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What Is Payroll Tax?
A payroll tax is a tax imposed on both employers and employees.. As mandatory payroll deductions, these taxes are designed to fund government social insurance programs, such as Social Security and Medicare.
Types of Payroll Taxes
Payroll taxes may be categorized according to their purpose, rates, and who needs to pay them.
- FICA Taxes: The Federal Insurance Contributions Act (FICA) encompasses Social Security and Medicare. These are withheld from an employee’s gross earnings before their net pay is issued.
Social Security tax, set at 6.2% for both employees and employers, applies to earnings up to an annually adjusted limit. The Medicare tax rate is 1.45% on all earnings for both parties, without a wage base limit. Meanwhile, high-income earners face an additional 0.9% Medicare tax, solely borne by employees. These rates have been maintained for years now, although they are subject to change through legislative updates.
- Federal Unemployment Tax (FUTA): FUTA taxes contribute to state workforce agencies. Employers pay a 6% tax on the first $7,000 of each employee’s annual earnings. However, this rate is effectively reduced to 0.6% because employers receive credits for paying state unemployment taxes.
- State Unemployment Taxes (SUTA): Also known as State Unemployment Insurance (SUI), SUTA taxes are employer-paid and vary by state and employer claim history. It funds state unemployment and job training programs.
- Additional State and Local Payroll Taxes: Some states and localities impose extra payroll taxes to support specific state programs, such as disability insurance and paid family leave. These vary widely across jurisdictions.
When Is The Payroll Tax Deducted?
Payroll taxes are deducted during each payroll cycle as employers process wages and salaries. These deductions are then remitted to relevant government agencies like the Internal Revenue Service (IRS).
For employers, payroll taxes reduce the taxable income because they are deductible business expenses. For employees, payroll taxes reduce their net take-home pay but do not directly lower their taxable income reported for income tax purposes. The amount an employee earns (gross income) is subject to payroll taxes, and then income taxes are calculated on the gross income without subtracting these payroll taxes.
