In the US, businesses have an added obligation to navigate the details of employer contributions and payroll taxes. A substantial $1.1 trillion, accumulated by the US treasury thus far in FY 2024, originates from individual and corporate taxes combined.
Understanding these figures is crucial for global businesses to operate compliantly in the US, as these contributions fund essential government operations and services vital to the local employment landscape. These taxes support crucial public welfare and also underpin the unemployment insurance system, providing a lifeline to those in unexpected situations.
As a foreign business looking to hire in the US, the nuances of tax laws are central to your strategic financial planning as well as resource allocation. Read on to find out how to fulfill your employer responsibilities in the US and utilize the services of an Employer of Record (EOR) to simplify this process.
What Are Payroll Taxes?
Payroll taxes, mandated both at the federal and state levels, are a fundamental component of the US taxation system. Depending on whether the employee, the employer, or both are paying them, payroll taxes differ in nature.
- Withholding taxes are deductions from an employee's income made by the employer for federal, state, and local taxes. This serves as an advance payment toward the employee's annual tax obligations.
- In contrast, employer taxes are those payroll taxes paid solely by the employer, such as the Federal Unemployment Tax Act (FUTA) taxes.
- Meanwhile, contributions to shared taxes like Medicare and Social Security are split evenly between employer and employee, emphasizing a joint responsibility towards funding essential social services.
Employers are responsible for not only paying employer taxes and shared taxes, but also have to ensure appropriate deductions of income taxes for each employee. Failure to accurately deduct or report these taxes can lead to fines and non-compliance penalties.
What Are Employer Contributions in The US?
Now that we’ve distinguished between income tax and employer contributions, let’s take a look at which applies to your business entity operating in the US.
Federal Insurance Contributions Act (FICA) Taxes
At the heart of employer contributions are FICA taxes, which fund Social Security and Medicare programs. You are responsible for paying a matching amount to what is deducted from your employee's paycheck for these programs. For Social Security, this equates to a 6.2% contribution on earnings up to a predetermined cap, which is subject to annual adjustments. Medicare contributions stand at 1.45% on all earnings, with an additional surcharge of 0.9% for high-earning employees.
Federal Unemployment Tax Act (FUTA)
FUTA taxes are paid solely by employers and finance the unemployment insurance system at the federal level. This system provides temporary relief to individuals who have become unemployed through no fault of their own. The standard FUTA tax rate is 6% on the first $7,000 of each employee's earnings per year, but tax credits for state unemployment contributions can reduce the rate to 0.6%.
State Unemployment Taxes (SUTA)
SUTA taxes vary from state to state and are determined by factors such as the employer's industry and claims history. For instance, in California, the Unemployment Insurance (UI) and Employment Training Tax (ETT) represent key components of the state's payroll taxes. In 2024, California's UI contributions are determined by Schedule F+, which incorporates a 15 percent emergency surcharge, leading to contribution rates ranging from 1.5%to 6.2% on the first $7,000 earned by each employee per calendar year.
How To Calculate Employer Contributions in the US?
Calculating employer contributions to payroll taxes is a critical aspect of financial management and mitigating the legal risks associated with hiring in the American market. You must accurately determine the amounts owed for different types of taxes, including federal, state, and local levies.
Let’s illustrate this using the example of your hypothetical employee Ahmad, who is earning $90,000 annually in New York.
Federal Contributions
Social Security Tax
Since Ahmad's salary is below the threshold of $147,000, the entire salary is subject to tax. Thus, your employer contribution would be 6.2% of $90,000, which equals $5,580.
Medicare Tax
Similarly, the Medicare tax rate is 1.45% with no wage base limit, resulting in an employer contribution of 1.45% of $90,000, equalling $1,305.
FUTA Tax
The first $7,000 of Ahmad's annual earnings are subject to FUTA tax. With the adjusted FUTA tax rate of 0.6% (after a possible 5.4% tax credit for timely tax payments by the employer), your contribution to FUTA tax on Ahmad's earnings would be 0.6% of $7,000, equating to $42 for the year.
State Contributions
Unemployment Insurance (SUI): For 2024, the SUI rates in New York vary locally, but the new employer rate is 4.025% (including a Re-employment Services Fund rate of 0.075%). The taxable wage base is $12,500. Therefore, the employer's SUI contribution would be 4.025% of $12,500, amounting to approximately $503.13.
Use our employee cost calculator for further cost breakdowns.
