When you get your paycheck, you might find it jarring to see the difference between what you technically earn and what you get to take home. After the line item for federal income tax withholding, you'll notice deductions for Social Security and Medicare. These are called FICA taxes, which comes from the Federal Insurance Contributions Act, the law that mandated such payroll taxes.
It's helpful to understand what these deductions are and where your money goes.
The bottom line: The amount you pay in FICA taxes now helps ensure you can benefit from those social safety net programs down the line. "If you are paying into this, you can take from it when you need it, but if you don't pay into it, you can't take from it when you need it," says Cari Weston, a CPA and the director for tax practice & ethics at the American Institute of Certified Public Accountants.
FICA taxes go toward funding Social Security, a federal insurance program designed to help support Americans in retirement, and Medicare, a federal health insurance program for people 65 and older. What you pay in FICA taxes helps cover current benefits, and by working and paying FICA taxes, you're earning credits toward your own eventual Social Security and Medicare benefits.
The current FICA tax rate is a combined 15.3% tax on your gross pay, according to the IRS, but the cost doesn't fall entirely on the worker. "The employee picks up half of that cost and the employer picks up half the cost," says Weston.
This means the Social Security comes to 6.2% for the employer and 6.2% for the employee, or 12.4% total, plus another 1.45% for the employer and 1.45% for the employee, or 2.9% total, for Medicare.
The rate is flat, unlike some other taxes, so it's comparable to paying sales tax on a car, she says. "Unlike federal withholding or state withholding, where you're paying into your own account and when you file returns you might get some of that money back, the FICA taxes are not that," she says. "They're a straight cost to the employee and the employer."
The taxes are only on your earned income itself, says David Levi, senior managing director for accounting and professional services provider CBIZ MHM. "It's not charged on interest or dividends or capital gains," he says.
Video by David Fang
There's a wage cap that limits how much of your wages are subject to Social Security FICA taxes each year. For 2021, that's $142,800. In other words, if you make $150,000 this year, only the first $142,800 will be subject to the Social Security portion of FICA. So your last few paychecks might be a little bigger. But there is no wage cap on Medicare taxes, and if you're a high earner, you might also need to fork over an additional 0.9% in Medicare taxes.
You still need to pay into Social Security and Medicare if you have self-employment income. So if you have a dog-walking gig or you're making money selling vintage clothing online, you have to pay what is basically an independent version of FICA taxes under the Self-Employment Contributions Act.
Since you're not officially an employee, you are responsible for the full 15.3%. "However, the government actually does, in most cases, pick up the other half," says Weston, because the IRS lets self-employed individuals deduct an amount that's equivalent to the employer portion.
Ultimately, it could balance out so you're not paying double what a full-time employee pays. "As an individual I don't get to deduct my Social Security tax, but a business is deducting that half of a business expense as an operating tax," says Levi.
Video by David Fang
If you make pretax contributions to your company's flexible spending account, health savings account, or dependent care FSA, you could pay less in FICA taxes, says Levi. "When you take advantage of certain perks, you're saving not only income tax," but FICA taxes too, he says.
However, he notes, you can only get this cut with an HSA if your employer is taking the money out of your wages, not if you're funding it directly. And keep in mind that 401(k) contributions, while also pretax, do not allow you to sidestep your FICA obligation.
You may have heard the term "payroll tax holiday" or "payroll tax deferral" in the news over the past few months.
Shortly after the coronavirus pandemic began, President Donald Trump pitched a temporary payroll tax holiday as a way to put a little more money in consumers' paychecks. The executive order gave employers the option to delay withholding employees' portion of the Social Security part of FICA taxes from September 1, 2020, through December 31, 2020. The money is due back by December 31, 2021, meaning affected workers might actually see smaller paychecks this year with extra FICA taxes taken out to cover the postponement.
But experts say most employers didn't choose this option. "If you said to yourself, 'Why did my paycheck suddenly go up in September?,' you want to make a call to your HR department," says Weston. Still, it's probably not something you need to worry about. And you can always handle any confusion with a simple action: "Talk to your CPA," she says.
Before he took office, President Joe Biden proposed raising Social Security taxes as part of a larger plan to overhaul and protect Social Security. But experts say such a proposal is unlikely to affect the average worker and would be geared toward people making more than $400,000. "So you're raising more revenue, but not from the middle class or the upper middle class, but theoretically the wealthy," says Levi.
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