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Calculating deductions and withholdings can be a complicated task for any business.
Deductions and withholdings, which are mandated by both state and federal laws, can be voluntary or court-ordered, so they may vary widely from employee to employee.
These complicated calculations can be hard to do yourself, but fortunately, quality payroll software (such as UZIO) can solve these problems for you. In this article, we’ll cover some of the common deductions and withholdings you may encounter during each pay period.
Mandatory Deductions
State Income Tax:
Each state government sets its own income tax (although some states may not have one).
Most states have an income tax, and the amount is set by that individual state. Fortunately, employers are not required to pay anything to the state, but employees are required to pay state income tax to the state where they reside.
If they move to another state, they will be responsible for paying state taxes there as well.
State income taxes are based on a couple of different factors: the number of allowances, taxable income, marital status, and the employee’s W-4 paperwork.
Recommended reading: A Guide to Essential Payroll Forms & More for Small Business Owners
Employees may catch a break though: if their wages are too low and/or they have many personal exemptions, then they may not be required to have state income tax withheld from their paychecks.
Federal Income Tax:
An employee decides how much federal income tax will be deducted from each paycheck when they initially fill out their W-4 form.
If the amount withheld exceeds the amount due, then the employee will get a tax refund at the end of the year when they file their taxes.
On the other hand, if they don’t deduct enough then they will be presented with a bill from the IRS for the balance owed.
The amount of federal income tax that is due will vary by employee. It depends on a variety of factors such as their number of allowances, marital status, and total taxable income.
Medicare Tax (FICA):
Another common paycheck deduction is Medicare. The Medicare tax shows up on a paycheck under FICA (Federal Insurance Contributions Act).
FICA covers both Medicare and Social Security, which are due as part of the federal taxes.
The Medicare tax provides a wide variety of services to people 65 or older. It can help them with nursing care, hospital care, and doctor fees—it even provides assistance for those on Social Security Disability Assistance!
Federal tax laws require employers to withhold 1.45% of an employee’s pay for Medicare. If the employee makes over $200,000 per year, this amount is reduced to 0.9% of their salaried (or hourly) income.
Social Security (FICA):
The second part of FICA is withheld for Social Security. Social Security is a program that provides disability benefits, retirement funds, survivors’ benefits, and family benefits. Employers are responsible for deducting 6.2% of an employee’s annual salary (or wages) which goes towards Social Security.
However, any wages they make exceeding $147,000 are exempt (in 2022), meaning they don’t have to contribute towards Social Security after $147,000.
Recommended reading: Social Security Wage Base 2021 and Estimation for 2022 (Updated for 2022)
Involuntary Types of Mandatory Deductions
Tax liens:
Employees who owe back taxes may have an additional amount deducted from their paychecks.
Court-ordered garnishment:
Employees may be required to pay additional deductions, such as child support, student loan garnishments, or creditor garnishments. In some cases, the employer may be reimbursed for the administrative costs. If you’re not sure if you’re entitled to reimbursements, a service like UZIO can help.
Pre-tax Deductions vs. Post-tax Deductions
Pre-tax deductions, such as health insurance, are taken from the gross pay of a paycheck before any taxes have been applied. Post-tax deductions, like wage garnishments, are removed after pre-tax deductions, federal taxes, state taxes, and FICA taxes have been withdrawn from the employee’s paycheck.
Voluntary Deductions
Retirement Deductions:
There are many different types of retirement deductions, but two of the most common are employer-sponsored 401(k) and 403(b) retirement plans.
In both of these plans, an employee’s contributions are deducted each pay period from their pre-tax funds. In a 401(k) plan, each employee selects the percentage of each paycheck that they want to contribute and works with a plan advisor to invest their funds.
Also available is the nearly-identical 403(b) package, which is only offered to non-profit or government employees. Employees still decide the contribution amount and where to invest the funds, but unlike 401(k) plans, 403(b) plans are exempted from
Insurance Plan Deductions:
Some employers offer vision, dental, or other types of health plans to their employees.
If an employee opts into one of these plans then they can expect to see a deduction (which covers the cost of their plan) on each of their paychecks.
Employees can also open an HSA (Health Savings Account) to help with their medical expenses. The funds contributed are tax-exempt upon both deposit and withdrawals, assuming the funds are used towards a legitimate medical expense.
Employer Debt:
If a worker borrows money from their employer or purchases items from them (such as tools or uniforms), these costs may be deducted from their paychecks.
Purchases of U.S. savings bonds:
Employees may choose to have automatic deductions made from each of their paychecks, which will go towards the purchase of U.S. Savings Bonds.
Charitable contributions:
If an employee wants to donate to a charitable cause like the Red Cross or the United Way, they may ask for this amount to be deducted from their paychecks. There are a lot of different contributions they can make, so having a dedicated payroll software will make these deductions a lot easier to process.
Union dues:
In some cases, employers may choose to automatically deduct union fees from their employees’ paychecks.
You may encounter additional types of withholdings or deductions as well. These can be either voluntary or involuntary (such as child support). Remember, for voluntary deductions you will need to get signed approval from the employee.
Calculating payroll deductions and withholdings can quickly turn a simple payroll process into a complicated mess.
Fortunately, complete payroll solutions offer a quick way to easily calculate and automate these deductions!
Services like UZIO provide a support staff as well, who are there to answer any questions you may have and give assistance when needed.
Employees deserve to be paid quickly and accurately for their work, so using payroll software helps ensure they’ll be satisfied come payday.
