8.1 Federal Employment Taxes
Key Takeaways
- FICA is Social Security (6.2%) plus Medicare (1.45%) on each side — employee withheld, employer matched — for a combined 7.65% each; the Social Security wage base is inflation-indexed and is not a REG-tested dollar.
- Additional Medicare Tax is an extra 0.9% withheld from the employee only on high FICA wages; there is no employer match.
- FUTA is an employer-only federal unemployment tax at a statutory 6.0% on the first $7,000 of covered wages, typically reduced by a credit for state unemployment taxes (up to 5.4%, net 0.6% when the full credit applies).
- Self-employment tax of 15.3% on net earnings is the independent contractor's combined Social Security and Medicare; the employer-equivalent half is an above-the-line deduction.
- If the employer fails to withhold FICA, the employer remains liable for both the employer share and the unwithheld employee share; failure to take it from the paycheck does not extinguish the tax.
8.1 Federal Employment Taxes
REG Blueprint Area II, Group D asks you to explain federal employment taxes from both the employer and the employee side. Classification — employee versus independent contractor — is the next section. This section is the tax stack that attaches once a worker is an employee, plus how a true independent contractor pays the equivalent through self-employment tax. AICPA does not test inflation-indexed dollar amounts such as the Social Security wage base or the household FICA cash-wage trigger. It does test who pays, on what kind of base, and what happens when the employer never withholds.
FICA: Social Security and Medicare
The Federal Insurance Contributions Act (FICA) is two taxes imposed on wages:
| Component | Employee | Employer | Base |
|---|---|---|---|
| Social Security (OASDI, IRC §3101(a) / §3111(a)) | 6.2% | 6.2% | Annual wage base; inflation-indexed — not a REG dollar |
| Medicare (hospital insurance, §3101(b) / §3111(b)) | 1.45% | 1.45% | All FICA wages; no ceiling |
| Combined ordinary FICA | 7.65% | 7.65% | Social Security stops at the wage base; Medicare continues |
| Additional Medicare Tax (§3101(b)(2)) | 0.9% | None | Employer withholding starts once calendar-year FICA wages to that employee exceed $200,000 (statutory, not indexed) |
The employer withholds the employee share from wages (IRC §3102) and matches ordinary 7.65%. There is no employer match for Additional Medicare Tax. The employer must start withholding the extra 0.9% in the pay period wages cross $200,000, without regard to the employee's filing status. The employee's liability uses filing-status thresholds ($200,000 single, $250,000 married filing jointly, $125,000 married filing separately); over- or under-withholding is trued up on Form 8959 with the individual's return. REG's tested fact is the structure: extra 0.9%, employee-only, high-wage withholding.
FUTA: employer-only unemployment
The Federal Unemployment Tax Act (FUTA) (IRC §§3301–3311) is employer-only. Employees never have FUTA withheld. The statutory gross rate is 6.0% on the first $7,000 of covered wages per employee per year — a statutory base, not an inflation-indexed Social Security wage base. A credit for timely state unemployment (SUTA) taxes, up to 5.4%, typically reduces the net federal rate to 0.6% when the full credit applies (IRC §3302). Credit reduction can raise the net federal rate if the state has unpaid federal unemployment-account loans. Teaching level: FUTA is the employer's federal unemployment tax; the state credit is how the net rate usually drops; independent contractors are outside FUTA.
Most employers report ordinary FICA and federal income-tax withholding on Form 941 (quarterly) and FUTA on Form 940 (annual).
Income-tax withholding is not FICA
Federal income-tax withholding (FITW) (IRC §3402) is the employee's income tax, collected by the employer using Form W-4. It is not a matching tax. The employer is liable for the amount that should have been withheld (IRC §3403) even if the employer never took it from the paycheck. Unlike ordinary employee FICA, the employer can obtain §3402(d) relief from the tax (not from related penalties) by showing that the employee reported the wages and paid the income tax. Do not treat FITW as a 7.65% employer cost. Do not treat FICA as "just withholding."
| Tax | Who pays | Base |
|---|---|---|
| FITW | Employee (employer withholds; employer is liable if it fails) | Taxable wages per Form W-4 |
| Employee FICA | Employee (employer withholds; employer remains liable if it fails) | Social Security wages up to the indexed base; Medicare wages unlimited |
| Employer FICA | Employer | Same FICA wage bases |
| Additional Medicare | Employee only | High FICA wages above the statutory withholding threshold |
| FUTA | Employer only | First $7,000 of covered wages |
| Self-employment tax | Self-employed individual (both halves) | Net earnings from self-employment |
Reporting: Form W-2 versus Form 1099-NEC
An employee is reported on Form W-2, with wages, FITW, Social Security wages and tax, and Medicare wages and tax. A worker treated as an independent contractor is reported on Form 1099-NEC (nonemployee compensation) when payments meet the information-return threshold. The form is a consequence of classification, not proof of it. A 1099 issued to someone the firm controls does not make that person a contractor; that fight is 8.2.
