Federal Insurance Contributions Act tax
Encyclopedia
Federal Insurance Contributions Act (FICA) tax (icon) is a United States
payroll
(or employment) tax
imposed by the federal government on both employees and employers to fund Social Security
and Medicare
—federal programs that provide benefits for retirees, the disabled, and children of deceased workers. Social Security benefits include old-age, survivors, and disability insurance (OASDI); Medicare provides hospital insurance benefits. The amount that one pays in payroll taxes throughout one's working career is indirectly tied to the social security benefits annuity that one receives as a retiree. This has led some to claim that the payroll tax is not a tax because its collection is tied to a benefit. The United States Supreme Court decided in Flemming v. Nestor
(1960) that no one has an accrued property right to benefits from Social Security.
The Federal Insurance Contributions Act is currently codified at Title 26
, Subtitle C, Chapter 21 of the United States Code
.
states that three-quarters of taxpayers pay more in payroll taxes than they do in income taxes. The FICA tax is considered a regressive tax
on income (with no standard deduction
or personal exemption deduction) and is imposed (for the years 2009, 2010 and 2011) only on the first $106,800 of gross wages, and increasing to $110,100 in 2012. The tax is not imposed on investment income (such as interest and dividends).
, goes up each year based on average national wages and, in general, at a faster rate than the Consumer Price Index
(CPI-U). For the calendar year 2011, the employee's share has been temporarily reduced to 4.2% of gross compensation, with a limit of $106,800. The employee's share of the Medicare portion is 1.45% of wages, with no limit on the amount of wage subject to the Medicare tax.
The employer is also liable for 6.2% Social Security and 1.45% Medicare taxes, making the total Social Security tax 12.4% of wages, and the total Medicare tax 2.9%. (Self-employed people are responsible for the entire FICA percentage of 15.3% (= 12.4% + 2.9%), since they are in a sense both the employer and the employed; however, see the section on self-employed people for more details.)
If a worker starts a new job
halfway through the year and has already earned the wage base limit with the old employer for Social Security purposes, the new employer is not allowed to stop withholding until the wage base limit has been earned with the new employer without regard to the wage base limit earned under the old employer. There are some limited cases, such as a successor-predecessor transfer, in which the payments that have already been withheld can be counted toward the year-to-date total.
If a worker has overpaid toward Social Security by having more than one job or by having switched jobs during the year, that worker can file a request to have that overpayment counted as tax paid when he or she files a Federal income tax return
. If the taxpayer is due a refund
, then the FICA overpayment is refunded.
individuals, such as independent contractor
s and members of a partnership
. This tax is imposed not by the Federal Insurance Contributions Act but instead by the Self-Employment Contributions Act of 1954, which is codified as Chapter 2 of Subtitle A of the Internal Revenue Code, through (the "SE Tax Act"). Under the SE Tax Act, self-employed people are responsible for the entire percentage of 15.3% (= 12.4% [Soc. Sec.] + 2.9% [Medicare]); however, the 15.3% multiplier is applied to 92.35% of the business's net earnings from self-employment, rather than 100% of the gross earnings; the difference, 7.65%, is half of the 15.3%, and makes the calculation fair in comparison to that of regular (non-self-employed) employees. It does this by adjusting for the fact that employees' 7.65% share of their SE tax is multiplied against a number (their gross income) that does not include the putative "employer's half" of the self-employment tax. In other words, it makes the calculation fair because employees don't get taxed on their employers' contribution of the second half of FICA, therefore self-employed people shouldn't get taxed on the second half of the self-employment tax. Similarly, self-employed people also deduct half of their self-employment tax (schedule SE) from their gross income on the way to arriving at their adjusted gross income (AGI). This levels the amount paid by self-employed persons in comparison to regular employees, who don't pay general income tax on their employers' contribution of the second half of FICA, just as they didn't pay FICA tax on it either.
These calculations are made on Schedule SE: Self-Employment Tax, although that is not readily apparent to novice self-employed taxpayers, owing to the schedule's rather opaque name, which makes it sound like it is part of the general federal income tax. Some taxpayers have complained that Schedule SE's title should be changed to something such as "Self-Employment FICA Tax", so that its separateness from the general income tax is apparent, perhaps not realizing that the SE tax is not imposed by the Federal Insurance Contributions Act (FICA) at all, and that neither SE taxes nor FICA taxes are "income taxes" imposed under Chapter 1 of the Internal Revenue Code.
Medical residents working full-time are not considered students and are not exempt from FICA payroll taxes, according to a US Supreme Court ruling in 2011. In order to be exempt from FICA payroll taxes, a student's work must be "incident to" pursuit of a course of study, which is rarely the case with full-time employment.
