Did you know that IRS lookback periods can be a big help in determining when your payroll taxes are due (and making sure they get deposited on time)? If not, it can be a good idea to get familiar with them. Why? Because, as a business owner, not only do you have to deduct the correct taxes from employee paychecks, but it’s also your responsibility to pay those withheld taxes on a schedule that’s determined by the IRS, not you. How do employers and the IRS determine deposit schedules? With an IRS lookback period.
To get a better understanding of how a lookback period can help you stay ahead of tax obligations, let’s explore what a lookback period is, the different types, and how to know which one to use.
What is the IRS lookback period used for?
In the simplest terms, an IRS lookback period is used to help employers figure out how regularly they need to deposit tax payments (and what their deposit schedule is for the upcoming year). According to Romeo Razi, a certified public accountant, former IRS revenue agent, and founder of TaxedRight, a “lookback period is the timeframe the IRS uses to determine how often you need to deposit payroll taxes.”
That being said, the IRS doesn’t actually tell you what your deposit schedule is going to be for the year, making a lookback period especially useful when planning for payroll taxes. So it’s important to have a handle on how it works to avoid any unnecessary attention from Uncle Sam.
“If you get your lookback period wrong, you’ll be depositing your payroll taxes to the IRS late, and you’ll end up costing yourself a lot of money in penalties,” says Razi. “When payroll deposits are not accounted for properly, there’s potential for the IRS to hit you with a triple whammy: Failure to Pay Penalty, Failure to Deposit Penalty, and Interest Penalty (which is compounded daily).”
A lookback period is defined as a 12 month period, starting June 1 of a given year, through July 30 of the next calendar year. We’ll get into more details below, but as we mentioned above, a lookback period can help you understand more about when it’s time to deposit taxes throughout the year.
The good news is that this deposit schedule is based on your previous tax liability, and that’s pretty straightforward. For example:
- If your lookback period indicates that you had a tax liability of $50,000 or less for the entire period, you are a monthly depositor for the current year.
- If your tax liability was more than $50,000 for the lookback period, you will be a semiweekly depositor for the upcoming year.
Now that we’ve covered the basics of lookback periods, let’s talk about the different types (and we’ll share a visual of how the quarters in a lookback period break out).
“Think of the lookback period as a window of time that the IRS uses to determine your payroll tax liability. The longer the period, the more accurate your tax liability will be, but the more time-consuming it may be to calculate.”
— Andrew Latham, Certified Financial Planner and Director of Content at Supermoney.com
Different lookback periods and which to use
Which lookback period you use depends on whether you file Form 941 or Form 944. Before we dive into how each lookback period differs, let’s briefly review these forms and the information they share.
- Form 941 is the Employer’s QUARTERLY Federal Tax Return, and it’s used to report employee wages and taxes on a quarterly basis.
- On the other hand, Form 944 is the Employer’s ANNUAL Federal Tax Return. It’s used to report employee wages and taxes once per year. Only very small businesses use Form 944, and they must receive permission from the IRS in order to do so.
With that housekeeping out of the way, it’s time for a closer look at each lookback period.
What’s your lookback period if you file Form 941?
Because Form 941 is the Employer’s Quarterly Return, your lookback period for 2023 consists of the four quarters within July 1, 2021 through June 30, 2022.
This might sound obvious at first, but it can still get a little tricky for business owners. Again, we turned to our former IRS agent, Romeo Razi, who said this is a fairly common misunderstanding. “Most employers think that the lookback period is the prior calendar year, when it’s actually based on a fiscal year of July 1st through June 30th.”
“Most employers think that the lookback period is the prior calendar year, when it’s actually based on a fiscal year of July 1st through June 30th.”
— Romeo Razi, CPA, former IRS revenue agent and founder of TaxedRight
So, what does this mean when it comes to making sure your tax deposits are submitted on time? It means that when determining your deposit schedule for 2023, you should be looking at the last two quarters of 2021 and the first two quarters of 2022.
You would add up your tax liability for all four quarters to find what your annual tax liability is, and that total is what determines your deposit schedule for the current year.
To help visualize this a bit more, here’s the lookback period for a 2023 Form 941 filer:
|2023 Form 941 Filers|
|3rd quarter of 2021||4th quarter of 2021||1st quarter of 2022||2nd quarter of 2022|
|July 1, 2021 through September 30, 2021||October 1, 2021 through December 31, 2021||January 1, 2022
Through March 31, 2022
|April 1, 2022 through June 2022|
Let’s go a step further to see how the numbers come together when we apply some dollar amounts to this lookback period.
Form 941 lookback period example
You decide to get a jump on planning for the year ahead, and the quarters in your lookback period show the following tax liabilities:
- 3rd Quarter 2021 (July 1 to September 30, 2021) – $15,000
- 4th Quarter 2021 (October 1 to December 31, 2021) – $14,000
- 1st Quarter 2022 (January 1 to March 31, 2022) – $14,500
- 2nd Quarter 2022 (April 1 to June 30, 2022) – $16,000
So in this example, when we add up the numbers, our sample tax liability for the lookback period is $59,500.
And since the cutoff for filing monthly would be a tax liability of $50,000 or less, using this example, you’d be a semiweekly depositor for 2023. That’s because our tax liability exceeds the cutoff in the example by $9,500 ($9,500 + $50,000 = $59,000).