Self-employment tax (the contractor's FICA)
A true independent contractor has no employer to withhold or match. Self-employment tax (IRC §1401) is 15.3% on net earnings from self-employment — 12.4% Social Security plus 2.9% Medicare — the two ordinary FICA halves combined. The Social Security piece uses the same inflation-indexed wage base as employee FICA; Medicare does not. The contractor also computes Additional Medicare Tax on SE earnings above the filing-status thresholds; that 0.9% is still not matched by anyone.
Mechanically, SE tax is computed on 92.35% of net earnings (100% minus 7.65%). IRC §164(f) then allows an above-the-line deduction for the employer-equivalent half of SE tax. That deduction is an adjustment to arrive at AGI, developed in 15.2. Keep the employment-tax frame here: the contractor is paying both FICA sides; the Code lets the "employer" half come off AGI so the income-tax base is not inflated by a tax that a W-2 employer would have deducted as a business expense. Contractors pay estimated tax; they do not receive a W-2. Estimated-tax safe harbors are 17.3.
Household employees (nanny tax)
Cash wages to a household employee (nanny, housekeeper, in-home caregiver) above an inflation-indexed annual threshold trigger Social Security and Medicare — the so-called nanny tax. REG will not ask you to recite this year's dollar. It will ask whether household cash wages can create FICA, that both shares are still due, and that the usual reporting vehicle for an individual employer is Schedule H (Form 1040). FUTA has a separate quarterly cash-wage trigger. Exceptions exist for wages paid to a spouse, a child under 21, a parent, and certain employees under 18. Do not withhold federal income tax from household wages unless the employee requests it and the employer agrees.
The Fair Labor Standards Act (FLSA) overtime rules turn on employee status, not on FICA rates. Do not spend REG time computing time-and-a-half; overtime eligibility as a classification consequence belongs in 8.2.
Worked scenario: employer never withholds FICA
Facts. Harbor LLC pays Dana $80,000 of wages as a W-2 employee. Harbor's bookkeeper posts gross pay, never withholds employee FICA, never withholds FITW, and never remits the employer FICA match. Dana spends the full gross. Harbor's owner later argues that "if we didn't withhold it, only Dana owes it."
Analysis.
- Employer FICA (§3111). Harbor owes the employer 7.65% on the wages. That share was never the employee's money. Failure to withhold is irrelevant to the match.
- Employee FICA (§3101 / §3102). Harbor was required to collect Dana's 7.65% from the wages. The employment-tax regulations make the employer liable for that tax whether or not it was actually withheld. Harbor cannot shift the employee share onto Dana as a defense against the IRS. Dana may still have a residual obligation, but the Service collects from the employer.
- FITW contrast. Harbor is liable under §3403 for the income tax it should have withheld. If Harbor can show Dana reported the $80,000 and paid the income tax, §3402(d) can relieve Harbor of the withholding tax itself (penalties and interest are a different matter). There is a parallel Additional Medicare relief rule in §3102(f)(3). Ordinary employee FICA does not have an equivalent "the employee already paid it" escape of that form.
- Trust-fund overlay. Withheld FITW and the employee share of FICA are trust fund taxes. Willful failure to collect or pay them over can support the §6672 responsible-person penalty, taught in 8.2. FUTA and the employer FICA match are not trust-fund taxes for that penalty.
Dana's FICA wages from Harbor will cross $200,000 in November. Harbor already withholds the 1.45% Medicare tax and pays the matching 1.45%. Which statement correctly describes Additional Medicare Tax?
Harbor LLC pays Dana $80,000 of W-2 wages. The bookkeeper posts gross pay, withholds nothing, and remits nothing. Harbor's owner argues that because employee FICA was never taken from Dana's check, only Dana can owe that tax. Who is liable for FICA?
Which statement correctly describes federal unemployment tax and how it differs from FICA and income-tax withholding?