What Is FICA Tax: How It Works And Why You Pay

what is fica what it is and how it works

Just like the FUTA tax, the Federal Insurance Contributions Act (FICA) tax is a crucial part of your paycheck that goes towards supporting two significant programs: Social Security and Medicare. But what exactly is FICA tax, and how does it work? Let’s dive in.

What is FICA Tax?

FICA tax is a federal payroll tax that both employees and employers contribute to.

Employees contribute by having the tax withheld by the employer from their earnings.
Employees contribute by matching the tax withheld from employee earnings.

It’s split into two parts: Social Security tax and Medicare tax. The Social Security tax supports the Old-Age, Survivors, and Disability Insurance (OASDI) program. The Medicare tax supports the Hospital Insurance (HI) Medicare program.

These funds go directly towards supporting these supplemental income and insurance programs, which provide benefits for retirees, the disabled, and children of deceased workers. Over time, these tax rates have increased since the inception of the programs.

A Brief History of FICA

On What’s called “Black Monday” on October 28, 1929, the U.S. stock market crashed when the Dow Jones Industrial Average plunged amid bank runs and sell-of panic. What followed was a period of consistent wealth erasure and economic decline now known as the Great Depression. When Franklin D. Roosevelt took office as president of the U.S in 1933, he began enacting his campaign promises in the New Deal, which included creating a social safety net for America’s most vulnerable citizens. In 1935, empowered with a strong congressional majority, Roosevelt signed the Social Security Act. To fund the payroll tax created by the Social Security Act, the Federal Insurance Contributions Act (FICA) was passed.

FICA Medicare Tax Rates Over Time — *Medicare Tax Rates Over Time*

FICA Social Security Tax Rates Over Time — *Social Security Tax Rates Over Time*

The act was revised periodically, increasing tax rates, expanding coverage to more Americans. In 1965, Medicare was introduced as part of the Social Security Amendments of 1965, and signed into law by President Johnson. A separate payroll tax was established to fund Medicare, providing health insurance to individuals aged 65 and older. As of 2023, FICA now consists of two separate tax rates.

How Does FICA Tax Work?

FICA tax is calculated as a percentage of an employee’s gross pay, and to be even more specific, their taxable income, subordinate to pretax deductions such as 401k employee contributions and Section 125 “cafeteria plan” health insurance deductions. As of 2023, the Social Security tax rate is 6.2%, and the Medicare tax rate is 1.45%, making a total FICA tax rate of 7.65% for employees. Employers are obligated to match this contribution, effectively doubling the amount that goes into these programs.

This makes the total 15.30% when the employer contribution and employee withholding are combined.

The Impact of FICA Tax

While no one likes seeing deductions from their paycheck, the FICA tax serves a crucial purpose. It funds programs that millions of Americans rely on for healthcare and financial support during retirement or in times of disability. As an employer, understanding FICA tax can help you better explain paycheck deductions to your employees and ensure you’re meeting your tax obligations.

Your Employees’ Questions About FICA

Do I get my FICA tax back?

The idea is that if the employee mistakenly paid more than they should have, by paying above the wage base limit for a year, they can can get a FICA refund. In this case, the employee can get refunded directly from the employer, particularly if the tax has not been paid to the IRS yet. Employees can use this form to request the refund directly from the IRS. Employers cannot use this form.

Alternatively, if they are not eligible for the social security and Medicare benefits due to non-resident immigrant or qualifying visa status, they can also qualify for refunded FICA tax.

Why is FICA not taken out of my paycheck?

The most likely cause is payroll error or system misconfiguration. The employee may also be exempt under specific reported categories: students employed by school, college, or university where they study; employees with non-resident immigrant or qualifying visa status; ordained, commissioned, or licensed ministers working in church; or foreign agricultural workers. There is no minimum limit for taxable income, like with the Federal Income Tax withholdings.

Can I opt out of paying FICA?

Employees can not voluntarily opt out of paying FICA, but they can use the IRS Form 843 to request refund or abatement if you qualify.

What is Additional Medicare Tax?

Additional Medicare Tax applies to employees’ wages, compensation, and self-employment income over certain thresholds. It’s separate from the standard Medicare tax that most employees and employers pay. Here’s what you need to know:
Rate: The Additional Medicare Tax rate is 0.9%.
Income Thresholds: It applies to individuals’ wages, compensation, and self-employment income that exceeds the following thresholds:
– Single or Head of Household: $200,000
– Married Filing Jointly: $250,000
– Married Filing Separately: $125,000
More Rules: Additional Medicare Tax has no employer matching, applies to total compensation and not just wages, and is unique from FICA Medicare Tax in that it was introduced as part of the Affordable Care Act to require higher-income individuals to pay their equivalent share.

Will FICA tax go up?

Based on historical growth of the OASDI and Medicare Hospital Insurance tax rates as a percent of taxable earnings since the inception of the programs (see the OASDI and HI charts above), the answer is yes. We can expect the FICA tax to increase over time if population increases, a greater percent of the population is over 65 years of age, or life expectancies remain the same or increase. Another factor to consider is the possibility of U.S. Congress to limit the minimum OASDI retirement age further, increasing the age of retirement.

Can I prepay FICA and pay less later?

No, you cannot prepay FICA and pay less later. FICA taxes are withheld from your paycheck throughout the year, and you cannot pay them in advance. If you overpay your FICA taxes, you should receive a refund when you file your tax return.

Exception: Self-employed individuals can make estimated tax payments throughout the year, which can be considered prepayments of FICA taxes. However, these payments are not technically considered prepayments of FICA taxes, and you will not receive a refund if you overpay. The only true way to pay less in FICA is to actually earn less, and that’s not really a solution, now is it?

Do your employees have questions about FUTA in their pay statements? Send them to the IRS Tax Withholding Estimator. You as the employer can use it too:

IRS Tax Withholding Estimator

Click Here

In Summary

FICA tax is more than just another line item on a pay stub. It’s a vital contribution to programs that support Americans once they reach “the age of wisdom” and represents that only social safety net guaranteed to Americans, regardless of your retirement income. By understanding what FICA tax is and how it works, both employers and employees can better appreciate where this portion of their paycheck goes. Your present contributions will fund your elders’ retirement at a basic level, and ensure that those benefits continue to be available into your own old age.

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Cody Bess

CEO at Poprouser

Cody Bess is CEO of Poprouser and likes to work with passionate business owners. His career spans more than 20 years, including military leadership, tech, and consulting, and now works to bring People to the forefront and create thriving ecosystems. Connect with Cody on Twitter or LinkedIn.