CHAPTER TWO

2.0 LITERATURE REVIEW

In a company, payroll is the sum of all financial records of salaries for an

employee, wages, bonuses and deductions. In accounting, payroll refers to the

amount paid to employees for services they provided during a certain period of

time. Payroll plays a major role in a company for several reasons.

From an accounting perspective, payroll is crucial because payroll and payroll

taxes considerably affect the net income of most companies and they are subject to

laws and regulations (e.g. in the US payroll is subject to federal, state and local

regulations). From an ethics in business viewpoint payroll is a critical department

as employees are responsive to payroll errors and irregularities: good employee

morale requires payroll to be paid timely and accurately. The primary mission of

the payroll department is to ensure that all employees are paid accurately and

timely with the correct withholdings and deductions, and to ensure the

withholdings and deductions are remitted in a timely manner. This includes salary

payments, tax withholdings, and deductions from a pay check.

A payroll system involves everything that has to do with the payment of employees

and the filing of employment taxes. This includes keeping track of hours,

calculating wages, withholding taxes and other deductions, printing and delivering

checks and paying employment taxes to the government.

The payroll system starts when a company hires its first employee. In the United

States, every new employee must be reported to the state along with a completed

W-4 tax form. The W-4 determines how many allowances the employee qualifies

for when calculating the federal income tax that should be withheld from each

check. Generally, the more dependents you have, the less income tax you have to

pay.

As an employer, the W-4 is the first of many forms that you must keep on file as

part of your payroll system. In fact, the W-4 needs to be kept on file up to four

years after the employee is fired or quits [source: Intuit]. You must also keep track

of the employee's critical personal information, like the address to which checks

are sent, or in the case of direct deposit, the bank information and account number

where the money is wired. All of this information is highly sensitive, meaning that

a good payroll system should also be very secure.

Withholding and paying taxes is one of the most important responsibilities of the

payroll system. In the United States, the following are the major withholdings

required by the government:

 Federal income tax

 State and local income taxes (where applicable)

 Social Security tax

 Medicare tax
When an employer withholds taxes from a paycheck, he acts as the trustee for

those funds until they are paid to the IRS, the Social Security Administration

(SSA) or other government agency. To avoid confusing this money with profits or

other business income, all withheld taxes must be held in a separate bank account

or trust fund.

In the case of Social Security and Medicare withholdings, when it's time to hand

that money over to the government, the employer is required to match the

employee's contributions. For example, if an employee is paying 6.2 percent of

every check for Social Security, then the employer has to pay an equal 6.2 percent.

In addition to matching Social Security and Medicare contributions, the employer

has to pay federal and state unemployment taxes (FUTA and SUTA) for each

employee. The employer pays these taxes himself, meaning nothing is withheld

from the paycheck.

There are numerous other possible deductions, withholdings and contributions that

can be subtracted from an employee's gross wages and that need to be tracked by

the payroll system:

 Health insurance or life insurance premiums

 401(k) or other retirement fund contributions

 Workman's compensation

 Union dues
  Vacation days

 Sick days

 Employee loans

 Court-ordered wage garnishments (for outstanding debts)

 Child support payments

At the end of the year, an employer uses the payroll system to take all of the wage

and withholding information from the previous year and summarize it on a W-2

form for full-time employees or a 1099 form for contract workers. Copies of that

form must be sent to the employee, the IRS and the SSA.

2.1 BENEFITS OF USING PAYROLL SOFTWARE

Every growing business needs reliable payroll software. As your business starts to

expand, you will feel the need to use payroll software. The more employees you

have in the company, more paperwork will come into the accounting department.

Automation of tasks for payroll helps you to sort out financial documents properly.

When the number of employees increases, it is normal to separate them into

different departments. It makes it easier to implement operation and manage

various tasks. For this reason, you need to consider payroll software for accuracy

in salary computation. A reliable payroll system helps the business grow by

avoiding financial errors when it comes to paying salaries and wages to employees.
It requires attention and proper management. The calculations for staff payment

and tax obligations is easier when you have useful payroll software.

Are you still thinking if using payroll software is ideal for your business? To help

you decide, here are some of the benefits when using a reliable payroll system.

Payroll software systems can be programmed to perform manual human resources

tasks, freeing up time for you to run or grow your business. They can be used to

archive your employee slips and monthly reports, giving you a concrete payment

history. And as an automated program, payroll systems pay your employees on

time and according to the parameters that you set, leaving little margin for human

error.

2.2 ADVANTAGE OF USING PAYROLL SOFTWARE

Payment Calculation

The automated payroll system uses payroll software to compute all wages. Payroll

software, such as QuickBooks, PenSoft, Z-Pay, Ultipro and Sage Peachtree

calculate gross-to-net earnings based on the data the payroll representative inputs.

Therefore, the result depends on the accuracy of the input. Thus, if a terminated

employee is due severance pay but the payroll representative neglects to make the

entry, the system will not pay it. Typically, the system is reliable so long as the

entries are correct.

The automated system performs all types of payments: hourly, overtime, double-

time, salaries, commissions, bonuses, pay raises, retroactive pay, wage deductions,

auto payments and tuition reimbursements. Notably, the automated system

eliminates manual paycheck writing. The system automatically generates

paychecks and stubs and enables direct deposit.