, the following presented difficulties for working-class Americans:
In the 1930s, the New Deal
introduced Social Security
to rectify the first three problems (retirement, injury-induced disability, or congenital disability). It introduced the FICA tax as the means to pay for Social Security.
In the 1960s, Medicare
was introduced to rectify the fourth problem (health care for the elderly). The FICA tax was increased in order to pay for this expense.
, meaning the effective tax rate regresses (decreases) as income increases. The Social Security component is actually a flat tax
for wage levels under the Social Security Wage Base (see "Regular" employees above). But since no tax is owed on wages above the Wage Base limit, the total tax rate declines as wages increase beyond that limit. In other words, for wage levels above the limit, the absolute dollar amount of tax owed remains constant; since this number (the numerator) remains constant while the wage level (the denominator) increases, the effective tax rate steadily decreases as wage levels increase beyond the Wage Base limit.
FICA is also not collected on unearned income
, including interest on savings deposits, stock dividends, and capital gains such as profits from the sale of stock or real estate. The proportion of total income which is exempt from FICA as "unearned income" tends to rise with higher income brackets.
Some argue that since Social Security taxes are eventually returned to taxpayers, with interest, in the form of Social Security benefits, the regressiveness of the tax is effectively negated. That is, the taxpayer gets back what he or she put into the Social Security system. Others, including the Congressional Budget Office
, point out that the Social Security system as a whole is progressive
; individuals with lower lifetime average wages receive a larger benefit (as a percentage of their lifetime average wage income) than do individuals with higher lifetime average wages.
United States
The United States of America is a federal constitutional republic comprising fifty states and a federal district...
payroll
Payroll tax
Payroll tax generally refers to two different kinds of similar taxes. The first kind is a tax that employers are required to withhold from employees' wages, also known as withholding tax, pay-as-you-earn tax , or pay-as-you-go tax...
(or employment) tax
Tax
To tax is to impose a financial charge or other levy upon a taxpayer by a state or the functional equivalent of a state such that failure to pay is punishable by law. Taxes are also imposed by many subnational entities...
imposed by the federal government on both employees and employers to fund Social Security
Social Security (United States)
In the United States, Social Security refers to the federal Old-Age, Survivors, and Disability Insurance program.The original Social Security Act and the current version of the Act, as amended encompass several social welfare and social insurance programs...
and Medicare
Medicare (United States)
Medicare is a social insurance program administered by the United States government, providing health insurance coverage to people who are aged 65 and over; to those who are under 65 and are permanently physically disabled or who have a congenital physical disability; or to those who meet other...
—federal programs that provide benefits for retirees, the disabled, and children of deceased workers. Social Security benefits include old-age, survivors, and disability insurance (OASDI); Medicare provides hospital insurance benefits. The amount that one pays in payroll taxes throughout one's working career is indirectly tied to the social security benefits annuity that one receives as a retiree. This has led some to claim that the payroll tax is not a tax because its collection is tied to a benefit. The United States Supreme Court decided in Flemming v. Nestor
Flemming v. Nestor
Flemming v. Nestor, 363 U.S. 603 , is a Supreme Court Case in which the Court upheld the Constitutionality of Section 1104 of the 1935 Social Security Act...
(1960) that no one has an accrued property right to benefits from Social Security.
The Federal Insurance Contributions Act is currently codified at Title 26
Internal Revenue Code
The Internal Revenue Code is the domestic portion of Federal statutory tax law in the United States, published in various volumes of the United States Statutes at Large, and separately as Title 26 of the United States Code...
, Subtitle C, Chapter 21 of the United States Code
United States Code
The Code of Laws of the United States of America is a compilation and codification of the general and permanent federal laws of the United States...
.
Overview
The Center on Budget and Policy PrioritiesCenter on Budget and Policy Priorities
The Center on Budget and Policy Priorities is a non-profit think tank that describes itself as a "policy organization ... working at the federal and state levels on fiscal policy and public programs that affect low- and moderate-income families and individuals."The Center examines the short- and...
states that three-quarters of taxpayers pay more in payroll taxes than they do in income taxes. The FICA tax is considered a regressive tax
Regressive tax
A regressive tax is a tax imposed in such a manner that the tax rate decreases as the amount subject to taxation increases. "Regressive" describes a distribution effect on income or expenditure, referring to the way the rate progresses from high to low, where the average tax rate exceeds the...
on income (with no standard deduction
Standard deduction
The standard deduction, as defined under United States tax law, is a dollar amount that non-itemizers may subtract from their income and is based upon filing status. It is available to US citizens and resident aliens who are individuals, married persons, and heads of household and increases every...
or personal exemption deduction) and is imposed (for the years 2009, 2010 and 2011) only on the first $106,800 of gross wages, and increasing to $110,100 in 2012. The tax is not imposed on investment income (such as interest and dividends).
