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Payroll Taxes Definition for Business Success

Sharissa Barnett May 22, 2023 6:25:55 AM
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What are Payroll Taxes? Payroll Taxes Definition

Every government collects and depends on taxes to run various projects within the country. Taxes help facilitate projects like the building of schools and roads. Enough taxes also ensure the smooth running of social security and Medicare services. 

The definition of payroll taxes may vary depending on the employer. Payroll is one of the taxes the government deducts from employees' paychecks. Each type of payroll tax contribution attracts various percentage deductions. But what is included in payroll taxes, and who pays for payroll taxes? 

Read on and learn more as this guide looks at payroll taxes' definition and explains everything about payroll taxes. 

What is a Payroll Tax?

Before delving deeper into the topic, it is best to understand the definition of payroll taxes. Payroll taxes are a tax paid on the wages and salaries of employees. Employees and employers contribute to these taxes as they share the costs. 

Employees' payroll taxes are paid directly from their paychecks by their employers. The different types of payroll taxes are federal, local, and state. Every employee's contribution to the social security fund and Medicare is also part of the payroll tax. To easily calculate and remit payroll taxes, opt for accounting software with which you can also integrate other apps.

Payroll Taxes Explained Further

Let's break this down even further by understanding the definition of payroll taxes will truly help your business. After collecting the taxes from employers and employees, the government uses the amount for various things. Federal payroll taxes are used for social security and Medicare, including the US's Federal Insurance contributions Act tax. However, the federal income tax from employees' paychecks goes directly to the US Treasury. 

Payroll taxes amount to 24.8% and include federal, local, and state government revenue; they are the second largest form of tax. This means that in some states and local municipalities, the government also deducts payroll taxes as income taxes.

What is the Purpose of Payroll Tax?

The primary uses for the payroll taxes are social security funds, workers' compensation, and healthcare. Other expenses the local government spends the taxes on road maintenance, parks, or any local infrastructure or services.

What Are the 4 Types of Payroll Taxes?

Employers and employees must pay different types of payroll taxes to avoid penalties. 

Examples of payroll taxes include:

The Social Security and Medicare Payroll Tax (FICA)

Employees must pay social security taxes to the Old Age and Survivors Insurance (OASI) Trust Fund. The amount from these contributions helps the government pay for survivorship, disability, and retirement benefits. 

The Secretary of Labor, the Secretary of Treasury, and the Secretary of Health and Human Services are in charge of these funds. Both the employer and employee pay for the social security funds. Each contributes 6.2% to social security, but those earning above $147,000 are exempt from paying this.

Medicare taxes are also part of FICA taxes, and they are for medical services. The Medicare taxes fund Part A, B, or D. Most people do not pay for Part A (hospital insurance). However, they pay for 1.45% while their employer pays for the remaining 1.45%. 

Employees earning more than $200,000 pay an additional 0.9%, and the funds help cover medical services like laboratory tests, screening, and outpatient services. 

Federal Income Tax

The federal government also deduct some amount from employees' income to cater to some expenses. The federal income tax ranges between 10% to 37% depending on an individual's income level and filing status. 

Some states and local governments also tax employees depending on their income. However, some charge a fixed rate on all income. 

Self-Employment Taxes

Self-employed citizens like contractors, musicians, business owners, and freelance writers must also pay payroll taxes. Unlike their employed counterparts, who make partial payments, the unemployed must pay the whole percentage by themselves. The self-employed pay 12.4% to the Social Security fund and 2.9% to Medicare, which totals 15.3%. 

Unemployment Tax

This tax is payable by employers only, and its primary use is to cushion the particular company’s employees in case their contract ends. The unemployed ex-employees will get the benefits, preventing them from being desperate despite not having a source of income. 

The unemployment tax rate varies depending on the company, federal and state fees. In some states, employers also pay for disability insurance aside from the unemployment tax.

What is Payroll Tax Vs. Income Tax?

There is a difference between payroll and income taxes, despite both being deductions from the paycheck. It is imperative for businesses to understand the definition of payroll taxes. The government uses payroll taxes to run certain projects within the country, like maintaining roads. On the other hand, income taxes help the government provide essential goods and services to its citizens. 

Furthermore, the payroll tax rates are fixed, while the income tax rates vary depending on individuals' income. Also, who pays payroll taxes differs depending on an individual's employment status. For example, self-employed individuals pay the whole amount alone, while the employed share the cost with their employers.

Does Everyone Pay a Payroll Tax?

Yes. Everyone pays payroll taxes, so truly understanding the definition of payroll taxes is important whether employed or self-employed. Payroll taxes come from individuals' earnings like commissions, tips, salary wages, and bonuses. Everyone pays fixed FICA taxes, but the income tax is progressive and depends on income level. As an employer, you should know what employee taxes are. It is also essential to understand what are employer taxes to avoid conflicts and tax penalties.

What Makes Up Payroll Taxes?

Salaries, wages, tips, commissions, and bonuses make up payroll taxes. The contributions from these monies help the government maintain roads and parks and to fund social security and Medicare.

What Does the Employer Pay in Payroll Taxes

As an employer, understanding what are payroll taxes is important and beneficial to any business.  You will pay part of the payroll taxes every employee in your organization is responsible for. For example, you should pay 1.45% of the Medicare taxes, which is half the contribution to the 2.9% Medicare tax every employee should pay.

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As an organization, you must file some of your employees' tax returns, which depends on the information they give you. Tracking such information and calculating it can be challenging, so you should use a collaborative tool. 

Introducing Basil Practice Management for Accountants, a collaborative tool that can help you automate some of your services, increasing productivity. Try Basil for 15-days free and connect with a product expert for a complimentary demo.   

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