Employers are required to make certain payroll deductions from employee paychecks like federal, state, and local taxes. Other premiums are voluntary payroll deductions, like health insurance and disability coverage.
Here’s a list of 15 common small business payroll deductions, including mandatory payroll taxes:
1. Federal taxes
Although employees determine how much federal income tax to withhold from each paycheck, employers are required to withhold federal taxes. When employees choose to withhold more federal taxes per check, they might end up with a larger refund at the end of the tax year. If an employee doesn’t withhold enough, they will have to pay taxes at the end of the year.
Choosing the right amount to withhold requires careful calculation, especially after the 2017 Tax Cuts and Jobs Act when the IRS adjusted the tax withholding tables. While many businesses were ecstatic about paying fewer taxes in 2018, many employees ended up owing taxes because they didn’t know they needed to adjust their number of allowances.
2. State taxes
Most businesses are required to withhold state income taxes from all employee paychecks. The amount of state tax withheld varies by state, and like federal tax withholdings, state taxes are calculated based on a person’s marital status, taxable income, and number of allowances.
Thanks to the Tax Cuts and Jobs Act, employees need to make sure they modify their W4 to withhold the correct amount of federal and state taxes withheld from each paycheck.
3. Medicare and social security taxes
Withholding Social Security and Medicare tax from each paycheck is mandatory and businesses must pay these withholdings directly to the federal government. Both of these taxes are referred to as “FICA taxes.”
Social Security tax
Social Security tax withholdings are required by the Federal Insurance Contributions Act (FICA). The amount of tax owed by each employee depends on their taxable income, and the withholdings make the employee eligible for Social Security, disability, family, and survivors’ benefits. Employers are only required to withhold 6.2% of the first $132,900 in annual wages.
Medicare tax
Medicare tax withholdings are also mandated by FICA. Employers are required to pay Medicare taxes in the amount of 1.45% of an employee’s annual wages. This withholding helps pay for medical expenses when a person reaches 65 years of age, and people of any age who receive Social Security disability benefits.
Usually, an employer will pay 50% of an employee’s Social Security and Medicare taxes and only require the employee to pay the other 50%. However, the full amount must be paid directly to the federal government.
Thankfully, Social Security and Medicare tax payments are tax deductible for businesses.
4. Healthcare premiums
Employee sponsored healthcare premiums are voluntary and automatically deducted from an employee’s paycheck either per payroll or once a month. The amount deducted might be 100% of the plan’s cost or the employer might pay a portion of the plan and only deduct 50% of the total cost. The amount deducted for healthcare will vary by employer and the employee’s plan choice.
Some businesses must provide health insurance
Employers with 50 or more full-time employees must provide health insurance that pays at least 60% of covered services. Employees can be required to pay a portion of their coverage, but the amount can’t exceed 9.86% of their household income.
Although large employers are required to provide health insurance, employees aren’t required to buy it. Small employers with less than 50 employees are not required to provide health insurance, but some choose to provide a plan they can afford.
5. Disability insurance
Short-term and long-term disability insurance is not mandatory, but many employers provide this option for employees. Disability insurance ensures employees receive a portion of their normal wage if an accident leaves them temporarily or permanently disabled.
6. 401(k) contributions
When employees contribute to a 401(k) plan, their contributions are automatically deducted from each paycheck.
7. Life insurance
Life insurance is another non-mandatory coverage that some employers offer employees. Premiums are usually deducted from an employee’s paycheck, but some employers cover it completely.
8. Supplemental life insurance
Employer-sponsored life insurance plans are basic and may not provide enough coverage for some employees. Some employees prefer to get supplemental life insurance through the workplace because employers can usually get better rates than individuals.
9. Dependent life insurance
Dependent life insurance premiums are deducted just like supplemental life insurance. Dependent life insurance provides financial compensation to an employee when a dependent – like a spouse or child – dies.
10. Union dues
When a business has unionized employees who must pay dues, membership dues can be deducted directly from employee paychecks.
11. Wage garnishments
When an employee has a court order to pay a debt, the debtor can require an employer to deduct a certain amount of money from that employer’s paycheck until the debt is paid off. According to Nerdwallet, the amount of disposable income allowed by a court ordered wage garnishment varies by the type of debt. For example, credit card and medical bill creditors can take up to 25% of an employee’s disposable income. On the other end of the spectrum, an employee who owes child support can have up to 60% of their disposable income garnished.
Wage garnishments don’t always require a court order. Sometimes a creditor can force garnishment if the employee owes child support, back taxes, or has an outstanding federal student loan.
12. Accidental death and dismemberment
Most businesses are required to carry workers’ compensation insurance, but sometimes employees want additional coverage. Accidental death and dismemberment insurance is common, but the type of accidents covered varies by the plan the employer purchases. However, this insurance provides financial compensation in the case of accidental injury or death.
To get this coverage an employee pays a premium based on their salary or a set amount specified by the employer.
13. Health savings account (HSA)
Many employers offer employees a health savings account and employee contributions are automatically deducted from payroll. An HSA account is like a savings account, but the funds can only be used for certain healthcare expenses. Employee contributions are made with pre-tax dollars directly through payroll and aren’t subject to federal income tax. In most states, HSA contributions aren’t subject to state income taxes, either.
Employees only qualify for an HSA when they’re enrolled in a High-Deductible Health Plan (HDHP).
14. Uniforms
Some (but not all) businesses can deduct the cost of uniforms from a worker’s paycheck. Federal law and state laws determine the rules that govern these deductions. For example, federal law does not allow a business to charge minimum wage employees for uniforms. Some state laws are even stricter. For instance, New Jersey state law prohibits employers from forcing employees to buy a special uniform. If an employer wants employees to wear a special uniform that can’t be used as street wear, the employer must pay for it.
15. Cash drawer shortages
While many states don’t allow an employer to deduct cash drawer shortages from an employee’s paycheck, there is no federal law against this practice. Under federal law, if an employee is earning at least minimum wage after deductions, an employer can charge an employee for cash drawer shortages and product damage. This, of course, doesn’t apply to states that make this practice illegal.
Tax laws are complex – don’t make a costly mistake
Illegal deductions can end in a lawsuit. Before deducting any money from your employees’ paychecks, talk with the Department of Labor in your state to make sure the deduction is legal. Make sure you stay up-to-date on all federal, state, and local laws concerning deductions and keep your payroll team educated.
