October 10, 2020

Federal Insurance Contributions Act (FICA)

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Federal Insurance Contributions Act (FICA)

What is FICA?

The Federal Insurance Contributions Act (FICA) is a U.S. tax law that pays for Social Security and medical assistance programs. The Social Security Service pays pensions and survivors’ benefits, as well as benefits for the disabled. Medicare pays for medical expenses for hospital care. This tax applies to employers, workers, and self-employed persons. Federal contributions law requires employers to collect this tax through payroll deductions from an employee’s paycheck.

FICA collects a percentage of earned income from employees and employers. For example, if it imposes a 15.3 percent tax per year, then the employee must pay half of that percent, and the employer must pay the remaining half for each employee. This means that the employer is required to deduct 7.65 percent from the employee’s salary in accordance with the FICA rules, and the employer must pay the remaining 7.65 percent. 

If the person is self-employed, then he or she must pay the full 15.3 percent. The self-employed individual can then claim a deduction from the business for half of the total amount he or she paid under the Federal Contributions Law.

The FICA imposes a limit on the Social Security amount that an employee must pay. This limit, however, does not apply to the Medicare portion of the FICA payment. This means that the employee must continue to pay FICA tax until the employee pays that amount for a specific year. As soon as the employee reaches the amount set in accordance with the Federal Law on Insurance Contributions for a certain year, the employee fulfills the obligation. An employee who pays an amount above the amount set by FICA can file a request for reimbursement of the overpaid amount. 

As a general rule, a student is not required to pay the tax imposed by the Federal Insurance Contributions Act if he or she works at a school, university, or college and regularly attends courses at that school. The Internal Revenue Service (IRS) has established rules regarding the FICA tax exemption for students. These rules do not allow a full-time worker in a school, college, or university to be eligible for a student exemption, even if the worker regularly attends the school as a student. 

In addition, in order to obtain the status of a student, the school, university, or college must provide education as its primary purpose. This excludes organizations such as hospitals and museums that can recruit students while providing educational opportunities. Other limited exceptions might apply (e.g. most civilian federal government employees hired before 1984).

Federal Insurance Contributions Act (FICA)

Calculating FICA Taxes for Employees

For our first example, we have a teacher who works in a public school and earns an annual gross income of $50,000. How much does that teacher owe to the Social Security and Medicare for the whole year? Let’s talk about Social Security first. The teacher is well under the $137,000 limit (refer to the illustration above). Thus, we are just going to apply the 6.2 percent to the annual income or 0.062 x 50,000. The Social Security payment thus equals $3,100. 

For Medicare, since the income is underneath that $200,000 break-off point, we are just going to apply a 1.45 percent rate or 0.0145 x 50,000. A total of $725 will go towards the Medicare tax payment that year. If we add these two amounts together, we will get $3,825 going towards the FICA program that year.

Federal Insurance Contributions Act (FICA)

Now, let’s pretend we live in some ideal world where teachers make an annual income of $250,000. Now, let’s calculate their FICA payment. Again, when calculating Social Security, the 6.2 percent is only applied to the first $137,000 or 0.062 x 137,000. We don’t need to apply it to that additional amount of income to get to that total teacher’s yearly income. The yearly Social Security payment would be $8,537.40. This represents the maximum amount that any individual in the United States will have to pay over the course of the year in 2020.

Since the teacher makes more than that $200,000 break-off point, Medicare will be a little trickier. The 1.45 percent rate is going to be applied to the first $200K or 0.0145 x 200,000. This will give us $2,900 that goes towards Medicare. Then, we should not forget that we have pay that additional 9 percent on the additional money that we make over that $200K break off point. Thus, we are going to apply a rate of 2.35 percent on the remaining $50,000 or 0.235 x 50,000. An amount of $1,175 will be added to the $2,900 to give us $4,075 that will go toward the Medicare tax payment. In total, the FICA payment will be $12,612.40.

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Author: Charles Lutwidge

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