Do your employees often question why their paychecks seem smaller than expected?
With paycheck withholdings being a common source of confusion and frustration, it's no wonder employees might feel they're losing money without understanding why. What if you could eliminate this confusion and empower your team with a clear understanding of each deduction?
The Different Types of Taxes on a Paycheck
A paycheck typically includes deductions for several types of taxes, categorized into three main groups: Social Security and Medicare (often called FICA), Federal Withholding, and State and Local Withholding.
The tax liability for each category is calculated differently, and if you don’t know how each one works, the amounts you see can be confusing. Let’s take a closer look at each category.
Social Security and Medicare (FICA) Taxes
Social Security and Medicare are foundational federal programs that fund healthcare and retirement benefits for the aging population.
These taxes are mandatory, meaning they are applied uniformly to all wage earners regardless of their income level. Specifically, Social Security deducts 6.2% of gross wages, while Medicare deducts 1.45%, combining for a total of 7.65% of gross income.
For employees whose annual earnings exceed $168,600 in 2024, Social Security tax deductions cease once the contribution total reaches $10,453.20 for the year. In contrast, Medicare taxes continue to be deducted at 1.45% of earnings, with no upper limit on contributions.
Federal Tax Withholdings
Federal withholding is a significant portion of paycheck deductions, influenced by how the W4 form is completed during onboarding. This form allows employers to calculate the correct amount of federal taxes to withhold, based on filing status, projected annual income, and the number of dependents.
The W4 affects only federal withholding—not FICA or local taxes.
To maximize the amount withheld from each paycheck, you can choose to claim "single" with no dependents on your W4, even if you plan to file as "married filing jointly" with dependents. This approach generally results in a larger tax refund when filing taxes.
On the other hand, if you complete the W4 accurately based on your actual situation, your federal taxes will likely be covered throughout the year, resulting in little to no refund. It's advisable to consult with a tax preparer to determine the best way to complete your W4 to get the outcome you want to see when you file your taxes.
How Federal Taxes Are Calculated
Now, let’s discuss how those Federal Taxes are actually calculated. Knowing how it works can help you, or your employees, understand why you are seeing the various withholdings on your pay stub.
The calculation of federal taxes is based on annualized income and the standard deduction for the employee’s filing status. For 2024, the standard deductions are:
- $14,000 for Single or Married, Filing Separately
- $28,000 for Married, Filing Jointly
- $21,000 for Head of Household
The taxable income is the total income minus the standard deduction, which determines the tax liability.
While payroll software typically handles these calculations, understanding the process can clarify the withholdings on a pay stub.
State and Local Tax Withholdings
Finally, the last tax that you will see on your check stub are the State and Local taxes.
State and local taxes vary significantly depending on the location. Each state has its own rules for tax calculation, and additional taxes may be levied by cities, counties, or school districts.
Due to the wide variation in state and local taxes, it's recommended to check the specific requirements of the relevant state. For more detailed information on states with additional tax withholdings, a comprehensive list is available here.
Thankfully, we can all breathe a little easier knowing that we’re not in California, where state income taxes can be quite high. Here in Tennessee, there's no state income tax to worry about—just one of the many reasons we enjoy living here!
Paychecks Finally Make Sense—Well, Sort Of!
Understanding the taxes and withholdings on a paycheck can feel like deciphering a foreign language, but hopefully, this article has cleared up some of the confusion. Now, those mysterious deductions should seem a little less daunting, and you can look at your paystub with a bit more confidence.
Now that you have a clearer understanding of paycheck withholdings, it's equally important to protect those earnings. Your next step is to read our article on How to Avoid Direct Deposit Scams, where we share practical tips to keep your hard-earned money safe from fraud.
