Managing payroll taxes is complicated, and tax requirements differ by state. It’s important to understand the types of payroll taxes and how to calculate them. If you understand how the government collects payroll taxes, you can process payroll correctly and avoid tax penalties.
What are state payroll taxes?
State payroll taxes include income tax, unemployment tax, and possibly local taxes. Workers pay state income taxes, and employers typically pay state unemployment taxes. Tax rates differ by state, and some states don’t charge a state income tax.
Before diving into state taxes, review the basic steps for processing payroll.
5 steps to process payroll
Generally speaking, a business must complete five steps to calculate withholding amounts and submit tax payments.
- Collect data: When you hire a new employee, you need to collect payroll information on Form W-4. Employers must withhold federal taxes and state taxes. They may also withhold dollars for employee benefits.
- Calculate net pay: Subtract an employee’s gross pay, tax withholdings, and benefits payments from their total pay to get their net pay. You’ll also calculate withholdings for Medicare, Social Security, and possibly local taxes.
- Issue payments: You must issue the employee’s paycheck via direct deposit or a paper check.
- Report: You must submit a tax filing for federal tax and state tax withholdings to the IRS and the state revenue department. You report retirement plan contributions, state unemployment payments, Medicare taxes, and Social Security taxes to other entities.
- Withhold payments: You must forward all tax and benefit payments to the tax authorities, retirement plan providers, and other benefits providers.
These steps apply to federal, state, and local taxes. The process for collecting, paying, and reporting these taxes differ by state.
Working with state income taxes
To explain the process, let’s assume a California taxpayer earned $50,000 in 2019, used the single filing status, and had no dependents.
Workers pay state taxes on their annual income, and state taxes are assessed on both employees and independent contractors (freelancers). If you own a business and receive a share of profits, you will pay state income tax on your personal tax return.
In 2019, a California taxpayer earning $50,000 paid 8% plus $1,580.23, or $5,580.23. Assume that the taxpayer’s employer withheld $4,500 in state income tax from their pay. The amount withheld was based on the taxpayer’s estimated income, filing status, and other information. When the taxpayer filed the 2019 state tax return, the taxes owed totaled $1,080.23.
Reviewing state unemployment taxes
In most states, employers pay state unemployment taxes on behalf of workers. The Federal Unemployment Tax Act (FUTA) and the State Unemployment Tax Act (SUTA) provide temporary income for workers who lose employment by no fault of their own.
Businesses pay unemployment insurance taxes through a joint program between the federal government and the state government. Employers pay the FUTA tax and the California state unemployment tax, so the tax doesn’t affect the taxpayer earning $50,000.
Adding in city and county payroll taxes
Cities, counties, and other municipalities may assess payroll taxes. The Tax Foundation reports that 4,964 jurisdictions in 17 states assessed local taxes in 2019. Let’s say the taxpayer is a San Francisco resident. The city imposes a 0.38% tax on residents. Multiply that percentage by the taxpayer’s $50,000 to find their local tax liability is $190.
So the California taxpayer has a $5,580.23 state income tax liability and a $190 local tax liability.
2020 payroll taxes by state
Review the 2020 state income tax rates for each state. While most states calculate income tax based on a worker’s earnings, several states tax dividend and interest income only. You’ll also see that several states don’t assess state income taxes.
This resource lists the highest tax rate each state charges. Some states charge a single tax rate on all income. Other states use tax brackets that assess tax based on earnings. If a state uses tax brackets, the resource lists the highest tax rate.
|State||2020 income tax rate|
|Alaska||No state income tax|
Payroll tax penalties and how to avoid them
Businesses must calculate and withhold state income taxes for workers and submit the payments with tax reports. The same process applies to state unemployment taxes and applicable local taxes. If a business owner doesn’t perform these steps correctly, they may be subject to penalties.
For example, California assesses a penalty of 15% plus interest on late payroll tax payments. States may also penalize businesses for late payroll tax reports.
FAQs about state payroll taxes
How are state payroll taxes calculated?
Most states have a state income tax, and income taxes are calculated based on gross pay and withholdings. Each state’s tax table determines the dollar amount of the tax liability. In most cases, employers calculate and pay state unemployment taxes.
Do employers pay state and local taxes?
Employers withhold state and local income taxes from workers and forward payments to the state or local revenue department. Businesses pay state and applicable local income taxes on profits in most states.
What is the payroll tax for 2020?
States determine the income tax and unemployment tax rates, and a city or county may assess an income tax. Tax rates can vary from one state to the next. Some states don’t charge an income tax.
What are the types of payroll taxes?
States assess income tax and unemployment tax based on a worker’s income. Some cities and counties require workers to pay local income taxes.
How do I calculate payroll taxes?
Calculate state income taxes using a worker’s gross wages, filing status (single, married filing jointly, etc.), and withholding preferences. Each state that has a state income tax provides tax rates to determine the tax liability.
What is the difference between payroll tax and income tax?
Payroll taxes include state income taxes and state unemployment taxes. Some cities and counties may have local income taxes.
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