Whether you’re a business owner or an employee, payroll tax forms are important, as they have a direct impact on each worker’s tax liability. Two related documents, Forms W-4 and W-2, are subject to confusion because their names are so similar, but their functions are very different.
The W-4 is used by employers to collect employee data and compute how much tax to withhold, while the W-2 reports to the IRS the amount of tax that has already been withheld from gross pay.
Use this discussion to understand the differences between W-2 and W-4 forms.
Differences Between W-2 vs W-4 Forms
While both forms are used for tax reporting, the information reported on each form is different:
The W-4 is a tax form used to calculate the correct amount of federal income tax that an employer should withhold from a worker’s pay. The amount of federal tax withheld is determined based on the number of allowances claimed on the W-4.
To determine the number of allowances, the employee must consider marital status, the number of children or other dependents, and eligibility for certain tax credits. When the W-4 is completed, the employer uses tax tables to calculate federal tax withholdings.
This form must be completed whenever an employee starts a new job. An employee can also update the W-4 at any time, based on changes in his or her personal or financial situation. If a new hire is unsure about how much pay to withhold, the employee can use the IRS Online Withholding Calculator for assistance.
While a W-4 is used to start withholding taxes, a W-2 is required to report taxes withheld for a particular year. Any company that pays an employee $600 or more in wages to a particular worker during the tax year, must provide a W-2.
The W-2 includes the total amounts of wages earned, federal and state taxes withheld and contributions to Social Security and Medicare for a given tax year. Employees must submit the W-2 when filing both federal and state tax returns.
Employers are required to provide copies of Form W-2 by January 31 of each year, and to submit a copy to the Social Security Administration (SSA). The SSA submissions can be sent electronically. A copy must also be kept by the employer for a minimum of four years.
The W-2 reports on a number of other categories, including dependent care benefits and certain retirement plan benefit payments.
To understand the purpose of each tax form, you need an overview of the payroll process. Broadly speaking, payroll processing requires these four steps:
Four Important Steps For Payroll Processing
- Data collection: When an employee is hired, you need to collect information to withhold the proper amount of federal and state income taxes, and possibly withhold dollars to pay for company-provided benefits.
- Calculating net pay: The net amount you pay each worker is the gross pay subtracted by tax withholdings and any benefit payment withholdings.
- Payments: You must pay each worker by check, or by an electronic transfer to a bank account.
- Reporting: Federal and state tax withholdings for each employee must be reported to the IRS and state department of revenue. The W-4 is used to collect employee data for tax withholdings, and the W-2 reports total taxes withheld from gross pay.
In order to save time and to ensure accuracy, business owners should consider using payroll software to manage this complex process.
To report payroll activity for the entire business, companies submit Form W-3 to SSA, which lists the total earnings, Social Security wages, Medicare wages, and withholding for all employees in the previous year.
Click here to see the IRS instructions for W2’s.