Payroll Articles
Workers' Compensation Insurance
The workers' compensation system may not appear to have anything to do with payroll, but actually it can have an effect in two distinct areas, benefits and premiums. Workers' compensation is a form of insurance employers are generally required to buy to insulate them against lawsuits brought by Employees who are hurt or become ill while working.
Benefits
Payments received as workers' compensation benefits are not included in an Employee's gross income and are not subject to any employment taxes. This exemption applies only to amounts received as compensation for injuries or illnesses suffered on the job, and only to amounts that do not exceed the benefits provided under the applicable state or federal workers' compensation law.
The exclusion is not limited to benefits paid by a state workers' compensation agency, but may include some employer payments (most often in the public sector). To be excluded, the payments must be made under a federal, state, or local law or regulations issued by a political subdivision, such as a sewer district or school board, that are .in the nature of a workmen's compensation act.. This exclusion only applies to federal income and FUTA taxes, however, not to Social Security or Medicare tax.
Some employers arrange with their Employees to pay them all or part of their salary while they are receiving workers' compensation benefits, in return for which the Employees turn over their workers' compensation benefits to the employer. Under such an arrangement, any amount paid to the Employee in excess of the Employee's workers' compensation benefits is wages subject to federal income tax withholding and Social Security, Medicare, and FUTA taxes.
Premiums
The payroll department plays a central role in determining an employer's workers' compensation premiums. The premium an employer pays for workers' compensation insurance, whether the insurer is a state fund or a private insurance carrier or the employer is self-insured, is generally based on the type of business the employer engages in and the size of its payroll (but see the discussion on classification exceptions following).
Each state has its own workers' compensation law setting premium rates and benefits, assigning classification codes, and determining what types of Employee compensation are included in calculating premiums. These differences can increase the administrative burden on the payroll department, especially for employers with operations in a number of states. The states can be broken down into four categories in their approach to workers compensation insurance.
National Council states. The large majority of states (39 states plus the District of Columbia) are
called National Council states for purposes of workers' compensation because they adhere to the uniform classification codes (see discussion following) in the Basic Manual for Workers' Compensation, which is published by the National Council on Compensation Insurance. These states are listed below:
Alabama Idaho Minnesota Oklahoma
Alaska Illinois Mississippi Oregon
Arizona Indiana Minnesota Rhode Island
Arkansas Iowa Montana South Carolina
Colorado Kansas Nebraska South Dakota
Connecticut Kentucky Nevada Tennessee
Dist. of Columbia Louisiana New Hampshire Utah
Florida Maine New Mexico Vermont
Georgia Maryland North Carolina Virginia
Hawaii Massachusetts Ohio Wisconsin
Non-National Council states. There are 7 states that use independent workers' compensation manuals (California, Delaware, Michigan, New Jersey, New York, Pennsylvania, and Texas), although many of the classification codes they use are identical to those used in National Council states.
Monopolistic states. There are 4 states (North Dakota, Washington, West Virginia, and Wyoming) that administer workers' compensation premiums and benefits solely through a state fund, prohibiting employers from purchasing insurance from a private insurance carrier. The premiums are deposited and reported in much the same way as an employment tax.
Competitive state funds. Twelve National Council states (Arizona, California, Colorado, Idaho,
Maryland, Michigan, Montana, New York, Oklahoma, Oregon, Pennsylvania, and Utah) allow private insurance carriers to compete with a state workers' compensation fund. Where an employer's workers' compensation needs are handled through the state fund, premiums are deposited and reported in much the same way as an employment tax.
Classification codes. Employers are assigned "classification codes" based on the type of business they carry on (manufacturing, mining, construction, restaurant, etc.), although different codes are needed for certain Employees. A dollar value is then assigned to the code and it is multiplied by the employer's total payroll allocated to the code (minus certain exceptions, such as overtime premiums) to determine the employer's workers' compensation premium. The payroll department can affect the amount of the premium in two major ways:
- Finding Employees who may be assigned a less costly classification code than that assigned to the employer as a whole; and
- Making sure compensation that can be excluded from total payroll is in fact excluded.
Classification code exceptions. While an employer's business generally determines its classification code, and the more dangerous the business the higher the dollar value assigned to that code, some Employees may be assigned a different and less costly code because of the duties they perform. Employees who work exclusively in an office, outside salespeople, and drivers and their helpers may be assigned a standard exception classification. Such classifications generally carry a significantly lower dollar value than other Employee classifications. Therefore, the payroll department must be very careful if asked to determine an
Employee's qualifications for such an exception.
Included and excluded payroll. Certain types of Employee compensation can be excluded when an employer determines the total payroll figure that must be used to calculate its workers' compensation premium. Because a lower total payroll figure necessarily means a lower premium, the payroll department should be on the lookout for Employee compensation that can be excluded from total payroll. The most important exclusion from total payroll is money paid as overtime premiums.the 50% extra per hour that an Employee earns for working beyond the normal workweek (100% where the Employee is paid double time). But remember that only the overtime premium is excluded, not the entire amount earned for working overtime. Other exclusions that apply generally throughout the states include:
- reimbursed travel expenses
- third-party sick pay
- reimbursed moving expenses
- tips
- personal use of company-provided vehicle
- group-term life insurance over $50,000
- Severance Pay
- educational assistance payments
- employer contributions to group pension or insurance plans, other than Employee elective deferrals
Individual States Because workers' compensation insurance is a matter of state law, each state has its own formulas for determining insurance premiums and its own list of payments to Employees that are included and excluded from an employer's total payroll. Therefore, the payroll department must be aware of the inclusions and exclusions in the states where the employer has Employees.