Are you a startup that outsource your payroll service? Are you planning of hiring a virtual payroll assistant? Using a payroll service company can ease you of compliance woes with global standards around financial, accounting and payroll matters.

Ernst & Young auditor Stephen Dunn wrote in Forbes Magazine explains the categories of payroll service companies and what they do. All three payroll service categories perform the computation of employees’ withholdings and net pay, compilation of payroll accounting records for employer, and preparation of payroll tax returns for the employer.

The first category is called the Payroll Service Providers (“PSPs”) and they prepare payroll tax returns using the employer identification number (“EIN”) of the employer. After proper documentation is made, employer then signs and files the tax returns.

Reporting agents (“RAs”) comprise the second category and they prepare payroll tax returns and use the employer’s EIN. It is an RA who signs in behalf of the employer the payroll tax returns before filing them.

The third category are the Section 3504 agents or simply professional employer organizations (“PEOs”). A PEO, who appear to take over as employer for designated employees, prepares a payroll tax returns using its EIN, and signs and files the returns.

To more about the three categories of payroll service companies, you can go straight to an IRS table to check.

Tips to Smart Payroll Service

The next step for an employer to do is transfer to a PEO funds to cover their net pay and payroll tax withholdings. Other payroll withholdings, such as 401(k) plan contributions or health or dental insurance coverages must also be transferred to an PEO.

The PEO holds the responsibility to pay the net pay to the employee, the payroll taxes to the taxing authorities, and the other withholdings to the persons entitled to them. An RA also receives employer funds while a PSP may receive employer payroll funds.

According to Dunn, the risk is that an outside payroll service firm will receive employer payroll funds but fail to remit them to employees, taxing authorities, or others entitled to them.

Even if an employer contracts the job with a payroll service outsourcing provider or contractor, they remain liable for filing its payroll tax returns and depositing its payroll taxes with the IRS. A contract signed between a payroll service provider and an employer is a create of state law. Under the U.S. Constitution, Federal law, including Federal tax law, is the supreme law of the land.

It is the role of the IRS to prosecute payroll service company principals for failing to pay over to the IRS payroll tax funds that they have received from customers. For the employers, however, this is little consolation because they still must pay their payroll taxes a second time, or to all of us who work our entire careers paying into the Social Security trust fund only to have it compromised by such schemes.

Dunn advises that the IRS wants employers to keep its address as the address of record with the IRS, and not change its adders of record to that of the payroll service company. This way, when issues with an account arise, the IRS can send correspondent to the employer at the address of record and not facilitate an embezzlement of the employer’s employment tax funds.

Employers are urged to use Electronic Federal Tax Payment System (“EFTPS”), which enables them to confirm that Federal tax deposits are being made on their behalf. While Treasury regulations require employers incurring payroll over $200,000 in Federal payroll taxes in a calendar year to use EFTPS, all employers should still use this electronic system.

EFTPS provides employers online access to their tax payment history for 16 months. The machine also enables an employer to make tax deposits which its payroll service company does not make on its behalf, such as estimated income tax payments.

Where to outsource payroll service?

Dunn explained the advantages of going to large payroll service companies. When a payroll service is big, the expectation is that they’re likely to have existed for quite a very long time and they have the capacity to cover a claim caused by their malfeasance. Their experience using effective systems to serve employers may be mature already.

A smaller, local or offshore payroll service company can be approached to assist an employer with their payroll needs but Dunn has set out some guidelines before signing a contract. An employer must verify the company has commitment to fight employee dishonesty. When inquiring about the company in question, employer must check or conduct background check with attorneys, accountants, bankers, and other employers.

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