Payroll and Taxes

For most Art Institutions - theatres, orchestras, dance companies, operas, etc., the majority of operating costs are payroll costs. Consequently, the efficient utilization and control of payroll and its related fringe costs represents, for most of the arts, the major concern of management. The negotiation of contractual salaries and the proper supervision of labor must preoccupy much of management's time and effort.

The preparation of payrolls is a constant recurring obligation of all employers. Many local laws and union agreements specify that payroll must be paid weekly, making this a chore that must be accomplished fifty - two or fifty - three times annually. Some employers pay different sections of the enterprise on different days of the week and consequently, prepare payrolls even more often.

Payroll preparation starts with a roster of employees and reference to their contractual wages. In many organizations every employee is hired on a written contract. In others, many are hired by verbal agreement. In this latter case reference must be made to a written memorandum of the wage rate agreed upon, perhaps made on an official personnel form. Wherever a written memorandum, signed and approved by a responsible supervisor with authority to hire, is not uncovered, the payroll preparer should obtain one before payment is made.

The contract or memorandum will indicate the rate payable to each employee for a stated time period such as hourly, weekly or monthly. Adjustments must be made to the gross earnings for any absence, lateness, overtime, holiday work or the like which remains in accordance with the basic union agreement, the terms of the employment or local employment laws that may be applicable. Sometimes the employee may be entitled to additional compensation for additional duties performed - musicians "doubling" or parts performed by chorus which are not categorized as ensemble work, are typical examples and result from basic union agreements with the employers in the industry.

Renumeration to be included in payroll must also include wage rates based on piecework, commissions, profit sharing and cost-of-living adjustments. However, not all persons who perform services for an enterprise are classified as employees to be listed on payrolls. The relationship of employer-employee, often referred to in the law as the master-servant relationship, must exist. This relationship is generally held to exist when the person for whom services are performed has the right to control and direct the individual; in the manner in which the services are to be performed. Thus an actor, required to accept stage direction and a member of a symphony orchestra subject to the direction of a conductor, have been held to be employees. On the other hand, a lawyer retained to negotiate a contract or defend a lawsuit and an insurance broker who is asked to secure coverage from an underwriter for certain casualties, have been held to be 'independent contractors' and not employees. Some of the criteria include the fact that the independent contractors maintain offices of their own and hold themselves out to the public for a fee, but the major distinction is made on the basis that the lawyer chooses his own means of performing the required services and is not subject to the control and guidance of his clients. Other examples of independent contractors whose fees are not to be listed on payrolls as employees are architects, certified public accountants, physicians and public stenographers.

In computing gross earnings, the payroll preparer must have authorized written memorandum of contractual rate of pay and also a written record, approved by a responsible supervisor of the time worked during the pay period. These time records may be very elaborate clock cards produced by a time clock or a very simple notation from a particular department head noting any adjustments to regular wages for the pay period involved. Sometimes the applicability of union requirements and Federal or State wage and hour laws is the responsibility of the department manager, sometimes the personnel or other functional advisor and very often is left to the payroll department. In any event the ultimate responsibility for interpreting how the various regulations effect earnings must be clearly placed upon a particular individual in every organization.

Almost without exception, the amount paid to each worker (his or her take-home pay) is less than the amount for which he contracted for. Most employers are required by federal laws to collect certain taxes by withholding a portion of the employee's pay. In addition, many employers are required to withhold state and local (city) payroll taxes; various insurance premiums are taken by withholding; and there may be obligations or mutual agreements to deduct for union dues, loan repayments, salary garnishes, purchases of Federal Bonds, charitable contributions (Motion Picture Relief Fund is a common example) or savings plans.