"Regular" employees (most wage-earners)
For 2008, the employee's share of the Social Security portion of the tax is 6.2% of gross compensation up to a limit of $102,000 of compensation (resulting in a maximum of $6,324.00 in tax). For 2009 and 2010, the employee's share is 6.2% of gross compensation up to a limit of $106,800 of compensation (resulting in a maximum Social Security tax of $6,621.60). This limit, known as the Social Security Wage BaseSocial Security Wage Base
For the Old Age, Survivors and Disability Insurance tax or Social Security tax, the Social Security Wage Base is the maximum earned gross income or upper threshold on which a wage earner's Social Security tax may be imposed...
, goes up each year based on average national wages and, in general, at a faster rate than the Consumer Price Index
Consumer price index
A consumer price index measures changes in the price level of consumer goods and services purchased by households. The CPI, in the United States is defined by the Bureau of Labor Statistics as "a measure of the average change over time in the prices paid by urban consumers for a market basket of...
(CPI-U). For the calendar year 2011, the employee's share has been temporarily reduced to 4.2% of gross compensation, with a limit of $106,800. The employee's share of the Medicare portion is 1.45% of wages, with no limit on the amount of wage subject to the Medicare tax.
The employer is also liable for 6.2% Social Security and 1.45% Medicare taxes, making the total Social Security tax 12.4% of wages, and the total Medicare tax 2.9%. (Self-employed people are responsible for the entire FICA percentage of 15.3% (= 12.4% + 2.9%), since they are in a sense both the employer and the employed; however, see the section on self-employed people for more details.)
If a worker starts a new job
Employment
Employment is a contract between two parties, one being the employer and the other being the employee. An employee may be defined as:- Employee :...
halfway through the year and has already earned the wage base limit with the old employer for Social Security purposes, the new employer is not allowed to stop withholding until the wage base limit has been earned with the new employer without regard to the wage base limit earned under the old employer. There are some limited cases, such as a successor-predecessor transfer, in which the payments that have already been withheld can be counted toward the year-to-date total.
If a worker has overpaid toward Social Security by having more than one job or by having switched jobs during the year, that worker can file a request to have that overpayment counted as tax paid when he or she files a Federal income tax return
Income tax in the United States
In the United States, a tax is imposed on income by the Federal, most states, and many local governments. The income tax is determined by applying a tax rate, which may increase as income increases, to taxable income as defined. Individuals and corporations are directly taxable, and estates and...
. If the taxpayer is due a refund
Tax refund
A tax refund or tax rebate is a refund on taxes when the tax liability is less than the taxes paid. Taxpayers can often get a tax refund on their income tax if the tax they owe is less than the sum of the total amount of the withholding taxes and estimated taxes that they paid, plus the...
, then the FICA overpayment is refunded.
Self-employed people
A tax similar to the FICA tax is imposed on the earnings of self-employedSelf-employment
Self-employment is working for one's self.Self-employed people can also be referred to as a person who works for himself/herself instead of an employer, but drawing income from a trade or business that they operate personally....
individuals, such as independent contractor
Independent contractor
An independent contractor is a natural person, business, or corporation that provides goods or services to another entity under terms specified in a contract or within a verbal agreement. Unlike an employee, an independent contractor does not work regularly for an employer but works as and when...
s and members of a partnership
Partnership
A partnership is an arrangement where parties agree to cooperate to advance their mutual interests.Since humans are social beings, partnerships between individuals, businesses, interest-based organizations, schools, governments, and varied combinations thereof, have always been and remain commonplace...
. This tax is imposed not by the Federal Insurance Contributions Act but instead by the Self-Employment Contributions Act of 1954, which is codified as Chapter 2 of Subtitle A of the Internal Revenue Code, through (the "SE Tax Act"). Under the SE Tax Act, self-employed people are responsible for the entire percentage of 15.3% (= 12.4% [Soc. Sec.] + 2.9% [Medicare]); however, the 15.3% multiplier is applied to 92.35% of the business's net earnings from self-employment, rather than 100% of the gross earnings; the difference, 7.65%, is half of the 15.3%, and makes the calculation fair in comparison to that of regular (non-self-employed) employees. It does this by adjusting for the fact that employees' 7.65% share of their SE tax is multiplied against a number (their gross income) that does not include the putative "employer's half" of the self-employment tax. In other words, it makes the calculation fair because employees don't get taxed on their employers' contribution of the second half of FICA, therefore self-employed people shouldn't get taxed on the second half of the self-employment tax. Similarly, self-employed people also deduct half of their self-employment tax (schedule SE) from their gross income on the way to arriving at their adjusted gross income (AGI). This levels the amount paid by self-employed persons in comparison to regular employees, who don't pay general income tax on their employers' contribution of the second half of FICA, just as they didn't pay FICA tax on it either.
