August 17, 2021 en_US Employers are responsible for calculating and paying FUTA taxes. Read on to learn what FUTA taxes are and how you can minimize your company’s FUTA tax rate. https://quickbooks.intuit.com/cas/dam/IMAGE/A6xVBbA8u/futa-header-photo-us.jpg https://quickbooks.intuit.com/r/payroll/futa/ What is FUTA? Basics and example of FUTA in 2021

What is FUTA? Basics and example of FUTA in 2021

By QuickBooks August 17, 2021

Typically, when you lose your job, you can file for unemployment benefits. These benefits act as a temporary income to support you while you search for a new job. But where does this money come from? All federal unemployment insurance is funded by a payroll tax called the Federal Unemployment Tax Act (FUTA).

In this article, we’ll go over the FUTA definition, why it’s important, and how to calculate it. We’ll even give you some tips on how to effectively manage FUTA taxes as a small business owner. So, read on to learn all about FUTA or skip to any section using the links below.

What is FUTA?

The Federal Unemployment Tax Act (FUTA) establishes a payroll tax that employers must pay, also known as federal unemployment withholdings. The revenue made from these payroll taxes then goes toward funding unemployment benefits. Passed in 1939, FUTA provides federal and state governments with money for programs, such as unemployment insurance and employment services. FUTA was actually a product of the Great Depression; as more than a quarter of all workers in the United States were unemployed, the federal government enacted the system of Social Security to serve as a safeguard against any future times of financial turmoil.

This law acts as a social safety net and factors into the true cost of paying an employee, and helps fund unemployment insurance for those who lose their jobs. Every employer is responsible for FUTA payments; FUTA is never deducted from an employee’s wages.

FUTA vs. FICA

Similar to FUTA, the Federal Insurance Contributions Act (FICA) is another federal law mandating an employment tax for businesses. However, just like payroll tax and income tax are different, so are FUTA and FICA.

What programs do FUTA and FICA fund?

First and foremost, FUTA and FICA fund different programs. While revenue from FUTA goes toward unemployment insurance, revenue from FICA goes toward Social Security and Medicare benefits.

Who is responsible for paying FUTA and FICA?

Another thing that distinguishes these two payroll taxes is who pays them. As an employer, under FICA, you must withhold the correct amounts of social security and Medicare taxes, then send them to the government. You must also pay your matching share as an employer.

Under FUTA, you must pay taxes to the government to fund state workforce agencies and programs. Employees are not required to pay any FUTA tax.

What are the different rates for FICA and FUTA?

Under FICA, you must withhold 6.2% from your employees’ wages for social security, up to a wage cap of $128,400, and your matching amount. You must also withhold 1.45% from your employees’ wages for Medicare, and your matching amount.

FUTA’s rates are a bit different. Currently, the FUTA tax rate is 6% on the first $7,000 of an employee’s wages in a single year. However, this rate can also be reduced via contributions to state unemployment programs, making the current minimum FUTA rate 0.6%.

Are any wages excluded from FUTA taxes?

Some types of wages are not subject to FUTA taxes. Items that are excluded from FUTA taxes include:

  • Wages paid to an employer’s spouse, parent, or child under the age of 21
  • Group term life insurance benefits
  • Company contributions to employee retirement or pension accounts
  • Fringe benefits
  • Non-cash payments and some cash payments for agricultural labor
  • Workers’ compensation payments
  • Payments for domestic services under $1,000 in cash
  • Payments to nonemployees who are treated as employees by your state’s unemployment tax agency

Additionally, there are various laws that can help you determine if you’re exempt from paying FUTA tax: the general test, household employees test, and farmworkers employees test.

SUTA vs. FUTA

The State Unemployment Tax Act (SUTA) is essentially FUTA on the state level. It’s a payroll tax that many states impose on employers in order to fund state unemployment insurance and other employment programs. Generally, the SUTA tax rate ranges from 2–5% of an employee’s salary, but it ultimately depends on the state you operate in.

While SUTA and FUTA accomplish similar goals, the former is administered by the state government and the latter by the federal government. In many cases, employers can claim a federal tax credit if they keep up with their SUTA tax payments throughout the year.

Another key difference to note is that FUTA has a wage base of $7,000. This means that employers no longer need to pay FUTA tax once an employee’s wages surpass $7,000 in a year. The wage base for SUTA, on the other hand, varies according to the state your business is based in. As a business owner, you can also save on SUTA taxes by optimizing employee retention. Typically, the more unemployment claims filed by employees terminated by your business, the more you will be required to pay in SUTA taxes.

You will use Form 940 to report your company’s SUTA and FUTA taxes each year. As we mentioned above, you can earn a federal tax credit by keeping up with SUTA tax payment over the course of the year. Additionally, timely payments will help your business avoid costly fees and penalties.

What is the FUTA tax rate for 2021?

The FUTA tax rate has fluctuated over the years. For 2021, the FUTA tax rate is 6% on the first $7,000 of eligible income paid annually to each employee. This means that any income an employee earns past $7,000 is not subject to FUTA tax. Therefore, the maximum amount in FUTA taxes an employer would pay annually for each employee would be [$7,000] x [0.06] = $420.

How do you calculate FUTA taxes?

Calculating FUTA taxes is a fairly straightforward process. As an employer, you should follow these steps:

1. Add up gross wages or salary for each of your employees.

2. Calculate 6% of the first $7,000 of each employee’s annual income. If you have one or more employees who made less than $7,000, then you’ll just have to calculate 6% of their total wages.

