Payroll can be confusing for everyone, but especially for small business owners that are new to it. It’s important that you understand these terms and acronyms to be confident that you’re processing payroll for your employees accurately.
Understanding these terms can help make the payroll process far less stressful and can also help you avoid making potentially costly mistakes.
Here are the top 25 payroll terms we think you should know before running payroll:
1. Accrue
This means to build up or accumulate over time. In payroll processing, accruals can happen a few different ways. Payroll accruals are funds owed to workers for hours they previously worked but haven’t yet been compensated for.
Accruals also often happen as part of an employee benefits package. Many employers offer paid vacation, sick, and personal time, which is often earned on an accrual basis. This means that a certain amount of time off is earned per pay period.
2. ACH (Automatic Clearing House)
ACH is an acronym for automated clearing house. An ACH is a computer-based electronic network for processing transactions. These transfers often include payroll direct deposits.
3. Compensation
Compensation is a broad term that refers to all benefits that a company provides to their employee. Some common types of compensation can include:
- Regular salary or hourly wages
- Bonuses
- Transportation Benefits
- Stock Options
- Tip Income
4. Deductions
Deductions are funds taken from an employee’s paycheck. They are voluntary amounts that the employee elects to have taken from their pay (health insurance premiums, retirement plan contributions, etc.). These items can be considered pre-tax or post-tax, depending on the nature of the deduction.
5. Disposable Income
Disposable income refers to the leftover wages after all taxes and deductions have been taken from an employee’s paycheck. This amount is then used to determine the level of pay subject to garnishment or child support withholding.
6. EFTPS (Electronic Federal Tax Payment System)
EFTPS stands for the Electronic Federal Tax Payment System, which is a free system offered by the U.S. Department of Treasury to pay your federal taxes.
7. Employee
Employee sounds straightforward, but we do need to clarify. Employees are workers that are formally hired to fulfill a specific position within a company. They should not be confused with independent contractors, which we will cover below.
Employers pay a reasonable wage and may offer benefits, especially if employees work at least 40 hours weekly; you must also pay and withhold taxes on employee earnings. In exchange, these employees must abide by company rules such as when and how to work.
8. Employer Identification Number (EIN)
The EIN is a unique nine-digit number assigned to all employers that submit an IRS EIN application; it helps identify businesses as they file taxes, apply for business loans, and open business bank accounts. In summary, it’s like a Social Security number for businesses and is required for any business processing payroll.
9. Exempt Employees
Exempt is a classification that employers typically assign to employees who are paid on a salary basis versus hourly (although in some circumstances, hourly workers can be exempt). Exempt employees are paid overtime for any excess hours they work over 40 in a week.
10. Fair Labor Standards Act (FLSA)
You’ll hear this thrown around quite a bit and also referred to as FLSA. This is the federal act that consists of numerous laws meant to assure that employees are treated well and paid fairly. The federal minimum wage and overtime rules fall under this act as do recordkeeping rules and child labor laws.
11. Federal Insurance Contribution Act (FICA) Taxes
FICA taxes are Social Security and Medicare taxes that the federal government charges on each employee’s earnings. Employers must reduce employee paychecks by 7.65% (6.2% for Social Security + 1.45% for Medicare), and pay the money to the IRS; they also have to pay that same amount from their business funds.
Additionally, they must withhold an additional 0.9% for Medicare on any employee earnings that exceed $200,000 in the year ($250,000 for couples married and filing jointly). For Social Security, the maximum amount that can be taxed is $160,200 per year.
12. Fringe Benefits
Fringe benefits are additions to compensation that can be offered to employees. Some employers choose to offer these benefits universally to all employees, while others award them to high-level employees as an additional incentive. Some fringe benefits are taxable, and others aren’t.
Fringe benefits include:
- Subsidized health insurance plans
- Gym memberships
- Tuition assistance programs
- Commuting benefits
13. Federal Unemployment Tax Act (FUTA)
The Federal Unemployment Tax Act (FUTA) tax is a payroll tax that employers are required to pay to the federal government to help fund unemployment benefits. The tax is 6% of the first $7,000 that an employee earns; however, most businesses do not pay the full 6%.
Businesses are able to qualify for a 5.4% FUTA credit reduction after paying their state unemployment taxes, bringing the FUTA tax rate down to 0.6%.
14. Garnishment
Garnishments are court orders directing employers to withhold a certain amount from an employee’s paycheck to pay an outstanding debt.
