Tax Implications of Hiring Employees for Your Startup
Employees can cost your startup more than their base salaries and benefits; their presence can result in payroll taxes, equipment expenses, training expenses and loss of productivity.
Based on your state’s law, it may also be necessary for employees to file state taxes. This includes filing income tax nexus or sales tax nexus taxes in addition to filing federal ones.
If you employ employees, payroll taxes will likely become an obligation of yours. FICA and FUTA taxes withheld from employees’ paychecks must be sent directly to the IRS and other tax agencies; their W-4 form should be completed correctly so that an accurate amount of FICA taxes are withheld from paychecks; you may also have state and local filing obligations as an employer.
Some startups choose to save money on FICA and FUTA taxes by classifying their staff as independent contractors instead of employees, yet this strategy can be risky due to IRS’ close scrutiny of worker classification issues; failure to properly classify workers as either contractors or employees can result in penalties and fines being levied against these businesses.
To gain more knowledge on payroll taxes, speak to both your accountant and the IRS to determine your individual responsibilities. A payroll system is another effective way of streamlining the process and avoiding costly errors.
Business owners must properly classify their workers as either independent contractors or employees in order to minimize tax liabilities and ensure compliance. Hiring employees requires withholding income and social security taxes from wages as well as employment taxes (FUTA and FICA) on those amounts. The IRS offers guidelines for identifying whether someone should be considered an employee or independent contractor, such as behavioral, financial and relationship tests.
Self-employment tax, commonly referred to as SE tax, is a 15.3% tax levied on your freelance earnings or small business profits that pays for Social Security and Medicare benefits for self-employed workers similar to what wage earners withhold from paychecks. You must make quarterly estimated tax payments; failing which penalties could apply. Consult an accountant regularly in order to stay compliant. Also keep records of your taxable earnings to stay on top of reporting requirements from the IRS.
State income taxes must be paid by both you and your employees depending on where they work. Withholding may occur from paychecks; your startup should make quarterly estimated tax payments directly to the IRS.
Most startups do not pay dividends, and if they do, their shareholders must pay self-employment tax on any profits received from that income. Corporations also need to withhold payroll taxes from employees as well as file FICA taxes for those employees working there.
Once you hire new employees, have them fill out a W-4 form so the IRS can accurately withhold taxes from their paycheck. In addition, your business should register with state tax agencies (and possibly local ones) where remote employees reside and promptly remit these taxes owed; for this purpose the IRS provides a list of state income tax filing requirements as well as an information guide specifically targeting small businesses.
The IRS provides employers with various forms to withhold federal income tax, social security and Medicare taxes from employee wages. New hires must also fill out and submit a W-4 form which determines their exact withholding amount based on filing status and allowances.
Startup companies must pay various state sales and use taxes on revenue and business assets such as office supplies and equipment, in addition to collecting and remitting state income tax on employee wages paid out.
Startups should take steps to determine if their products and services are taxable in each state where they operate sales offices or have presence, and conduct a nexus analysis in those locations where sales take place or offices reside. If unsure, an expert should be consulted.