These calculations are made on Schedule SE: Self-Employment Tax, although that is not readily apparent to novice self-employed taxpayers, owing to the schedule's rather opaque name, which makes it sound like it is part of the general federal income tax. Some taxpayers have complained that Schedule SE's title should be changed to something such as "Self-Employment FICA Tax", so that its separateness from the general income tax is apparent, perhaps not realizing that the SE tax is not imposed by the Federal Insurance Contributions Act (FICA) at all, and that neither SE taxes nor FICA taxes are "income taxes" imposed under Chapter 1 of the Internal Revenue Code.
Exemption for certain full-time students
A special case in FICA regulations includes exemptions for student workers. Students enrolled at least half-time in a university and working part-time for the same university are exempted from FICA payroll taxes, so long as their relationship with the university is primarily an educational one.Medical residents working full-time are not considered students and are not exempt from FICA payroll taxes, according to a US Supreme Court ruling in 2011. In order to be exempt from FICA payroll taxes, a student's work must be "incident to" pursuit of a course of study, which is rarely the case with full-time employment.
History
Prior to the Great DepressionGreat Depression
The Great Depression was a severe worldwide economic depression in the decade preceding World War II. The timing of the Great Depression varied across nations, but in most countries it started in about 1929 and lasted until the late 1930s or early 1940s...
, the following presented difficulties for working-class Americans:
- The U.S. had no federal-government-mandated retirement savings; consequently, for those people who had not voluntarily saved money throughout their working lives, the end of their work careers was the end of all income.
- Similarly, the U.S. had no federal-government-mandated disability income insuranceDisability insuranceDisability Insurance, often called DI or disability income insurance, is a form of insurance that insures the beneficiary's earned income against the risk that a disability will make working uncomfortable , painful , or impossible...
to provide for citizens disabled by injuries (of any kind—non-work-related); consequently, for most people, a disabling injury meant no more income (since most people have little to no income except earned income from work). - In addition, there was no federal-government-mandated disability income insuranceDisability insuranceDisability Insurance, often called DI or disability income insurance, is a form of insurance that insures the beneficiary's earned income against the risk that a disability will make working uncomfortable , painful , or impossible...
to provide for people unable to ever work during their lives, such as anyone born with severe mental retardationMental retardationMental retardation is a generalized disorder appearing before adulthood, characterized by significantly impaired cognitive functioning and deficits in two or more adaptive behaviors...
. - Further, the U.S. had no federal-government-mandated health insurance for the elderly; consequently, for many people, the end of their work careers was the end of their ability to pay for medical care.
- Finally, the U.S. had no federal-government-mandated health insurance for all those who are not elderly; consequently, many people, especially those with pre-existing conditions, have no ability to pay for medical care.
In the 1930s, the New Deal
New Deal
The New Deal was a series of economic programs implemented in the United States between 1933 and 1936. They were passed by the U.S. Congress during the first term of President Franklin D. Roosevelt. The programs were Roosevelt's responses to the Great Depression, and focused on what historians call...
introduced Social Security
Social Security (United States)
In the United States, Social Security refers to the federal Old-Age, Survivors, and Disability Insurance program.The original Social Security Act and the current version of the Act, as amended encompass several social welfare and social insurance programs...
to rectify the first three problems (retirement, injury-induced disability, or congenital disability). It introduced the FICA tax as the means to pay for Social Security.
In the 1960s, Medicare
Medicare (United States)
Medicare is a social insurance program administered by the United States government, providing health insurance coverage to people who are aged 65 and over; to those who are under 65 and are permanently physically disabled or who have a congenital physical disability; or to those who meet other...
was introduced to rectify the fourth problem (health care for the elderly). The FICA tax was increased in order to pay for this expense.
Social Security regressivity debate
The Social Security component of the FICA tax is regressiveRegressive tax
A regressive tax is a tax imposed in such a manner that the tax rate decreases as the amount subject to taxation increases. "Regressive" describes a distribution effect on income or expenditure, referring to the way the rate progresses from high to low, where the average tax rate exceeds the...
