Not only are employers responsible for giving people jobs, but when something goes awry in a business, such as layoffs, employers are also responsible for ensuring the people who lose their jobs have unemployment coverage as well.
According to state and federal law, most employers are obliged to pay regularly for unemployment insurance. Paying this tax ensures that people who lose their jobs through no fault of their own have a basic safety net for a limited period of time while they search for a different way to earn a living.
Paying the federal unemployment tax is where the FUTA tax comes in, which we’ll break down for you below.
FUTA, or the Federal Unemployment Tax Act, helps provide compensation for people who have lost their jobs. FUTA is used in conjunction with state unemployment taxes. According to the IRS, employers usually have to pay both federal and state unemployment taxes.
There are three different tests that determine whether an employer needs to pay the FUTA tax: the general test, household employees test, and farmworkers test. This post will focus on the general test.
In the general test, you are subject to FUTA taxes if…
You paid $1,500 or more in wages in any calendar quarter, or
You had 1+ employees for at least part of a day in any 20 or more different weeks throughout the calendar year
Employers pay FUTA taxes on a quarterly basis.
The quarters are as follows:
Quarter 1: January - March
Quarter 2: April - June
Quarter 3: July - September
Quarter 4: October - December
The tax periods always end in the last month of the quarter. Employers are obligated to pay the taxes within a month of the last quarter. So, for example, if the company Clockwork Solutions, LLC pays more than $1,500 in wages in the first quarter, they’ll have until April 30th to pay the FUTA taxes, even though the quarter ends on March 31st.
As of 2023, the FUTA tax rate is 6%. Employers should calculate FUTA taxes on a quarterly basis. Once an employee reaches $7,000 for taxable wages in the calendar year, employers no longer have to deposit FUTA taxes on their wages, which means the maximum amount of Futa Tax an employer can pay for each employee is $420 ($7,000 x 6%).
However, most employers are eligible for a credit of up to 5.4% if they pay their state unemployment taxes on time. This brings the effective Futa Tax rate down to 0.6% (6% - 5.4%). This credit is known as the "credit reduction rate" and is applied to the first $7,000 of each employee's wages.
For example, if an employer has an employee who earns $50,000 per year, the Futa Tax for that employee would be $420 ($7,000 x 6%). However, if the employer is eligible for the maximum credit of 5.4%, the Futa Tax for that employee would be reduced to $42 ($7,000 x 0.6%).
Employers fill out the 940 form for FUTA. If you want a deep dive on IRS Form 940, you can find out:
What form 940 covers
Who must file the form
Dates to file FUTA
State unemployment taxes (SUTA)
While Futa Tax may seem like an additional expense for employers, it does have some benefits. By paying Futa Tax, employers are contributing to a program that provides financial assistance to workers who have lost their jobs. This can help alleviate some of the financial burden on employees and their families during a difficult time.
Futa Tax benefits employees by providing them with temporary financial assistance if they lose their jobs. This can help them cover their basic living expenses while they search for a new job. The amount of unemployment benefits an employee receives is based on their previous earnings and the state in which they live.
Justworks members enjoy the luxury of knowing their state and federal unemployment taxes are filed and paid on time. Justworks also updates taxable amounts when yearly rates are adjusted. Best of all, when the paperwork is due, employers are covered for the correct agencies in every state. Contact us today to get expert support with your taxes, so you can spend your time running your business.
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