How to Calculate Deductions from Employee Paychecks

How to Calculate Deductions from Employee Paychecks

Perhaps you’re wondering how to calculate deductions from employee paychecks. Many do because payroll accounting is a complicated process. You can’t just pay employees their paychecks without making the necessary deductions.

When paying workers, you must follow federal and state laws on taxes before sending those paychecks. As an employer, you need to deduct income tax, medical tax, and other deductions as specified by the government. You may face hefty fines if you fail to remit the correct taxes.

This article will explain what deductions are, how to calculate deductions from employee paychecks, and some common mistakes when making deductions.

What are payroll deductions?

Payroll deductions are the sales that are taxed from the employee’s wages. This deduction makes up the difference between their gross pay (what is stated in their contract) and their net pay (their take-home salary).

These deductions are meant for paying taxes, health and medical insurance, and pensions. Several factors that influence the kind of deductions to be made are:

  • Company Benefits
  • Federal, state, and local taxes
  • Employee withholding allowance

Deductions that affect employee paychecks can be divided into two categories:

Mandatory Wage Deductions

As an employer in Canada, you are required to withhold taxes from your staff’s salary and give them to the Canada Revenue Agency. These deductions are mandatory, and penalties will be issued to defaulters. In Canada, the federal income tax is statutory and needs to be remitted to the government.

Voluntary Deductions

These voluntary deductions cover payments for things such as retirement plans, disability allowance, and health insurance. In Canada, there are the Canada Pension Plan (CPP) and Employment Insurance (IE), which attract deductions.

Moreover, there is also the GST/HST tax for non-residents doing business in the country. Staff must agree to have a specific part of their salaries held for these purposes. Some of these standard voluntary deductions from paychecks are Life Insurance, retirement plans, and health insurance (HMO).

How to calculate deductions from employee paychecks

This section will discuss how to calculate deductions from employee paychecks in detail.

Tally the Employee’s Gross Wage from the Agreement.

When someone is employed in Canada, they have a stated salary in the job offer that they are expected to earn; this is known as the “gross wage.”

This wage is the total salary he earns during a specific period. It includes commissions, overtime, and tips (if allowed). You must calculate the hours worked with the agreed pay rate to get the gross wage.

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Deduct Pre-tax Withholdings.

Depending on the agreement between you and your employee, some amounts might be withheld on a pre-tax basis. This will affect their taxable wages and payroll taxes.

These non-taxable salaries aren’t uncommon in certain businesses in Canada. You must remove these deductions from your gross pay before starting with income tax and other tax deductions.

Deduct Employee-only Taxes.

The next step is to subtract deductions that affect only the employee. These paycheck deductions must be set aside and remitted to the federal and state governments. The following factors will help you determine how much income tax to deduct:

  • Taxable Gross Wage
  • Marital Status
  • Allowances Claimed

Also, some provinces have a separate income tax different from the federal one. You will have to check with your province to know which taxes are due.

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Remove other Taxes

There are also a few deductions that an employee needs to make. The total annuity income tax to be deducted varies by province. Provinces such as Alberta, New Brunswick, Ontario, and Quebec are higher than others. Also, you must consider the Medicare tax, which is contributed to the national purse.

Remove Voluntary and Involuntary Deductions.

Aside from taxes withheld, some kinds of paycheck deductions may come up. These deficiencies can affect the staff’s net pay. Here is a list of some things you need to remove from your paycheck:

Court-ordered Deductions

Employers wanting to know how to calculate deductions from employee paychecks must obey legal judgments. Some employees might have their wages garnished because of bad debts, child support fees, or alimony. When such issues arise, you should withhold such funds.

Courts in Canada sometimes order a small fee to be charged from employee paychecks for reimbursement. There are penalties for people who don’t follow garnishment letters accordingly.

After-tax Deductions

Also, certain paycheck deductions must be removed after the tax has been removed. Some of these include union fees, charitable donations, and group contributions. Also, remove all personal loans given to your employee before giving him that paycheck.

