What Is the Social Security Tax?
The Social Security levy is a tax paid on both employers and workers to pay the United States’ Social Security program. The Social Security tax is levied in two ways: as a payroll tax authorized by the Federal Insurance Contributions Act (FICA) or as a self-employment tax mandated by the Self-Employed Contributions Act (SECA).
The Social Security tax provides for the retirement, disability, and survivorship payments received by millions of Americans each year via the Old-Age, Survivors, and Disability Insurance (OASDI) Program, which is the official name for Social Security.
- Social Security taxes pay for the retirement, disability, and survivorship benefits that the Social Security Administration provides to millions of Americans each year.
- On a maximum pay base of $142,800 in 2021, the Social Security tax rate is 12.4%, distributed equally between employers and workers.
- Self-employed people pay Social Security taxes on both the employer and employee sides, but only on 92.35% of their net company profits.
- Certain groups are excused from paying Social Security taxes, including certain nonresident immigrants and members of religious organizations with specified beliefs.
How the Social Security Tax Works
Employees and self-employed taxpayers are subject to the Social Security tax. Employers often deduct this tax from workers’ wages and remit it to the government. The monies received from workers for Social Security are not held in trust for the specific employee who is now contributing to the fund, but are instead utilized to pay existing older persons under a “pay-as-you-go” system.
The Social Security tax is also collected to help those who are entitled to survivorship benefits, which are payments made to a surviving spouse after the death of a spouse or to a dependent child after the death of a parent.
The Social Security tax rate is 12.4% as of 2021. The employer pays half of the tax, or 6.2%, while the employee is liable for the other half. The Social Security tax rate is applied to all sorts of employee income, including salaries, wages, and bonuses. There is, however, an income cap over which the tax rate is imposed. For 2021, the Social Security tax is deducted from earnings up to an annual maximum of $142,800; earnings beyond this level are not subject to the Social Security tax.
In 2022, the basic pay level limit for Social Security taxes. Any earnings in excess of $147,000 are not subject to Social Security withholdings.
Social Security Tax for the Self-Employed
Self-employment earnings are also subject to Social Security tax. Because the IRS considers a self-employed person to be both an employer and an employee, they must pay the entire 12.4% Social Security tax. All net earnings up to the wage level are subject to the Social Security tax. The self-employment tax combines the Social Security and Medicare taxes. The self-employment tax will be 15.3% in 2021 (12.4% Social Security tax + 2.9% Medicare tax). Only 92.35% of net company profits are subject to the self-employment tax.
Here’s an illustration: Ike, who owns a human resources consulting firm, estimates his total net income for the year to be $200,000 after deducting company expenditures. His self-employment tax rate will be 92.35% x $200,000, which is $184,700. Due to the fact that this sum exceeds the capped maximum, his tax bill will be 15.3% x $137,700 (limit) = $21,068.01. Ike is eligible for an above-the-line deduction for half of his self-employment tax, which is $21,068.01 2 = $10,534.05. In effect, he receives a return of the employer share of his self-employment tax (6.2% Social Security + 1.45% Medicare = 7.65%).
Not every taxpayer is required to pay Social Security taxes. Exemptions are offered to several categories of people, including:
- Members of a religious group who are opposed to receiving Social Security benefits during retirement, if disabled, or after death
- Nonresident aliens—that is, individuals who are neither citizens nor legal residents of the United States, who are in the country temporarily as students
- Nonresident aliens working in the U.S. for a foreign government
- Students who are employed at the same school where they are enrolled, and where employment is contingent upon continued enrollment
Example of Social Security Taxes
The Social Security tax is a regressive tax, which means that a bigger share of the total income of lower-income workers is withheld than that of higher-income earners. Consider Izzy and Jacob, two workers. For the tax year 2020, Izzy earns $85,000 and has a 6.2% Social Security tax taken from his wages. In effect, the federal government takes 6.2% x $85,000 = $5,270 from Izzy to help pay for retirement and disability payments.
In contrast, Jacob makes $175,000 in tax year 2020. The Social Security tax rate will only be applied up to the $137,700 limit (the Social Security tax limit for 2020 is $137,700; the ceiling increases to $142,800 in 2021). As a result, Jacob will contribute 6.2% x $137,700 = $8,537.40 to the country’s Social Security account for the elderly and disabled, while his effective Social Security tax rate is $8,537.40 $175,000 = 4.87%. With a smaller annual income, Izzy is effectively taxed at 6.2% (i.e., $5,270 $85,000).
Even if a family earns enough to avoid paying federal income tax, the Social Security tax may still be deducted from their wages. A single taxpayer earning $10,000 in gross income in a given year, for example, will have no income tax burden, but Social Security will be deducted at 6.2%.
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