Charles Scone owns and operates a small construction company. Like most companie
ID: 2561207 • Letter: C
Question
Charles Scone owns and operates a small construction company. Like most companies in the construction business, his company experiences a high level of employee turnover. However, he finds it relatively easy to replace employees because he pays above market wages. He attributes his ability to pay high wages to a little accounting trick he discovered several years ago. Instead of paying his half of each employee’s FICA taxes to the government, he decided to pay that money to the employees in the form of higher wages. He then doubles their FICA tax payroll deduction and uses half of the deduction to pay his share of the Social Security tax. For example, suppose he plans to pay an employee $2,000 per month. Technically, the employee would have to pay 7.5 percent to FICA and Medicare tax ($2,000 x .075 = $150) and Mr. Scone’s company would have to match the $150 payment. Instead of doing it this way, he devised the following plan. He pays the employee $2,150 and then deducts $300 for FICA and Medicare tax from the employee’s salary. The end result is the same. Either way the employee ends up with net pay of $1,850 ($2,000 - $150 = $1,850 or $2,150 - $300 = $1,850). Also, the government gets $300 FICA tax, regardless of how it gets divided between the employees and the employer. Mr. Scone is convinced that he is right in what he is doing. Certainly, it benefits his company by allowing him to offer higher starting salaries. Further, he believes it is a more honest way of showing the real cost of Social Security and Medicare.
Please discuss Mr. Scone’s actions with this “method”. Be sure to include your thoughts about the correctness of this accounting technique, the ethical considerations and the legal considerations of his actions.
Explanation / Answer
FICA - An employer's federal payroll tax responsibilities include withholding from an employee's compensation and paying an employer's contribution for Social Security and Medicare taxes under the Federal Insurance Contributions Act. FICA taxes are unique, there is required withholding from an employee's wages as well as an employer's portion of the taxes that must be paid.
The federal law that requires you to withhold three separate taxes from the wages you pay your employees. FICA is comprised of:
a) 6.2 percent Social Security tax
b) 1.45 percent Medicare tax
The law also requires employer to pay the employer's portion of two of these taxes. So total 15.3% of taxes should be paid to government towards FICA Tax (6.2 employee portion + 6.2 employer portion of social security tax = 12.4 percent total and 1.45 employee portion + 1.45 employer portion medical tax = 2.9 percent total).
Social Security wage cap. Employer's obligation to withhold and to pay the Social Security tax for an employee ends once employers paid that employee total wages of $$127,200.
Medicare wages cap. As there is no ceiling on the 1.45 percent portions of the Medicare tax, you must continue to withhold and to pay the Medicare tax regardless of how much you pay an employee
Mr. Scone’s deducts double the FICA payroll tax (15.3%) than what is supposed to be deducted (7.65%) form employees and he uses half the deduction to pay his share of the Social Security tax which is incorrect.
Following are methods employer should fallow and any deductions in excess of 7.65% towards FICA payroll.
1) Employer will need to pay back employee for the excess deduction amount. Employer give this amount back to the employee in a pay check or as a separate check.
2) If the mistake was included in a Form 941 (quarterly payroll) report, employer needs to file a correction form (941-X) to receive a refund.
3) Deduct the over-payment of Social Security taxes from the employee's payroll tax record. The W-2 Form for an employee who earns more than $106,800 should show (1) the total amount of pay earned for the year and (2) the total Social Security wages as $106,800. The Medicare wages will be the same as the total amount of pay.