When you overpay an employee are you required to have them back back just the net amount of the check?
No - you need to recover the gross amount and then refund to them any taxes that you are able to recover. Some practitioners argue that if they repay the net amount during the same calendar year as the overpayment, you can adjust the payroll taxes and deposits before calendar year end and all will be well. However, the regulations say any collection is in gross and includes the related taxes.
If the recovery is in a subsequent year, any recovery must be in gross (even if a partial recovery) and the Social Security and Medicare taxes attributable to the amount recovered must be repaid to the employee for the employer to file an adjustment or claim for refund of the employee's share. For a subsequent year recovery, the income tax and additional Medicare tax withheld cannot be refunded but the employee claims that as a credit against tax for the year the overpayment was made. You also adjust the Social Security and Medicare wages and taxes for the year of overpayment for the amount of wages (including taxes) recovered from the employee, but the income tax wages remain taxable wages for that year. The employee may be able to claim a tax credit or deduction in the year of repayment for the amount repaid. Any amount that is not recovered from the employee, including the withheld taxes, remains taxable income to the employee.
For example, an employee is overpaid $1,000 and had $76.50 deducted for FICA and $220.00 for FIT. Net pay is $703.50. If the employee repays $703.50, that includes FICA tax of $53.82, FIT of $154.77 and Net pay of $494.91. The remaining $296.50 remains taxable income to the employee and consists of $22.68 FICA, $65.23 FIT, and $208.59 net pay. If current year, the employer can refund the $53.82 FICA and $154.77 FIT repaid to the employee and adjust the tax deposits or file a Form 941-X for an adjustment or refund.
If the partial recovery is in a calendar year subsequent to the year the overpayment was made, the employer is to refund the $53.82 FICA to the employee and file Form 941-X but the income tax is claimed as a credit against income tax on the tax return for the year of overpayment.
The employer does have to obtain a receipt from the employee for the refund of the overpaid tax that the employer will recover as well as a statement from the employee as outlined on Form 941-X.
The recovery of the overpayment in a subsequent year has no effect on the subsequent year payroll or W-2.
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