Your employer is legally responsible for withholding federal income tax and other payroll taxes from your paycheck. These include Social Security and Medicare taxes.
These dedicated payroll taxes are collected by employers and employees and deposited into trust funds that keep track of the programs’ receipts and expenditures.
FICA taxes include the 6.2% Social Security tax up to that year’s wage base limit and 1.45% Medicare tax on all wages, with no wage base limit.
What Is FICA Taxes?
FICA, short for the Federal Insurance Contributions Act, is crucial to every paycheck. These mandatory payroll taxes contribute to two vital federal programs, Social Security and Medicare, providing millions of Americans with retirement income, disability coverage, and health insurance.
Understanding how social security and medicare withholding rates affect your paycheck can empower you to make informed financial decisions. Almost everyone who works as an employee has FICA taxes deducted from their paychecks. The amounts of these deductions are controlled, to a degree, by your choices on your W-4 Form.
Your employer and you each pay half of the FICA tax; you’ll see this on your paycheck stub as “OASDI.” The other portion, the Medicare tax, gets deducted from your wages by the IRS.
Generally, your wage base for FICA taxes is defined as all your wages and salary, except monthly tips under $20, workers’ compensation payments, employer contributions to specific retirement plans, and health insurance premiums you pay on your own. However, the IRS has special rules for employees who receive these types of compensation.
Independently employed individuals don’t get to share the cost of their FICA taxes with their employers, so they must pay the complete 12.4% Social Security tax plus the full 2.9% Medicare tax on their own. They may also need to pay estimated taxes every quarter, using the worksheet and instructions the IRS provides for Form 1040-ES. As you might expect, wealthier people spend more on FICA taxes than lower-income earners.
What Is the Wage Base Limit?
A portion of your employee’s wages are withheld to pay Social Security and Medicare taxes. These are called FICA taxes, short for the Federal Insurance Contributions Act. Employees pay half the total bill, and employers pay the other half. Some types of wages aren’t subject to social security and Medicare withholding; special rules apply to tips and farmworkers.
The Social Security tax has a wage base limit, the maximum amount of wages subject to the tax for a year. This limit tends to increase each year based on inflation. The total wages also count when determining your employee’s retirement benefits.
On the other hand, the Medicare (hospital insurance) tax doesn’t have a wage base limit. It would help if you continued withholding the Medicare tax once an employee’s earnings exceed the Social Security wage base limit. For 2023, the wage base limit is $160,200.
Most sick pay payments are subject to Social Security and Medicare withholding, including those made by third parties. However, you don’t have to withhold these amounts if your employee can substantiate the expenses with receipts or other documentation. In addition, certain types of noncash pay aren’t subject to these taxes, such as goods and services you provide to your employees at fair market value. For more information, see Pub. 15-A.
What Is The Maximum Social Security Amount?
To be eligible for a retirement benefit from Social Security, you must have paid enough payroll taxes to the program. The amount of money you must have contributed is based on your average earnings over 35 years, and you can get an estimate by registering for a Social Security account.
To calculate the maximum Social Security amount, you must determine your gross pay and total income before deductions for FICA taxes and other tax payments. This calculation includes your elective deferral contribution to a 401(k) or similar employer-sponsored plan and your wages and salaries subject to Social Security withholding.
The United States has a Social Security wage base limit, which changes annually to account for inflation. Once you hit this amount, no additional Social Security withholding will be applied to your paycheck for that year. Medicare does not have a wage base limit; nevertheless, those with high incomes will have an additional 0.9% Medicare tax deducted from their pay.
Because the Social Security formula is progressive, it gives more credit to lower earnings than higher ones. This means you can earn significant income in your short-covered career and still get close to the maximum Social Security payout at full retirement age. If you are in this situation, it may be advantageous to stop working and begin receiving Social Security benefits early.
What Is The Medicare Amount?
The Medicare portion of FICA taxes — also known as the hospital insurance tax or the Medicare premium tax — pays for the hospital component of the Medicare program. It covers things like hospital stays, hospice, and nursing home care. It is paid for by employers and employees, who pay 1.45% of their wages each. High-income earners pay a higher rate, and self-employed individuals pay their share through quarterly estimated tax payments.
Medicare withholding applies to all taxable employment income, including salary, overtime, paid time off, and tips. Unlike Social Security taxes, there’s no wage limit for Medicare tax and no withholding threshold. Earnings above $200,000 a year incur an additional 0.9% Medicare surtax.
Social Security and Medicare taxes are deducted automatically from employee paychecks, while self-employed individuals must pay their share through estimated tax payments. If you notice no taxes withheld from your paycheck, check that you claimed only a few exemptions on your W-4 form. The government may impose a penalty if you need to pay more taxes.
Most enrollees don’t have to pay a monthly premium for Medicare Part A because they or their spouse paid the required FICA taxes while working (via payroll deductions from paychecks). However, about half of all beneficiaries must pay between $278 and $505 a month starting in 2024 to cover the cost of Medicare Part B, which includes doctor visits, prescription drugs, and outpatient services like blood work.