If you outsource payroll, what is still your responsibility?

Summary

The work moves; the liability usually does not. The IRS says employers remain responsible for withheld income tax and both halves of Social Security and Medicare, and if a payroll company fails to deposit, the employer still owes the money. The main exception is a certified professional employer organization (CPEO), which takes on that liability in certain situations.

What the IRS says about third-party payroll

The IRS page on outsourcing payroll is blunt: the employer answers for the income tax withheld and for both the employer and employee shares of Social Security and Medicare. It adds that in the event of default by a third party, "the employer remains responsible for the deposit of the federal tax liabilities and timely filing of returns."

How much stays with you depends on the arrangement. A standard payroll service provider leaves the liability with the employer. A reporting agent, authorized on Form 8655, makes deposits and filings on your behalf. A section 3504 agent is appointed on Form 2678. A CPEO, with the agreement reported on Form 8973, can relieve the client of liability for income tax withholding and Social Security and Medicare taxes in certain situations. Depending on the facts, the IRS says, an employer may stay solely liable, become jointly and severally liable, or be relieved of liability, so the contract type matters as much as the brand.

What a late deposit costs

The failure-to-deposit penalty is set by how many calendar days late the deposit is:

The tiers do not stack. A deposit 20 days late costs 10%, not 2% plus 5% plus 10%, and the IRS charges interest on the penalty itself. On a $10,000 deposit, six days late means $500 and sixteen days late means $1,000.

Withheld taxes that never get paid can also land on individuals. The Trust Fund Recovery Penalty can be assessed against anyone responsible for paying those taxes who willfully fails to do so, and the IRS list of possible targets includes people inside a payroll provider or PEO as well as "responsible parties within the common law employer," meaning the client. The penalty equals the unpaid withheld income tax plus the employee share of FICA, and the IRS can collect it from personal assets.

Putting the price difference in context

Patriot Software sells the same payroll with and without tax filing. Basic is $17 a month plus $4 per worker; Full Service, which deposits and files for you, is $37 plus $5. For 10 employees the gap is $30 a month, or $360 a year, less than the $500 penalty on one $10,000 deposit that is a week late.

Outsourcing does not remove the in-house part of payroll, though. Someone still enters hires and terminations, checks hours and pay, approves the run, and makes sure the account has enough money on the debit date. At Gusto, for example, a debit that fails for insufficient funds carries a $100 processing fee and can cost you access to next-day and 2-day pay for a time. What a provider takes off your hands is the calendar of deadlines and forms. Switching providers partway through the year has its own cost, covered in this site's article on mid-year switching.

Sources

• https://www.irs.gov/businesses/small-businesses-self-employed/outsourcing-payroll-and-third-party-payers
• https://www.irs.gov/payments/failure-to-deposit-penalty
• https://www.irs.gov/businesses/small-businesses-self-employed/employment-taxes-and-the-trust-fund-recovery-penalty-tfrp
• https://www.patriotsoftware.com/pricing/
• https://support.gusto.com/article/999752211000000/Direct-deposit-payment-speeds

Related on this site

• The cost of switching payroll providers mid-year
• What payroll software pricing includes
• What payroll software costs, and where the money goes
• What does payroll software do, and where does a payroll service take over?
• Does a full-service payroll plan really take every payroll tax task off your hands?