Payroll accounting involves more than just recording the amounts paid to employees. It also involves recording payroll taxes—both the amounts withheld from employees and the employer's matching contributions—and the associated liabilities. Getting this wrong creates messy books and potential tax compliance issues.
The Payroll Journal Entry
When payroll is processed, you record: (1) the gross wages as an expense, (2) the employee payroll tax withholdings (federal income tax, state income tax, Social Security, Medicare) as liabilities, and (3) the net pay as a cash disbursement. Separately, you record the employer's matching Social Security and Medicare contributions as both an expense and a liability.
Clearing the Payroll Liabilities
Payroll liabilities clear when you make the tax deposits to the IRS and state agencies. Until the deposit is made, the withholdings and employer contributions sit as liabilities on your balance sheet. If your payroll deposits are current, these liabilities should always reflect the current period's obligations only.
Key Takeaways
- Gross wages, tax withholdings, and employer tax contributions are all separate line items in payroll accounting.
- Payroll liabilities should be cleared promptly—outstanding liabilities from prior periods indicate missed deposits.
- Most payroll software handles the journal entries automatically; verify that your integration with your accounting software is working correctly.
