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Understanding payroll in Canada: a step-by-step guide for small businesses

Running your own business is challenging even on the best days — and that challenge only grows once you hire your first employee. As soon as they're hired, you need to understand payroll: the process that allows a business to pay its employees on a consistent schedule. Although large businesses have accounting or human resources departments to manage payroll, most small business owners handle payroll themselves.

This comprehensive guide will help you successfully navigate the world of payroll management.

Key concepts

  • Payroll is the money a business pays its employees for a set period.
  • Payroll works by calculating an employee's pay; deducting money for taxes, government programs, and insurance; and paying the employee the difference.
  • Money set aside should be paid to the government or other parties regularly.
  • Businesses can use professional payroll experts, do the calculations manually, or use an online service like QuickBooks Payroll.

Payroll dos and don'ts

There are clear best practices for payroll. For instance, are your employees classified correctly? Do you have a set payroll frequency and a communication plan, and do you use electronic pay statements? All of this can seem overwhelming, but it doesn't have to be. Check out these dos and don'ts of payroll:

Payroll dos:

  • Classify employees correctly: Is the person you're looking to pay an employee or an independent contractor? You can use the CRA's four-point test (control, tool ownership, chance of profit or loss, and integration) to determine the difference between the two.
  • Choose your payroll frequency: How often will you pay your employees? Common frequencies are weekly, biweekly, or monthly.

Payroll don'ts:

  • Avoid communication: It's important to communicate payroll information to new and current employees in person and in writing. Give each employee a handbook that outlines how your payroll operates, how you classify employees (as opposed to independent contractors), their rights and responsibilities, and how you will handle any mistakes that may arise during payroll management.
  • Skip pay stubs: You're required by law to give your employees a statement of their wages. Consider using paperless or electronic pay statements to keep printing costs down. The safest and easiest method is to email your employees their electronic statements.

Setting up employee payroll information

If you're new to payroll processing, you'll first need to gather your worker's payroll information. Be sure to classify them properly by answering this question: are they an employee or a contractor? Payroll is calculated differently depending on their classification. Typically if you control their working hours, you provide the tools they use to do their jobs, they don't stand to profit or lose from the arrangement beyond your payments, and they are integrated into the company, they're an employee.

Once you've determined that the person you're paying is an employee, you'll need to gather their details, including:

  • Social insurance number (SIN)
  • Province of employment: this is usually the province in which your employee reports to your place of business, or, if they work from home, it's the province from which their salary is paid
  • Completed TD1 form and, for employees paid by commissions, a TD1-X form (If employees in Quebec will need to use the TP-1015.3-V, Source Deduction Return form.)

Depending on the situation, your employee may request that you increase or decrease the income tax deductions you take from their pay. To increase deductions, your employee should indicate that on their TD1 form. If employees in Quebec will need to use the TP-1015.3-V, Source Deduction Return form. To reduce deductions, the employee must apply for a letter of authority from the CRA. You'll need to keep the letter of authority on file and reduce the income tax deducted by the amount specified in the letter.

Calculating payroll deductions and remittances

After you gather all the necessary information, you'll need to calculate your payroll deductions and remittances. Payroll deductions are the specific amount of money taken from your employee's gross pay for taxes, insurance, and other government programs, such as the Canada Pension Plan (CPP) and employment insurance (EI). What's left is your employee's net pay, which you'll then pay directly to them.

There are several ways to calculate payroll. You can manually calculate it using a spreadsheet or a free payroll calculator . Manual calculation is the lowest cost option but it also takes the most time, and there's a chance you could make a mistake.

Alternatively, you could pay an accountant or payroll specialist to calculate your payroll. You can find a payroll expert through the National Payroll Institute (NPI), a professional group dedicated to helping businesses with their payroll. The NPI offers membership and continual learning opportunities on accounting procedures and legislation that affects payroll departments.

Finally, you could use payroll software or an online solution like QuickBooks Payroll. This service lets you run payroll in less than five minutes or even automatically, giving you more time to focus on running your business.

