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Among the many business taxes owed by small business owners are federal and state unemployment taxes. Both taxes have the same primary function: funding compensation for individuals who have lost their jobs for reasons unrelated to personal performance. Most small businesses must pay taxes for FUTA (Federal Unemployment Tax Act) and SUTA (State Unemployment Tax Act).
The rates you pay for each, however, depend on a variety of factors. Calculating these rates is not easy for new business owners, businesses with remote employees, or owners of multiple business locations. Then, you must determine when both taxes are due and how to file them, which can get complicated as well.
In addition to fines, missteps in either area could result in unnecessarily high payments. In this guide, we’ll explain how to calculate the correct rates and pay both federal and state unemployment taxes.
The Federal Unemployment Tax Act (FUTA) is a payroll tax that must be paid quarterly or annually. For most businesses, the FUTA rate is 0.6% of the first $7,000 of employee wages.
Even though unemployment taxes come from payroll, they are not deducted from each employee’s paycheck like Social Security. Unemployment taxes are collected from the employer, not the employees.
The federal and state governments collect unemployment taxes. Once the federal government collects its portion, however, the money is sent to the states, so it all essentially goes to the same place.
Here are the criteria for businesses that must pay FUTA taxes:
Unless your business is registered as a corporation (but not a family-run corporation), business owners do not have to pay federal or state unemployment taxes on their own income. If you are the owner of a family-run corporation or partnership, your child’s wages and spouse’s wages negate the need to pay both taxes.
Some businesses, like religious institutions and nonprofit organizations, are exempt from paying both taxes. Exemptions may be applicable to certain household and agricultural workers, too.
Since every state has its own SUTA requirements, business owners are advised to contact their state’s unemployment tax agency to confirm whether or not they have to pay SUTA taxes.
The tax rates for FUTA and SUTA are derived from the amount of your employees’ wages, though there are limits that will be discussed in the following section. These wage limits are subject to change but reportedly have remained the same for several years now.
As of April 2019, the FUTA tax rate is 6% of the first $7,000 in wages that an employee has received over the course of a calendar year. So, the most you’ll have to pay per employee is $420, which is 6% of $7,000.
For instance, if an employee makes more than $7,000 in a calendar year, the FUTA tax would still be $420. If an employee makes $5,000 in a calendar year, the FUTA tax would be $300, which is 6% of $5,000.
Business owners who pay their state unemployment taxes on time, however, are typically awarded a credit of 5.4%. Your new FUTA tax rate would therefore be 0.6%.
That 5.4% credit is not available, however, for businesses that are located in what are known as “credit reduction” states. This refers to US states and territories that have not repaid loans they received from the federal government to fund unemployment insurance payments. Visit the Department of Labor’s credit reduction page for an updated list on all states that currently fall into this category.
Last year, only one territory was deemed a credit reduction state: the US Virgin Islands. Instead of the full 5.4%, employers based in the Virgin Islands received a credit reduction of 2.4%.
SUTA rates vary from state to state and business to business, but the minimum is 0.05% and the maximum is 14%.
In many states, for example, lower rates are reserved for new businesses, while higher rates are usually assigned to businesses in industries with the highest employee turnover rates. The amount of unemployment claims your business has received from former employees can affect your SUTA rate as well.
New business owners can learn their SUTA rate after receiving their employer identification number (EIN). Once you have your EIN, you can contact your state’s unemployment tax agency and establish a SUTA tax account. The agency will then update you should your SUTA rate change.
Let’s say your business has employees based in multiple states, or employees who work in one state but live in another. Businesses of this nature must take a four-part test from the US Department of Labor to determine which state’s unemployment taxes they must pay.
This test will ask for employee-related information such as the employee’s residence and the location where he or she usually works. In most cases, the answer to the second question will tell you which state’s unemployment taxes you must pay.
That is, unless your state has what’s known as a “reciprocal agreement” with your employee’s state. This would allow you to only file and pay unemployment taxes to the state in which your business is located, even though your employee is not based in this location.
FUTA taxes are filed via an IRS Form 940 and are due on January 31st, or the next business day if January 31st falls on a weekend.
This due date, however, only applies to the filing of FUTA taxes. Many business owners mistakenly assume that the actual payment is due with the IRS Form 940, which would mean that there was only one, annual FUTA payment.
But if your expected FUTA tax liability exceeds $500 for the year, you must pay FUTA taxes every quarter. Here’s when each of those four payments are due:
If your expected FUTA tax liability for the year doesn’t exceed that amount, you have two options: You can either make quarterly payments or pay once a year when you file your IRS Form 940.
If your expected FUTA tax liability for the quarter is less than $500, you can tack that amount on to your payment for the next quarter.
These filing deadlines only apply to FUTA. SUTA deadlines, on the other hand, vary from state to state. It is therefore recommended to contact your state unemployment agency to find out when SUTA taxes must be reported and paid.
Most businesses are not able to lower their FUTA tax rate. Everyone pays that same 0.6% of an employee’s first $7,000 in annual wages. The total amount you pay in FUTA taxes, however, can be affected by a number of factors.
SUTA is different in that there are several things you can do to lower your actual rate, along with the total amount you pay.
Here are some ways to keep both taxes low:
Failing to pay FUTA and SUTA taxes on time will almost certainly result in fees, which can range from 2% to 25%.
Besides paying on time, the biggest factor for determining your total FUTA and SUTA taxes is employee turnover. For example, let’s say you have to hire three different people for the same position within a year’s time. Your total FUTA tax would theoretically be three times the amount of what you’d be paying had your original employee stayed onboard.
Businesses with more unemployment claims pay higher SUTA taxes. Unemployment claims are usually valid but you may receive one that appears to be inaccurate.
In most states, employers are permitted to appeal claims for unemployment compensation. Any remotely questionable claims should therefore be responded to as quickly as possible. If the state determines that the claim is in fact fraudulent, your SUTA rates will remain unaffected.
Compared to other business taxes, the guidelines for paying FUTA and SUTA taxes are fairly easy to follow. The rates are also lower than other taxes, and most states allow you to pay online. Filing and paying unemployment taxes will soon become second nature. So, as long as you pay on time and build employee loyalty, you can disregard FUTA and SUTA taxes from your list of tasks that are worth stressing over.
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