Do you know how to explain taxes to your employees? It’s part of the job, but it’s not one a lot of small business owners are familiar with. We get it. Taxes are confusing. And, as your Payroll partner, we’re here to help. Here’s a quick guide to what’s what with the federal and state tax lingo.
What are payroll taxes?
If you’ve ever looked at your check and wondered where your salary went, you’re not alone. It’s important to know what terms mean when it comes to payroll taxes, which are deducted from your paycheck by your employer based on your W-4 withholding form. Federal payroll taxes also help fund Social Security and Medicare.
The current version of the federal payroll tax was created by President Franklin D. Roosevelt as a response to the Great Depression. The Social Security Act of 1935 went into effect in January 1937, and it taxed workers and employers at a rate of 1% each for the first $3,000 in wages and salary. Medicare began in 1965, with hospital insurance taxes starting in 1966 at a rate of 0.7%. Since then, of course, rates have increased.
In 2022, Social Security taxes apply to the first $147,000 of income only. In 2023, Social Security taxes will apply to the first $160,200.
The tax section of the employee’s pay stub shows how much money was withheld for federal and state taxes. The paystub indicates two amounts: the current paycheck and YTD. On the employee’s current pay stub, the net wages are the amount after deductions have been taken out. Gross wages are the total pay before taxes and deductions.
If you need help with W-2 lingo, we covered that here.
But what does that mean?
The W-4 form helps employees determine how much federal tax withholding will be applied to their paychecks. Federal taxable income can be reduced by tax deductions and tax credits, which provide benefits to specific types of taxpayers.
All U.S. taxpayers must contribute taxes as part of the Federal Insurance Contributions Act (FICA), which helps fund Social Security and Medicare. Some paychecks show FICA as one total amount; others break it down by program.
All employees and employers pay a percentage of their gross wages to fund Social Security.
When you retire, you will start getting a monthly check from the federal government. The amount is based on how much money you made while you were working.
Many people mistakenly think the “full retirement age” (the age you can start collecting the full payment amount from the Social Security taxes you’ve paid into the system) is 65. It’s not. If you were born in 1960 or later, the full retirement age is 67.
The Social Security tax is 6.2% of gross income. Both employer and employee contribute that percentage. Every year, there is a maximum taxable wage. In 2023, your contribution will end when you’ve earned more than $160,200.
Medicare is a federal health insurance program for people 65 or older and for certain younger people who have disabilities. It was designed to help cover most hospital and medical (doctor’s appointments, etc.) expenses.
The Medicare tax is 1.45% of gross income. Employers and employees both contribute that percentage to Medicare, and there is no income cap for the Medicare tax.
FUTA and SUTA
FUTA is Federal Unemployment Insurance. SUTA is State Unemployment Insurance. If your small business operates in more than one state and you have employees who live in different states, then you’ll have to pay both FUTA and SUTA taxes. These taxes are similar — employers pay to fund unemployment benefits — but one is federal and the other is at the state level.
Again, FUTA and SUTA are paid by employers – not employees. Employers must report and pay FUTA tax separately from federal income tax or Social Security and Medicare taxes.
State and Local Taxes
Depending on where your employee works (not where the business is located), you also may be required to withhold state and local taxes.
Some states have no state income tax but may collect municipality or transportation taxes, for example.
Do you need help registering your business? Our tax partner CorpNet can help employers register to submit payroll taxes in each state where employees conduct business. Typically, registration is completed through a state’s Department of Revenue.
Taxes can be confusing. While we are not accountants, our Payroll and Onboarding solutions were designed to make life easier for business owners and employees.
Payroll by Fingercheck includes W-2 and 1099 options for your employees along with tax and compliance, including quarterly and year-end filings. That’s in addition to modern unlimited payroll processing and the options to pay your team by direct deposit, check or payroll debit.
Our Onboarding option puts the data entry in your employee’s hands, including their federal and state tax forms. This saves you time by eliminating the back-and-forth on paper forms and in-office visits to show and copy paperwork.
Are you ready to work smarter, not harder? Let’s get you started!