As a business owner who employs workers and staff, you need to understand the compliances and various responsibilities that come with contributing to Federal Unemployment Tax Act or FUTA.
This article covers the topics you need to get to know FUTA taxes better. You will also discover calculations, 2023 rates, and credits.
But before, we recommend you read “Paystub Abbreviations and Acronyms Decoding Tips” to familiarize yourself with abbreviations.
What is the Federal Unemployment Tax Act (FUTA)?
The Federal Unemployment Tax Act is a policy that requires employers to pay payroll taxes helping states to provide unemployment benefits or compensation to employees whose contracts ended or terminated. Although, FUTA only applies to workers not dismissed for gross misconduct.
Employers file and report FUTA taxes annually with the Internal Revenue Service (IRS) using Form 940. They are responsible for withholding and depositing taxes on time. It is calculated based on an employee's wage. Additionally, there is no deduction from the employee's paycheck.
FUTA is a piece of legislation imposing a tax on any company or business with employees. It is an annual or quarterly federal unemployment tax that makes up part of what is commonly known as payroll taxes.
The revenue that FUTA generates could fund the following programs:
- - Share of the federal government cost of unemployment programs with all the states.
- - Unemployment programs of the states.
- - Unemployed workers who are eligible to claim their unemployment insurance.
Who Pays FUTA?
Passed in 1939, the FUTA raises revenue so the government could allocate unemployment insurance and various job service programs in each state. As mandated by federal law, only the employers must pay the FUTA taxes, making it different from FICA taxes and Social Security taxes, which are paid by both the employers and the employees.
The Federal Unemployment Tax Act requires employers to contribute towards the act quarterly and report the same on Form 940 annually. Although the FUTA payroll tax is based on employees' wages, no amount is taken from a worker's paycheck to pay FUTA taxes.
According to the IRS, an employer owes federal unemployment taxes if:
- They paid at least $1,500 or more in wages during any calendar quarter in the previous or current year. Employers must pay FUTA tax on the first $7,000 of wages for each worker each year. However, anything beyond this amount is non-taxable.
- They have at least one part-time, full-time, or temporary employee for at least part of a day for 20 or more weeks in the previous or current year.
Employers could pay FUTA taxes annually or quarterly. The employer's federal tax liability amount determines when they should pay the tax.
FUTA Tax Rates
The FUTA rate has varied over the years. As per IRS standards, the federal unemployment tax rate protection for 2023 is six percent (6%). The federal tax act applies to the first $7,000 of wages paid by employers to their employees throughout a calendar year. The amount for each worker would be the taxable wage base limit for FUTA.
However, when the employee's year-to-date (YTD) gross earning exceed $7,000 for the year, the employer could stop accounting for the exceeded amount for that employee. Therefore, the maximum amount an employer would need to contribute towards the FUTA fund is $420 per employee.
FUTA vs. State Unemployment Taxes (SUTA)
Some states collect additional unemployment tax from business owners with employees, known as State Unemployment Taxes (SUTA). Tax rates for SUTA could range from 0% to 10% of an employee's wages.
For employers, contributing towards SUTA taxes could lessen the burden of paying for FUTA taxes. Employers could take a tax credit of up to 5.4% of the employee's taxable income if they pay SUTA on time and correctly. The amount is deducted from the 6% for the FUTA payroll tax, making the net tax rate equal to 0.6% for qualified employers.
How to Calculate FUTA Tax?
As said earlier, the FUTA limit falls under the first $7,000. Any amount that exceeds that is tax-exempt. The taxable income includes wages, salaries, bonuses, commissions, sick pay, contributions to retirement plans, and vacation allowances. There are also other payments exempt from taxation, though they depend on each state's regulations.
FUTA calculation for one employee.
- - FUTA tax per employee equals the taxable wage base limit multiplied by the federal unemployment tax rate.
- - The taxable wage base limit is $7,000.
- - Therefore, the FUTA tax per employee would be calculated as $7,000 multiplied by 6% (0.06) equals $420.
Ten employees with the same taxable wage base limit of $7,000
- - Taking the calculated FUTA tax per employee from example 1, we only need to multiply the amount by 10.
- - Therefore, the employer would need to deposit $4200 for the ten employees.
Multiple employees with different wage bases.
- - Employee 1 has $5,000 in YTD earnings, employee 2 has $4,500, employee 3 has $6,600, and employee $7,800.
- - Multiply each YTD earnings as-is for employees 1 to 3 with 6% as they are within the FUTA limit. For employee 4, exclude $800 from the total as it exceeds the limit and multiply $7,000 by %6.
- - Employee 1: $5,000 x 6% = $300; Employee 2: $4,500 x 6% = $270; Employee 3: $6,600 x 6% = $396; Employee 4: $7,000 x 6% = $420.
