12 Tips on How to Pay Employees Cash Legally

1) Determine and Withhold Payroll Taxes and Deductions Accurately

Even when paying employees in cash, business owners must be able to complete payroll. All employers must be able to perform the basic payroll steps.

Calculating Deductions and Taxes

Employers are responsible for calculating and deducting employee taxes. The calculation includes a 6.2% rate for Social Security, a 1.45% rate for Medicare, and all other applicable taxes (local, federal, and state). Employers also must withhold any relevant garnishments or deductions. Governing bodies often regulate garnishments and deductions, so they must be dealt with promptly and accurately to avoid complications.

Employers are also responsible for paying a portion of employer payroll taxes out of the company’s funds. Therefore, they must track their calculations from gross pay to net—including everything in between—to be certain the final number is correct. Late or incomplete payments can incur government penalties.

Employers must take the time to ensure they understand how to calculate payroll. Articles and templates available online for free can help with this learning process.

Payroll Taxes

One of the employers’ most significant issues when paying in cash is payroll taxes. A portion of state and local governments, plus the IRS, require individuals to withhold taxes from their employee’s paychecks. Therefore, employers must deduct the correct due amount and send it to the proper agencies.

Government agencies like these do not accept cash, so business owners will need a reliable way to access some of their capital electronically. Even employers who pay their staff in cash must be able to transfer and complete electronic payments.

Determining and remitting payroll taxes is one of the more challenging aspects of paying employees with cash. Luckily, payroll software programs, such as Gusto, are available to make this process easier. These programs allow employers to run “manual check” payrolls, which provide a net pay amount. Most employers pay the due amount with a check or electronically, but it is possible to deliver it with cash.

2) Be Vigilant About Tracking Work Hours

Employers with hourly employees working for them need an easy way to track those hours. Tracking hours is a critical component regardless of how individuals pay their staff. When paying employees by the hour, tracking hours becomes even more vital.

Accurately tracking employee work hours is essential due to labor laws regulating how long employees can work before they must be paid an overtime rate.

Under federal law, employers must pay any amount of hours worked over 40 during one workweek, as time and a half. This number can also be seen in this equation:

1.5 X the employer’s regular rate.

Employers should also check on overtime laws as they relate to their states since many states set their regulations. In addition, information about state policies should be readily available online.

3) Pay Employees on a Fixed Schedule

When employers pay their staff in cash, it sometimes seems like a regular payment schedule is unnecessary. However, employers and employees thrive off a recurring payment schedule they can count on. Therefore, business owners who pay their employees in cash should establish a regular payroll process that includes a schedule of specific, repeated dates.

The most common pay periods are weekly, biweekly, and semimonthly. Weekly payments occur once per week, biweekly occur every two weeks, and semimonthly occur twice a month. Most states enforce minimum pay frequency requirements, and employers can be penalized for not following them. Monthly payments are usually regarded as the schedule with the longest time between pay periods, but in some states, such as Virginia and California, semimonthly is the required minimum.

4) Open a Payroll Bank Account

Even if employers already have a general business checking account, opening a bank account reserved for payroll transactions is wise. Opening a payroll bank account allows business owners to separate payroll funds, making it easier to track and document in case of an audit. In addition, employers who pay employees in cash are more likely to be audited than those who do not, so it makes sense to be prepared and stay organized.

Regarding the payroll bank account, here are a few suggestions:

• Unnecessary deductions can convolute and complicate the list of transactions. For example, if you are paying employees on a bimonthly schedule, then withdraw all of the necessary funds at a specific time before the pay date. Also, pay taxes and other payroll expenses on a consistent schedule.
• Run only transactions having to do with payroll through this account. Do not make exceptions, even when it will make life easier.
• Use a regular schedule of deposits. A fixed schedule makes it easier to review transactions and show auditors where the company’s funds originate.