3. Multiply the FUTA tax liability per employee by the number of employees at your company. This will give you your total FUTA tax liability.If everyone at your company earns more than $7,000 per year, the basic equation for determining FUTA tax in 2021 is as follows:

[$7,000] x [0.06] x [# of employees] = FUTA tax liability

Now we’ll look at a quick example of how one company may calculate FUTA taxes. Let’s say you run a company with 20 employees under you. Each employee earns $50,000 per year, meaning you pay $1,000,000 in annual wages to employees. Yet, the FUTA tax only applies to the first $7,000 of each employee’s wages. We can calculate your company’s FUTA tax liability by doing the following:

[$7,000] x [0.06] x [20] = $8,400

Thus, your company’s FUTA tax liability for 2021 would be $8,400. Depending on the state your business is based in, you may owe state unemployment taxes.

While calculating FUTA taxes manually isn’t too hard, it can be time consuming. Other factors can also complicate the process. What if you employ part-time workers who make less than $7,000 per year? What if you have a vast number of employees? Additionally, if you offer other forms of compensation, it can be hard to keep track of which wages are taxable and which aren’t.

To simplify the process of calculating FUTA taxes, you can use QuickBooks Payroll. Our easy-to-use payroll software allows you to quickly set up payroll, create payroll reports, and manage everything in one place. Plus, our payroll system can automatically calculate FUTA taxes, so you don’t have to.

How do you file and pay FUTA taxes?

If your company’s FUTA tax liability comes out to more than $500 per quarter, you must deposit it on a quarterly basis. However, if your liability is less than $500 in a given quarter, carry it over to the next quarter. Once your FUTA tax liability exceeds $500, you are required to deposit it at the end of the quarter.

To make payments to the Internal Revenue Service (IRS), you’ll have to use the Electronic Federal Tax Payment System (EFTPS). The EFTPS is a free tax payment service managed by the U.S. Department of the Treasury.

You’ll also have to file an annual report concerning FUTA taxes using Form 940, Employer’s Annual Federal Unemployment (FUTA) Tax Return. You must file this form if:

  • Your taxable payments to employees met or exceeded $1,500 in any given quarter during the current or previous calendar year.
  • You employ at least one employee who works 20 weeks or more during the current or previous year, regardless of if they’re part- or full-time.

You can mail Form 940 to the IRS or e-file the document. The general deadline for filing Form 940 is January 31. However, if you filed all FUTA taxes on time throughout the year, you can submit the form on February 10.

For the most up-to-date tax information, check out our post about tax forms, terms, and dates to know for 2021.

What is a FUTA credit reduction?

When employers pay their state unemployment taxes on time, they may be eligible for a FUTA tax credit. If you’re a small business owner, this means you may be able to get your FUTA tax rate reduced by up to 5.4%. This would result in your business paying just 0.6% in FUTA taxes.

A 5.4% credit reduction is the maximum credit you can hope to achieve as a business owner. The real tax credit amount depends on the state you do business in. If your state owes the federal government unemployment insurance loans, for instance, this can impact the size of your FUTA tax credit.

How to report the FUTA credit reduction

As an employer, you’ll use Schedule A (Form 940), Multi-State Employer and Credit Reduction Information, to calculate your credit reduction. On this form, you’ll check off every credit reduction state in which you’ve had to pay state unemployment tax during the year. Then, you’ll enter the FUTA taxable wages paid in that state and the state’s reduction rate. Multiply these two figures together to get the credit reduction amount. Once you’ve filled Schedule A out, you can attach it to and submit it with IRS Form 940.

Best practices for handling your small business FUTA taxes

If you run a small business, it’s important to stay on top of your FUTA taxes. Missing deadlines or making mistakes can result in costly fees that hurt your company’s bottom line. To help you stay in compliance, here are some of the best practices for handling your FUTA taxes:

  • Meet all filing deadlines: As we stated in the last section, your company can potentially earn a 5.4% tax credit if you submit SUTA taxes on time. This is a 90% reduction in the FUTA tax and a huge incentive to meet all tax filing deadlines during the year. Additionally, if you fail to meet due dates, you can face penalties from the IRS.
  • Manage unemployment claims: If your company has a large number of unemployment claims, this can negatively impact your unemployment insurance tax rate. Thus, you should make an effort to respond to unemployment claims in a timely manner. Confirm claimant information for legitimate claims, and report fraudulent claims to the Department of Labor.
  • Use a payroll service: A payroll service can help your small business file payroll taxes on time and stay compliant with the IRS. With QuickBooks Payroll, you can automatically calculate SUTA and FUTA taxes in just a few clicks. This saves you time while minimizing the chances of committing errors and, therefore, facing penalties.
  • Be selective when hiring: A high number of unemployment insurance claims from terminated employees can cause a company’s unemployment tax rate to rise. Avoid excessive unemployment insurance claims by hiring the right candidates. Conduct a thorough interview and screening process to ensure you hire capable employees committed to your company.
  • Invest in employee training: If an employee at your company is incompetent, you’ll likely be forced to fire them and they may file an unemployment insurance claim. Improve employee retention by investing in training and professional development programs for your employees.
  • Approach terminations with care: In some cases, you may have no other choice than to terminate an employee. When this occurs, make sure to handle the situation with care. Consider offering a severance package or outplacement services. These benefits can help limit the amount of unemployment insurance a terminated employee applies for, and potentially lower your unemployment tax liability.

Use payroll software for worry-free taxes

If you’re a small business owner, calculating payroll taxes and paying FUTA taxes are likely the last things you want to deal with. In some cases, determining your tax liability can be a confusing, frustrating, and tedious process. To save time and energy, use QuickBooks Payroll.

QuickBooks Payroll keeps all of your payroll information in one place, so you can easily organize and manage it. Plus, it allows you to calculate and file SUTA and FUTA taxes, encouraging you to stay in compliance and avoid penalties. Free up time to focus on the aspects of your business you’re passionate about, and let QuickBooks Payroll crunch the numbers.

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