What’s the FICA Tax and How Does It Work?

So that you began a brand new job and at last bought your first paycheck. Woo-hoo! You open your pay stub and the joy in your face slowly fades. What are all these “deductions” and “withholdings”?

We get it. Seeing Uncle Sam taking his share out of your paycheck might be downright miserable. A kind of withholdings is in your FICA tax. So what’s the FICA tax, and why are you required to pay it?

Let’s go over the main points.

What Is the Federal Insurance coverage Contributions Act (FICA) Tax?

FICA stands for the Federal Insurance coverage Contributions Act, a tax regulation handed in 1935 to fund what was then President Franklin D. Roosevelt’s new Social Safety program. It required employers to withhold a proportion of an worker’s wages to assist fund . . . you guessed it . . . Social Safety.

Quick-forward to 1965 and Lyndon B. Johnson (affectionately recognized to Texans as the nice LBJ) indicators Medicare, a brand new well being care insurance coverage program, into regulation. Medicare was created to assist folks age 65 and older pay for his or her well being care, in addition to youthful folks with disabilities and other people with end-stage renal illness. And the way, pray inform, was Medicare going to be funded? Why, with a brand new tax, after all!

So as we speak, workers pay a Social Safety tax and a Medicare tax underneath the umbrella of the FICA tax. However it’s not simply workers who’ve to assist pay for these packages. Employers pay their share too—they need to match every worker’s contributions to the FICA tax greenback for greenback.

How FICA Taxes Work

As we mentioned above, when Congress handed FICA, the entire thought was to fund a retirement financial savings plan (Social Safety) and insurance coverage program (Medicare) for American staff.

Let’s take a fast take a look at how the FICA tax breaks down:

• Social Safety tax: For this a part of the FICA tax, employers should withhold 6.2% of your taxable gross revenue (as much as $160,200—what you make over that isn’t taxed). Then, your employer has to match your contribution as much as that very same restrict.

• Medicare tax: The second portion of the FICA tax is the Medicare tax. Employers need to withhold 1.45% of every worker’s taxable wages for the Medicare tax. However in contrast to the Social Safety tax, you don’t get a break on revenue over $160,200.¹

And there’s extra nice information (insert sarcastic eye roll right here): For prime revenue earners, when your revenue reaches a sure threshold quantity (that quantity varies relying in your submitting standing), it’s a must to pay what’s known as an Further Medicare Tax. That may add one other 0.9% for each greenback earned above the edge quantity (extra on these charges and thresholds beneath).²

Heads up: Since your worker has to withhold these percentages out of your wages to pay the FICA tax, you’ll see these listed as deductions in your paycheck. They might be labeled as “FICA Tax” or “Withholding.” Or you may even see the 2 parts listed individually and labeled because the “Medicare Tax” and “Social Safety Tax” (the Social Safety portion may be labeled as “OSADI,” which stands for “old-age, survivors, and incapacity insurance coverage”).³

Why Do I Should Pay FICA Taxes?

No one likes having cash withheld from their paycheck, particularly for one thing as yucky as taxes. However should you’re an American and an worker (or an employer), chances are high you’re one of many fortunate hundreds of thousands required to pay into FICA.

Right here’s the factor: Whenever you pay your FICA taxes every year, Uncle Sam isn’t stuffing that cash right into a ginormous cookie jar together with your title on it, prepared so that you can open and use while you retire.

As an alternative, these taxes contribute to everybody presently receiving Social Safety advantages. That features present retirees, disabled staff, and surviving spouses or youngsters of staff who’ve died. Your FICA taxes additionally go to funding present Medicare advantages for sure aged or disabled People.

And hopefully, while you qualify for Social Safety and Medicare, your advantages will probably be funded by people who find themselves nonetheless within the American workforce then. That’s the thought, anyway, if the federal government doesn’t mess with it.

2023 FICA Tax Charges and Limits

Okay, people. Let’s get right down to the nitty-gritty. As we talked about above, FICA taxes go to funding two totally different packages—Social Safety and Medicare. For 2023, the Social Safety tax charge is 6.2% of an worker’s wages, and the Medicare tax charge is 1.45%. And keep in mind, employers need to match these charges.

So collectively, you and your employer pay a complete of 15.3% (7.65% + 7.65%) of your wages to FICA taxes.⁴

There’s no wage base restrict (that’s IRS-speak for the utmost quantity of your revenue that may be taxed) for Medicare taxes, however the 2023 wage base restrict for Social Safety taxes is $160,200.⁵ Meaning any revenue you earn above $160,200 will be taxed for Medicare, however will not be taxed for Social Safety. Candy!

Now, in case your wages, compensation or self-employment revenue exceeds a sure threshold quantity, you’ll need to tack on a further 0.9% for the Further Medicare Tax. Significantly, Uncle Sam? You couldn’t give you a extra artistic title?

Anyway, this threshold quantity for the Further Medicare Tax is determined by your submitting standing:

In case your (otherwise you and your partner’s) revenue does not exceed your submitting standing’ threshold, you received’t see that 0.9% added to your FICA taxes. 

Methods to Calculate FICA

We’ve gone over the FICA tax charges and base wage limits, so let’s take a look at a couple of examples of easy methods to calculate FICA taxes.

A fast reminder of what we simply coated above: The worker Social Safety tax charge is 6.2%, and the worker Medicare tax charge is 1.45%.

