According to the Federal Insurance Contributions Act, a specific percentage of an employee’s salary is required to be withheld and paid to the IRS. It is also mandatory for employers to contribute toward this payment.
Let’s examine the details of this law and try and gain an understanding of what are FICA taxes.
What are FICA taxes?
FICA taxes, named after the Federal Insurance Contributions Act, are the money deducted from an employee’s salary along with the employer’s contribution that goes to pay for Social Security and Medicare programs.
What is the total amount collected through payroll taxes? Data provided by the Tax Policy Center, a think tank based in Washington D.C., reveals that in 2017 the sum was $1.1 trillion.
And how is the money utilized? The official Social Security website provides the following information:
- In 2017, 67 million Americans received benefits from programs administered by the Social Security Administration.
- The same year saw 5.5 million additional people getting Social Security benefits.
As understanding what are FICA taxes can be confusing, let’s go a little deeper into the subject. Both employer and employee make FICA contributions. Most of the money goes into the Old-Age & Survivors Trust Fund and the Disability Insurance Trust Fund. These are managed by the U.S. Treasury Department and are collectively known as OASDI.
The Medicare program is also partly financed from FICA taxes. The amount paid by employers is used to pay for hospital bills and medical care costs of individuals covered by Medicare.
But what if you are self-employed? Do you still have to pay FICA taxes?
The answer is yes.
As a self-employed individual, you are responsible for paying the entire FICA obligation. So, while an employee pays only half of the total amount while the employer bears the remaining portion, self-employed business owners are responsible for paying the full amount that is due.
In the next section, we’ll cover the actual sums payable as well as the method of calculation of FICA taxes.
How to calculate FICA taxes?
To gain an understanding of what are FICA taxes, you must first know that this type of taxes is comprised of two components – Social Security tax and Medicare tax.
The rate for Social Security tax is currently 6.2% of the employee’s salary.
The Medicare tax rate is 1.45%.
Taken together, they sum a total of 7.65% (6.2% + 1.45%), which is deducted from each employee’s salary.
The employer contributes an additional 7.65%.
The whole 15.3% (7.65% + 7.65%) is paid as FICA taxes.
Under the laws currently in force, Social Security tax is charged only on the first $132,900 of earnings. However, there’s no earnings cap for Medicare tax. Employees who earn more than $200,000 ($250,000 for joint filers) are required to pay an additional 0.9% in Medicare taxes.
At this stage of understanding what are FICA taxes, we should remember that these taxes aren’t the only amounts withheld from an employee’s salary. Employers also need to withhold federal income tax, State income tax, and local income tax.
The Social Security tax rate is 6.2%. Has this rate always been the same?
In the period from 2011 to 2012, the Obama administration reduced it to 4.2%. This was done to boost consumer spending. However, the rate was hiked to its earlier level of 6.2% in 2013.
A recent report in the Washington Post indicates that the Trump administration may be thinking about lowering payroll taxes to stimulate the economy.
Is there any way to lower the taxes that you pay?
You should learn about these and familiarize yourself with how they can help to lower your tax burden.
Read our post 10 Tax Tips For Business Owners to gain an understanding of legitimate methods to reduce your tax outgo.
Are FICA taxes obligatory?
When you are in the process of understanding what are FICA taxes, you should remember that they are a mandatory requirement. Employers must withhold FICA taxes from employees’ salaries and pay the withheld amount along with their own contribution to the IRS.
Does the sum deduct from the salary and amount contributed by the employer factor into the employee’s retirement?
Yes, but only indirectly.
That’s because the amount does not go into your own Social Security or Medicare account. Instead, it goes into a general pool. The money is used to pay Social Security benefits and medical expenses for the people who need the funds currently.
The payments that you will receive during retirement will come from the contributions made by future generations of employees.
How to pay FICA taxes?
It is the employer’s responsibility to pay the employer and employee Social Security and Medicare taxes. Payments are to be made by electronic transfer. This is done from the Electronic Federal Tax Payment System (EFTPS), a service provided by the U.S. Treasury Department.
You must adhere to the employment tax due dates laid down by the IRS. If you don’t make deposits on time, you could be required to pay a failure-to-deposit penalty that may be for a sum of up to 15% of the tax amount payable.
FICA tax exemptions
When answering the question, “what are FICA taxes?” you must also address the issue of FICA tax exemptions.
Who is exempt from FICA taxes?
FICA taxes apply to practically everyone. People who are not U.S. citizens but who work in the country are required to pay these taxes. So are many nonresident aliens. Part-time and full-time workers, as well as self-employed individuals, also need to pay FICA taxes.
However, there are some exemptions. These include:
- Foreign students and educational professionals who are in the country temporarily.
- Nonresidents in the U.S. who work for a foreign government.
- Students who work in the same school where they are enrolled are exempt in specific circumstances.
What deductions are exempt from FICA taxes?
It’s possible to lower the amount paid as FICA taxes. This can be done by opting for benefits that provide tax exemptions which help reduce the employee’s taxable wages.
If FICA taxes are charged on a lower amount, the contribution for Social Security taxes and Medicare taxes is reduced.
Which are the deductions that are exempt from FICA taxes?
Benefits provided under a Section 125 cafeteria plan could be exempt. Here’s how the plan works:
- The employer creates a Section 125 plan.
- Employees elect to have a specific amount deducted from their pay and placed into the plan. This deduction is tax-free. FICA taxes are not charged on this amount.
- A third-party administrator holds the money.
- Upon the employee making a request, funds are disbursed to meet qualified expenses. These could include cafeteria expenses, medical and child-care costs, and a wide variety of other reimbursements.
You can get more information about Cafeteria Plans from the IRS website.
FICA taxes are more important than people realize
As a small business owner, it’s important to know what are FICA taxes. Employers must withhold these payroll taxes from employees’ salaries and send the amounts to the IRS along with their own contribution. Payments must be made within the stipulated time so that the penalties associated with late remittances are avoided.
While this post provides a broad outline of the subject, you can access more information on the IRS Employment Taxes page.
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