Federal Payroll Taxes

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Employers are required to withhold Income and FICA taxes from employees. Additionally, the employer is required to match the employee’s contribution to FICA taxes. Most employers are also required to pay Federal Unemployment Taxes.

Federal Income Tax

Federal Income Tax Withholding Explained:

Federal income tax is a tax levied by the federal government on all earnings which were generated in the United States or earned abroad by an individual or entity subject to United States income taxes. The earnings subject to this tax include variations of employee earnings such as regular pay, bonuses, commissions, etc.

Employers are required to withhold the income tax portion applicable to an employee's earnings. The percentage withheld is provided annually in Publication 15, the IRS.  Various factors affect the income tax percentage, as follows.

  • The annualized amount earned.
  • The employee’s marital status.
  • The number of withholding allowances claimed.
  • Additional amounts requested by the employee.

Upon hire, an employee completes a W-4 form (Employee’s Withholding Allowance Certificate). This form provides the necessary information to accurately calculate the federal income tax per paycheck. Calculations can be easily done utilizing payroll software.


FICA Explained:

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

Social Security tax, commonly referred to as OASDI (Old-Age, Survivors, and Disability Insurance program), is subject to a wage base. That is, only up to a certain amount of the employee's earnings in a given year is subject to the tax. The wage base changes on an annual basis.

Medicare taxes do not have a wage base and all earnings are subject to Medicare taxes.

Social Security and Medicare Tax Rates used to change every few years, with the IRS and SSA advising of updated rates. However, they have remained the same since the year 1990 with the following rates:

  1. Social Security: 6.2 percent
  2. Medicare: 1.45 percent
  3. 0.9 percent Medicare surtax for employees earning over $200,000 

Special Note:

Unlike the 6.2 percent Social Security and the 1.45 percent Medicare taxes, employers are not required to match the additional 0.9% Medicare tax withheld from employees earning over $200,000.

Federal Unemployment Tax

Federal Unemployment Tax Explained:

The Federal Unemployment Tax Act (FUTA) was enacted to help states fund their unemployment compensation programs. This is an employer-paid tax; the tax may not be withheld from the employees. The FUTA rate is 6% of the first $7,000.00 of each employee’s taxable wages each year.

While the FUTA tax rate is 6 percent, 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. This essentially means that when thinking about FUTA taxes the real rate is most of the time .6 percent of the first 7000.00 of the employee's annual earnings, and not 6 percent.

Other Considerations

Certain contributions can reduce an employee's taxable income, not including FICA. Nontaxed contributions fall under the umbrella of benefits, such as Retirement Contributions and Health Insurance Contributions. The IRS publishes an annual list of all such pre-taxed contributions. Examples of contributions exempt from some (or all 3) taxes are Retirement Contributions and Health Insurance Contributions. A full list of these items is outlined in IRS Publication 15-B.

Employees can be exempt from income taxes and can fill out the W-4 form indicating that they are exempt. However, if they do so they need to submit a new W-4 form to the employer on an annual basis to indicate that they are still exempt from income taxes.


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