rate remained at 6.2% and the employee and employer Medicare tax ratesremained at 1.45%.)Beginning in 2013 a Medicare surtax was introduced for certain employees (and self-employedindividuals) who have reached a specified amount of earnings. The tax rates and wages bases for federalpayroll taxes can be found at http://www.irs.gov/pub/irs-pdf/p15.pdf  
Matching Principle
 As we proceed with our explanation of payroll accounting, it will be helpful to recall the 
of accounting. This principle will guide us to better understand how payroll and fringe benefitsare reported on financial statements. (We're assuming that a company follows the 
.)The matching principle requires a company to match
expenses
to the accounting period in which therelated
revenues
are reported. If a direct connection between revenues and an expense does not exist,then the expense should appear on the income statement for the accounting period in which itwas 
.Keep in mind that expenses are often
incurred 
(or occur) in a different accounting periodthan when they are
 paid 
.
 
 Let's use three payroll examples to illustrate this point:1.
 
A company employs a student to work a total of five days
from December 26 throughDecember 30, 2012. On December 30 the student submits her time card. The company issuesher payroll check on the next scheduled payday, January 5, 2013.Even though the check is dated January 5, 2013, the matching principle requires that thecompany report the expense and the liability in December 2012 when the work was performed(and the company incurred the liability). Because the student was only employed for the last fivedays of December, the company would not have any wage or fringe benefits expense for herduring January. The paycheck issued on January 5 merely reduces the company's liabilities andcash.2.
 
Let's assume that a company gives its sales manager an annual bonus of 1% of sales, to be paidon January 15, 2013. The bonus amount is calculated by multiplying the sales from January 1through December 31, 2012 times 1%.The matching principle requires that the company report 1% of sales as a Bonus Expense on itsincome statement (and a liability for the total amount owed must be reported on its balancesheet) in every accounting period in which sales occurred in 2012. If the company violates thematching principle by ignoring the bonus expense throughout the year 2012 (when salesactually occurred) and reports the entire bonus amount as an expense for just one day (January15, 2013), every income statement pertinent to 2012 will report too much 
 and theincome statement that includes January 15, 2013 will report too little net income. The matchingprinciple requires that the bonus expense pertinent to the 2012 sales be matched with the 2012sales on the 2012 income statement.If the entries are recorded properly, the balance sheet dated December 31, 2012 will report acurrent liability for the total bonus amount owed to the sales manager. On January 15, 2013(when the company pays the bonus) the company will not have an expense; rather, thepayment will reduce the company's cash and reduce the current liability that was establishedwhen the bonus was recorded as an expense in 2012.3.
 
A company has a vacation plan that will provide two weeks of vacation in the year 2013 if theemployee worked the entire year of 2012. In the year 2012 (when the employee is working) thecompany reports the vacation expense on its 2012 income statement. The company's December31, 2012 balance sheet will report a current liability for the two weeks of vacation pay that wasearned by each employee but not yet taken. In 2013 (when employees take the vacations thatwere earned and expensed in 2012), the company will reduce its cash and its vacation liability.As you learn about accounting for payroll and fringe benefits, keep the matching principle inmind. As the above examples show, the date on which a company pays wages or fringe benefitsis not necessarily the date on which the company reports the expense on its financialstatements.
alaries, Wages, & Overtime Pay
In this section of payroll accounting we focus on the gross amounts earned by the employees of acompany.
Salaries
 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 andlast day of the month) or bi-weekly (e.g., every other Friday) and their salaries are often stated as agross annual amount, such as "$48,000 per year." The "gross" amount refers to the pay an employeewould receive before withholdings are made for such things as taxes, contributions to United Way, andsavings plans.Since salaried employees earn a specified annual amount, it is likely that their gross pay for each payperiod is the same recurring amount. For example, if a manager's salary is $48,000 per year and salariesare 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 salariedemployee's work period usually ends on payday; for example, a paycheck on January 31 usually coversthe work period of January 16
 –
31. This is convenient for accounting purposes if the company preparesfinancial statements on a calendar month basis.
Wages
 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 forthese 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 astaxes, contributions, and savings plans.Employees receiving wages are often paid weekly or biweekly. To determine the gross wages earnedduring a work period, the employer multiplies each employee's hourly rate times the number of workhours recorded for the employee during the work period. Due to the extra time needed to makecalculations for each employee, hourly-paid employees typically receive their paychecks approximatelyfive days after the work period has ended.When the hourly-paid employees have work periods that are weekly or biweekly, but the company'sfinancial statements cover calendar months, the company will likely have to prepare an accrual-typeadjusting entry at the end of the month. If hourly wages are a significant portion of a company'sexpenses, it is critical that the company report the correct amount of wages expense that pertains to the30 or 31 days in the month, not the 28 days in a four-week work period.
Bonuses & Commissions Paid to Employees
 Throughout our explanation, bonuses paid to employees and sales commissions paid to employees willbe considered to be part of salaries.
Overtime Pay
 Overtime refers to time worked in excess of 40 hours per week. Whether or not employees are paid forovertime depends on each employee's job responsibilities and rate of pay
some employees areexempt 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 ishigh, and (2) they can control their work hours. Executives do not need state or federal wage and hourlaws to protect them from company abuse.On the other hand, a design technician earning an annual salary of $18,000 per year is probably not incontrol of her work hours. If she works for an executive who decides to work 60 hours per week, thedesign technician needs to be protected from having to work 60 hours per week for no more pay thanshe would receive for 40 hours of work. This employee is considered a "nonexempt" employee
she isnot exempt from being paid overtime compensation. Some unethical companies have been known toclassify "hourly wage" employees as "salaried" in hopes of making them exempt from overtime pay
federal and state laws exist to prevent such unfair treatment of employees.When processing payroll, don't assume that it's only the hourly paid employees who receive overtimepay
state and federal laws require overtime payments to lower-paid salaried employees. It is alsopossible that some generous employers will give overtime pay to employees who are not required bylaw to receive it.
Overtime Premium
 An 
 refers to the "half" portion of "time-and-a-half" or "time-and-one-half" overtimepay. For example, assume an employee in the production department is expected to work 40 hours perweek at $10 per hour. If the employer requires the employee to work 42 hours in a given week, theextra two hours are paid at time-and-a-half and the employee earns a total of $430 for the week (40hours × $10 per hour, plus 2 overtime hours × $15 per hour). It can also be computed as 42 hours at thestraight-time rate of $10 per hour plus 2 hours times the overtime premium of $5 per hour.
yroll Withholdings: Taxes & Benefits Paid by Employees

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