Watch Out For Payroll Outsourcing Hazards

In a recent tax court case, an employer (and not the employer's payroll service provider) was ultimately held responsible for the payment of income tax withholding and the employee and employer portions of the Social Security and Medicare taxes.

Businesses frequently outsource their payroll and other related responsibilities to companies who specialize in these services. However, it is the employer's duty to pay these taxes, and ultimately the employer remains responsible for their payment even if the failure to pay is entirely due to a payroll service provider's negligence or fraud.

Don't allow yourself to become complacent just because your company uses a highly-respected payroll service. Because of the issues surrounding the court case, the IRS and the Social Security Administration offer the following advice to employers:

• They strongly suggest that the address of record with IRS not be changed to that of the payroll service provider. If there are any issues with an account, the IRS will contact the employer. Changing the address may significantly limit the employer's ability to be informed of tax matters involving his or her business in a timely manner.
  
• An employer should ask the payroll service provider if they have a fiduciary bond. This can protect the employer in the event of default.
  
• The employer should ask the service provider to enroll in and use the Electronic Federal Tax Payment System (EFTPS). The EFTPS maintains the payment history of a business for 16 months and can be viewed online. This allows the employer to immediately confirm payments electronically, 24 hours a day, 7 days a week through the Internet or by phone. The IRS recommends employers verify EFTPS payments as part of their bank account reconciliation process.

The IRS further cautions that there have been instances of individuals and companies acting under the guise of service providers who have stolen funds intended for payment of employment taxes, leaving the employer ultimately responsible for the payroll taxes and penalties.