Payroll taxes are the money withheld from employee paychecks for federal and state income tax, Social Security, Medicare and unemployment contributions. The amount withheld is determined by an employee's salary or wages, the number of dependents and the state where he earns his income.
The Internal Revenue Service (IRS) requires employers to withhold Social Security and Medicare from employees' paychecks. It's also a good idea for employers to withhold federal income tax and state income tax from their employees' pay because those taxes can be claimed as deductions on the employee's annual income tax return.
Here is an overview of the key topics covered in the article:
- What are Payroll Taxes?
- How to Calculate Payroll Taxes?
- What is the significance of Payroll Taxes in a Business?
- Why is Payroll Taxes significant for Employers?
- Which steps to follow while calculating payroll taxes?
- What are the different types of Payroll Taxes?
- What's the Purpose of Payroll Taxes?
- What is FICA (Federal Insurance Contributions Act) Taxes?
- Why are Payroll Taxes a confusing term?
What are Payroll Taxes?
All employees must have federal income taxes withheld from their paychecks. This applies to all full-time, part-time, hourly, and salaried employees who earn more than $2000 in a calendar year. Employers must withhold these taxes even if they do not think an employee will owe any taxes when they file their individual income tax return at the end of the year. Federal withholding rates range from 10 percent to 37 percent, depending on how much an employee earns in a year.
Payroll taxes are the money that an employer pays out to the government for their employees. It is also a tax that is paid by the employee as well. Not to get too deep into the specifics, but payroll taxes include federal and state income tax. This is on top of the Social Security and Medicare taxes employers pay.
- Social Security Tax – 6.20%
- Medicare Tax – 1.45% (employee + employer)
Federal Income Tax – 0%-35%
How to Calculate Payroll Taxes?
Payroll taxes are a type of Tax deducted directly from an employer's employee's paycheck. Payroll taxes include federal income tax and Medicare tax, both withheld from the employee's paycheck.
The total amount of payroll taxes that are due to be paid monthly can be calculated by multiplying the total gross wages by .062 percent, which is the rate at which the Social Security portion of payroll taxes is currently levied. The calculation for Medicare tax is a little more complicated because it varies depending on whether you are single or married, your filing status, and if you have any dependents who live with you.
Payroll taxes are the taxes that an employer withholds from its employees' paychecks. It is money that will be paid to the government on behalf of the employee. This money is used to fund social security and Medicare and federal, state, and local income taxes (in some states).
What is the significance of Payroll Taxes in a Business?
Taken together, payroll taxes can be a significant expense for a business. A single employee earning $50,000 per year in a 25 percent tax bracket would cost the employer $6,750 in withheld taxes at the end of the year. If you have 20 employees, this cost can add up.
In the United States, payments for federal income taxes are collected through payroll withholding. The calculation is done by each state's Department of Revenue Service (DRS).
All employers must withhold the appropriate amount of tax from each employee's paycheck. The employee pays this amount in full when they file a federal income tax return every year. If an individual pays too much or too little, they can file a refund claim or owe additional money with their return.
The Internal Revenue Service (IRS) has provided employers with tables for calculating federal income tax withholding since 1986. For example, the IRS table for 2005 shows that if an employee earns $1,000 gross pay per week, $312 is withheld for federal income tax purposes.
Why is Payroll Taxes significant for Employers?
There are several federal and state tax deductions employers have to pay for their employees. These are automatically taken out of a paycheck each payroll period. In total, these deductions usually come to somewhere between 15% and 25% of an employee's gross pay. These payroll taxes are necessary to help fund the Social Security retirement program, Medicare health care program, and unemployment insurance programs.
The total payroll tax withholding is calculated by taking the employee's gross pay and subtracting their exemptions, the amount of money that will not be taxed. The result is then multiplied by the current payroll tax rate. This can vary depending on your employer and whether you work in a state or federal district.
Which steps to follow while calculating payroll taxes?
The first step in calculating payroll taxes is determining the amount of money earned by a company during a calendar year. This is done by multiplying the number of employees (full-time and part-time combined) by the gross payroll for all employees. This figure is then multiplied by .072 percent, the rate at which employers portion off their payroll taxes.
