Are You Familiar With the FUTA Tax?

You’re probably knowledgeable about the FICA tax, which was established by the Federal Insurance Contributions Act, and is paid by both employers and employees through payroll deductions. FICA tax includes a Social Security and Medicare portion. Less is likely known about the FUTA tax, authorized by the Federal Unemployment Tax Act. This unemployment insurance tax is the sole responsibility of employers. Here’s how FUTA is assessed and paid.

FUTA Facts

The FUTA tax funds a program that helps individual states pay unemployment benefits for certain workers who have been terminated from their jobs without “just cause” (but not those who have voluntarily quit). Employers that pay wages of $1,500 or more in any calendar quarter of the preceding or current tax year must pay it on an annual basis. The FUTA tax is separate from any state unemployment insurance tax but is typically reduced by state tax credits.

Although FUTA is collected and managed by the IRS, state unemployment tax is paid to the applicable state authority. Each state operates under its own unemployment tax laws to determine the amounts that should go toward state unemployment insurance. Eligibility for unemployment benefits also generally differ by state.

On the federal level, the program funds benefits to employees who have been terminated or laid off through no fault of their own, including due to illness or disability. Currently, benefits may be paid out for up to 26 weeks or until a worker finds new employment or becomes self-sufficient. Traditionally, extensions have been allowed under special circumstances, such as during the COVID-19 pandemic.

Calculating the Tax

FUTA tax rates and thresholds have been the same for more than four decades. So in 2024, the FUTA tax is a 6% rate applied to the first $7,000 of wages an employee earns. Therefore, the maximum tax is $420 per employee (6% of $7,000). If, for example, a company employs 50 workers, the FUTA tax would max out at $21,000 (50 x $420).

However, there’s one big catch: Employers usually qualify for a credit of up to 5.4% if they pay into their state unemployment insurance fund. In other words, the effective tax rate for employers in most states is only 0.6%. This can make a significant difference in the amount your company must pay in FUTA tax.

Returning to the previous example, if an employer has 50 employees earning $7,000 or more for the year, the beginning FUTA tax liability is $21,000. But assuming the 5.4% credit is available, the employer’s rate is reduced to 0.6% or $42 per worker. In this case, the employer’s total FUTA liability is only $2,100 ($42 x 50) — or $18,900 less ($21,000 – $2,100) than it would owe without the credit.

Note: States are allowed to take federal Unemployment Trust Fund loans from the federal government if they lack funds to pay unemployment benefits. If your state fails to repay a federal unemployment loan within two years, your organization’s credit is reduced by 0.3% each year until the state’s loan is repaid. Therefore, employers in “credit reduction” states must pay more FUTA tax. In 2023, California and New York were considered credit reduction states.

When and How to Report

Reporting for FUTA is limited to once a year. But your business must pay FUTA on a quarterly basis if it owes more than $500 per quarter. If your tax liability is less than $500 for the first quarter of the year, that amount is carried to the next quarter to determine if combined FUTA liability exceeds the $500 threshold. You should follow this process throughout the rest of the year until you reach a quarter in which your FUTA liability is more than $500. Make at least one FUTA payment per year using the Electronic Federal Tax Payment System (EFTPS).

Quarterly deposit due dates for 2024 are:

• Q1, April 30, 2024,
• Q2, July 31, 2024,
• Q3, October 31, 2024, and
• Q4, January 31, 2025.

You must furnish information about FUTA tax on your federal tax return (using Form 940) if one or both of the following conditions apply: 1) You paid wages of $1,500 or more in any calendar quarter during the current or previous year, or 2) you employed workers in any 20 or more different weeks in the current or previous year. The deadline for filing Form 940 for 2024 is January 31, 2025 — the same date annual FUTA tax is due. This form may be filed electronically or on paper.

Your Compliance

The FUTA tax is designed to help provide financial assistance to workers who are suddenly unemployed. To provide benefits, it relies on employer compliance. So if applicable, ensure your company makes timely payments and reports them to the IRS. Kirsch CPA Group can help you determine any tax liability.

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