Employer Payroll Taxes: A Guide for Small Businesses

Employee wages are one of the highest expenses on a business’s income statement.

Payroll taxes aren’t to be ignored when deciding whether to hire a new employee. While employees have taxes taken out of their paychecks, there are other payroll taxes that only the business is responsible for paying.

Let’s break down who pays which payroll taxes.

What are the payroll taxes paid by employers?

Employers not only keep a portion, or withhold, taxes from employee paychecks, they also use other business funds to pay payroll taxes. These five payroll taxes come out of your business’s bank account, separate from salaries and wages.

Employer-paid payroll taxes factor into a business’s “labor burden,” which are the additional costs of having employees aside from salaries and wages.

You need to go through these employer payroll calculations for each employee, except for any independent contractors; you don’t pay any taxes on those individuals since they are considered self-employed.

Consider using payroll software to streamline payroll processing.

Let’s calculate employer payroll taxes for Matt, an employee at Textiles and Textiles, a fabric store in Pennsylvania. In his twice-monthly paychecks, Matt earns $2,500 in gross pay — earnings before taxes and deductions.

Colorful thread spools

Independent contractors are not subject to the same payroll taxes as employees. Source:

Annie Spratt.

Let’s look at what payroll taxes Matt’s employer will be responsible for.

1. State unemployment taxes (SUTA)

State unemployment taxes (SUTA) fund the majority of most unemployment benefit programs. Administered at the state and territorial level, the programs provide temporary compensation to people who’ve lost their jobs through no fault of their own.

The SUTA rate differs by individual business: Your company’s SUTA rate depends on the state, industry, and history of former employees filing for unemployment benefits.

Only employers pay SUTA taxes, except in Alaska, New Jersey, and Pennsylvania, where employees chip in.

SUTA taxes, like many other taxes, have wage bases: You stop paying SUTA on your employees’ wages after they earn a particular amount for the year. For example, once a Pennsylvania employee earns $10,000 in taxable wages, you no longer pay SUTA tax for that person.

Pennsylvania businesses pay between 1.2905% and 9.9333% in SUTA on every employee’s wages until they earn $10,000 for the year. Let’s say Textiles and Textiles’s SUTA rate is 2%.

Before we calculate the business’s SUTA payroll tax, let’s consider how much the employee has earned this year.

If we calculate SUTA for Matt’s pay in March, Matt has earned more than $10,000 in taxable income for the year. In that case, the business owes no SUTA taxes for Matt. But if it’s the first paycheck of the year, Textiles and Textiles’s SUTA liability based on Matt’s pay is $50 ($2,500 x 0.02).

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States manage SUTA tax collection, so check with your state labor department or tax software to see when your SUTA taxes are due and if there are any unique tax rules.

2. Federal unemployment taxes (FUTA)

Federal unemployment taxes (FUTA), one of many federal payroll taxes, fund the administrative costs of each state’s and territory’s unemployment benefits programs.

Only employers pay FUTA taxes, unlike SUTA. The FUTA tax rate is static: For all U.S. businesses, you pay 6% on an employee’s taxable wages, up to $7,000 of eligible income per employee.

When your business pays SUTA taxes on time and files IRS Form 940, you might qualify for a 5.4% tax credit, reducing your effective FUTA rate to 0.6%. Since Textiles and Textiles paid SUTA taxes on time, the business’s FUTA liability for Matt’s first paycheck of the year is $15 ($2,500 x 0.006).

Again, if we calculate FUTA based on Matt’s income past February, his employer won’t owe any FUTA taxes on his wages.

You pay FUTA taxes to the IRS one month after the quarter in which your business owes $500 or more, or on January 31 of the following year, whichever comes first.

Since SUTA is determined at the state and territorial level, check your state website to know whether some wages are exempt from SUTA taxes.

3. One-half of FICA

Employers and employees share Federal Insurance Contributions Act (FICA) taxes: They each pay 7.65% of taxable wages toward its two components, Social Security and Medicare.

Social Security and Medicare taxes fund the retirement benefits U.S. workers enjoy during retirement.

Employers pay 6.2% of an employee’s gross pay toward Social Security until the employee earns $137,700 for the year. The remaining 1.45% goes toward Medicare with no limit.

Since Matt earns $60,000 annually ($2,500 x 24 paychecks), you’ll be paying one-half of the Social Security taxes on his earnings for the entire year.

FICA taxes for Matt will be $191.25 ($2,500 x 0.0765) for each pay period.

4. Local taxes

Cities and counties can levy local taxes on their jurisdictions’ businesses. They can either be employer-paid, employee-paid, or employer- and employee-paid.

For example, Washington, D.C., taxes employers for a paid family leave (PFL) program. The PFL tax rate is 0.62% of employee gross wages with no limit. If Matt worked in Washington, D.C., instead of Pennsylvania, Textiles and Textiles would owe $15.50 for each paycheck ($2,500 x 0.0062).

5. Self-employment taxes

Business owners are not usually considered employees in their businesses, so their income is subject to different tax calculations.

If your business is taxed as an S corporation or C corporation, you’re possibly considered an employee and don’t have to worry about self-employment taxes. In all other cases, you owe self-employment taxes.

