Understanding and complying with payroll rules can go a long way toward avoiding unpleasant tax situations. As an employer, every contractor must withhold income taxes and other amounts from the wages of workers each time that worker is paid. According to tax rules, wages include all remuneration for services performed by an employee, including the cash value of benefits paid in any medium other than cash. In addition to withholding federal income taxes, under the Federal Insurance Contributions Act (FICA), an employer is required to withhold social security taxes, including hospital insurance tax, from the wages.

Another law, the Federal Unemployment Tax Act (FUTA) imposes a tax on employers who employed one or more persons in “covered” employment.

A contractor must pay over or “deposit” both the amounts withheld and the employer's matching contributions to the government. Increasingly, more businesses are required to deposit those amounts using the IRS's “Electronic Fund Transfer” system. Any business that exceeds threshold aggregate amounts of employment and other taxes must deposit by EFT.

—Mark Battersby is a tax and financial writer and lecturer based in Philadelphia.