Collecting and Reporting Taxes
Once you’ve made necessary deductions and paid your employer contributions for all employees like Ahmad, you will report these taxes to the appropriate authorities. At the federal level, this involves submitting information to the Internal Revenue Service (IRS), while at the state level (let’s continue to take the example of New York), contributions are made to the state’s Department of Labor.
Local taxes, if applicable, would be paid to the designated local authorities. You must adhere to their payment schedules, which are often based on the size and total tax liability of your business.
For reporting collected and paid payroll taxes federally, you need to fill out Form 941 for income every quarter, Medicare and Social Security taxes, and an annual Form 940 for FUTA. At the state level, authorities generally require quarterly wage detail reports, and specifics can be found on the state’s Department of Labor's website or by contacting them directly.
At the end of the year, employers issue W-2 forms to employees, reflecting their earnings and taxes, and submit copies to both the IRS and state tax authorities by January 31.
Tax Credits and Relief Programs
Tax credits and relief programs significantly benefit businesses by reducing their overall tax burden and providing financial relief under certain conditions. These programs are designed to incentivize specific business activities, such as hiring employees from certain groups, investing in research and development, or providing health insurance to employees to support the organization’s long-term growth.
Work Opportunity Tax Credit (WOTC)
The Work Opportunity Tax Credit is a federal credit for employers who hire individuals from certain target groups that face socioeconomic barriers to employment. This includes veterans, recipients of certain types of public assistance, and others facing employment challenges. Employers can claim the WOTC by filing Form 5884 with the IRS.
Employer Credits for Paid Family and Medical Leave
Employers who provide paid family and medical leave to employees may be eligible for a tax credit. This credit is part of the initiative to encourage employers to offer paid leave for health-related issues and family care. The credit is calculated based on a percentage of the wages paid to qualifying employees while on leave.
Research and Development (R&D) Tax Credit
Businesses investing in research and development activities benefit from the R&D Tax Credit for innovation and technological advancement. This credit allows businesses to deduct a portion of R&D expenses, fostering growth, creativity, and development in various industries.
State-Specific Credits and Incentives
In addition to federal programs, many states offer their own tax credits and incentives for businesses. These include credits for energy efficiency, job creation, and investment in designated zones. Employers should consult their state's tax authority or Department of Economic Development for specific opportunities available in their state.
Preventing Common Payroll Tax Mistakes
Payroll taxes and employer contributions in the US can be a complex subject. It is beneficial to hire experts to avoid common compliance-related mistakes such as:
Common Pitfalls
- Misclassifying Employees as Independent Contractors: This can lead to significant fines and back taxes. The IRS scrutinizes the classification of workers to ensure that employers are not avoiding payroll tax obligations by incorrectly classifying employees as contractors. Additionally, employees may have different statutory rights, such as benefits or minimum wage entitlements.
- Late Payments and Filings: Missing deadlines for tax payments and filings result in penalties and interest charges. Staying on top of payment schedules is crucial for successful cash management.
- Failure to Send W-2 and 1099 Forms: You must provide these forms to employees and contractors by January 31st each year. Failure to do so leads to penalties such as fines.
- Not Keeping Updated Records: Inaccurate payroll records lead to underpaying or overpaying taxes, both of which have significant consequences. In addition to non-compliance with local laws, payroll errors negatively impact employee morale and increase the risk of lawsuits or other legal liabilities.
- Ignoring State and Local Tax Requirements: Each state and locality may have its own rules for payroll taxes, which can be a significant challenge for those employing workers in multiple states.
Best Practices
- Use Reliable Payroll Technology: This helps automate tax calculations, administer payments, and file reports, drastically reducing the risk of human error.
- Stay Informed: Tax laws change frequently. Employers should stay informed about the latest tax regulations at the federal, state, and local levels to adjust tax and payroll practices.
- Seek Professional Advice: When in doubt, consult with experts like an Employer of Record, especially when navigating complex situations like global employment and payroll.
An Employer of Record (EOR) is a third-party organization that serves as the legal employer for your international workforce - removing the need for you to set up a local entity in the US. EORs take responsibility for employment-related tasks such as processing payroll, remitting taxes and ensuring that your business remains legally compliant—allowing you to focus on core business activities.
Why Borderless AI?
Borderless AI enables you to compliantly hire and manage talent worldwide without establishing a foreign entity. We alleviate the complexities and risks associated with hiring global employees with zero deposits, dedicated in-house support, and AI-powered global employment law resources.
Contact us today to see how we enable businesses like yours to access new markets and scale operations in the US.
Disclaimer
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