, meaning the effective tax rate regresses (decreases) as income increases. The Social Security component is actually a flat tax
Flat tax
A flat tax is a tax system with a constant marginal tax rate. Typically the term flat tax is applied in the context of an individual or corporate income that will be taxed at one marginal rate...
for wage levels under the Social Security Wage Base (see "Regular" employees above). But since no tax is owed on wages above the Wage Base limit, the total tax rate declines as wages increase beyond that limit. In other words, for wage levels above the limit, the absolute dollar amount of tax owed remains constant; since this number (the numerator) remains constant while the wage level (the denominator) increases, the effective tax rate steadily decreases as wage levels increase beyond the Wage Base limit.
FICA is also not collected on unearned income
Unearned income
Unearned income is a term in economics that has different meanings and implications depending on the theoretical frame. To classical economists, with their emphasis on dynamic competition, income not subject to competition are “rents” or unearned income, such as incomes attributable to...
, including interest on savings deposits, stock dividends, and capital gains such as profits from the sale of stock or real estate. The proportion of total income which is exempt from FICA as "unearned income" tends to rise with higher income brackets.
Some argue that since Social Security taxes are eventually returned to taxpayers, with interest, in the form of Social Security benefits, the regressiveness of the tax is effectively negated. That is, the taxpayer gets back what he or she put into the Social Security system. Others, including the Congressional Budget Office
Congressional Budget Office
The Congressional Budget Office is a federal agency within the legislative branch of the United States government that provides economic data to Congress....
, point out that the Social Security system as a whole is progressive
Progressive tax
A progressive tax is a tax by which the tax rate increases as the taxable base amount increases. "Progressive" describes a distribution effect on income or expenditure, referring to the way the rate progresses from low to high, where the average tax rate is less than the marginal tax rate...
; individuals with lower lifetime average wages receive a larger benefit (as a percentage of their lifetime average wage income) than do individuals with higher lifetime average wages.
See also
- Cafeteria planCafeteria planA cafeteria plan is a type of employee benefit plan offered in the United States pursuant to Section 125 of the Internal Revenue Code. Its name comes from the earliest such plans that allowed employees to choose between different types of benefits, similar to the ability of a customer to choose...
- Form W-2
- Income taxIncome taxAn income tax is a tax levied on the income of individuals or businesses . Various income tax systems exist, with varying degrees of tax incidence. Income taxation can be progressive, proportional, or regressive. When the tax is levied on the income of companies, it is often called a corporate...
- National Insurance contribution (NIC)National InsuranceNational Insurance in the United Kingdom was initially a contributory system of insurance against illness and unemployment, and later also provided retirement pensions and other benefits...
, a somewhat similar tax in the United Kingdom - FICOCredit score (United States)A credit score in the United States is a number representing the creditworthiness of a person, the likelihood that person will pay his or her debts....
, a similar-sounding acronym in the world of personal finance that some people sometimes confuse with FICA - Social Security (United States)Social Security (United States)In the United States, Social Security refers to the federal Old-Age, Survivors, and Disability Insurance program.The original Social Security Act and the current version of the Act, as amended encompass several social welfare and social insurance programs...
- Medicare (United States)Medicare (United States)Medicare is a social insurance program administered by the United States government, providing health insurance coverage to people who are aged 65 and over; to those who are under 65 and are permanently physically disabled or who have a congenital physical disability; or to those who meet other...
External links
- Annual maximum taxable earnings and contribution rates, 1937-2006, from the Social Security AdministrationSocial Security AdministrationThe United States Social Security Administration is an independent agency of the United States federal government that administers Social Security, a social insurance program consisting of retirement, disability, and survivors' benefits...
- Summary of Social Security Amendments of 1983, from the Social Security AdministrationSocial Security AdministrationThe United States Social Security Administration is an independent agency of the United States federal government that administers Social Security, a social insurance program consisting of retirement, disability, and survivors' benefits...
- Student Exception to FICA Tax, from the Internal Revenue ServiceInternal Revenue ServiceThe Internal Revenue Service is the revenue service of the United States federal government. The agency is a bureau of the Department of the Treasury, and is under the immediate direction of the Commissioner of Internal Revenue...
- Go Ahead and Lift the Cap article discussing recent US presidential campaign plans regarding payroll taxes, Dollars & SenseDollars & SenseDollars & Sense is a magazine dedicated to providing left-wing perspectives on economics.Published six times a year since 1974, it is edited by a collective of economists, journalists, and activists committed to the ideals of social justice and economic democracy.It was initially sponsored by the...
magazine, March/April 2008