What Are Payroll Taxes? A Guide to State and Federal Tax Withholding

As of 2023, an estimated 22 million Americans work from home, many of whom enjoy the freedom that comes with being untethered to a commutable work location. What does that mean for the future of payroll?

It’s pretty simple if your workforce resides in the same state as your company, but that’s not always the case. Many businesses employ workers in neighboring states and beyond, reaching far and wide for the talent they need to thrive as an organization.

Payroll is already a pretty dense subject. And when you combine payroll with taxes, the jungle of acronyms, rates, forms, and questions to sort through can be downright confusing.

Hiring a certified payroll specialist and using payroll software like BambooHR® can help simplify a lot of these questions for your organization. But if you don’t have those resources, or if you just want to know a little more about how to do payroll yourself, this guide will help you navigate payroll taxes like a pro.

What Are Payroll Taxes?

Payroll taxes are deductions withheld from an employee’s paycheck and paid to the government to fund several programs like Social Security and Medicare. Applied to wages, tips, and other forms of compensation, they appear as an itemized list on an employee’s pay stub each pay period and on their Form W-2, Wage and Tax Statement, at the end of each year.

Payroll providers typically use different codes for each tax deduction, making it easy for employees to read their wage statements. These vary by provider, but you may have seen any of the following abbreviations for payroll taxes:

• OASDI or SS: Social Security tax
• MEDI or MedFICA: Medicare tax
• FWT: Federal income tax
• SWT: State income tax

Payroll Taxes vs. Employment Taxes

Sometimes, the terms “payroll taxes” and “employment taxes” are used to describe specific types of deductions. In this article, we’ll generally refer to all the taxes employers are responsible for handling while running payroll as “payroll taxes.”

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4 Types of Payroll Taxes Every Employer Should Know

Payroll taxes are governed by federal, state, and local laws and are calculated at specific rates. Your organization is responsible for deducting these taxes, even if it doesn’t share in the payment responsibility. Here’s a breakdown of each payroll tax type and what it’s for:

1. FICA (Social Security and Medicare Taxes)

Social Security and Medicare taxes fall under the Federal Insurance Contributions Act, or FICA. The money collected from FICA payroll taxes goes straight to the federal government to help fund benefit programs for retirees, survivors of deceased workers, people with disabilities, and other qualified individuals.

Employers and employees share this responsibility, each paying a total of 7.65%. The Social Security tax applies to wages up to the current limit ($168,600 for 2024), and the Medicare tax applies no matter how much the employee earns.

2. Unemployment Insurance (UI) Taxes

Your organization’s payroll taxes also fund the Federal-State Unemployment Insurance Program, which supports eligible workers and their families after losing a job. The tax rates for UI programs include:

• Federal Unemployment Tax Act (FUTA): Employers pay FUTA taxes, which apply to the first $7,000 your organization pays to an employee during the calendar year. Employers typically receive a FUTA tax credit, resulting in a lower net payment than the standard percentage.
• State Unemployment Tax Act (SUTA): SUTA taxes go toward each state’s unemployment fund. Most states only require employers to pay SUTA taxes, but employees in a handful of states must also pay into the program.

3. Income Tax Withholding

Income tax comes directly out of your employees’ paychecks, but you’re responsible for withholding and remitting it on their behalf. The specific amount depends on the employee. To figure out how much federal income tax to withhold, you’ll use their W-4 form.

Federal income tax is wage dependent, which means you owe more as you earn more. State income tax varies—some states have no income tax and some have a flat tax, but the majority enforce a graduated tax rate.

4. State and Local Payroll Taxes

Some states require additional tax deductions. Take New York State, for example. NY employers withhold payroll taxes for state disability insurance and paid family leave programs, along with some local tax rules that only apply to employees in New York City and Yonkers