Employers are responsible for withholding and sending the money as directed on the garnishment notice; in addition, the notice will sometimes have an ending date that business owners can reference before stopping the collection process. It’s imperative to act quickly after receiving a notice because employers can be held liable.
15. Gross Pay
Gross pay is the amount of an employee’s paycheck before payroll deductions are withheld. For hourly employees, this is their hourly rate multiplied by the number of hours they’re being paid for the period—plus any overtime, bonuses, and additional pay.
For salaried employees, gross pay is usually the same each pay day; it’s their annual salary divided by the number of pay periods in the year.
16. Independent Contractor
Independent contractors are workers who are hired to perform a specific job or project. They’re not employees, so they aren’t protected by federal labor laws or the federal government’s minimum wage requirement. In turn, employers don’t pay payroll taxes on their earnings; instead, they complete a 1099-NEC form for all contractors they paid over $600.
It’s important not to confuse contractors and employees. Unlike employees, employers aren’t allowed to dictate how or when contractors complete their work.
17. Minimum Wage
Minimum wage is the lowest hourly pay rate you’re legally allowed to pay an employee. Per the Department of Labor (DOL), the federal minimum wage rate is currently $7.25 an hour, but state rates vary. There are exceptions, such as for minors and interns. Tipped employees are another group you’ll find the law makes exceptions for. Federal tipped minimum wage is $2.13 an hour, but employers must ensure that employee tips make up for the differential.
18. Net Pay
Net pay is the final amount you pay your employees for their work, after all deductions have been made.
19. New Hire Reporting
New hire reporting is a process employers undergo to report new hires to their state. Federal law requires that all new hires be reported within 20 days of their hire date, but some states are stricter (Alabama requires seven days).
All information is stored in the National Directory of New Hires and helps child support agencies locate parents who owe money. Before you can begin reporting, you must register under your state’s New Hire Reporting Program.
20. Overtime (OT) Pay
Overtime pay is the additional hourly money you pay an employee in excess of their regular pay rate, usually for time worked over 40 hours in a seven-day period.
Per federal law, these hours are paid at 1.5 times the employee’s regular hourly pay rate. California law, however, requires double-time pay for all hours worked over 12 in a day and for all hours worked over eight on an employee’s seventh consecutive day of work.
Need help calculating overtime for your employees? Use our calculator to help:
21. Paid Time Off (PTO)
Paid time off is time your employees don’t spend working but still earn a paycheck (at their regular pay rate). It consists of any paid leave, i.e., vacation or sick time and even jury duty and holidays. Federal law doesn’t have strict guidelines or requirements regarding PTO; you choose whether you want to offer paid vacation time or not.
State laws, however, differ; for instance, California requires employers to provide at least 24 hours (three days) of paid sick leave each year.
22. Pay Periods
A pay period is the time frame of work for which you’re paying an employee. If you pay every other Friday, the pay period could be from the prior two weeks, with the last day being on the Friday that’s also payday. Some employers prefer to push the pay period back a week, meaning the current week is always paid on the next paycheck; this gives them time to process payroll without having to predict work hours.
23. State Unemployment Tax Act (SUTA) taxes
The State Unemployment Tax Act (SUTA) tax is a payroll tax that states require employers to pay in order to provide unemployment benefits.
Each state sets its own SUTA tax wage base, which is the maximum amount of an employee’s income that can be taxed. In addition to the wage base, each state then establishes the rates, which can vary anywhere from 0.5% to 7% depending on the state. Rates are determined based on a few different factors, and often many states give new employers a standard rate.
24. Shift Differential
A shift differential is a premium amount that you can pay employees who work outside of normal business hours. For some companies, this is the overnight shift and weekends. The additional pay is usually calculated as a percentage of the employee’s pay rate, like 30% extra, or a flat dollar amount, like an extra $3 per hour.
25. W-2 Form
The W-2 Form is a tax document that reports all employee earnings in addition to taxes and deductions withheld. Employers must send this document to all employees by Jan. 31 following the year that’s being reported.
A copy should also be sent to the IRS and state tax agency, if applicable. The information provided helps employees complete their tax returns with accurate information.
Bottom Line
Understanding basic payroll terminology is essential to processing payroll successfully. You don’t have to be an expert to know that both you and your employees pay FICA taxes or that all W-2s should be mailed by Jan. 31. By implementing payroll terms into your vocabulary, you make it easier to digest related laws and concepts.