What is a social security tax?
The Social Security tax is the tax levied on both employers and employees to finance the social security program in the United States. Social security tax is collected in the form of a payroll tax imposed by the Federal Insurance Contributions Act (FICA) or a self-employment tax. by the Self-Employed Workers Contributions Law (SECA).
The Social Security tax pays for the pension, disability, and survivor benefits that millions of Americans receive each year under the Old-Age, Survivors, and Disability Insurance Program (OASDI), the official name for social security.
How the social security tax works
Social security tax applies to income earned by employees and self-employed taxpayers. Employers generally withhold this tax from employees’ wages and pass it on to the government. Funds collected from employees for Social Security do not put into a trust for the individual employee currently contributing to the fund. Still, they are used to pay seniors on a pay-as-you-go system.”
Social security tax is also collected to support people entitled to survivor benefits – benefits paid to a surviving spouse on the death of a spouse or dependent child on the end of a parent.
As of 2021, the social security tax rate is 12.4%. The employer pays half of the tax or 6.2%, and the employee is responsible for paying the other half. % The social security tax rate applies to all types of income earned by an employee, including wages, salaries, and bonuses. However, there is an income limit to which the tax rate applies. For 2021, the social security contribution deducts from the income up to an annual limit of $142,800; Any amount earned more than $142,800 is not subject to social security tax.
The basic salary cap for social security taxes in 2022. Earnings over $147,000 are not subject to withholding tax for social security.
Social security tax for self-employed workers
Social security tax also takes from the earnings of self-employed workers. Since the Internal Revenue Service (IRS) considers a self-employed person an employer and an employee, they must pay the full 12.4% social security tax. Social security tax applies to all net earnings up to the salary limit. The self-employment tax consists of the social security tax and the Medicare tax. As of 2021, the self-employment tax is 15.3% (12.4% social security tax + 2.9% Medicare tax).The self-employment tax applies only to 92.35% of the company’s net profit.
Here’s an example: Ike, who runs a human resources consulting firm, calculates his total net income for the year at $200,000 after deducting business expenses. His self-employment tax rate will be estimated at 92.35% x $200,000 = $184,700. Because this amount is over the cap, his tax bill will be $15.3% x $137,700 (cap) = $21,068.01. Ike can claim an offline deduction for half of his self-employment tax, or $21,068.01 ÷ 2 = $10,534.05. He receives a refund from his employer (6.2% Social Security + 1.45% Medicare = 7.65%) of his self-employment tax.
Not all taxpayers have to pay social security tax. Exemptions are available for certain groups of people, including:
- Members of a religious group who oppose receiving social security benefits during retirement, disability, or death
- Nonresident aliens, that is, individuals who are not citizens or legal residents of the United States who are temporarily in the country as students
- Nonresident aliens working in the US for a foreign government
Example of social security taxes
Consider two employees, Izzy and Jacob. Izzy earns $85,000 for the tax year 2020 and has 6.2% withheld from social security. The federal government collects 6.2% x $85,000 = $5,270 from Izzy to help pay for pension and disability benefits.
Jacob, for his part, earns $175,000 for the 2020 tax year. The social security tax rate will apply only up to the limit of $137,700 (The limit of the social security contribution for 2020 is $137,700; the limit increased to $142,800 in 2021). Therefore, Jacob will pay 6.2% x $137,700 = $8,537.40 as a contribution to the country’s social security account for the elderly and people with disabilities, but his effective social security tax rate is 8,537.40 $175,000 = 4.87%. With a lower annual income, Izzy tax at 6.2% ($5,270 ÷ $85,000).
Even low-income households with little or no federal income tax can still have their social security tax deducted from their wages.