However, what if you filed Form 944 in either 2021 or 2022? Let’s see how lookback periods work for Form 944 filers.
What’s your lookback period if you file Form 944?
On the other hand, if you use Form 944 to report Social Security, Medicare, and federal tax liabilities annually, the lookback period is the second preceding calendar year. For example, for 2023, the lookback period would be calendar year 2021.
|2023 Form 944 Filers|
|1st quarter of 2021||2nd quarter of 2021||3rd quarter of 2021||4th quarter of 2021|
|January 1, 2021 through March 31, 2021||April 1, 2021 through June 31, 2021||July 1, 2021
Through September 31, 2021
|October 1, 2021 through December 31, 2021|
Even if you filed Form 941 in 2021, if you are now required to file Form 944 for 2023, your tax deposit schedule is based on the four quarters reported on your 2021 Form 941.
Form 944 lookback period example
Let’s say that your tax liability for 2021 was $3,500. This would make you a monthly depositor in 2023, because your 2021 liability was under $50,000.
However, it’s worth mentioning that this only applies if you’re required to make tax deposits. Like many employers, you may be able to pay your tax liability when you file your return.
As you can see, there can be some nuances involved in filing Form 944, particularly if you find your tax liability rising throughout the year, so if any of these details are making your head spin, it’s always best to check with your accountant or the IRS.
“Having audited many small businesses when I used to work for [the] IRS, calculating your own payroll or figuring out a deposit schedule should really be a task you leave to the pros,” says Razi. “It’s really a good idea to consider using a payroll company because there’s so many variables and ways to get it wrong, which may lead to paying penalties.”
Now that we know more about how deposit schedules work, let’s find out how payments need to be sent to the IRS.
IRS deposit requirements for employment taxes
When it comes to making payments, the IRS requires that all tax deposits be made using the Electronic Federal Tax Payment System or EFTPS. While it’s free to use EFTPS, it takes a couple of minutes to enroll, and you’ll want to have some basic information ready to go, such as your employer identification number (EIN). It’s important to note that for the deposit to be made on time, it MUST be made using EFTPS by 8:00 p.m. Eastern Standard Time the day before it’s due.
Both monthly depositors and semiweekly depositors must abide by the deposit schedule determined by the IRS.
Monthly deposit schedule days
- If you’re a monthly depositor, your deposit schedule is the 15th day of the following month. That means that taxes for January would be due on February 15, provided that it’s a business day.
- If the 15th lands on a Saturday, Sunday, or Holiday, the deposit would be due the next regular business day.
Semiweekly deposit schedule days
The semiweekly deposit schedule is a little more complex, with two deposit periods per week. It’s based on the previous payday, and allows three business days between the close of the period and when the deposit is due. For example:
- If a payday falls on Wednesday, Thursday, or Friday, the deposit date is the next Wednesday. If a payday falls on Saturday, Sunday, Monday, or Tuesday, the deposit date is Friday of that same week.
- If a legal holiday occurs during the three day period between payday and deposit day, you’ll have an extra day to make your deposit.
Something else businesses should consider is the next-day deposit rule.
Understanding the $100,000 next-day deposit rule
In a nutshell, the next-day deposit rule goes into effect if your tax liability reaches $100,000 on any given day during a deposit period. In the event that this amount is reached, you must deposit the tax by the next business day.
However, this only applies if the $100,000 liability is reached in the same deposit period. For example, if your business accumulates $85,000 in liability on Tuesday and $20,000 in liability on Wednesday, the next-day deposit rule would not apply because the accumulated tax falls into two different time periods.
Though that’s a lot of mental hoops to jump through, here’s how our professional CPA, Romeo Razi, sums it up.
“If you have over $100K or more in payroll tax deposits on any given day, regardless of whether you’re a monthly or semi-weekly depositor: you must deposit those taxes to the IRS by the very next day.”
If you anticipate having a tax liability in this range, it’s a good idea to familiarize yourself with the Next-Day Deposit rule (and be prepared should you need to make a deposit). Once more, we caught up with Andrew Latham of SuperMoney to get his take. “If payments are late, penalties are a real possibility,” he says. “Employers who violate the next-day deposit rule can face penalties of up to 15% of the amount not deposited, even if the delay was only a few days.”
We’ve covered a lot of ground, but before we wrap up, Andrew Latham of SuperMoney shares a parting tip to clear up one of the most common misconceptions business owners have about lookback periods. “Employers often make the mistake of assuming that their lookback period will remain the same year after year, but it can change based on fluctuations in their workforce and tax payments.”
Take a closer look at your lookback period
As a business owner, there’s no shortage of things to keep track of, but managing your payroll taxes is a to-do you’ll want to keep at the top of your task list. Understanding the purpose of lookback periods — and why the IRS uses them — can help you stay ahead of the curve. And if you’re unsure how often you should be depositing taxes (or when Uncle Sam expects to receive them), the lookback period can help you figure it out.
When all is said and done, there are many options to help you simplify the process. Use our resource guide, which makes it simple to compare payroll services, including ratings, reviews, and a side-by-side comparison of providers.
This article is provided for informational purposes only and should not be relied on for tax, legal, or accounting advice. You should consult your own tax, legal, and accounting advisors for formal consultation.