Payroll taxes are tax payments made to the government based on salaries and wages paid to direct employees. No payroll tax is required to be made by businesses for payments made to independent contractors or freelancers. Any business that has at least one paid employee is required to pay taxes on employee compensation. Payroll tax payments can be taken out of the employee’s salary by the employer and then turned over to the government or can be paid directly by the business owner. 

Federal payroll taxes

Payroll taxes paid to the U.S. government are collected, monitored, and enforced by the IRS. There are three types of federal payroll taxes. 

• Federal Income Tax– A percentage of the employee’s pay withheld from their paycheck and paid to the IRS. Withholding amounts are determined by the employee’s salary range and their individual selections made on form W-4.
• Federal Insurance Contributions Act (FICA) Tax– FICA taxes contribute to the federal Medicare and Social Security programs. FICA taxes are sometimes called “shared” taxes because the employee and the employer are each responsible for half of the total liability.
• Federal Unemployment (FUTA) Tax– FUTA taxes are paid by the employer and is calculated on a percentage of the business’s total employee wages.

State payroll taxes

In addition to paying payroll taxes to the IRS, small business owners must also pay payroll taxes to the state taxing authority where their employees reside.

• State income tax– Taxes withheld from the employee’s paycheck. The amount is determined on a state-mandated percentage and the employee’s W-4 selections.
• State Unemployment (SUTA) Tax– SUTA taxes are paid by the employer. The rates are distributed by the state agency every year.

Local taxes

Some businesses may be required to pay income taxes and payroll taxes to their city or county government. Local payroll taxes are used to fund government projects.

What are payroll tax credits?

Since there is no way to avoid paying federal taxes, it’s important to learn about available credits for businesses. Payroll tax credits save business owners money by reducing their total tax liability. The decrease in taxes comes when the employer’s share of social security taxes or Medicare taxes are lowered by the government.

Payroll tax credits are often confused with tax deductions. While deductions reduce the taxable income on a business’s income tax return, tax credits reduce the filer’s tax bill calculated during the return. Payroll tax credits can be nonrefundable, which means that the credit will lower the bill to the total amount owed. Refundable tax credits, on the other hand, will result in a refund to the business owner if the amount of the credit exceeds the business’s liability.