One of the most perplexing topics in the human resources industry is that of the payroll tax. Both employer and employee know about it but unsure of what it is and where it goes.
This article will help break it down for you and explain what it’s all about.
What are Payroll Taxes?
When business owners pay their employees’ wages, the law requires them to make tax payments on their behalf. Simply put, payroll taxes are taxes paid on the wages and salaries of a company’s employees. This comes mostly from the employee’s salary through payroll deduction, while the employer pays some directly to the IRS.
Payroll taxes finance social insurance programs such as Medicare and Social Security. A Tax Foundation research tells us that the second-largest source of the US government revenue comes from these social insurance taxes. These taxes comprise 23.05% of the combination of federal, state, and local government revenue.
What Classifies as Payroll Tax?
The following compose the US Federal payroll taxes:
Federal Income Tax
This is the tax that is withheld from employees’ salaries for federal income taxes owed by them. The data given by the employees on their Form W-4 or the Employee’s Withholding Certificate determines the amount they need to pay.
Social Security and Medicare
This is the payroll tax that’s most commonly known as FICA (Federal Insurance Contributions Act) taxes. Employers and employees both shoulder the payment of this tax. This means that the employer deducts half of what is due from the employees’ wages while they pay the second half.
Federal Unemployment Tax (FUTA)
The Federal Unemployment Tax Act provides for payments of unemployment compensation to workers who have lost their jobs. Employers pay this separately from the other taxes and isn’t withheld from the employee’s wages as what the IRS requires. This is in cases of a business that was sold or has transferred the ownership.
Self-Employment Tax
This is the tax paid by self-employed individuals for Social Security and Medicare.
Additional Medicare Tax
An additional Medicare tax of 0.9% was applied in 2013 as part of the Affordable Care Act. This is for unmarried employees who file an individual tax return and whose earnings exceed a certain threshold. This tax is exclusively for employees only. There is no corresponding match for the employers to pay.
While the federal income tax goes to the US government’s general fund, the FICA proceeds to the Social Security and Medicare programs. A 6.2% tax goes for Social Security expenses, and 1.45% goes towards Medicare.
Who Pays Payroll Tax?
Depending on the employee’s base pay, the employer computes the federal income tax and deducts the specific amount accordingly. The employers must also make deposits for federal, Social Security, and Medicare taxes either weekly or semi-weekly.
The schedule they choose before the start of the tax year is the basis of when the payment date will be. On the other hand, FUTA tax deposits must be paid for the quarter within which the tax due exceeds $500.
The employees pay the majority of the payroll tax. However, employers share some of the payments. Here’s a simplified list of who pays the payroll taxes:
- Social Security (the employer pays half)
- Medicare (the employer pays half)
- Unemployment (the employer bears all)
If an employer does not remit on time or not at all, the company is subject to monetary fines. For a delay of up to five days, the fines start at 2% of the past amount due. For ten days of non-payment, the penalties increase by up to 15%. They can then expect a payment notice from the IRS if this is the case.
How Much is Payroll Tax?
Computing payroll tax is complex, more so with federal income than the Social Security and Medicare taxes. These are calculated from the employee’s earnings but can differ depending on how much they make. To calculate income tax, employers must answer the following:
- Frequency of payment (daily, weekly, monthly, bi-monthly)
- The employee’s marital status (stated on the W-4 form upon engagement)
- The allowances the employees are claiming
- The amount the employer is paying them
The Basic Formula for Net Pay
According to The Balance Small Business, this is the most straightforward terms to follow when computing an employee’s basic net pay:
Employee’s gross pay (pay rate x hours worked) minus statutory payroll tax deductions minus voluntary payroll deductions equals net pay.
Figuring out how much to withhold and pay can be done in a variety of methods. The most commonly used is the wage bracket method. You can go to the IRS website and look for their withholding tables and find the bracket that matches your employee’s status (payment and marital).
You can also use the IRS’ Income Tax Withholding Assistant for Employers. This is a great tool that employers can use to determine how much tax they should withhold and how much to declare. But to give you an idea of how much to pay, here is some information that can help you:
Federal Income Tax
The federal income tax for individuals has seven tax rates ranging from 10 to 37%. Each of these rates applies only to income in a specific tax bracket. To lower their tax bill, employees can claim allowances.
Social Security Tax
For the Social Security tax, 12.4% comes from an employee’s earnings. This means that the employer pays half, which is at 6.2%. It is deducted up to the annual wage limit set by the IRS.
Medicare Tax
This tax amounts to 2.9% of an employee’s salaries. This is one of the payroll taxes that both employee and employer share in the payment. Thus, the employer pays half, which is 1.45%.
Federal Unemployment Tax
Deductions for this tax amounts to 6% of an employee’s first $7,000 in earnings. The rate can drop to as low as 0.6% if they pay the unemployment taxes on time. This tax is solely the responsibility of the employer.
Take note that tax laws can change. It is always a good recommendation to check with a tax professional or the IRS to get the latest in tax information.
