The IRS has reminded employers of their options when it comes to choosing payroll service providers. The IRS also summarized the different types of third party providers available, including:
- payroll service providers;
- reporting agents;
- Section 3504 agents;
- professional employer organizations; and
- certified professional employer organizations.
Payroll Tax Duties
Employers are responsible for withholding and paying employment taxes and filing required returns. It is common for employers to outsource some or all of their payroll and related tax duties to third parties.
Employers can meet their filing deadlines and deposit requirements—while streamlining their business operations—with the help of third party organizations. Depending upon the type of third party it hires, however, the employer may or may not remain responsible for the payment of income tax withheld and the employer and employee portions of Social Security, Medicare and additional Medicare taxes.
Payroll Service Provider
A payroll service provider (PSP) is a third party that can help employers administer payroll and employment tax obligations. However, use of a PSP does not relieve the employer of its employment tax obligations or liability for employment taxes, since this type of third party does not assume any of the employer’s employment tax liability.
A reporting agent (RA) is a PSP that has informed the IRS of its relationship with its client by filing a Form 8655, Reporting Agent Authorization, that is signed by the client. The difference between an RA and a PSP is that the RA is generally required to electronically submit any return it files on behalf of its client, and to electronically deposit its client’s taxes. Additionally, an RA is authorized to exchange information with the IRS on behalf of the client.
An RA does not assume any of the employer’s employment tax liability. Therefore, the use of an RA does not relieve the employer of its employment tax obligations or liabilities.
Section 3504 Agent
This type of third party payer is authorized under Code Sec. 3504. An employer can appoint a Section 3504 agent to perform the following tasks: withholding, reporting, and paying of federal employment taxes with regard to wages paid by the agent for the employer, as well as the agent’s own employees. An agent appointed under Form 2678, Employer/Payer Appointment of Agent, can file aggregate returns (e-file or paper) using the agent’s EIN.
A Section 3504 agent agrees to assume responsibility along with the employer for the employer’s Social Security, Medicare and federal income tax withholding responsibilities. Therefore, the IRS can seek to collect any unpaid employment taxes from both the employer and the Section 3504 agent who was designated and authorized to pay such taxes.
A professional employer organization (PEO) is a business entity that contracts with clients to perform some or all of the federal employment tax withholding, reporting and payment functions related to workers performing services for the client. The PEO charges the client a percentage of payroll or other fee for the services it provides.
A PEO may represent itself to be the employer or co-employer of individuals performing services for clients. However, the rules established in the Code and applicable regulations determine which party is liable for employment taxes, and the IRS is not bound by any agreement between an employer and a third party.
A certified professional employer organization (CPEO) is a third party organization that is certified by the IRS to perform federal employment tax withholding, reporting and payment functions related to the wages it pays to workers performing services for its customers. Under a contract between a customer and a CPEO, the CPEO pays wages to the customer’s workers and is responsible for the withholding, reporting and paying of federal employment taxes. A Form 8973, Certified Professional Employer Organization/Customer Reporting Agreement, is used to notify the IRS of the commencement or termination of a contract between a CPEO and a customer. A CPEO files aggregate returns using the CPEO’s EIN.
Generally, the CPEO is solely liable for paying the customers’ employment taxes, filing returns and making deposits and payments for the taxes reported with regard to remuneration it pays to work-site employees. The CPEO and its customer may both be liable for taxes on remuneration the CPEO pays to non-worksite employees.