Similar to the responsibilities of tracking employee time worked and paying wages, you are also responsible for withholding certain deductions from employee paychecks. Some deductions are required by law. Other deductions are not dictated by any regulation, but are made for various other reasons. Many times these deductions are assumed to be “legal” because the employer has legitimate reasons for withholding the funds, and the employees do not contest it. However, it is important to know what you can and cannot legally withhold to keep your business compliant.

Acceptable witholdings

First, let’s discuss what you must withhold, including deductions mandated by or in accordance with local, state or federal law. The most common deductions are taxes. There are different levels of taxes, depending on where employees live and work. You must calculate and withhold appropriate taxes from employee wages and pay them to the taxing authorities. Additionally, you must withhold for any court-ordered deductions, such as garnishments and child support. Any other payroll deduction requires additional documentation and a written agreement with the employee.

Employees may authorize their employers in advance to withhold for certain deductions. This authorization must be in writing. Examples include insurance premiums and contributions to retirement plans. In both cases, there are specific forms that employees must fill out to grant their employers authorization to make deductions from their pay. Other deductions may be related to a union contract.

Take caution with all other payroll deductions

Note these common deductions and points to consider when applying them to payroll:

  1. Uniforms – If you require uniforms, you can use payroll deductions to pass the cost of supplying or maintaining the uniforms on to the employees. An employee handbook should detail the payroll deduction policy and should be signed by the employees. Remember that uniform deductions are not permitted if this withholding would drop the employee below the federal minimum wage of $7.25 per hour. You are, however, allowed to prorate the deduction over a period of time. Uniform deductions should be consistent for all employees, and you do have the ability to withhold for the cost of the uniform if the employee does not return it upon termination.
  2. Advances – If you authorize payroll advances to employees, you may recoup the advances on the next payroll, regardless of minimum wage requirements. Create a written agreement with the employee at the time of the advance.
  3. Loans – When an employee advance is going to be paid back over a period of payrolls, it is referred to as an employee loan. There must be a written agreement signed by the employee, which should include the total debt, the length of time for payback and how much will be deducted from each paycheck. You may withhold only the stated amount, even in the event that the employee terminates. Any unpaid debt will need to be handled outside of payroll unless the employee agrees in writing to have the remaining debt deducted from the final check.
  4. Purchases – If employees make a purchase through the company, from the company or from a company store, they can set up payment as a payroll deduction. Keep records of what was purchased and employees must sign for the payroll deduction. You do not need to consider the minimum wage threshold when taking these deductions.
  5. Breakage or loss – You cannot deduct from an employee paycheck to cover ordinary breakage or cash shortages. These situations are considered a normal part of business operations. However, if it is proven that the employee was dishonest or willfully neglectful leading up to the breakage or shortage, you may take action to recoup the loss. Follow proper legal channels before making any payroll deductions unless the employee authorizes the deduction in writing.
  6. Tools – Deductions for the use of tools are similar to the rules for uniforms. You may have a policy to cover tool expenses through payroll deductions. This should be outlined in an employee handbook and signed by the employee. Deductions cannot drop wages below the federal minimum wage. If a tool is damaged or not returned because of willful neglect, you may deduct the cost of the tool.
  7. Miscellaneous – Be very cautious when using a payroll deduction code labeled “miscellaneous.” Be sure you are legally allowed to make the payroll deduction and have documentation, with the payroll records citing the purpose of the deduction.

For all payroll deductions, document the employee, the amount and the purpose. Have current and up-to-date policies and procedures in your employee handbook. Whenever possible, have the employee sign and date the document as acknowledgment and authorization of the deduction.

For more information or questions related to specific deductions, contact your Medic Accountants London or Birmingham office.