State of affairs 1: Let’s say you make $100,000. In that case, you’ll pay:

• $6,200 in Social Safety taxes ($100,000 x 0.062)
• $1,450 in Medicare taxes ($100,000 x 0.0145)

Meaning you’ll shell out a complete of $7,650 (7.65% of your taxable revenue) for FICA taxes.

State of affairs 2: Let’s say you’re single and you’ve got an revenue of $300,000. Hooray! However which means you’ve surpassed the edge quantity for the Further Medicare Tax and must pay a further 0.9% in FICA taxes on something above that threshold quantity. Booooo! So listed below are your numbers:

• $9,932 in Social Safety taxes (the bottom wage restrict of $160,200 x 0.062)
• $4,350 in Medicare taxes ($300,000 x 0.0145).
• $900 for the Further Medicare tax (the $100,000 above the edge x 0.009)

That’s a complete of $15,182 of your taxable revenue for FICA taxes. Geez, Uncle Sam takes his share, doesn’t he?

I’m Self-Employed. How Does FICA Work for Me?

So that you lastly took the leap and began the small enterprise you’ve been planning for since school. Now you’re the one calling the pictures!

Yep, beginning your individual enterprise has its rewards, however sadly, being self-employed doesn’t get you off the hook in relation to paying taxes—particularly paying FICA taxes. See, the Self-Employment Contributions Act (SECA) says you continue to need to contribute to Social Safety and Medicare, even should you’re self-employed.

The truth is, in keeping with SECA, anybody who works as a freelancer, impartial contractor or a self-employed employee has to pay each the worker FICA taxes and the employer match! That’s as a result of Uncle Sam views anybody who’s self-employed as each the worker and the employer, so you find yourself paying the worker contribution and the employer match for SECA taxes. So double these FICA percentages:

• Social Safety tax: 6.2% worker + 6.2% employer match = 12.4% complete
• Medicare tax: 1.45% worker + 1.45% employer match = 2.9% complete
• Further Medicare Tax: Solely relevant should you exceed the taxable revenue threshold in your submitting standing (see chart above)

That’s a complete of 15.3% for self-employment taxes. And that’s on high of your common revenue tax! To calculate your SECA taxes, use type Schedule SE.⁷

Now, the SECA tax (additionally known as the self-employment tax) has the identical tax charges and limits because the FICA tax, with one minor exception: In case your web self-employed revenue is lower than $400, you don’t need to pay the SECA tax.⁸

What if My State Has a Social Safety Tax?

Now, we’ve been speaking about FICA taxes, that are federal taxes used to fund Social Safety and Medicare. Whereas no states withhold taxes out of your paycheck to fund Social Safety, a couple of do tax your Social Safety advantages.⁸ (Simply while you thought issues couldn’t get any extra sophisticated, proper?) Examine together with your state tax company to get particulars on how your Social Safety advantages are taxed should you dwell in a kind of states.

Who Doesn’t Should Pay FICA Taxes?

Okay, so if individuals who work for an employer and people who are self-employed or impartial contractors need to pay FICA and SECA taxes, is there anybody who doesn’t need to pay? The quick reply is sure, however the possibilities you fall into one in all these teams of individuals are slim:

• Civilian federal authorities workers employed earlier than 1984 don’t qualify for Social Safety, so that they don’t need to pay that portion of FICA taxes. They’re nonetheless coated by Medicare and need to contribute the 1.45% tax for it yearly, although.⁹

• Some state and native authorities workers with a pension plan don’t need to pay FICA taxes.¹⁰

• Members of sure spiritual organizations which are against accepting well being care or retirement advantages underneath a personal plan get a move on FICA taxes. (Sure sects of the Mennonites and Amish fall underneath this exemption, for instance).¹¹

• At present enrolled college students who work at their school or college might be exempt, however just for revenue earned from that campus job. They’ll nonetheless need to pay FICA taxes on any earnings created from a second job off-campus.

Can I Retire With Simply Social Safety?

Hear, people. Betting on Social Safety and Medicare as your solely retirement financial savings and well being care insurance coverage is a horrible thought. Keep in mind, these taxes are not used to pay for your future advantages. As an alternative, these payroll taxes you’re paying are collected by the IRS and despatched out to people who’re presently receiving Social Safety advantages (aka beneficiaries).

As we speak, the taxes you and about two different staff pay (2.8 staff to be actual) cowl the advantages for one Social Safety beneficiary. And it’s solely going to worsen: By 2035, there’ll be solely 2.3 staff for every beneficiary—however the variety of beneficiaries will leap up by over 20 million.¹² Uh-oh. Now you possibly can see why the mathematics on Social Safety is making numerous people nervous.

And guess what. As of proper now, Social Safety is simply funded till 2034. Who is aware of when or even when the federal government will lengthen it past then! So placing all of your retirement financial savings eggs within the Social Safety and Medicare baskets shouldn’t be a vibrant thought.

Don’t depend on Washington, D.C. to handle your retirement. Have a greater plan than that. Take management of your monetary future as we speak! Our SmartVestor program can join you with a reliable investing professional who may help you make a plan in your retirement financial savings targets. 

Get Assist With Your FICA Taxes As we speak!

We’ve coated loads concerning the Social Safety and Medicare parts of the FICA tax. In the event you nonetheless have questions on why it’s a must to pay the FICA tax or the way it impacts your revenue, attain out to a RamseyTrusted tax professional! They’ll reply your questions and assist you determine how the FICA tax will impression your tax invoice.

In the event you’re searching for tax software program that may deal with FICA and self-employment taxes, take a look at Ramsey SmartTax. It’s an easy-to-navigate software program with zero hidden charges!