The next step is to calculate how much federal income tax must be paid based on this number. To do this, take half of this number and multiply it by 13.3 percent, which is the percentage that employers must pay to cover these taxes. This figure is then added to half of the original number multiplied by 15.3 percent, covering state and federal unemployment insurance taxes.
These two figures are added together to arrive at an overall percentage deducted from an employer's gross payroll each month.
Payroll taxes are the "hidden" costs of employing workers. These payroll taxes consist of federal and state unemployment taxes, Social Security and Medicare taxes. Payroll taxes are mandated by government agencies and collected by the employer.
What are the different types of Payroll Taxes?
In the United States, employers must withhold federal income tax and FICA taxes from employees' wages. FICA stands for Federal Insurance Contributions Act, which refers to Social Security and Medicare taxes.
Taken together, these are commonly referred to as payroll taxes. The employer remits both the employee's portion of the payroll tax and its portion on a timely basis to the IRS. It may be helpful to think of these taxes as another form of income tax, with your employer similarly withholding them as it would withhold your weekly or biweekly paycheck.
However, the distinction is that while you pay other income tax directly to the IRS each April 15, you pay your share of FICA taxes during the year with each paycheck. In turn, this reduces your taxable income for that period. How much money you save by paying them during the year will depend on your total annual earnings and how much you expect your total tax liability to be for that year.
What's the Purpose of Payroll Taxes?
The purpose of payroll taxes is to provide both for the employee and the employer; however, it can be confusing to decipher what precisely each Tax applies. With that in mind, below is a breakdown of the federal payroll tax and an overview of state payroll taxes. A summary of these two taxes will help you grasp the basics and make your job a little easier regarding payroll management.
Taxes withheld from an employee's wage or salary are called payroll taxes. These include federal, state, and local income tax and FICA (Federal Insurance Contributions Act) taxes. FICA tax is a combination of Social Security tax and Medicare tax.
TIP: Payroll taxes are generally taken from each employee's net pay. Your gross pay is minus any pre-tax deductions like insurance premiums or 401(k) plan contributions.
What is FICA (Federal Insurance Contributions Act) Taxes?
The Federal Insurance Contributions Act (FICA) is a federal law that requires you to withhold Social Security and Medicare taxes from your employees' wages or compensation. The IRS defines compensation as wages, salaries, commissions, tips, or other payment types for personal services performed by an employee for their employer.
FICA tax is used to fund Social Security benefits and Medicare benefits. Both the employee and the employer contribute to these benefits with equal matching amounts; 6.2% of wages goes towards Social Security while 1.45% is contributed towards Medicare. The employer also matches this amount on a dollar-for-dollar basis.
Why are Payroll Taxes a confusing term?
The employer, not the employee, pays the payroll taxes. The two central payroll taxes are Social Security and Medicare tax, used to fund Social Security and Medicare benefits. The payroll tax is a flat percentage of wages up to a certain amount, after which all income is subject to the payroll tax. In addition to Social Security and Medicare taxes, many states collect their payroll taxes
TIP: Payroll taxes can confuse employees who don't know what deductions their employer pays on their behalf. To ensure you receive all the money you're entitled to, ask your employer for a year-end pay stub showing how much you were paid (gross) and withheld in payroll taxes.
Wrapping Up
The idea behind payroll taxes was to have employers contribute something to the cost of unemployment compensation, worker's compensation insurance, and Social Security for their employees.
This would be a tax on the business passed on to employees through lower wages. It was also believed that having employers "share in the sacrifice" during an economic downturn would help ease the burden on all workers when jobs were scarce.
Key Takeaways
- Payroll taxes are withheld from an employee's wages and paid to a government agency. These taxes include money paid into the Social Security fund, Medicare, unemployment insurance, and state income tax
- Employers withhold these taxes from employee paychecks, but they are not considered part of their salary. Your gross pay is your total salary before any payroll deductions for federal income tax purposes
- Social Security tax is 6.2% of wages up to a $132,900 cap in 2017. Employers match this employee contribution so that the total rate paid is 12.4%. This Tax is used to fund Social Security retirement benefits
- Medicare tax is 1.45% of all wages with no cap. Employers also match this contribution so that the total rate paid is 2.9%. This Tax funds Medicare Part A health insurance for retirees and disabled workers and a portion of Medicare Part D prescription drug coverage for seniors who have both Medicare Part A and B
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