- - Add all the resulting amounts $300 + $270 + $396 + $420 = $1,386. This is the total amount the employer needs to contribute towards the FUTA fund.
FUTA Tax Credit
The maximum FUTA tax credit is 5.4%. If the employer is eligible for the maximum credit, the tax rate would only be 0.6%. The tax credit is deducted from the 6% for the FUTA payroll tax. Employers who could meet both conditions below could claim the maximum tax credit of 5.4%.
- - The employer paid state unemployment taxes in full and on time.
- - The business operates under a state that is not a credit reduction state and has no outstanding federal unemployment insurance loans.
An employer who satisfies both criteria for the full tax credit would have a tax rate of 0.6%, equivalent to a minimum amount of FUTA $42 for each employee.
FUTA Credit Reduction States
When states lack funding to pay unemployment benefits, they sometimes borrow funds from the Federal Unemployment Trust Fund. However, these states fail to repay those loans by their due date.
A FUTA credit reduction state is a state that has not repaid any outstanding federal insurance loans to pay unemployment benefits. The U.S. Department of Labor (DOL) manages the loan program and names those states under "Credit Reduction States" each year. Conversely, the Department of Labor would also list states eligible for the full FUTA rate credit of 5.4%.
The federal government has the right to recover unpaid loans from states with credit reduction by reducing the amount of credit these states could avail. Until the loan is fully repaid, the reduction schedule is 0.3% for the first year and 0.3% for the succeeding years.
If an employer pays wages under states listed as credit reduction state subject to unemployment tax laws, the credit an employer could receive for SUTA is reduced. They are not eligible for the full FUTA tax credit and would have to pay more of the federal unemployment tax rate for every employee. This would be the case unless the state the business operates under repays its loan.
In 2023, the Virgin Islands is the only state that has yet to repay its past-due loan balance to the Federal Unemployment Trust Fund. Therefore, employers under its jurisdiction are subject to a lower FUTA tax credit rate.
When are FUTA Taxes Due?
Deposits for the FUTA payroll tax payments fall at the end of the last month following the end of the quarter. Employers must make payments to the Internal Revenue Services on time and in full.
- - The first quarter is from January to March, with the FUTA tax payment due on April 30.
- - The second quarter is from April to June, with the FUTA tax payment due on July 31.
- - The third quarter is from July to September, with the FUTA tax payment due on October 31.
- - The fourth quarter is from October to December, with the FUTA tax payment due on January 31.
If the employer's FUTA tax liability for a quarter is $500 or less, the employer could opt not to deposit the amount and carry it forward to the next quarter. If the federal tax liability exceeds the $500 threshold for the calendar year, the employer must pay at least one quarterly payment.
Additionally, the employer could continue carrying the deposits forward until the cumulative FUTA tax liability is more than $500. At this point, the employer should make a payment for the FUTA tax for the quarter.
Payments Exempt from FUTA Tax
Employees also receive various forms of payments exempt from the Federal Unemployment Tax Act. The following kinds of payments are exempt from FUTA tax:
- - Certain meals and lodgings
- - Employer contributions to employees' accident and health insurance plans
- - Employer contributions to a Health Savings Account or an Archer MSA
- - Employer reimbursement for qualified moving expenses
Group Term Life Insurance
Employer Retirement or Pension Contributions on behalf of employees to a qualified plan, such as a:
- - 401(K) plan
- - Savings Incentive Match Plan for Employees or SIMPLE IRA
- - Payments made for a qualifying person's care up to $5,000 per employee, or $2,500 if married and filing separately
- - All non-cash payments and certain cash payments for H-2A Visa workers for agricultural labor
- - Payments made under a workers' compensation law because of a work-related injury or sickness
- - Payments for services provided by a parent, spouse, or child under 21 years of age
- - Payments to non-employees who are treated as your employees by the state unemployment agency
- - Payments for certain fishing activities
- - Payments to certain statutory employees
How to Add FUTA to Your Paystub?
As an employer, you could opt to add federal unemployment taxes to your employees’ paystubs. This could be as easy as going to Real Check Stubs and selecting a template then adding FUTA to the list. You could also do these to other employer-paid taxes such as SUTA and other state specific taxes.
As a small business owner who pays wages to your employees, employment taxes and payroll taxes are some of the things you cannot afford to set aside. They are an essential part of your duties and responsibilities as an employer to your employees.
However, it could become overwhelming and tedious to manage. Along with FUTA, other taxes such as FICA and SUTA taxes might get you confused. You could always hire professionals such as accountants and bookkeepers to assist you or even do the job for you. On the other hand, if you do not have the budget to hire such services, you could always use online pay stub generators such as Real Check Stubs to calculate and automate the process for you.
Visit our website Real Check Stubs for more must-read articles that could help employers, as well as employees manage their paystubs and taxes.