IRS Payroll Tax Penalty Notices: What Businesses Need to Know

Share: 

Ergedine Pericles, CPA | April 2, 2025

Introduction

For businesses, payroll tax compliance is essential. Failing to meet Internal Revenue Service (IRS) requirements can result in severe penalties. The IRS imposes various penalties for missing tax filing deadlines, misclassifying workers, or making late or incorrect tax deposits. These penalties can disrupt business operations and lead to significant financial losses. Understanding the most common payroll tax penalties—and how to prevent them—is critical for business success.

Common IRS Payroll Tax Penalties

1. Failure to File (FTF) Penalty

Overview:

Assessed when a business does not file required payroll tax returns such as Forms 941, 940, or W-2/W-3 by the IRS deadlines.

Triggers:

• Late or missing payroll tax return filings.
• Partnerships with over 101 partners that do not e-file and have no waiver.
• Late-filed S Corporation or partnership returns.

IRS Notices:

• CP162 – Failure to file electronically.
• CP162A – Late-filed Form 1120-S, 1065, 1066, or 8985.

Penalty Amount:

• 5% of unpaid taxes per month, up to 25% maximum.

2. Failure to Pay (FTP) Penalty

Overview:

Applied when a business files its return but does not pay the full amount due by the deadline. Applies to the employer’s portion of Social Security, Medicare, and FUTA taxes.

Triggers:

• Balance due after filing returns.
• Non-payment of employer’s share of taxes.

IRS Notices:

• CP14 – Notice of balance due after filing.

Penalty Amount:

• 0.5% of unpaid taxes per month (up to 25%).
• Increases to 1% if unpaid 10 days after an IRS Notice of Intent to Levy.
• If both FTF and FTP apply, the FTF penalty is reduced by the FTP amount.

3. Failure to Deposit (FTD) Penalty

Overview:

This penalty applies when employers fail to deposit payroll taxes on time, in full, or through the required method (EFTPS).

Triggers:

• Late or incorrect deposit amounts.
• Failure to use EFTPS.

Penalty Amount:

• 1-5 days late: 2%
• 6-15 days late: 5%
• Over 15 days late or non-EFTPS deposits: 10%
• More than 10 calendar days after IRS notice: 15%

4. Late or Incorrect Filing of W-2/W-3 Forms

Overview:

Employers must submit Form W-2 to employees and Form W-3 to the Social Security Administration (SSA) by January 31 each year.

Triggers:

• Filing late.
• Filing with errors or missing data.
• Not filing electronically if required.

IRS Notices:

• 972CG – Proposed penalty for incorrect or late filings.
• Form 8809 – Used to request an extension for some information returns.

Penalty Amount:

• Based on how late returns are filed. Large businesses may face penalties over $1 million.

5. Trust Fund Recovery Penalty (TFRP)

Overview:

A serious penalty for unpaid federal income tax, Social Security, and Medicare taxes withheld from employees.

Triggers:

• Withholding payroll taxes but not remitting them to the IRS.
• Applies to responsible individuals (owners, officers, payroll staff).

IRS Notices:

• IRS Letter 1153 and Form 2751 – Proposed TFRP assessment.

Penalty Amount:

• 100% of the unpaid trust fund taxes.

6. Misclassification of Workers

Overview:

Occurs when employees are misclassified as independent contractors, avoiding payroll tax withholding.

Triggers:

• Misclassification based on behavioral and financial control.
• Intentional or repeated misclassification.

Penalty Amount:

• FICA taxes owed.
• Plus 1.5% of wages and 40% of FICA not withheld.
• Additional penalties for willful misclassification.

Avoiding Payroll Tax Penalties: Best Practices

• Maintain accurate payroll records: Keep organized records of wages, withholdings, tax deposits, and filings.
• File payroll tax returns on time: Use reminders, checklists, or payroll software to meet deadlines.
• Use trusted payroll providers: Automate deposits and filings to reduce errors.
• Ensure reporting accuracy: Double-check employee info, wages, and withholdings on all forms.
• Use EFTPS for deposits: Enroll in and use the IRS Electronic Federal Tax Payment System (EFTPS).
• Classify workers correctly: Follow IRS guidelines for employee vs. contractor status.

Need Help? We Can Reduce or Remove Your Payroll Tax Penalties

To learn how our firm can resolve or reduce your IRS payroll tax penalties, check out our next blog:

Read next: How to Remove IRS Tax Penalties and Get Relief

Conclusion

IRS payroll tax penalties can quickly accumulate and threaten your business’s financial health. But by staying informed and implementing best practices, you can significantly reduce risk. Prioritize timely filings, accurate deposits, and proper worker classification to remain compliant.

If your business has received an IRS payroll notice, is under audit, or owes payroll taxes, professional help is essential. Our firm is here to guide you through resolution and help you stay penalty-free.

Need payroll tax resolution help? Contact us today to resolve your payroll taxes!