Maryland Legislative Commission Study of Payroll Firm Regulation

Due to a failure of a payroll service provider in Maryland, SB 1068 (2012) directed the Comptroller to study whether current regulations covering the payroll services industry are sufficient. NPRC members testified at hearings to present the consensus recommendations of the payroll services industry. The IRS also presented an overview of relevant IRS regulations.

The final study findings concluded that additional regulations are not warranted, but recommended a number of actions be taken with the IRS and by the Maryland taxing authorities.

  • NPRC had led an industry consensus effort beginning in 2008 to require quarterly disclosures, which warn clients of continued liability for taxes, and how to easily verify tax deposits. IRS Rev. Proc. 2012-32 includes the NPRC disclosure language, which now applies to all Reporting Agents. There is now broad consensus that this is the most effective and appropriate approach.
  • NPRC continues to work with the IRS and IRS Taxpayer Advocate to make recommendations to strengthen existing IRS protections and oversight; for example, by developing a rapid response IRS team to investigate any allegations, should a client check EFTPS and find that deposits are inexplicably not posted timely.

California AB 786 Exempts Payroll Service Providers from Money Transmission Act

California’s Money Transmission Act (Chapter 612, Laws 2010) was intended to protect consumers in over-the-counter money transmission services, such as check-cashing stores, bill-payment services, and sale of money orders and traveler’s checks. However, the law was broadly written, generally covering any person or business that makes payments on behalf of any other person. Consequently the California Department of Financial Institutions sought to require licensing of payroll service providers, even though the requirements of the Act are not applicable. For example, among other things, the law would require payroll firms to:

  • Post signs intended for consumers in retail establishments
  • Issue receipts for all transactions ( in addition to all funding and payroll reports already provided)
  • Remit all funds within ten days (despite the inability of many tax authorities to receive funds other than on the assigned deposit schedule)
  • Refund amounts that may already be in the process of being remitted to a tax authority
  • Annual license fees based on the value of all California wages paid through a payroll service

Application of the law would have imposed substantial new costs on service providers and California employers. NPRC worked with officials in Sacramento and provided testimony in legislative hearings to propose new language to exempt payroll service organizations from the Money Transmission Act. The exemption was approved and signed into law as follows:

Assembly Bill No. 786 CHAPTER 533 Approved by Governor October 4, 2013.
SEC. 2. Section 2010 of the Financial Code is amended to read:
2010. This division does not apply to the following:

(j) A person that delivers wages or salaries on behalf of employers to employees or facilitates the payment of payroll taxes to state and federal agencies, makes payments relating to employee benefit plans, makes distribution of other authorized deductions from employees’ wages or salaries, or transmits other funds on behalf of an employer in connection with transactions related to employees. Notwithstanding this subdivision, a person described herein that offers money transmission services or provides stored value cards directly to individual customers shall comply with this division to the extent of such activity.

The California law is an important accomplishment for the industry, because many other states’ Money Transmission laws are similarly very broad, and other states may question whether payroll firms should be included under the Money Transmission laws - - again, despite the original intent to as consumer protection measures.

Illinois Now Requires Monthly Wage Reports

The Illinois Save Medicaid Access and Resources Together (SMART) Act, P. A. 97-0689 enacted on June 14, 2012, requires large employers to electronically report total monthly wages paid to each worker, beginning in January 2013. The requirement will be phased in as follows:

Number of Employees Effective Date Due Date
250 or more January 2013 February 28, 2013
100 – 249 July 2013 August 31, 2013
50 – 99 January 2014 February 28, 2014
25 – 49 July 2014 August 31, 2014

The requirement is based on the number of different workers employed in the prior year. For example, an employer could have no more than 17 workers at any time during the prior year, but if several of them leave and are replaced, even though the number of employees is never more than 17 at one time, the employer may qualify under the mandate.

Monthly wage files must be formatted in accordance with detailed agency specifications. The Illinois Department of Employment Security has published specifications and other information concerning monthly wage reporting mandate.

Monthly wage reports can only be filed electronically via TaxNet, the Illinois Department of Employment Security’s (IDES) online tax filing application. Employers and service providers may register on TaxNet to file monthly wage reports at https://taxnet.ides.state.il.us.

Monthly reporting of employee wages is a major precedent for payroll reporting. No other state requires monthly reporting of employee earnings. Employers and software and service providers may need to make fundamental systems changes to accommodate more-frequent reporting.

