- Small business owners are required to collect, report and remit FICA taxes to the IRS. If they don't, the business owner may face penalties and fines.
- The FICA tax comprises Social Security, Medicare and unemployment benefits.
- Outside of increases due to inflation, FICA taxes don't change much, which means small business owners can set it and forget it.
- This article is for small business owners wanting to learn more about the FICA tax and how to calculate it.
Paying taxes is a key responsibility of owning a business. While business owners need to be aware of several types of taxes, the biggest one is the Federal Insurance Contributions Act (FICA) tax. FICA taxes are paid by both employers and employees to cover Social Security and Medicare. Since this is such an important payroll tax, business owners need to know what exactly these taxes entail, how to calculate them and when to pay them.
What is FICA?
FICA is the federal income tax that business owners are required to pay on their employees' behalf. They do that by withholding 10% to 37% of pay from workers' paychecks. The employee's income and filing status will determine how much the IRS gets in federal income taxes. In addition to the money they withhold from employee paychecks, employers are responsible for paying their own share of the tax.
FICA comprises three taxes: Social Security tax, Medicare tax (with an additional tax for high-income employees), and Federal Unemployment Tax Act (FUTA) tax.
- Social Security tax: The Social Security tax, which is 12.4% of income, is split between the employee and employer. Business owners are required to withhold 6.2% from employees' paychecks and match the remaining 6.2%. As of 2021, a maximum of $142,800 can be taxed to cover Social Security. This means that those who make more than that are only taxed for Social Security on the initial $142,800, not on anything more than that.
- Medicare tax: The Medicare tax is 2.9%, which is also split between the employee and employer. The employer withholds 1.45% of their employees' wages and pays 1.45%. There is no limit on the income that can be taxed for Medicare.
- Additional Medicare tax: There is an additional 0.9% tax for high-income earners – those who make over $200,000 as a single filer, $250,000 as a married person filing jointly, or $125,000 as a married person filing separately. There is no employer match for this added tax.
- FUTA: The Federal Unemployment Tax Act was created to fund the nation's unemployment benefit programs. Employers are required to pay 6% of the first $7,000 of workers' wages. Businesses that pay this tax fully and on time receive a 5.4% credit, which lowers their FUTA tax responsibility to 0.6%.
Breakdown of FICA taxes
|Type of tax||Social Security tax||Medicare tax||Additional Medicare tax||FUTA tax|
|Percentage of income||12.4%||2.9%||0.9%||6% of the first $7,000 of workers' wages|
|Who pays?||Employee and employer||Employee and employer||Employer|
|Required withholding from employees' paychecks||6.2%||1.45%||N/A||N/A|
|Required employer match||6.2%||1.45%||N/A||N/A|
|Maximum taxable income||$142,800||No limit||No limit||$7,000|
Key takeaway: FICA's three components are Social Security, Medicare and FUTA taxes. Employers and employees split the bill for the Social Security and Medicare portion of FICA, and high-income employees pay an additional Medicare tax.
What payments are not subject to FICA taxes, and who is exempt?
FICA doesn't apply to all wages. These are some types of compensation that are not subject to FICA taxes:
- Wages paid after an employee dies
- Wages paid to disabled employees after they begin collecting Social Security disability insurance benefits
- Expense reimbursements on mileage
- Employer retirement contributions
Did you know? While most employees must pay FICA taxes, there are some exceptions. Employees who have worked for the government since 1984, as well as some state workers, may not have to pay FICA taxes.
How is FICA calculated?
Calculating FICA tax contributions of an employee and employer is straightforward. You multiply the employee's gross pay by the tax rates for Social Security and Medicare. If your employee earned $1,000 this week and is required to contribute 6.2% to Social Security and 1.45% to Medicare, it would amount to $76.50. The employer would pay the other half plus FUTA.
"Once you establish a payroll policy and have it up and running, it's rare for a small business to run into trouble with FICA taxes," said Mike Slack, manager of The Tax Institute at H&R Block. "The only thing that changes yearly with FICA is the maximum wage limit for Social Security."
How do self-employed people calculate FICA taxes?
Those who are self-employed or independent contractors are required to pay both the employer and employee Social Security, Medicare, and Medicare surtax, which is known as the self-employed tax. For 2021, self-employed workers and independent contractors pay a total of 15.3% in FICA taxes.
The Medicare surtax applies to single filers earning more than $200,000 per year and married couples earning at least $250,000 who are filing jointly. Small business owners pay this tax at the end of the year when they file their income tax returns. The IRS allows self-employed workers to claim 50% of the self-employment taxes paid as a deduction on their federal income taxes for the year.
Individuals registered as a sole proprietorship, LLC or partnership are on the hook for the self-employment tax. If you report your business taxes on Schedule C when filing your personal tax returns, you have to pay the self-employment tax.
Key takeaway: Self-employed people have federal income taxes too, but it's called the self-employed tax. It covers Social Security, Medicare, and the Medicare surtax if it applies.
Are FICA withholdings mandatory?
The Federal Insurance Contributions Act is the federal law that requires employers to withhold Social Security, Medicare and FUTA taxes from employees' wages. It is mandatory and ultimately the employer's responsibility. Small business owners who fail to collect, report, or remit payroll taxes to the IRS face penalties and interest on the money they owe.
Small business owners may also face penalties if they misclassify workers as independent contractors. Under FICA rules, you don't have to pay taxes on independent contractors, but if the IRS finds that your "independent contractors" should be treated as full-time workers, you could be in trouble.
"The employer is the ultimate party responsible for FICA taxes," Slack said. "Let's say the corporation does not deposit those taxes over a certain period of time – the IRS can fine the owner."