Social Security Tax: With few exceptions, employers are required by the Federal Insurance Contributions Act to withhold a portion of earnings of each employee as a contribution to the federal program of old age and survivor's insurance and the Medicare program. The tax is known variously as FICA, or Social Security Tax. As of 1991, the social security tax has been split into two portions: social security and medicare. The tax withheld is computed on a particular amount of wages earned in each calendar year by each employee from a particular employer. The amounts then were $53,400 for social security and $125,000 for medicare. This means that the first $53,400 worth of gross wages for the employee in one year from one employer will have social security taxes paid and any wages beyond that point will not. These rates change fairly often. Check circular E for the current rates and "cut off" points.

Federal Income Tax: As part of the pay-as-you-go system of Federal Income Tax withheld from their paychecks. The amount to be withheld varies with the amount of the earnings, the number of exceptions claimed by the employee and the duration of the pay periods. Every employee is required to inform his employer of the number of exemptions to which he is entitled by submitting a "withholding exemption certificate" Form W-4.

The Federal Government provides various tables based on pay period (weekly, biweekly, semimonthly, etc.) and marital status which set forth the proper income tax withholding for various gross earning brackets and number of exemptions. These tables are published as "Circular E" of the treasury Department. Note that the employee may voluntarily request that additional income tax be withheld from his or her pay over and above that called for by Circular E, by inserting the additional sum at line 7 of the W-4. If exemptions are claimed for itemized deductions, in addition to those for taxpayer, spouse and dependents, the number is listed at line 5 and supported by filing of Form "Schedule A" in order to claim additional exemptions, (thus decreasing the amount of their income taxes withheld and increasing their take-home pay), as they have unusually high "employee expenses" associated with their profession such as agent's fees, publicity, entertainment, telephone, coaching lessons, makeup, special costumes or instruments, etc.

A special form W-4E is available to those employees who expect that they will earn sufficient income to be subject to any income tax in the calendar year and who had no income tax liability in the prior year. Students and part-time workers will fall into this category.

Many states and a few cities levy a tax based on income which is required to be withheld from the employee's pay. A few states require contributions from employee's pay for a portion of the unemployment compensation insurance levied by them. Others compel withholding for part of the disability or medical insurance programs of the state.

A "payroll" is a list of employees reflecting their gross earnings for a stated pay period together with a detailed analysis of all deductions made therefrom in arriving at the net pay computed as due. The total deductions when subtracted from gross earnings will be the net pay due before any extraneous reimbursements will be paid. This is true for each employee's pay as well as for totals of the whole payroll, or any part thereof, such as a page total or departmental totals. By adding totals of each column, the payroll can be mechanically "proven" by testing whether the net pay plus the deductions taken equal the gross earnings plus the reimbursements. If this equality is lacking the work must be rechecked. The more often such sub-totals are taken and proof attempted, the simpler the task of locating an error becomes because the error has been localized to the entries which have been totaled and which do not prove.

The method of payment may be by check or by cash. Most employers pay all employees by the same method. Union contracts may require payment in cash. However, the employer may then adopt a method of paying by check with the understanding that the employee may cash his or her paycheck at the company's box office. Actor's Equity Association which requires that their members be paid in cash, has agreed that this method satisfies the union rules.

Local law often requires, and when they do not, it is usually customary, for the employer to furnish a statement of earnings and deductions to each employee. It may be a payroll check with a detachable stub which details the necessary information and which can be preserved by the employee. For cash payments the same sort of information can be placed on the pay envelope, which when retained becomes the employee's record of how much he earned and how his net pay was computed. These statements should always show the name of the employer and the pay period involved.

When paying by cash, it is helpful for the employing company to draw a check for the total of the net pay due all employees for the period. This check is then cashed at the bank and the proper money is inserted in individual pay envelopes. Many employers utilize a special payroll account and draw the individual paychecks for each employee on it. They then deposit to this special payroll account a check from the regular account for the total of all net checks drawn for the pay period.

The employee's endorsement on a payroll check will constitute legal evidence that he or she received the pay. When payment is made by cash, it is important to obtain the employee's signature as proof of receipt. This signature may be placed on the payroll itself or on a detachable stub of the payroll envelope.

