The employee identification number (EIN) is one of the most important numbers for payroll and tax purposes. Any business owner with at least one employee – as opposed to working as a sole proprietor – has to have an EIN for tax reporting purposes. Payroll services require these numbers to report taxes as the law requires.
How much do you know about the EIN? Do you know how it's used and whether you need one or not? In this post, we will tell you everything you need to know about this critical number. Suffice it to say that understanding the EIN is part of complying with tax regulations.
Purpose of the EIN
The IRS established the EIN as a means of being able to quickly identify employers. The EIN is sometimes known as the federal employer identification number (FEIN) or the federal tax identification number. It is a unique nine-digit number generated by the IRS and assigned upon request.
The EIN is used the same way as the Social Security number assigned individual taxpayers is. In simple terms, it is a lot easier to track numbers than track of every individual and business name. If you don't understand why just consider how many John Smiths there might be across the country. It is a lot easier for the government to deal with unique numbers than trying to sort through all of the John Smiths.
IRS records tie the EIN to the employer so that all of the employer's relevant information is easily stored and cataloged across the government's networks. Someone working in the Social Security Administration could look up information on any company while someone over at the IRS has access to the same records.
There Are Other Numbers
The EIN is not the only number the government uses for tax purposes. In fact, it is sometimes confused with two other numbers. What are those other numbers? These are the taxpayer identification number (TIN) and the Social Security number (SSN).
A TIN can be any one of several different identification numbers used for tax reporting purposes. In that sense, 'TIN' is a generic term that covers a lot of different options. In standard practice, however, the TIN is a number typically used to identify individual taxpayers and tax preparation professionals.
As for the SSN, you probably already know what it is. Most of us were signed our Social Security numbers very shortly after birth; we carry those numbers with us throughout our lifetimes.
Sole Proprietors and Nonprofits
Individuals working as sole proprietors do not need an EIN for tax reporting purposes. Instead, they simply use their Social Security numbers. Sole proprietors are strongly encouraged to NOT apply for an EIN unless they are planning to expand their operations to include additional employees.
Charities and other nonprofit organizations must apply for an EIN if they have any plans to bring on paid staff. Additionally, banks usually require an EIN in order to open a bank account. So for all practical purposes, charities and nonprofits will still get a number even if they qualify as being tax exempt.
It should be noted that the EIN has no bearing on tax-exempt status. It is also recommended that an organization settle its tax-exempt status before applying. Why? Because the EIN form requires some information about tax-exempt status.
Payroll services are very familiar with the EIN and all of its implications. Small businesses and sole proprietors who do their own payroll and accounting need to be familiar with it too. It is an important number that needs to be used appropriately.