The Federal Unemployment Tax Act of 1954 was established by the U.S. Congress as a means of helping the government fund its portion of the unemployment insurance benefits paid to workers who lose their jobs. In the decades since, the law has been modified multiple times to keep tax rates in line with funding needs.
Federal unemployment tax contributions, represented as FUTA on employer records, is different from state contributions. This is because the federal and state taxes combine to pay for unemployment insurance. The total amount any single employer pays is determined by multiple factors including number of employees, employee earnings, state rates, and any applicable state credits.
Not an Employee Tax
Unlike income taxes and FICA (Social Security and Medicare), FUTA is a true employment tax with no employee contributions required. In other words, no money is withheld from the employee’s paycheck to cover unemployment tax. The same is not true for income taxes and FICA. Income taxes are the sole responsibility of each employee while FICA is split evenly between employer and employee.
The current FUTA rate is 6% applied against a $7,000 wage base. That means the employer pays 6% of an employee’s annual earnings up to a maximum of $7,000. Any earnings above that point are not subject to FUTA.
There is a 5.4% credit offered to companies who pay their state unemployment taxes on time. That credit would reduce the effective tax rate to 0.6%. It could be further reduced if a given state’s tax credit is higher. At the time of this writing however, there do not appear to be any states with higher credits.
Not All Income Subject to FUTA
Employers should note that not all types of income are subject to FUTA. For example, registered nonprofits do not pay any FUTA whatsoever. All of the income paid to their employees is exempt from the federal tax. Exemption from state taxes is determined on a state-by-state basis.
Here are other types of income that are not subject to FUTA:
- Income earned for work performed outside of the U.S.
- Income paid to the estate or beneficiaries of a deceased person in any year following the year of death
- Income paid to children under 21 by their parents
- Income paid to a spouse
- Income paid by a foreign government or international organization
- Income paid by federal, state, or local government agencies
- Income earned by interns and paid by hospitals
- Income earned by newspaper carriers under the age of 18
- Income paid to students by a school
- Income earned by full-time students who work fewer than 13 weeks at an organized seasonal camp.
Federal unemployment taxes are generally due every quarter. If a company’s tax liability does not reach the $500 threshold in a given quarter, payments can then be withheld until the following quarter.
As with all payroll and employment taxes, employers are ultimately responsible for their tax liabilities even if they use a third-party payroll provider. Having said that, payroll providers have a thorough understanding of FUTA and its state counterparts.
Employers struggling with understanding unemployment insurance and its related taxes should seek out the assistance of an experienced accountant or payroll service like BenefitMall. Getting behind on federal and state unemployment taxes is not a good idea.
One last thing to make note of is that state unemployment insurance rates are affected by many different things. The most important influence is turnover. Companies with high turnover tend to pay more because they represent a higher risk for unemployment claims.