Government regulations require that all employers maintain a separate record of the earnings and deductions and net pay paid each employee. From this record the cumulative earnings and deductions for each calendar year may be maintained, an important statistic for many purposes such as the "cut-off" point at which the social security or medicare tax must no longer be withheld from pay. This record also produces the vital information for the Form W-2 (and similar state and/or local forms) required to be prepared and mailed at the end of each calendar year to each employee. The W-2 is a Federal form which must reflect the Employer's name, address and Federal identification number; employee's name, address and social security number; gross wages paid and Federal Income Tax withheld during the calendar year; social security and medicare taxes withheld during the year; and any additional renumeration paid, not appearing on payroll, in the form of fees, commissions, etc.. Each State or local jurisdiction requiring tax withholding will also have a similar form to be completed in which will be listed separately, the gross earnings and tax withheld. Since these forms are more readily prepared at the same time as the Federal form W-2, they are usually purchased by the employer as carbon copy sets, in which all the information needed for all the forms are prepared at one typing, with the information not applicable to each form blanked out on that form. One copy of each form is sent to the government involved (Federal W-2 to the Federal government, etc.) and two copies are sent to the employee - one which he or she files with his or her own income tax return and one which he retains as a permanent record. The last copy is retained by the employer for his or her own files.

Manager's responsibility: Payrolls prepared by an employee such as a bookkeeper must be checked and approved by a responsible executive. In a small firm, this should be the general manager- in a large arts enterprise, by the head of the accounting or personnel department. The manager should:

1. Check the list of names appearing on the payroll to ensure that they are all presently working for the firm and entitled to be paid.
2. Check the rates of pay, to determine that each employee his receiving the contracted amount.
3. Where additional renumeration (for such as overtime) or reductions (for such as absences) are involved, these should be carefully reviewed for accuracy. Where personnel is paid on an hourly basis, the time records should be consulted.
4. Require an adding machine tape of net payroll, taken from the actual paychecks or envelopes (where cash is paid) to insure that total being paid out as payroll agrees with the total net payroll as reflected on the payroll itself.
5. Double check the proof of payroll by seeing that the gross earnings and any other renumeration equals the net payroll plus all deductions.
6. Test check the computation of several employees' net pay, including the accuracy of withholding deductions, and the comparison of check or pay envelope amount to the tape of net checks.
7. All of the above steps should be completed before the payroll is signed. Evidence of approval of the payroll by the responsible executive, if he or she does not actually sign the checks, should be accomplished by his or her signature on the face of the payroll itself, under the words, "approved".
8. From time to time the paychecks or pay envelopes should be actually distributed by the responsible executive, or he or she should observe their distribution. This is particularly true in organizations where the executive does not know all the employees personally.

The above procedure is meant to combat problems of errors and defalcation by those preparing payrolls, including payroll padding by addition of fictitious names or those who have been terminated.

The payroll taxes discussed thus far were only those imposed upon employees. However, there are many taxes imposed solely on employers and others that are shared by both.

The 1992 rate of social security tax is 6.2% of the first $53,400 paid to each employee in each calendar year -- amount to be paid by both employee and employer. Thus, an employee earning $100 would have $6.20 deducted from their check and the employer would also pay $6.20 for a total of $12.40. For medicare, the rate (for both employee and employer) is 1.45% on the first $125,000 in wages. The payment of the social security and medicare taxes together with the Federal income tax withheld is payable to a local bank acting as an official depository of the United States Treasury. How often deposits are to be made depends on the amount of the taxes accrued. For instance, if the amount for one month is over $500, but less than $3,000, then the deposit must be made on a monthly basis (by the 15th of the following month). The IRS provides forms for the employer to fill out when depositing the tax liability. The check written in payment for this tax liability should contain on its face the serial number of the Form 501 which accompanies it. This serial number, together with the name of the employer, his address and identification number is reprinted by the Internal Revenue Service of the U.S. Treasury Department. The depository bank turns these funds over to the Internal Revenue Service. The timeliness of a deposit is determined by the date the bank receives it. However, if you can establish that the deposit was mailed on or before the due date, your deposit will be timely even though received after the due date. In order to obviate the penalties and interest on late filing of the 501 and its payment, it is well to have the employee who actually places the payment and Form in the mail, to make a written statement of the place and time of mailing. Better still, where regular visits are made to the local bank which is a government depository, it is best to bring the payment in.