5) Have Employees Sign Upon Receipt of Payment

An approval system to document employee pay can differentiate between a successful payment process and one that isn’t, especially when cash is involved. A company’s normal paper trail does not exist when cash payments are used. Unfortunately, some people are dishonest, and that is when problems arise. One example is an employee who claims they were never paid, and there is no proof to support or dispel her claim.

To minimize the chance of confusion or fraud, businesses can use simple spreadsheets to document each pay period. The spreadsheet should include:

• Date of payment
• Type of pay period
• Names of employees
• Payment amount to employees
• Signature

This spreadsheet should help ensure that no confusion exists regarding employee payments. Individuals should insert the company logo at the bottom of the page, or at least the name of the business, for increased transparency.

6) Collect, Organize and Store Payroll Records

There are various reasons why employers choose to compensate workers in cash. For example, some individuals do so to avoid paperwork and bureaucracy. Although this may seem like sound reasoning, the process of properly recording cash payments is similarly time-consuming.

While employers will not have to deal with payroll software or write checks, they must keep sufficient documentation of their employee payments. Employer records should document how much money is being paid to employees, identify the individuals being paid, and more.

When business owners pay employees in cash, they become the payroll center. Therefore, they are responsible for creating and recording the documents themselves. These documents include:

• Bank records (transaction reports, statements)
• Pay Stubs
• Accounting records
• Time cards
• Hiring documents (W-4s, I-9s, offer letters)

7) Be Aware of the Payroll Amount

Paying employees cash can sometimes be helpful, especially for a brief period. However, when businesses begin paying out over $5,000 per week, it is time to change the company’s payment method. Employers who carry that much cash put themselves at risk of misplacing or mishandling the money or even being victims of a crime.

Individuals should also avoid making repeat withdrawals of over $10,000 at once. Cash withdrawals of that size require banks to report them to the IRS. Again, this type of communication can raise alarm bells and initiate an audit, regardless of the legitimacy of the payroll process.

8) Obey Payroll Laws

Business owners should familiarize themselves with payroll laws to avoid compliance problems. For example, employers should purchase workers’ compensation for their employees and determine how it is paid. Workers’ comp should come from the employer’s business funds instead of employees’ paychecks. Additionally, if employees receive tips, a system must be established to allocate tips and pay them out. What other concepts should employers be familiar with if their employees earn tips? Tip reports and the rate of tipped minimum wage.

Please contact our employment attorney for a free consultation on California payroll and pay-stub law.

9) Paying Employees “Under the Table”

The critical distinction in this issue is that paying employees with cash is legal, but paying them with untaxed cash is illegal. When employers pay staff “under the table,” they do so to avoid having to pay taxes and withhold. When employers pay out this way, they often have more control over the rate and timing of payments. Many employers also seek to avoid the creation of a paper trail that the IRS might notice.

10) The Problem with Paying Employees Under the Table

Although it may appeal to some new business owners at first glance, paying employees under the table creates countless problems. Some of the complications are:

• There is a higher potential for audits and more overall scrutiny from the IRS.
• Hiding workers becomes more and more difficult as the business grows.
• Employees often feel cheated because of their lack of benefits and can turn on the employer.

11. The Penalties for Paying Employees Cash Under the Table

The risks of paying employees under the table are significant, and choosing to do so can bring the entire business crashing down. When employers are caught paying under the table, they suffer consequences such as:

• Paying back taxes.
• Being responsible for interest and penalties that traces back to the start of the payment process.
• Losing the entire business to bankruptcy.
• Being prosecuted for tax evasion, which carries a five-year maximum sentence.

12. Paying Staff With Cash

Compensating employees with cash is legal in the United States. However, paying out cash is ineffective overall and does not eliminate the company’s need for a payroll bank account, proper records and documentation, and an organized, efficient payroll process.

Individuals should take the time to research the payroll process and identify the laws that govern payroll before paying employees in cash. If a business owner plans to pay employees in cash, they should do so legally. Making cash payments legally and regularly will prevent the business from encountering complications and problems.