Your Quick Guide To California Payroll Taxes, Laws & Regulations
Small business owners in California who run their own payroll are responsible for paying the right payroll taxes — and paying them on time. To avoid legal penalties and serious consequences, it’s vital to know what payroll rules businesses in California need to follow.
These laws can get complicated since California has a unique blend of state-level taxes in addition to federal and local ones.
Let’s break down the payroll taxes you need to report and contribute when hiring employees in the state of California.
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State Of California Payroll Laws & Regulations
California requires multiple payroll tax contributions from both business owners and their employees. The different rates at which you and your employees contribute typically change on an annual basis, and are broken down based on things like your employee’s wages and how long your company has been in business.
Let’s cover how California’s payroll laws and regulations affect your business and your employees at the federal, state, and local levels.
What Are California Payroll Taxes?
The Employment Development Department, or EDD, oversees California’s four separate payroll taxes:
- Unemployment Insurance (UI): This is a national program aimed at helping people through periods of unemployment. UI is paid by the employer — the rate schedule is published annually.
- Employment Training Tax (ETT): According to the California government, “The ETT provides funds to train employees in targeted industries to make California businesses more competitive.” This is an employer-paid tax.
- State Disability Insurance Tax (SDI): The State Disability Tax provides temporary benefits and payments to workers who are unable to work because they, or someone in their immediate family, is disabled, injured, or ill. This tax also covers family leave.
- California Personal Income Tax (PIT): California’s PIT (Personal Income) tax is used to provide resources and public services like schools, roads, public parks, and health. Withholdings are based on an employee’s filings on their W-4.
As a business owner, you’re responsible for withholding the appropriate amount of taxes from each of your employees’ paychecks (and your own wages). Under most circumstances, employees also need to contribute parts of their paycheck toward State Disability Insurance (SDI) and Personal Income Tax (PIT). Employers do pay contributions toward Unemployment Insurance (UI) and Employment Training Tax (ETT). Certain industries grant exemptions to some of these four state-level payroll taxes, although you’re typically responsible for withholding the proper amounts for these state-level taxes as a business owner.
The following California-specific taxes need to be withheld in addition to federal taxes:
- Property Tax: California’s Proposition 13, enacted in June of 1978, capped the rate against which the state could tax real property at one percent. What’s more, the law requires that local elections achieve a two-thirds majority in favor of increasing this one percent. Since its passage, Proposition 13 has remained virtually unchanged and still applies to all residential and commercial real property in the state of California.
- Sales Tax: The Bradley-Burns Uniform Sales and Use Tax Law of 1956 created sales and use taxes that split between the state, the city, and the county. California’s current rate for use and sales taxes is 7.25%, six percent of which goes toward the state of California, one percent toward the local city or county, and the remaining toward local transportation. California uses additional district tax rates of higher than 7.25% for certain parts of the state.
California’s Tax Exclusions & Exemptions
California State’s Board of Equalization works with county-wide assessors to exempt religious, hospital, scientific, and charitable properties, or any properties that can be reasonably determined as owned and operated for nonprofit purposes. The board is also responsible for exempting properties qualifying for Welfare or Veteran’s Organization Exemption tax withholdings. California relies on the Board of Equalization to work with county-wide assessors to decide on how best to administer additional property tax exemptions for the state.
California’s Minimum Wage
Just like other states, California has minimum wage laws that business owners need to follow when they record and report their payroll. For businesses that staff fewer than twenty-five employees, owners must pay a minimum wage of thirteen dollars per hour. Any business that staffs more than twenty-six employees must bump their minimum wage up by a dollar, to a wage rate of $14/hr. (These rates are slated to increase by an additional dollar for each category in January 2022.)
One of the highlights of California’s minimum wage laws is the way they deal with tipped employees. There’s no reduction in the minimum wage rate that tipped employees receive. Employees still need to form a collection amongst themselves, though, to pool tips and share them equally among their co-workers.
It’s good practice to document your minimum wage rates for each fiscal year and report changes you make to your company’s minimum wage policy. California is relatively strict about compliance poster obligations for business owners. The state asks that all business owners post their business’s policy regarding wages earned, which includes minimum wage rates.
California uses its UI tax to keep compensation programs afloat for people who are unemployed. Any employer who has spent more than one-hundred dollars on employee wages needs to record and report UI taxes. This is an important difference between California and most other states, which usually follow federally mandated unemployment tax provisions. California’s cap on annual taxes paid to the state — $7,000 — applies to UI taxes as well. The EDD is responsible for modifying the rate schedule unemployment insurance uses on an annual basis. Business owners take that year’s given rate schedule and contribute 3.4% for at least two years.