The Form 941 is a tax return used to report the amount of Federal employment taxes due for the quarter-year.

By January 31st of each year, a Form W-3 must be filed by each employer, indicating the income tax withheld totals reported on each of the four quarterly Form 941's, together with the total income tax withholding reported on each employee's Form W-2. These two totals must agree with the total amount paid in to the government for income tax withheld as reported to each employee.

To recapitulate: The employer withholds income tax from each paycheck of each employee based upon government furnished tables; the amounts so withheld, along with employer's taxes, are paid over by the employer to a depository bank, the bank transfers these sums to the government; each employee is furnished with an annual statement of his or her taxes withheld (together with gross earnings paid), which he or she attaches to his or her own individual income tax return (the famous Form 1040). On each Form 1040, each employee takes credit for having paid to the Federal government the amount of income tax withheld from his or her own pay as reported by his employers on W-2's. If the amount due for the year is less than the credits, he or she will be entitled to a refund or credit against the following year's income tax return. The purpose of the W-3 form is to insure that the amount of income tax credits as set forth on W-2's prepared by the employer is equal to the amount of tax paid over by that employer during the calendar year. In other words, the amount withheld from each paycheck of an employee by an employer represents to that employee a prepayment of income tax due for the calendar year in which he or she was paid. To the employer, the sum total of all income tax withheld (together with his share and the employee's share of FICA) represents a liability to the Federal government until such time as he makes payment to a bank acting as a collecting agency for the government.

There is another employment tax on most employers. It is known as the Federal Unemployment Compensation tax, the proceeds of which are used to provide some relief to those who become unemployed as a result of economic forces beyond their control. To finance the administration of this program, all employers covered by the law are subject to a FUTA tax of 6.2% on wages paid to every covered employee during a calendar year, providing they have also made the full payments required to state unemployment compensation funds. To be subject, an employer must have had one or more employees in each of twenty different weeks within the calendar year or paid wages of $1,500 or more in any calendar quarter. The employee bears no part of this tax. It is levied solely on the employer.

Each state in the union has its own employment compensation fund. Money paid to unemployed persons almost always comes from the state, as the Federal Unemployment tax is turned over to the states for use in administering their unemployment compensation programs. In most states the funds for unemployment benefits are derived solely from employment taxes levied on the employers, although a few states, such as New Jersey and California require employee contributions, derived from withholdings, as well. The various state laws differ with respect to the types of covered employment, number of employees an employer must have before becoming subject to the tax, the rate of tax assessed, and the measure and basis for benefits paid to the unemployed. Almost all states now use a merit- rating plan under which employers who provide steady employment for their workers earn a favorable rating which reduces the tax below the maximum charged in that state. Consequently, such arts institutions as summer stock theatres and seasonal symphony orchestras, which terminate employment of most workers after a series of presentations, pay the highest rates.

The payroll is the basis for many other taxes and compulsory insurance programs. Some states require coverage for a state disability plan, a portion of the cost of which is deductible from the earnings of each employee (for example: 1/2 of 1%, from the earnings of each employee, not to exceed 30 cents per week).

Many pension and welfare funds, particularly those required by union contracts, are based upon payroll information. For example, one performer's union basic contract presently requires a payment from the employer of 5% of payroll gross earnings of each union member. Another requires welfare payments (to cover health and medical plan insurance) of 1% of gross earnings.

Unions may collect dues from members based upon gross earnings; some musician's locals will tax 'foreign' musicians allowed to work within their jurisdiction, a union tax based upon gross wages earned in the local's area.

