Highlights
- Understanding the different types of payroll deductions and withholdings is vital, both for employers and employees.
- Federal income tax, social security taxes, and retirement deductions are some of the key elements that might impact your employees’ net pay.
- At Employers Resource, we provide payroll and tax services to help businesses reduce their administrative workload and stay fully compliant. Get in touch to learn more!
Trying to explain why your employee’s paychecks are smaller than they expected can be complicated. Are you trying to help an employee understand their types of payroll deductions and withholdings?
This article sheds light on the most common withholdings and deductions affecting take-home pay, making things smoother for both you and your employees.
Let’s dive in!
What are Withholdings and Deductions?
Money taken out of an employee’s paycheck falls into two categories: withholdings and deductions. Let’s explore each of them:
- Withholdings: These are mandatory deductions from employee paychecks used to prepay various taxes. The most common withholding is federal income tax, but Social Security and Medicare may also apply. Federal and state regulations dictate the withholding amounts. As an employer, you’re legally obligated to withhold these taxes and submit them to the government on your employees’ behalf. This ensures timely tax payments and avoids potential tax liabilities for both you and your employees.
- Deductions: These are voluntary amounts taken out of a paycheck for benefits or contributions that the employee chooses. These deductions can be for various benefits you offer, like health insurance premiums, or employee-directed contributions to retirement plans and charitable giving. The amount deducted depends on the employee’s selections and contributions. In some cases, you may be required to deduct court-ordered garnishments for child support, alimony, or wage attachments.
6 Common Types of Payroll Deductions and Withholdings
Understanding your employees’ net pay requires a clear grasp of payroll deductions and withholdings. These elements directly impact the final amount employees receive after taxes and other contributions are taken out.
Here are the most common types of payroll deductions and withholdings:
Federal Income Tax
Employees use Form W-4 to indicate their preferred withholding amount for federal income taxes. This directly affects their take-home pay. Choosing to withhold more reduces their take-home pay but may result in a tax refund at year-end. Opting for lower withholding increases their paycheck but could lead to owing taxes and potential penalties at year-end.
The amount employees owe to the federal government is calculated as a percentage of their income and based on their taxable income, marital status, and number of claimed allowances. To help your employees find out if they are withholding the right amount, share this IRS Withholding Calculator.
State Income Tax
State taxes are like federal income tax. This tax pays your state’s government and the amount varies by state. In most cases, state income tax is withheld based on where the employee performs their work. In rare situations, employees who work across state lines may have their income taxes withheld in their state of residence instead.
The amount each person owes is calculated based on W-4, marital status, taxable income, and number of allowances.
Like the federal tax, there is no employer contribution to state tax owed. Remember, in cases where the employee is paid low wages and/or has many personal exemptions, you may not have to withhold any amount for state income tax.
Social Security (FICA)
Social Security taxes, also known as FICA (Federal Insurance Contributions Act), require that employees make contributions out of every paycheck. The amount an employee pays is based on their taxable income and pays to retirement and disability funds as well as family and survivors’ benefits.
The law requires that employers withhold 6.2% of the first $168,600 the employee makes in annual wages and salaries. Any amount above $168,600 is not subject to Social Security tax withholdings.
Medicare Tax (FICA)
Like the Social Security tax, Medicare sometimes appears as FICA on paychecks. Employers are responsible for paying both FICA taxes to the federal government.
Medicare tax helps pay for hospital care, nursing care, and doctors’ fees for people 65 years and older and for people who receive Social Security disability benefits.
Federal law requires that employers withhold 1.45% of the employee’s annual wages and salary. This percentage is applied to any salary no matter how large or small. There is also a Medicare surtax of 0.9% withheld from the employee on wages and salaries that exceed $200,000. For more information on the surtax, see IRS.gov.
Do you have a written authorization?
The rest of this list contains deductions. Make sure you have a signed authorization from your employee before taking out voluntary deductions.
Insurance Policy Deductions
For employees who participate in their employer-sponsored health, dental, or vision care plans, they will see a deduction on their paychecks of the amount they owe for the policy. Employees may also contribute to a health savings account (HSA) but their contribution is tax-deductible and grows tax-free from year to year.
Retirement Deductions
The same goes for employer-sponsored 401(k) or 403(b) retirement plans. Employees contribute pre-tax funds, which are deducted every pay period. With a 401(k) account the employee chooses the percentage of salary to contribute and how the plan manager invests that money. The 403(b) plan is similar but is usually offered by nonprofit organizations and some public-sector employers. Employees get to choose how much is contributed and where it is invested among the plan’s options.
Other Payroll Withholdings
There are plenty of other types of deductions you might see on an employee’s paycheck. These deductions may be voluntary or involuntary. If they are voluntary, make sure you have a signed authorization from the employee!
Involuntary Deductions
- Court-ordered garnishment. An employee may need to pay child support or repay other debts. Sometimes garnishments can include a small fee to reimburse your company for administrative expenses.
- Tax liens. Employees who owe back taxes may have additional money deducted from their check.
Voluntary Deductions
- Union Dues. Some union dues may be automatically deducted from an employee paycheck.
- Charitable Contributions. Employees may elect to deduct money for charitable causes like The United Way or Red Cross.
- U.S. Savings Bond Purchases.
- Money Owed to Your Company. An employee may owe money for uniforms, tools, loans, etc.
Make Payroll Simple and Efficient with Employers’ Resource
That’s it! Those are the most common types of payroll deductions and withholdings you might see on your employees’ paychecks.
Payroll can be complex and overwhelming. At Employers Resource, we provide specialized payroll and tax services to help businesses deliver consistent, accurate, and timely payments, while ensuring compliance with state employment compensation and tax laws.
Need additional support? Get in touch to learn more about our Professional Employer Solutions!
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