The monthly wage information will be used to identify Medicaid beneficiaries who no longer qualify for coverage. However, NPRC members have met with the Illinois agencies and warned that the Medicaid agency may need to sift through thousands of false “hits” to identify workers that truly no longer qualify for public assistance, due to the inherent volatility of earnings on a month-to-month basis. In addition, employers offer many types of non-cash taxable benefits that are added to the payroll system for reporting quarterly or annually, which can cause monthly earnings to spike dramatically, potentially causing valid Medicaid beneficiaries to be inappropriately removed from the Medicaid system.

NPRC recommended instead that the enhancement to new hire reporting which was also included in the SMART Act be implemented and evaluated as more likely to be effective in achieving Illinois’ policy goals. NPRC sponsored a study by the nationally-prominent firm Ernst & Young to evaluate the monthly reporting and new hire reporting concepts.

State Treatment of Out-of State Wages: Study Update

In 2009, NPRC members formed a study group with several State Workforce Agency wage and tax reporting experts, as well as the National Association of State Workforce Agencies and the U.S. Department of Labor. The group examined how states are increasingly calculating taxable wage totals for employers within new electronic filing systems, and how these systems treat wages paid in other states, among other issues. The study group produced a paper that describes several state systems, and discusses alternatives. The study was updated in December 2011. Clearly, the trend is towards more state control of taxable wage totals, which has significant implications for employers and their service providers.

Arizona Enacts Limited Regulation of Payroll Service Providers

House Bill 2012 was enacted on March 18, 2010. It requires payroll service companies to register with the Department of Revenue, and comply with the following beginning May 31, 2011:

  • Have written authorization from clients to handle AZ income tax withholding.
  • Keep client funds separate from the payroll service company’s funds.
  • Make all withholding tax payments and filings timely and electronically.
  • Electronically provide a client list to DOR, updated monthly.
  • Provide DOR with a copy of any client contract on request.
  • Comply with all requirements provided by law and any rules subsequently adopted by DOR.
  • The law imposes a penalty of $25 per payment or return for non-electronic filing beginning June 1, 2011.
  • It permits confidential tax information to be disclosed in limited circumstances involving penalties assessed against the payroll service company if the method of payment or filing is at issue.

The law appears to apply to payroll service companies with even a single client.

Military Spouses Residency Relief Act

The Military Spouses Residency Relief Act was signed into law on November 11th but is retroactive to January 2009. It prohibits states from taxing income earned by military spouses who move into a state to be with the service member. In view of the potential impact to year-end if states announce diverse W-2 reporting requirements, NPRC joined with the APA and the Federation of Tax Administrators to recommend a consistent set of state measures, including acceptance of W-2s showing 2009 wages and withholding despite the retroactive effective date.

How to Verify State Witholding Tax Payments

Payroll managers should, as a best practice to protect company assets, verify tax payments made on the company's behalf by any third party. The IRS reminds us that:

“the employer is ultimately responsible for payment of federal tax liabilities. Even though (a) third party is making the deposits, the employer is the responsible party. Employers should… use EFTPS (Electronic Federal Tax Payment System), to confirm payments made on their behalf… electronically 24 hours a day, 7 days a week through the Internet, or by phone. Enroll online at http://www.eftps.gov, or call 800-555-4477 for an enrollment form.” – SSA/IRS Reporter, Spring 2006

State tax authorities generally offer similar means to verify tax payments.

Go to: How to Verify State Tax Payments
See also: How to Verify State Unemployment Tax Payments

Maine legislation to regulate payroll service organizations

Maine has led the states in enacting legislation to regulate payroll service organizations to improve the safety of client funds. This is an issue not easily addressed, and an area in which taking action, however well-intentioned, may actually increase the risks to businesses. For details, view the NPRC testimony over the past three years:

  • March 19, 2004, concerning LD 1843 – An Act to Require Surety Bonding by Payroll Processing Companies
  • February 1, 2005, concerning LD 58 – An Act to Support Payroll Processors, and LD 208 – An Act to Lower the Surety Bond Requirement for Payroll Processors
  • March 22, 2005, concerning LD 633 – An Act to Relieve Small Payroll Companies From Excessive Regulation
  • January 25, 2006, concerning LD 1878 – An Act to Protect Small Payroll Processors