Payroll Taxes: Definition, Process & Calculation


The FICA tax stands for Federal Insurance Contributions Act and is used to pay for Social Security and Medicare. The total tax is 15.3%, split evenly between an employer and an employee, meaning each pays a tax of 7.65%. This is made up of the Social Security tax (6.2%) and the Medicare tax (1.45%). A manual payroll system is cheaper than hiring a service provider to do the work for you.

Simplify payroll tax with Velocity Global

Employers and employees in the U.S. share the cost of Medicare evenly, each contributing 1.45% of the employee’s wages. However, employees whose taxable salary is above a certain threshold pay an additional 0.9% for Medicare. Payroll taxes are the responsibility of the employer, though some contributions are split with the employee. Payroll tax typically goes toward social insurance programs such as Social Security and Medicare, but this depends on the level of government (state vs. federal).

Make sure you understand payroll taxes and how to pay them

For special goods listed below the rate is lower – either 13% or 10%. Products with a lower rate value-added tax are for example books, food or cultural events. There are exceptions for certain goods for which the rate is zero. As for independent contractors, who don’t receive a W-2 or tax benefits from you (the employer), they are responsible for the full 15.3% of FICA taxes and receive no FUTA benefits. The percentage method is a bit more complex and is used in cases when an employee’s annual salary exceeds the highest value in the wage bracket method. It’s also worth noting that some states receive FUTA credits, which may apply to your payments.

Reporting Payroll Taxes

The employer portion of payroll taxes is deductible as a business expense on your federal income tax return. This includes the employer contributions to Social Security and Medicare https://www.adprun.net/ taxes, as well as federal and state unemployment taxes. However, the employee portion of payroll taxes, which is withheld from employee paychecks, is not deductible by the employer.

Federal Income Tax

  1. Review time sheets and compare them to employee schedules, checking for errors.
  2. On the other hand, independent contractors must take care of Social Security benefits independently and cover the self-employment tax.
  3. Employers, employees, and self-employed professionals are all subject to payroll taxes.
  4. Payroll taxes are categorized based on employee classification and tax credits.
  5. Unlike income tax, which can be used by the federal government in a variety of ways, payroll taxes are used specifically to fund social service programs in the United States.

Most employers don’t count lunch breaks in the total hours worked. Record the tally of hours worked on a spreadsheet, noting any PTO that should be paid as well. Also, record overtime hours which will get paid at a higher rate. The two federal payroll taxes are the Federal Insurance Contribution Act (FICA) tax and the Federal Unemployment Tax Act (FUTA) tax. Self-employment tax is how self-employed individuals make contributions to Social Security and Medicare. They pay both the employee’s share of FICA and the employer’s share.

Make sure you set aside the right amount from the employee’s gross wages and from your own business account to pay these required taxes. Many businesses choose to outsource their payroll and payroll tax duties to third-party providers. weighted average method These providers can handle everything from wage calculation and paycheck distribution to tax withholding and filing. Outsourcing can be a cost-effective way to ensure compliance and accuracy in your payroll processes.

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Furthermore, you must match this $248 with an employer contribution. A wage base limit of $147,000 applies to Medicare contributions. This money funds Medicare, which is a federal health insurance program. It also covers some younger people with certain disabilities, in addition to those with end-stage renal diseases. Like Social Security tax, both the employer and the employee contribute to Medicare taxes.

Social security and Medicare contributions based on the net income of the self-employed individual. Contributions made by both employee and employer towards Social Security and Medicare. However, if you need help with your business taxes, LYFE Accounting is just one click away. But note that those Social Security taxes will need to be repaid between Jan. 1, 2021, and April 30, 2021, if a permanent cut is granted in the future. Then, pay these amounts to the appropriate agencies, either monthly or semi-weekly, depending on the size of your company. Based on the Federal Insurance Contributions Act, you and your employee have to pay a 7.65% tax.

However, some companies may house payroll inside of the finance or accounting department, and some larger companies may even carve out a distinct payroll office. A payroll tax holiday is a deferral of payroll tax collection until a later date, at which point those taxes would become due. A payroll tax deferral is intended to provide some temporary financial relief to workers by temporarily boosting their take-home pay.

Therefore, you must withhold $1,234.53 from this employee’s paycheck every month for Federal Income Tax. For state taxes, the method of paying varies from state to state, so you will need to check with your particular state’s preferred method. Well, on August 8, 2020, the President issued an executive order stating that the employee’s portion of Social Security tax could be deferred effective September 1, 2020. That tax is essentially the employee and employer share of FICA.

Director’s fees are not subject to Social Security, Medicare, and income tax withholding, but are seen by the IRS as self-employment income and so are subject to self-employment tax. Yes, certain types of employees are exempt from payroll taxes. For example, students employed by their school, certain family employees (like a parent employed by their child), and certain types of agricultural workers can be exempt.

There are two ways to go about getting payroll processed; you can do it yourself manually or use a service provider. When processing it manually, you must do all the steps on your own. It is important to know that ignorance or honest mistakes are not justification for errors in taxes or withholding. Depending on the size of your payroll, FICA and income tax payments must be paid to the IRS either monthly or semi-weekly. The portion deducted from an employee’s paycheck for these taxes varies depending on the tax bracket in which the employee falls. The Federal Insurance Contribution Act (FICA) tax and the Federal Unemployment Tax Act (FUTA) tax are two examples of payroll taxes.

Once you have withheld the proper amount of Federal, FICA, and Medicare taxes, you will need to calculate your portion in FICA, Medicare, and SUTA taxes. More specifically, 6.2% goes towards social security and 1.45% goes towards Medicare. From tax deductions to direct deposit, BambooHR makes it easy to manage your team’s total compensation in a single, centralized system. Reduce payroll compliance risk while maintaining cost-effectiveness and scalability; enlist the help of a centralized global payroll outsourcing partner. While this approach reduces your risk exposure to some degree, it still requires you to have the necessary resources to handle compliance on your own.

The law requires overtime—hours worked in excess of 40 hours per week—to be paid at one-and-a-half times the regular hourly rate. Some employees are exempt from the FLSA, and the Act does not apply to independent contractors or volunteers because they are not considered employees. Employees pay an additional 7.65% FICA tax, and self-employed workers pay the full 15.3%.

Payroll taxes also pay for Medicare, which takes out 1.45% of your income. They pay 6.2% of your income, so the government gets 12.4% of your total income, and your employer pays 1.45% of your income toward Medicare. Their company pays employees every two weeks for a total of 26 pay periods. Self-employed individuals, including contractors, freelance writers, musicians, and small business owners, must remit payroll taxes, sometimes referred to as self-employment taxes. Note that the current percentages for Social Security is 6.2% for the employer and 6.2% for the employee. The Medicare rate is 1.45% for the employer and 1.45% for the employee.

You may have a time clock or use a computer program to log time. Whatever you choose, train your employees on tracking their work time properly to get paid correctly. Learning to manage payroll on your own requires paying attention to the legal and tax requirements involved. We’ll break down the process and important considerations to keep in mind. Self-Employment Tax (SE tax) is a social security and Medicare tax primarily for individuals who work for themselves. It is similar to the social security and Medicare taxes withheld from the pay of most employees.

Robie Ann Ferrer is an HR expert writer at Fit Small Business, focusing on small business HR and payroll software content. She has over eight years of content writing experience, handling different topics. Robie also worked as an HR specialist for 10 years where she managed various facets of HR—from payroll and benefits to employee services and HR systems. For more information about when and how to pay payroll taxes, see IRS Publication 15, (Circular E), Employer’s Tax Guide.


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