New Hire Reporting
You’re responsible for reporting new employee information to the California New Employee Registry within the first twenty days of their employment. These reports also go to the EDD, so be careful not to miss deadlines for reporting information on your new employees.
This rule also applies to anyone you’re rehiring if it’s been more than sixty days since their departure. Your information on new hires, as well as rehires, gets reported straight to the New Employee Registry (NER), which helps California work on existing new hire reporting laws. Currently, California does not offer any exceptions for new hire reporting. If you hire or rehire a new employee, you must report their first and last name, social security number, home address, and the date they began work.
California’s Fair Employment and Housing Act requires business owners to adopt equal hiring policies. It’s against the law to discriminate against potential hires on the basis of their race, sex, gender, and much more. The state offers employees multiple ways to file a claim for workplace discrimination. At the state level, the California Department of Fair Employment and Housing (DFEH) is responsible for addressing workplace discrimination claims; the same is true for the Equal Employment Opportunity Commission (EEOC) at the federal level.
Technically, you’re not legally bound to give your employees vacation time and PTO if you operate your business in California. With that said, it’s a good idea to have a way for employees to accrue a fixed amount of PTO per year so that they can take some personal time off. If you do establish a company-wide PTO policy, California considers the PTO you distribute as wages earned by an employee.
California does, however, mandate paid sick leave to be given to all exempt and nonexempt employees. And, if an employee collects more PTO than they use in a given year, you’re responsible for paying the amount equal to wages accrued. You need to do the same thing for employees who quit or are fired, since PTO distributed under PTO policies is technically wages owed to your employees.
California defines rest breaks as 10 minutes of paid rest. The state makes a compromise with employers by defining lunch as an unpaid break of 30 minutes. However, employers are responsible for paying employees a paid hour of time worked if they don’t get to take a break on a given day.
Certain urban districts in California require that employers pay out sick leave to their employees. This varies based on the area, but it’s important to be aware that the state fines businesses that don’t comply with these labor laws. These rules are typically most common in urbanized districts with different local-level laws.
Child Labor Laws
California’s child labor laws prevent anyone who is 13 years old or younger from working at a business operating within the state. Labor laws in California restrict people who are under 18 years old from working without a permit. Youth between 12 and 13 years old can only work during school holidays and vacations, and only up to four hours per week. The laws exist generally to prevent persons under 18 years from providing exploitable labor and economic vulnerability.
You’re responsible for paying your employees twice monthly on your designated paydays. Per California’s Labor Code Section 207, business owners need to show some proof of payment to their employees. This notice of proof includes when you paid an employee, the day you paid them, and where they were paid. For employees whom you have terminated, you’re required to reimburse them with any remaining unremitted wages they have earned.
Your W2 employees fund their own insurance for state disability, usually referred to as State Disability Insurance (SDI). This means you can choose to provide benefits for disability insurance on top of what your employees already get. These laws can get trickier for 1099 contractors who don’t do business for you or anyone else within California.
Insurance for state disability accounts for illness or injury that happens in your place of business. You need to withhold the SDI rate against the first $122,909 of your employee’s wages. Your employees are responsible for contributing taxable income toward this state-mandated program, and as of 2020, the rate for SDI taxes is one percent of their annual wages. Employees can’t contribute more than ten percent of their first $122,909 in annual income toward SDI taxes.
Workers’ Compensation Insurance
Rates for your workers’ compensation coverage start with work classifications for your employees’ positions. Perhaps you staff someone whose class code comes out to a nice, round number you can use to calculate their rate, say $0.50. Take their salary, another round number of $100,000, and divide that by 100. You’re left with the following formula: $.50 x $1000. Obviously, this will change based on your employees’ state-designated class codes and salaries earned, but this formula gives insight into the calculations you can expect to see.
Workers’ compensation provides required coverage to employees in nearly every state of the country. In California, businesses are required, at a minimum, to put down $500,000 toward a workers’ compensation insurance policy for their company. You need to cover each of your employees with $100,000 and put the same amount toward a minimum limit toward occurrences your plan covers. Employers are allowed to dispute claims for occurrences off-premises of work or during volunteering. You are still, however, required to cover injury and illness that occurs during work hours.
How To Do Payroll In California
Now that you’re familiar with California’s different levels of payroll taxes, you can begin looking at ways to submit your payroll reports and how to accurately calculate what you owe the state and federal governments.