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Non-employee business owners and independent contractors don’t pay unemployment taxes and are not eligible for unemployment benefits. Their federal, state, and local taxes are based on business earnings and are not considered payroll taxes.

Instead of withholding FICA taxes from each paycheck, business owners and independent contractors make quarterly self-employment tax payments.

Self-employment taxes are both halves of FICA taxes: 12.4% for Social Security (up to $137,700) and 2.9% for Medicare.

You pay self-employment tax based on 92.35% of your business’s taxable earnings. Not to make it confusing, but that’s because you can deduct one-half of self-employment taxes when you file and pay your small business taxes.

If a business’s net earnings are $100,000, self-employment tax is based on $92,350 ($100,000 x 0.9235).

Matt’s boss, Stephanie, is the owner of Textiles and Textiles. Stephanie pays $11,451.40 for Social Security ($92,350 x 0.124) and $2,678.15 for Medicare ($92,350 x 0.029). Her self-employment taxes total $14,129.55 ($11,451.40 Social Security + $2,678.15 Medicare).

Business owners should consult a tax specialist to make sure they’re correctly making regular self-employment tax payments.

What are the payroll taxes paid by employees?

As a business owner, you’re responsible for withholding and remitting taxes from your employees’ paychecks. Unlike employer-paid taxes, employee-paid taxes reduce employee gross wages.

1. Federal income tax

When you onboard an employee, he or she fills out a Form W-4, which tells you how much to withhold for federal income tax from every paycheck.

Employees can change their withholding at any time by submitting a new W-4 to you.

The IRS redesigned the W-4 in 2020 and changed the way you enter withholding, but employees you hired before then don’t need to fill out a new form. Employees should use the IRS withholding calculator to determine the right withholding amount.

When you enter the information from your employee’s W-4 in your payroll software, it consults the IRS federal tax withholding tables to determine your employee’s withholding.

Employees can reduce their federal income tax liability by contributing to a 401(k) or health insurance plan, which are pre-tax deductions.

Matt, who’s been with Textiles and Textiles since 2018, is single and claimed one allowance on his W-4. He doesn’t contribute to a retirement savings plan. According to the IRS withholding table, the business should withhold $204 from his paycheck.

2. State and local income tax

During the onboarding process, employees generally fill out the state equivalent to the W-4 so their employers know how much to withhold.

Nine states, including Pennsylvania, have a flat state income tax rate. Since everyone is taxed at the same rate regardless of income and marital status, there’s no need to have a state-equivalent W-4. Another seven states don’t have a state income tax.

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Matt pays Pennsylvania’s 3.07% state income tax, which comes out to $76.75 each paycheck ($2,500 x 0.0307).

3. One-half of FICA

Remember, employers and employees split FICA taxes equally.

Textiles and Textiles paid half of Matt’s FICA taxes, and now he pays the other half. FICA taxes reduce Matt’s paycheck by $191.25 ($2,500 x 0.0765).

4. State unemployment tax (SUTA)

Unless your employees work in Alaska, New Jersey, or Pennsylvania, skip this step.

Mostly an employer-paid tax, these three states have a SUTA tax for both employers and employees. Pennsylvania’s SUTA tax rate for employees is a flat 0.06%, so $1.50 comes out of Matt’s paycheck ($2,500 x 0.0006).

5. Additional Medicare tax

High earners are invited back to the tax table to contribute even more to Medicare taxes.

The Affordable Care Act of 2013 included an additional 0.9% Medicare tax for people whose gross income exceeds a certain amount depending on your tax filing status. Self-employed people are also subject to additional Medicare tax.

Employers don’t pay additional Medicare tax, but they’re required to withhold the additional amount from high-earning employees’ paychecks.

High earners pay additional Medicare taxes. Source: Internal Revenue Service (IRS).

Since Matt earns less than $200,000, he doesn’t have to pay additional Medicare tax.

Employer payroll taxes vs. employee: What’s the difference?

Though the business still remits payments for both employer- and employee-paid payroll taxes, you should look at the origin of the money differently.

On a business’s profit and loss statement, employer payroll taxes are listed separately as payroll taxes (or are included in tax expense). Employee-paid taxes are always included in salary expense or wage expense.

Employee-paid taxes come out of employee salaries and wages. Employee-paid payroll taxes appear on each employee’s pay stub to explain how the business arrived at the paycheck amount.

When Stephanie agreed to hire Matt, she did not need to consider employee payroll taxes because they’re included in the $60,000 annual salary she offered.

Employer-paid payroll taxes don’t affect your employees’ paychecks. When Stephanie hired Matt, she had to think about the labor burden of his employment, which comprises employer-paid payroll taxes.

Are employer payroll taxes considered a business expense?

Yes, employer payroll taxes are a business expense that you can deduct on your business taxes.

Employee wages are also a business tax write-off. Employee wages include employee payroll taxes, so your business deducts everything you pay your employees, including the portion that goes toward employee payroll taxes.

Don’t miss a payroll tax

If you do your own payroll, reach out to a tax professional when you have questions about how payroll works for your employees. There are penalties for underpaying payroll taxes.

View more information: https://www.fool.com/the-blueprint/payroll/employer-payroll-taxes/

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