Worker's Compensation Insurance is compulsory in all fifty states. It provides benefits to employees who cannot work because of an accident incident to their employment. The funds are provided by premiums paid to an insurance underwriter, who makes the payment in accordance with state legislation. The premiums are almost always based upon a percentage of gross earnings of each covered employee up to a maximum base per time period. The rates usually vary according to classification of employees by jobs. Entertainers and musicians, office help and "all others," might be a common classification for many policies carried by arts institutions. Each separate classification will have a different rate of premium. Premiums are usually estimated at the beginning of the premium year and corrected for actual payroll totals for each classification at the conclusion of each year. It is important that management see that the payroll auditor representing the carrier correctly computes the premium due, giving proper credit for all the special circumstances allowed by the local low, correctly classifying employees and applying the proper rates to the proper maximum base of gross earnings.

Payroll information may be helpful and even determinative of such other employee benefits as paid sick leave, vacation entitlement, pay increments for longevity in job, etc. as well as overtime payable at higher pay rates, the amount of termination or severance pay, etc.

It should now be apparent that when an arts institution, or any other employer, hires an employee, for say, $200 per week, the cost to the employer will actually total much more than this agreed wage. In a typical case, the actual cost must include: Employer's share of social security, medicare, and Federal and state unemployment compensation tax; pension program and welfare benefits; vacation pay and paid holidays; days paid for when employee is sick; various insurance programs for the sole benefit of the employee such as worker's compensation, disability, group life insurance, hospitalization and other medical reimbursement programs, physical examinations; and may include profit-sharing and other bonus plans; stock option programs; free clothing or safety equipment; transportation to and from work; coffee breaks and other time paid for without productivity. For example, under the Actors Equity Association contract, if two performances are held with less than a certain minimum time break between, the employer is required to furnish (at employer's sole expense) a hot meal to each union member.

When arts enterprises cooperatively agree that they shall share the costs of a certain project, say the production of a rehearsed operatic work, it is not sufficient to list the payroll cost as the sum to be shared. All the fringe benefits listed above, and some others, must be considered, and if incurred, must become part of the cost. It is common in the summer theatre packaging business where an outside producer (or packager) allocates the cost amongst all the theatres which book the product, for the packager to add to total payroll costs an arbitrary percentage to cover all these fringe benefits. The actual percentages used vary from a low of 15% to a high of 25%. The reason that an arbitrary figure must be employed derives from the fact that although a certain cost may be a specified rate of gross earnings, it may be subject to a maximum of the specified base.

Every manager, director, trustee or officer of an arts organization should be aware that they may be held personally liable for the payment of withheld taxes and penalties. Section 6672 of the Internal Revenue Code imposes a 100% penalty on managers who willfully fail to pay over taxes withheld from employees' wages. This law has been interpreted to include those instances where the withheld taxes were "knowingly and intentionally" used for operating expenses or other purposes. Taxes withheld should be construed as trust funds held in escrow for the government until paid over to it or a depository bank acting as its authorized agent. It must be recognized that the arts employer is simply acting as a conduit between the employee and the government -- and these funds are not the employer's to use.

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COMPUTING A CASH PAYROLL

To make distribution of a cash payroll easier, prepare a cash breakdown before getting cash from the bank. This will tell you exactly how much you need of each denomination as long as employees are paid each time with the highest denominations possible.

Employee	Net Amount	$20	$10	$5	$1	$.25	$.10	$.05	$.01
John	$189.67	9	0	1	4	2	1	1	2
Mary	$250.13	12	1	0	0	0	1	0	3
Bill	$78.50	3	1	1	3	2	0	0	0
Sue	$215.43	10	1	1	0	1	1	1	3
Number to get from bank:		34	3	3	7	5	3	2	8
Totals:	$733.73	$680.00	$30.00	$15.00	$7.00	$1.25	$.30	$.10	$.08