Where do payroll taxes appear in the financial statements?

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When a company incurs an obligation to pay payroll taxes to the government, a portion of it appears on the income statement, and a portion on the balance sheet. A company records an expense on the income statement for the employer matching portion of any Social Security and Medicare taxes, as well as the entire amount of any federal and state unemployment taxes (since they are paid by the company and not the employees).

Payroll Taxes Recognized in Expenses

In some locations, there may be additional taxes owed by the company, such as a head tax for every person employed within the boundaries of a city. All of these payroll taxes are valid expenses of the company, and will appear on its income statement. Payroll taxes should be charged to expense in the period incurred. They may be charged to a single payroll taxes account, or charged to a payroll taxes account within each department.

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Payroll Taxes Recognized in the Cost of Goods Sold or Inventory

If payroll taxes are charged to specific department, then part of the taxes will likely be charged to the production department, in which case you have the option of including them in an overhead cost pool, from which they can be allocated to the cost of goods sold and ending inventory; this can defer the recognition of a portion of the payroll taxes until such time as the inventory is sold.

Payroll Taxes Recognized as a Liability

A company also incurs a liability for payroll taxes, which appears as a short-term liability on its balance sheet. This liability is comprised of all the taxes just noted (until they are paid), plus the amount of any Social Security and Medicare taxes that are withheld from the pay of employees. In the latter case, the company is essentially an agent for the government, and is responsible for transferring the funds to the government. Thus, the employee-paid portions of Social Security and Medicare taxes are not an expense to the company (and so do not appear on the income statement), but they are a liability (and so will appear on the balance sheet).