Track and report third-party sick pay in QuickBooks Desktop Payroll Enhanced

Learn how to track third-party sick pay on paychecks and report these payments on your payroll tax forms in QuickBooks Desktop Payroll Enhanced.

Third-party sick pay is a form of compensation paid to your employees who can’t work due to illness or injury. It can be provided by insurance providers, trusts, or other third parties.

Find out how to report third-party sick pay to QuickBooks Online Payroll and QuickBooks Desktop Payroll Assisted.

Step 1: Determine what type of third-party sick pay you have
Step 2: Create an expense account
Step 3: Create an addition payroll item
Step 4: Create a deduction payroll item
Step 5: Create an employee advance payroll item (if applicable) for taxable third-party sick pay only     
Step 6: Report third party sick pay to your employees’ paycheck and payroll tax forms

Step 1: Determine what type of third-party sick pay you have

Check the Explanation of Benefits (EOB), contact the third party to obtain it.

• Taxable 
• Non-taxable

How it’s reported:

• You withhold taxes and file the W-2
• Third-party withholds taxes, you file the W-2 
• Third-party withholds taxes and files the W-2

Step 2: Create an expense account

Create an expense account to track your employees' third-party sick pay.

1. Select Lists, then Chart of Accounts.
2. Select the Account ▼ dropdown, then New.
3. In the Add New Account window, select Expense, then Continue.
4. Enter the name of the new expense account in the Account Name field.
5. (Optional) Select the Subaccount of checkbox, and from the ▼ dropdown, select Payroll Expenses.
6. Select Save and close.

Step 3: Create an addition payroll item 

There are two tax tracking types you can use for third-party sick pay.

• Compensation is used when you're reporting taxable third-party sick pay. The third-party sick pay amount will appear in box 1 of the W-2 form.
• Non-taxable Sick Pay is used when you’re reporting non-taxable third-party sick pay. Reported in box 12, code J of the W-2 form.

1. Select Lists, then Payroll Item List.
2. Select the Payroll Item ▼ dropdown, then New.
3. Select Custom Setup, then Next.
4. Select Addition, then Next.
5. Enter a name for the Addition item. Select Next.
6. In the Expense Account window, select the expense account you created in Step 2, then Next. 
7. In the Tax Tracking type window, select:
   • Compensation for taxable third-party sick pay
   • Non-taxable Sick Pay for non-taxable third-party sick pay
8. Select Next three times.
9. In the Gross vs. net window, select net pay (only applies to Non-taxable Sick Pay tax tracking), then Next.
10.  Select Finish.

Step 4: Create a deduction payroll item 

Use this payroll item to remove the third-party sick pay amount that the employee already received.

1. Select Lists, then Payroll Item List.
2. Select the Payroll Item ▼ dropdown, then New.
3. Select Custom Setup, then Next.
4. Select Deduction, then Next.
5. Enter a name for the new deduction item such as “Deduct third-party sick pay”. Select Next.
6. In the Liability account ▼ dropdown, select the expense account you created in Step 2, then Next. 
7. Select None from the Tax Tracking Type ▼ dropdown. Select Next three times.
8. In the Gross vs. net window, select net pay, then Next.
9. Select Finish.

Step 5: Create an employee advance payroll item (if applicable)  for taxable third-party sick pay only

Only do this step for taxable third-party sick pay, Scenario 1 and Scenario 2 and if your employee hasn't returned to work yet.

1. Create an Other Current Asset account
   1. Select Lists, then Chart of Accounts.
   2. Select the Account ▼ dropdown, then New.
   3. Select Other Current Asset from the Other Account Types ▼ dropdown.
   4. Select Continue.
   5. Enter the name of the new Other Current Asset account in the Account Name field.
   6. Select Save & Close.
2. Create an employee advance payroll item
   1. Go to Lists, then Payroll Item List.
   2. Select Payroll Item ▼ dropdown, then New.
   3. Select Custom Setup, then Next.
   4. Select Addition, then Next.
   5. Enter the name of the item, such as Employee Advance. Select Next.
   6. In the Expense Account window, select the Other Current Asset account you just created, then Next.
   7. Set the tax tracking type to None. Select Next.
   8. Select Next twice. 
   9. Select net pay in the Gross vs. net window, then Finish.

Step 6: Report third-party sick pay to your employee’s  paycheck and payroll tax forms

Here are some scenarios to help you figure out how to report third-party sick pay. To learn more, check out IRS Publication 15-A.

Track third-party sick pay on paychecks

You can report third-party sick pay on a paycheck with regular wages or create a third-party sick pay paycheck-only.

Add a taxable third-party sick pay to regular paycheck

If you have taxable third-party sick pay, you must report it with a regular paycheck to allow taxes to be withheld from actual wages. 

1. Create your employee paycheck.
2. Select Open Paycheck Detail.
3. In the Earnings Item section, enter the Earning item, Rate, and Hours (for hourly employees). 
4. In the Other Payroll Items section, select the Addition item with Compensation tax tracking, created in Step 3.
5. Enter the sick pay amount received from the insurance provider in the Rate column.
6. On the next line in the Other Payroll Items field, select the Deduction item you created in Step 4, then enter the sick pay amount in the Rate column.
7. Select Save & Close, then Continue. 
8. Select Create Paychecks.

Create a taxable third-party sick pay paycheck-only for an employee who hasn’t returned to work yet

If your employee hasn't returned to work yet, and the sick pay crosses over to another calendar year, create a zero net paycheck with an employee advance payroll item added to cover the taxes.

1. Create your employee paycheck.
2. Select Open Paycheck Detail.
3. Clear all payroll items in the Earnings section.
4. In the Other Payroll Items section, select the Addition item with Compensation tax tracking, created in Step 3.
5. On the next line in the Other Payroll Items field, select the Deduction item you created in Step 4, then enter the sick pay amount in the Rate column.
6. On the third line in the Other Payroll Items field, select the Employee Advance payroll item created in Step 5.
7. Enter an amount equal to the negative net amount of the check. The net amount should be zero.
8. Select Save & Close to go back to the Enter Payroll Information window.
9. Select Continue, then Create Paychecks.

Create a paycheck for non-taxable third party sick pay

You can report a non-taxable third-party sick pay along with the regular wages or create a non-taxable third-party sick pay paycheck-only.

1. Create your employee paycheck.
2. Select Open Paycheck Detail. 
3. If you’re reporting non-taxable sick pay along with the regular wages, enter the Earning item, Rate, and Hours (for hourly employees). Otherwise, clear all payroll items in the Earnings section
4. In the Other Payroll Items section, select the Addition item with Non-taxable Sick Pay tax tracking, created in Step 3.
5. Enter the sick pay amount received from the insurance provider in the Rate column.
6. On the next line in the Other Payroll Items field, select the Deduction item you created in Step 4, then enter the sick pay amount in the Rate column.
7. Select Save & Close to go back to the Enter Payroll Information window.
8. Select Continue, then Create Paychecks.