Add Reimbursement

The paycheck has been depleted by the time the above deductions are made. If you want to make it bigger, you must add reimbursements for any work-related expenses the employee has incurred.

Did the staff member drive to cater to a customer? If so, you need to add mileage fees. And if they sign up for conferences with their credit card, they must be reimbursed.

Moreover, this type of reimbursement is added after other taxes have been removed because they aren’t considered income. Ensure you keep proper track of all staff expenses to be able to add all necessary reimbursements.

Calculate the Employee’s Paycheck.

By this stage, you are almost through knowing how to calculate deductions from employee paychecks. The simple arithmetic at this state is:

Employee Gross Pay – All Taxes – Voluntary and Involuntary Deductions + Reimbursement = Total Net Pay

This amount is what will be sent to the employee.

Common mistakes to avoid when calculating an employee paycheck

Taxes are important and taken seriously by the Canada Revenue Agency. Over 30% of business owners in the country are fined for mistakes. Asides from knowing how to calculate deductions from employee paychecks, avoid these mistakes:

Wrong classification of Employees as Independent Contractors

One of the major mistakes to avoid when calculating deductions from employee paychecks is the misclassification of workers.

It doesn’t matter if it’s intentional or a mistake; the CRA will flag your business and order you to pay penalties. It doesn’t just stop at the fine; you must pay back taxes before continuing business.

You should check with the revenue agency for the proper definitions to avoid misclassification. You should also talk with an auditor or tax expert for appropriate advice.

Mixing Exempt with non-exempt Staff

When making payroll deductions, knowing the difference between these employee categories is vital. Exempt staff aren’t eligible for overtime wages for hours above 40. But non-exempt staff can be paid overtime regardless of the time worked.

To become an exempt employee, you just:

  • Have a salary of at least $500 weekly. In some provinces, such as British Columbia and Ontario, it’s higher.
  • Hold at least an executive position in the company.
  • The position must directly affect business operations.
  • Must not be a casual worker

It’s best if you check your province’s law for better clarity.

Wrong Calculation of Overtime Pay

When a staff member works more than 40 hours a week, an employer must pay 1.5 times their due wage. However, be sure to confirm, as your overtime pay rules differ from province to province. If you miscalculate the overtime rate, you will pay fines and interest to the revenue agency.

Wrong Calculation of Taxable Income

Sometimes, you forget to factor in payroll taxes when paying for vacation or overtime. Taxes usually apply to sick, holiday, and overtime pay. Their pay should be calculated based on taxable income to remit the correct taxes.

Late Payment of Payroll Tax

All payroll taxes should be reported quarterly in most Canadian states, while some are reported monthly. Avoid missing deadlines for tax payments because if you do, you will pay fines (2–3%, depending on the state).

Wrong State Taxes

You may be paying the wrong taxes in the state, especially for people who offer remote jobs. This is possible because your staff lives in a different state than where your business is located. Be thorough when making payments to the correct state agencies.

How to calculate deductions from employee paychecks conclusion

The guide talked about how to calculate deductions from employee paychecks. A proper explanation of what deductions were discussed and the types of deduction categories available

Also, we talked about the process of calculating deductions from employee paychecks to arrive at net pay. People make common errors during deductions, which were highlighted in the article.

As an employer in Canada, making the correct deductions and remitting them to the revenue agency is essential. Avoid missing tax deadlines, and ensure you talk to someone who knows about Canada’s tax deduction process for clarity.

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FAQs about how to calculate deductions from employee paychecks

How do you calculate the gross salary?

You must add basic salary with overtime and other alliances to calculate gross salary. The gross salary is the taxable wage of an employee.

What is a gross monthly salary?

Gross monthly income is the fee paid to staff within a working period. This is the gross amount before taxes and other deductions. The gross pay is seen in the job offer letters.

What's the difference between gross and net pay?

Gross pay is the amount an employee earns before any deductions are made. This is the amount paid before deductions, benefits, and taxes are withheld. While the net pay is the amount left after all deductions have been removed, it is usually called the "take-home wage."


August 7, 2023
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