What are Unemployment Taxes?
Unemployment taxes are paid by employers to the federal government and to states in order to fund unemployment compensation benefits for out-of-work employees. Employers are taxed based on their type of business; the higher the unemployment rate in that type of business, the higher the tax. For example, a fast food restaurant with high turnover would be taxed at a higher rate than a medical office with low turnover.
What About Federal Unemployment Taxes?
Federal unemployment taxes (called FUTA taxes) are paid by employers based on employee wages or salaries. The FUTA tax percentage is 0.6 percent of the first $7,000 of wages per year (beginning July 1, 2011). Thus, the maximum annual amount of FUTA tax for any one employee is $42. This tax amount is not paid by employees; it should be calculated and set aside based on total employee gross pay each payroll. Your business must pay unemployment tax if
- You paid wages of $1,500 or more in any calendar quarter in 2010 or 2011, or
- You had one or more employees for at least some part of a day in any 20 or more different weeks in 2010 or 20 or more different weeks in 2011.
How Much are FUTA Taxes?
Before July 1, 2011, the FUTA tax rate is 6.2%. Beginning July 1, 2011, the FUTA tax rate is 6.0%. The tax applies to the first $7,000 you pay to each employee as wages during the year. The $7,000 is the federal wage base. Your state wage base may be different. (Read more about the FUTA tax rate in IRS Publication 15, Section 14.)
Generally, you can take a credit against your FUTA tax for amounts you paid into state unemployment funds. The credit may be as much as 5.4% of FUTA taxable wages. If you are entitled to the maximum 5.4% credit, the FUTA tax rate after credit is 0.6% (after June 30, 2011). You are entitled to the maximum credit if you paid your state unemployment taxes in full, on time, and on all the same wages as are subject to FUTA tax. If your state has not paid the full amount it owes to the FUTA fund, your credit may be reduced. The IRS has a list of credit reduction states and credit reduction amounts.
How Do I Pay Unemployment (FUTA) Taxes?
FUTA taxes are paid quarterly, for quarters in which you have $500 or more in tax liability, based on the amounts you have set aside from payroll. So, if your unpaid FUTA tax for any quarter is over $500, you must make a deposit of that unpaid amount by the last day of the month after the end of the quarter. (That's April 30, July 31, October 31, and January 31.) If your unpaid FUTA tax is $500 or less, carry it to the next quarter; a deposit is not required.
- First, you must calculate FUTA taxes for each payroll.
- Then, in any quarter in which your total FUTA tax liability is over $500, you must send in a deposit. Beginning in 2011, all tax deposits must be made using EFTPS (federal tax deposit system. Read more about EFTPS, including how to register and make payments.
- At the end of every year, you must pay any FUTA amount due from the previous year, when you file the annual unemployment tax report on Form 940.
How Do I Calculate FUTA Taxes
- For each payroll, you must determine FUTA taxes payable based on the total wages paid to employees, up to $7000 per employee. Then multiply this total by the FUTA tax rate (.06 after July 1, 2011). The total should be set aside and paid as described above.
- At the end of each year, you must complete Form 940. The form asks you to calculate the total you owe for the previous year, and the amount you have already paid. You must submit the balance to the IRS, along with Form 940, by January 31.
How Do I Get Started Paying and Reporting Unemployment Taxes?
When you start a new business, you must designate an expected number of employees on your employer ID application. This provides information to the IRS and your state that you have an obligation to pay and report unemployment taxes, and they will probably contact you. If you are not contacted, or if you decide at some later point to hire your first employee, you can get the process started yourself. You can register with your state (see below) and contact the IRS to start paying unemployment insurance.
What about State Unemployment Taxes?
Each state has a separate program for providing unemployment compensation benefits to workers and for funding those benefits. States usually set up funds into which the taxes are paid. Contact your state employment agency for more information about paying and reporting state unemployment taxes.