Keeping Employee Records for Tax Purposes
Small businesses can avoid trouble with the IRS by keeping the right employee records and tax documents.
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If your small business has employees -- or if you use independent contractors -- you must keep certain records in order to avoid getting into trouble with the IRS. Basically, you need to keep records of all wages or money paid to employees and contractors, documentation of payroll taxes paid to the government, and copies of government required employment documents. The IRS and state tax agencies will ask to take a look at these records as part of a regular audit or special employment tax audit of your business, so it's important to get into the habit of hanging onto these records.
Read on to learn what records and documents to keep and for how long.
How Long to Keep Employee Records
Normally, your business can be audited any time within three years of filing a tax return. So, just to be on the safe side, you should keep all employment related tax records for six years.
Records to Keep for Each Employee or Independent Contractor
Take steps now to locate and keep the following records for all of your business's employees and independent contractors (if you use them):
Employer identification number. The employer identification number (EIN) is issued by the IRS. A sole proprietorship can use the business owner's Social Security Number. Otherwise, you need to get this EIN from the IRS. Call the agency at the number below for more information, or ask your accountant.
Wages paid. Keep track of all wage payments made to workers, including the amount and the date paid. Your records should distinguish between employee wages and payments made to independent contractors.
Identification information for workers. For everyone you paid for services, you should record names, addresses, Social Security numbers, occupations, and dates of employment. Some people are reluctant to furnish this information after they have been paid, so get the data up front before they start the job.
Benefits provided to workers. In addition to cash paid to workers, keep track of all fringe benefits, goods, and services that you provided to workers.
Employee tips. If applicable to your business (for example, if you own a bar or restaurant), record all reported employee tips.
W-2 and 1099 forms. Keep copies of all W-2 and 1099 forms, including any that were returned by the post office as undeliverable. You must get these completed forms from anyone who was a full- or part-time employee or any independent contractor who was paid more than $600 in the preceding year.
W-4 forms. Keep copies of the income tax withholding certificate completed by each employee (called the W-4 form). Get each employee to fill one out before they start work.
Federal and state payroll tax deposit forms. Employers must keep a record of all payroll taxes made to the state and federal government, including dates of payments. Employers should also keep proof that the payment was made -- such as a deposit slip, canceled check, or financial institution receipt. For details on your duties regarding payroll taxes, get The Employer's Tax Guide, Publication 15 from the IRS. (You can find IRS contact information below).
Federal and state payroll tax forms. Keep copies of payroll tax forms filed -- IRS Form 940 (annual), IRS Form 941 (quarterly), and the corresponding state payroll tax forms. Many employers hire a payroll tax service or accountant to handle this side of record keeping.
Income tax returns. Keep copies of any tax return on which payments to workers were claimed. Again, keep tax returns for six years just to be on the safe side.
FICA (Social Security and Medicare) and FUTA (unemployment) taxes. Employers must pay FICA and FUTA taxes for each worker. Keep a record of these payments. Information about these taxes (including how to calculate the correct amounts) can be found in The Employer's Tax Guide, Publication 15 from the IRS.
For details on these and other employer record keeping requirements, see IRS Publication 15, (Circular E), Employer's Tax Guide. This form, along with other IRS forms, is available at IRS offices, by calling 1-800-829-3676, or by visiting the IRS website at www.irs.gov.
For comprehensive information on keeping business records and dealing with payroll taxes to head off IRS trouble -- and everything else you need to know about taxes and your business -- get Tax Savvy for Small Business, by Frederick W. Daily (Nolo).