Automating token tax withholdings and integrating your HRIS with Liquifi

How does token tax withholding work? 

Tax withholding is the money that an employer deducts from an employee’s wages to pay directly to the government, in order to cover the income taxes that the employee must pay during the year. People who are paid in crypto must report that income in the United States. It’s standard practice for companies to calculate withholdings for their employees. 

Typically, web3 teams like foundations and labs incentivize employees with token grants structured similarly to Restricted Stock Units - or Restricted Token Units. Certain jurisdictions have strict compliance requirements including Switzerland, England, Australia, Germany, and the U.S.

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Why is token tax withholding so difficult? 

When your company pays out an employee’s vested tokens, it may be required to withhold some percentage of the token value to cover taxes. Leaders in HR, operations, and finance do manual work and tape solutions together in web3. Here’s how it works. 

1. Calculate the amount of taxable crypto income that each employee is being paid (gross)
2. Input that data into your payroll software (e.g. Gusto, ADP, Rippling, Justworks) and analyze calculations for withholdings
3. Pay tax withholdings in cash, while distributing employees their net tokens (gross minus withheld)

The percentage of withholding is unique to each employee and determined by factors like salary, marital status, and work location. Influencing factors include the following.

• State tax differences
• FICA
• Understanding the price calculation method to use and how that affects the FMV
• 409a valuation and 83b election rules, and how all of that affects withholding obligations

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The broken process of withholding rates today:

There is a six-step process that leaders of HR, operations, and finance generally use. It’s a process that works but you can do better. It costs too much time and expensive manual work. It leaves too much room for human error and compliance risk. 

1. Assess token price based on specific criteria (e.g. price on day of delivery to the beneficiary, two weeks prior to regular payroll cycle, 30 day moving average) 
2. Calculate gross income for employees by multiplying this token price by the number of tokens each employee should receive (generally through CSV)
3. Input all gross income data into payroll software as a fringe benefit (imputed income)
4. See how much money the payroll software tells you to allocate for tax withholdings based on a multitude of factors
5. Take the withheld amount and calculate the percentage for each individual’s gross amount
6. Enter the net token amounts to distribute for each employee - generally by CSV bulk import - into your smart contract, Gnosis, etc. (most existing tools require you to manually add the tax rate for each person or the net amount itself).

Because timing and valuation matter so much in tax calculations, it’s important to have a reliable source of truth. For example, getting the timing and valuation wrong could result in the cost basis of your employees’ tax liabilities skyrocketing. It could also result in unexpected company liabilities.

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Why use Liquifi’s tax withholding solution with your HRIS?

We reduce it all to three easy steps. 

1. We automatically pull token prices from token price aggregators and calculate gross amounts based on your specific price calculation criteria
2. We automatically import gross taxable income into the payroll software in order to run an off-cycle payrun to ensure sell-to-cover operations are already allocated
3. In tandem, we generate tax withholding rate within Liquifi via YTD wages and W-4 information extracted from your payroll provider, automatically calculating all employees’ gross to net amounts without having to navigate away to your HRIS (any payout events on Liquifi are automatically logged and pushed to HR software).

If you're looking to simplify your token tax withholding, book a call with the sales team to see if we support your provider.