February 16, 2021 Payroll en_US What are payroll deductions and what are the requirements for employers? Learn with our comprehensive guide to mandatory and voluntary deductions. https://quickbooks.intuit.com/cas/dam/IMAGE/A0dxIsL0Y/payroll-deductions-small-business-owner-feature-us.jpg https://quickbooks.intuit.com/r/payroll/deductions/ What are payroll deductions?
Payroll

What are payroll deductions?

By QuickBooks February 16, 2021

Payroll deductions consist of money taken out of an employee’s paycheck. These deductions are used for a few purposes, such as paying taxes, contributing to a retirement plan, and paying for benefits like health insurance. Payroll deductions can also be voluntary or mandated. For a better understanding of payroll deductions, keep reading. Or, use the links below to jump to a specific payroll deduction or section to learn more.

What are payroll deductions?

Payroll deductions are wages taken out of employees’ paychecks to pay for costs like payroll and income taxes, employee benefits, and more. Payroll deductions determine an employee’s gross pay (the amount of money written in their contract) and net pay (also known as take-home pay). Employers must pay mandatory deductions, such as federal, state, and local taxes, while employees have the option of voluntary deductions, such as health benefits. Additionally, there can be pre-tax deductions and post-tax deductions, as long as a worker provides written permission.

Payroll deductions examples

Mandatory deductions

Employers are required by law to pay mandatory deductions by sending them to tax agencies. Federally mandated taxes, such as FICA tax and federal income tax, are standard payroll taxes that must be taken out from an employee’s paycheck. Many employers choose to use a payroll service provider in order to automate deductions and reduce errors. Take a look at the ins and outs of each mandatory payroll deduction below.

FICA tax

Federal Insurance Contributions Act taxes (FICA taxes) include Social Security taxes and Medicare taxes. Employee and employer contributions are both equal, with 6.2% of gross wages coming out of an employee’s paycheck for Social Security and 1.45% going toward Medicare. Employers match both of these contributions for a total of 15.3%. If a company doesn’t report these taxes, they can get in trouble with the law. The amount an employee pays in FICA taxes per pay period depends on their pre-tax deductions, which lower their taxable income.

FICA taxes are used to give benefits to retirees, people with disabilities, and children. Employers report these taxes on IRS Form 941, or Form 944 if you’re a small business. These federal taxes are then paid through EFTPS, which is the Department of Treasury’s tax payment service.

Chart shows FICA tax example

Federal income tax

All employees must pay federal income taxes to the IRS. The amount of money an employee owes depends on their gross pay and the number of allowances they claim on their W-4 form. Gross pay is determined by earned income like salaries, tips, wages, and commissions, along with unearned income like interest and dividends. Employees fill out IRS Form W-4 and can use Publication 15-T to view income tax withholding tables and other related federal income tax information. Federal income taxes are used to support public services, such as education, social safety net programs, transportation, and the military.

State and local taxes

Similar to federal income taxes, state payroll taxes and local taxes are also used to help public programs. State income taxes are determined by each state, so you may need to talk with your state government to make sure you follow all regulations. The amount an employee pays in state and local taxes will be determined by their gross income and any pre-tax deductions.

Wage garnishments

Employees with unpaid debt may have wage garnishments taken out of their paycheck. Wage garnishments are sent by a court or government agency like the IRS and make employers keep money from an employee’s paycheck. These post-tax wages usually go toward debts that weren’t paid, like taxes, alimony, child support, and defaulted loans. The wage garnishment letter will explain how much of an employee’s paycheck has to be withheld and where the money has to be sent.

Illustration shows woman standing at desktop computer, with the title “Wage garnishment limitations”

Employers must follow Title III of the Consumer Credit Protection Act, which goes over how much of an employee’s wages can be taken out every week. This law also prevents employers from firing workers whose wages need to be garnished to pay back a debt.

Voluntary payroll deductions

Unlike mandatory deductions, voluntary payroll deductions aren’t needed by law. With employee consent, some deductions can be taken from their paycheck. An employee must opt in if they want to take part in certain benefits. Below, you’ll find the most common voluntary payroll deductions employees can agree to.

Health, disability, and life insurance

Woman and man dressed in professional clothing converse in front of laptop computer.

Many businesses offer medical, dental, and vision insurance to not only keep employees healthy but also to keep and bring in top talent. Employees can opt in to their employer’s health, life, and disability insurance plans, with insurance premiums being paid on a pre-tax basis. Employers might also offer health savings plans, such as a health savings account (HSA) or flexible spending account (FSA), which can allow pre-tax deductions. Life insurance premiums, on the other hand, are often deducted on a post-tax basis.

Retirement plans

Another employee perk that companies might offer are employer-sponsored retirement plans, such as a 401(k) retirement account that lets employees save for retirement. Employees can also have a part of their paycheck put into an IRA. There are a few retirement plan options an employer can offer, and the type of retirement plan will determine whether it’s pre-tax or post-tax. For example, money put into a traditional 401(k) can be pre-tax, while money put into a Roth IRA must be post-tax

Union dues

Members of unions usually make regular payments to the union they’re a member of. These dues are post-tax, which means they won’t offer a tax benefit. Union dues can go toward an employee’s membership, along with other taxable benefits offered by the union, which are all deducted on a post-tax basis.

Other expenses

Other job expenses an employee might deduct include meals, travel, uniforms, home office equipment, parking, transit, and medical exams. These job-related costs are also deducted on a post-tax basis. However, depending on the state you work in, certain job expenses might not be deductible

Pre-tax deductions vs. post-tax deductions

Pre-tax deductions are taken from an employee’s gross pay before any taxes are withheld. Pre-tax deductions reduce an employee’s taxable income, which is the amount of money they owe to the government. Common pre-tax deductions include health insurance and retirement plans.

On the other hand, post-tax deductions are taken from an employee’s net pay after all taxes have been withheld. Common post-tax deductions include contributions made to a Roth IRA account, union dues, and job-related costs like travel. Employees can refuse to take part in all post-tax deductions, except for wage garnishments.

Payroll deduction authorization form

A payroll deduction authorization form is a written agreement an employee must sign if they want certain voluntary deductions taken from their paycheck. These forms should be as clear and specific as possible so employees know how much money voluntary deductions will take out of their paycheck. Under no condition, besides FICA taxes required by law, can an employer cut an employee’s pay without a written agreement. Below, you’ll find an example of a basic payroll deduction authorization form a company can use to deduct an expense from an employee’s paycheck.

Payroll deduction authorization form template

Conclusion

There are plenty of payroll deductions employees and employers should know about. Payroll deductions can be mandated, voluntary, pre-tax, or post-tax. Knowing the different types of deductions can help you understand where parts of your paycheck go each pay period.

Payroll deduction authorization form example

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