Forecasting

When you have payroll software, it allows you to see and monitor all payroll

expenses instantly. This helps you graph financial data to help you create a

forecast. If you have an idea of your business performance, it will be easier to

decide when you need to hire new staff for the company. You can make

adjustments and calculate salary increases to help you make an assessment on how

it will affect your money. It is easier to know whether your decision is good for the

business.

Tax management

Computations for tax might be a headache. Using a payroll system will minimize

the stress related to employee reporting obligations. You need not to look for piles

of pay-slips to see the records for tax payments. Through an automated payroll, all

records are kept in the computer. These data are easy to collect and pull-out from
the system to provide you with accurate tax records. Avoid the errors of manual tax

computation of salaries by using an automatic payroll system.

Reliable backup

As a business, keeping large amounts of data for payroll can be challenging. You

can’t store piles of papers and data manually. But when you are using payroll

software, it is convenient to save records in various databases available online. In

case your computer or system is destroyed, you should still have a backup to get all

your records back.

Deduction Calculation

Salary and wage deductions are a necessary part of payroll processing. The

employer must take mandatory withholding from employee paychecks, including

federal income tax, Social Security tax, Medicare tax and usually state income tax.

These taxes can be time-consuming and perplexing to compute manually. A

number of rules are attached to withholding tax calculations. With an automated

payroll system, the software has the tax rates hard-coded in the system. It

calculates the withholding tax for each employee based on the withholding

conditions data input. This reduces the likelihood of payroll tax errors, which can

result in fees from the IRS and the state taxation agency.
Record-keeping

The IRS requires employers to keep employment tax records for a minimum of

four years. Furthermore, the U.S. Department of Labor requires payroll records to

be kept for at least three years. The manual system requires filing the necessary

payroll data by hand, which consumes time and increases clutter. Payroll software

generates and stores payroll and employment tax data.

2.3 ORGANIZATIONAL NEEDS FOR PAYROLL SYSTEM

In an organization, there are several departments and each department has a

payroll section to manage its payroll activities. Each section has to perform

necessary personnel operations like data collection and prepa-ration, entry,

updates, monitoring and reporting of data. Many of these existing practices and

procedures need to be reassessed at this time of changing needs, changing demands

of employees and changing technologies. So an organization needs an integrated

computer based payroll system that would integrate personnel and pay-roll related

data collection, processing in individual departments and payroll audit in a more

efficient and streamlined way. With this computer based payroll system, payroll

section would be able to keep a record of employees including their personnel data,

pay band, allowances, deductions, savings and taxes etc.. Net pay of each
employee is calculated by using the information about his allowances and

deductions. All these complex calculations have been incorporated here in. Many

optional allowances and deductions for the employees are added by specifying the

corresponding details. The individual pay slips and deduction vouchers are printed

out as a re-ceipt. Pay bands, grade pay, allowances, deductions and tax information

are updated if there is any amendment in salary structure. This proposed computer

based payroll system has been developed in accordance with requirements of Any

organization. Presently a clipper based payroll system is being used at any

organization which has to be separately installed in each department and timely

updated only by a particular person. This proposed system is secure, easy to use

and provides online access to any organization employees from any web enabled

computer at any time. The computer based payroll application is a web-based

design. The server-side of this application is partitioned in terms of logic into

three-tiers or layers [6] as shown in Fig. 1 Each layer has a different responsibility

in the overall deployment and within each layer, there are one or more

components.
2.4 USES OF PAYROLL SYSTEM

Timekeeping

 Timekeeping is an essential aspect of payroll, particularly if hourly employees

are present. The payroll system enables the employer to process timekeeping

data for each applicable employee. If the system is manual, the payroll

representative figures the time by hand. This includes adding up the hours

worked as shown on the time card or timesheet. A computerized timekeeping

system can transport the time into the in-house computerized payroll system,

which includes the use of payroll software. If the payroll system is outsourced,

the employer sends the time information to the payroll service provider to

handle the payroll duties.

Payroll Processing

 Payroll processing includes performing many tasks, which may vary by

employer. For instance, a payroll of five employees may not include processing

salary wages and direct deposit, but a payroll of one hundred employees might.

Regardless of the tasks involved, the payroll system ensures that they get

processed.Payroll processing tasks can include computing hourly pay; salaries;

pay raises; wage deductions; commissions; payroll taxes; wage garnishments;

and voluntary deductions, such as health benefits, parking fees and retirement

benefits. Furthermore, it can include ensuring new hires and terminations are
 appropriately processed.A manual payroll system uses payroll department

employees who process these tasks manually. The in-house computerized

system processes them with payroll software. The outsourced system uses the

payroll service provider to handle payroll processing.

Tax and Reporting Compliance

 The payroll system enables the employer to comply with mandatory payroll tax

and record-keeping policies. The Internal Revenue Service requires the

employer to withhold and pay employee federal income tax, Social Security tax

and Medicare tax. Most states require state income tax withholding. The U.S.

Department of Labor has payroll record-keeping criteria: payroll records should

be kept for a minimum of three years, and those that determine wages--such as

timekeeping data--should be maintained for no less than two years. The payroll

system enables the compliance of these requirements.In a manual system,

payroll department employees figure payroll taxes manually. The in-house

computerized system uses payroll software to figure the tax. The payroll service

provider computes the tax if the payroll is outsourced. The employer stores

payroll data via hard copies in a confidential storage area if it uses the manual

system. The in-house computerized system allows the employer to store the data

in the payroll software. The payroll service provider sends the employer payroll
reports for each payroll that it processes for the employer. Many payroll services

have an online service that allows the employer to access the necessary reports.