Managing payroll

Once you decide how to calculate payroll, you'll need to set up systems to manage your payroll efficiently. After all, depending on your payment frequency, you'll be running payments weekly, biweekly, or monthly, so making the process smooth and fast is important.

For every payment interval, there will be deductions. For example, if you pay your employees weekly, you'll calculate and withhold deductions against the employee's total wages for that week. Make sure to add taxable benefits to your employee's total income before applying any deductions, or you won't have the correct final figures.

If you hire an expert through NPI, they will manage your payroll, processing payments based on your set payment frequency. Some online payroll software, like QuickBooks Payroll, can manage your payroll automatically. It will even direct deposit your employee's pay and provide them with a portal to log in and view their payment information.

Paying payroll deductions and contributions

Payroll isn't just about ensuring your employees are quickly and seamlessly paid for their services. You also need to collect deductions from their paycheques and remit them to the CRA at specific intervals.

To make these remittances, you'll need an account with the CRA. If you don't have an account, you must apply for a business number, which you can do online, by phone (1-800-959-5525), by fax, by mail, or in person.

If you already have a business number, you can register for a payroll deduction account. Once you've withheld the proper deductions from your employee's wages, you must keep track of each amount from each employee. QuickBooks accounting software is a great way to manage this information.

You'll also be responsible for remitting these amounts to the government regularly. As it nears your remittance date, fill out your remittance form for the totals of each type of withheld income. Then, remit these amounts and your remittance form to the CRA according to the schedule you set with them.

How do you know when your remittance date is? All new remitters must submit their payments by the 15th of the month after the one in which the deduction occurred. For example, your deductions for April need to be remitted to the CRA by May 15th.

Your remittances must be on time and your calculations spot on. If you're unsure of the exact amount to withhold, use this handy payroll calculator to ensure you get your numbers right the first time. If you don't remit on time, there's a 5% (of the amount due) late payment fee, and a 1% fee for every month your payment is late.

Payroll slips and summaries

Beyond regular payments to your employees and monthly remittances, you must also issue annual tax slips and file information returns once a year.

You must give your employees tax slips (usually T4 and T4a slips / RL-1 slip if in Quebec) by the last day of February of the following calendar year. For example, your 2022 T4 slips / RL-1 slip if in Quebec must be available to your employees by February 28, 2023.

You can send these slips by email or mail, or through a secure electronic portal like the one offered by QuickBooks Payroll.

Sometimes mistakes happen. Perhaps you over-deducted income tax, CPP, or EI. If that happens, consult the CRA website for the exact steps you must take. The right actions might differ depending on the overpayment or underpayment details.

CRA Audits

Finally, from time to time, the CRA may perform an audit of your company's books. If your business is new, you might be more susceptible to an audit for reasons like potential accounting errors or a previous indication of tax-obligation non-compliance. You can catch potential issues by having an independent, outside agency perform annual or semi-annual business audits.

During the audit, any of your personal information — anything that could be related to your business — will be investigated.

This includes your books, your account information, and any personal information regarding any other individuals who may or may not work for you but have a relationship with you or your company.

The audit will have one of three possible outcomes:

  1. No adjustment: If all is well, no further action is required, and the audit is closed.
  2. Adjustment in favour of the CRA: If your accounting was off and you didn't remit enough tax, you'll owe a balance.
  3. Adjustment in your favour: If your accounting is off and you overpaid taxes, you might be entitled to a refund.

Hiring your first employee is an exciting milestone in any business owner's career, but there's more to paying employees than signing paycheques. While managing your company's payroll may seem complicated at first, once you master the basics and set up systems and procedures, it will become just another part of managing your business.

With QuickBooks Payroll, you don't have to stress about the process. Just run your payroll in as few as five minutes and direct deposit your employee's pay right into their bank account, so you have more time to focus on what matters most. Learn more and start paying your employees with QuickBooks today.

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