Overview: Federal Payroll Taxes

Last Updated: Apr 20, 2016 11:51AM EDT

Federal Payroll Taxes: As an employer, you have federal payroll tax responsibilities that include withholding taxes from your employees’ wages and paying an employer’s contribution for Social Security and Medicare taxes under the Federal Insurance Contributions Act (FICA).


What is FICA?


The Federal Insurance Contributions Act (FICA) is the federal law requiring employers to withhold Social Security and Medicare taxes from their employees’ wages. In addition to withholding these taxes from their employees’ wages, employers must also match their employee’s withholdings with an employer portion for the Social Security tax and Medicare tax.  

Each paycheck, employers are required to withhold the following three taxes from their employees’ wages:

1)      Social Security: (2016 rate): 6.2 percent

2)      2016 Medicare: (2016 rate): 1.45 percent

3)      0.9 percent Medicare surtax for employees earning over $200,000 (introduced in 2013)

What the Taxes Fund

FICA taxes fund the two federal programs that provide benefits for retired workers and the disabled – Social Security and Medicare. These two federal programs were introduced to provide Americans with savings for the end of their work careers, to provide for Americans with a disabling injury unable to earn an income, to provide for Americans unable to ever work during their lives, and to provide medical care for the elderly. Prior to Social Security being introduced in the 1930s, and Medicare in the 1960s, the federal government had no mandated programs to help provide for these Americans.

Special Considerations

Of the FICA taxes, only Social Security tax has a wage base limit. Once an employee earns the equivalent of the specified wage base limit in one calendar year, they no longer have to pay social security taxes on additional wages they earn for that year. The wage base limit for earnings in 2016 is $118,500 – once an employee earns $118,500, their wages will no longer be taxed Social Security tax.

It should also be noted that while employers are required to match the 6.2 percent Social Security tax and 1.45 percent Medicare tax, they are not required to match the additional 0.9% Medicare tax withheld from  employees earning over $200,000.

Federal Income Tax

What is Federal Income Tax?

Federal income tax is a tax levied by the federal government that withholds a portion of the earnings that make up a taxpayer’s taxable income, including employment earnings like regular pay, bonuses, commissions, etc.

Federal income tax is calculated based on:

  • The amount you earn

  • Your marital status

  • The number of withholding allowances you claim

  • Any additional amount you wish to withhold

At the start of hire, every employee is required to complete a Form W-4 (Employee’s Withholding Allowance Certificate) in order to provide their employer with the necessary information to calculate the federal income tax deducted from their pay. If an employee doesn’t choose to fill out the W-4, the employer has the right to withhold at either the Single-zero or Married-one level.

Federal Unemployment Tax

What is Federal Unemployment Tax?
The Federal Unemployment Tax Act (FUTA) was enacted to help states fund their unemployment compensation programs. All employers must pay and report FUTA tax. This is an employer-paid tax; no withholding from employees is permitted. The FUTA rate is 6% of the first $7,000 of each employee’s taxable wages each year.

Employers can take a credit of up to 5.4% of the total FUTA tax if they make all the payments due to each state where they have taxable employment. In order to obtain full credit:

  • Employers must make timely payments to their state funds by the due date for the Form 940, Employer’s Annual Federal Unemployment (FUTA) Tax Return.

  • The employer’s home state must not be in arrears for any loan repayments from federal FUTA funds.

Employers can deposit based on the .6% full credit FUTA rate for the year until they are notified of any credit reductions.

Certain states had to borrow funds from the federal unemployment insurance fund over the last 5 years in order to keep up their states’ ability to pay unemployment compensation.

Those loans required repayment. If loans were not repaid in time, a credit reduction was applied to employers in that state. The increments were .3% per year. For example, if California were unable to repay their loans, FUTA credit for employers in California would be 5.1% instead of 5.4%. So employers in California paid a FUTA rate of .9% instead of .6%.

In this article, we have covered the three federal payroll tax obligations employees and employers are required to pay: FICA Taxes, Federal Income Tax, and Federal Unemployment Tax. While this overview covers the requirements of these taxes as fully as possible, and is intended to help you understand basic federal payroll tax requirements, we urge you to contact a payroll professional if you have additional questions.

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