Step 1: Make Sure You’re Following All California Payroll Laws
Be certain that you have the correct state and federal forms to submit payroll by each due date. Federal forms (Form 941) and state forms (DE9, DE 9C) should be submitted on a quarterly basis. Business owners who miss these deadlines are subject to federal and state penalties that accrue exponentially the longer you wait to report your payroll.
Step 2: Gather Employee Documentation
Now that you’re ready to calculate your payroll contributions, you can decide on the way you’ll report your information. Choose either a printed or digital version of the Deport of New Employee(s) (DE 34) form, a completed W4 form, or an in-house form that satisfies the California New Employee Registry’s requirements. Remember that you need to start processing payroll for employees who’ve started work within the last twenty days.
Step 3: Calculate Your Employee’s Hours
Once you’ve picked your method to submit payroll information, make sure you have the correct rates to calculate your four different taxes: UI taxes, ETT taxes, SDI taxes, and PIT taxes. As a refresher on calculating California’s four state-level taxes, remember to:
- Contribute a percentage between 3.4 to 6.3% of the first $7,000 of your employee’s wages. The percentage you contribute depends on how long you’ve been in business.
- Put .1 percent of an employee’s initial $7,000 of reported income toward ETT. You’ll be contributing seven dollars to each person you staff annually.
- Remind employees that they are responsible for submitting one percent of SDI-taxable paychecks on an annual basis against the first $122,909 of their wages.
- Ensure all of your employees have completed a W4 form or DE 4 to report PIT tax.
For businesses with just a few people, you can consider using the wage bracket method to calculate payroll. The Wage Bracket method relies on your manual input, so be sure to closely follow the instructions detailed in the state’s 2019 withholding schedules. The Exact Calculation method should be used when you need to automate your calculations. Multiple small business payroll software processing solutions exist to do just that. We suggest that you take advantage of any of the powerful payroll software tools available to crunch your staff’s payroll contribution numbers without errors.
Step 4: Deduct Federal & California State Payroll Taxes
Next, calculate and deduct any applicable taxes from each employee’s earnings. Here’s a rundown of the most important taxes you need to deduct on behalf of your employees:
- Federal Income Tax: You can calculate what each employee owes in federal income taxes based on the tax withholding tables published in the most recent edition of IRS Publication 15-A.
- FICA: These include Social Security and Medicare. You need to take note of the year-to-date income and the income limits for the deductions.
- Contributions To Savings Accounts: You’re also responsible for sending contributions to various social welfare programs on behalf of your employees, from health insurance to life insurance, 401(k), etc.
- Garnishments: If you receive a notice to garnish your employee’s paycheck, attend to it promptly to avoid legal issues.
- Miscellaneous Deductions: Finally, you need to check properly to ensure that you’ve factored in all the deductions you’re mandated to keep from your employee’s paychecks, including loan repayments for loans from banks and other lending institutions.
Step 5: Process Payroll
After determining tax withholdings and net pay, you need to turn your attention to the methods for distributing the paychecks. You can choose to process the paycheck manually, tearing out check leaves from a dedicated checkbook and writing out the checks. A faster method is direct deposits, but that requires a one-time setup fee for each employee and a small transaction fee for each deposit.
You can also outsource the paycheck distribution to a professional employment organization (POE), or use payroll software to completely automate the process. Payroll providers like ADP and Gusto have experience working with the state of California and are well-suited for small businesses of any size.
Step 6: Don’t Forget To Keep Records
Of course, keep those records! You need to document and store all your payroll records and make them easy to retrieve when you need to report them to the proper federal and state authorities. Your payroll records should include details like:
- Employee’s full name and Social Security number
- Address, including ZIP code
- Employee’s schedule
- Total hours worked each day
- Type of pay (hourly or salaried)
- Regular pay rate
- Overtime and other earning
- All deductions from their paycheck
- Total monies paid each payday
- Payment dates and the period covered
California Payroll Tax Resources
You now know the most important parts of implementing and managing a California-based payroll system. It’s natural to need some time to start working through tax reporting more quickly, but it’s only a matter of time before you’re feeling confident and in control. No matter where you are in your payroll journey, there are resources and guides to help you get started. Want to know more about deductions? Read our article “What Is A Payroll Deduction? What Employers Need To Know.” Or check out Merchant Maverick’s payroll tips with “The Best Payroll Practices Every Business Owner Needs To Know.”
For more information on calculating how much your employees owe in federal income taxes, take a look at the most recent edition of the IRS Publication 15-A. If you’re interested in diving a bit deeper into running a business in California, consider reading about the best resources for business loans and financing for Calfornia businesses!