Federal payroll taxes are a necessary evil for both employers and employees. Under the Federal Insurance Contributions Act (FICA), employees must pay Social Security and Medicare taxes. For their part, employers must withhold the tax from employee wages and also pay their share of FICA tax.
But there's another, lesser-known payroll tax that some of your workers will owe. This Medicare surtax applies only to higher-income employees. Although employers don't have to pay the additional tax, they do have to withhold the appropriate amount to cover it when warranted.
FICA tax is comprised of two parts:
If, for example, an executive is paid $200,000 a year, Social Security tax is $10,453 (6.2% of $168, 600) and Medicare tax is $2,900 (1.45% of $200,00). Thus, the total tax the executive and the company must each pay is $13,353 ($10,453 + $2,900).
Comparable figures apply to self-employed individuals. They must pay self-employment tax at double the FICA rates for employees (12.4% and 2.9% respectively). However, they usually can deduct half of this tax on their federal tax returns.
The FICA tax, which has been around since the 1930s, is a staple of the federal payroll tax. But the additional Medicare surtax that only applies to highly compensated employees was introduced in 2013 by the Affordable Care Act (ACA).
The FICA Medicare tax funds Medicare Part A, the program that provides health care benefits to senior citizens and disabled individuals. Part A generally is available for expenses such as physician visits, hospital stays and hospice care. The additional Medicare tax is used to subsidize the health care costs of millions of Americans who obtain health insurance coverage through the ACA marketplace.
For example, the tax generally funds premium tax credits that help eligible individuals offset their health insurance costs. Furthermore, the ACA authorizes use of the surtax for other benefits, including free vaccines, preventive care services, and health screenings for depression, heart disease, diabetes and certain cancers.
The Medicare surtax is equal to 0.9% of the amount above an annual threshold, based on the employee's tax filing status. The thresholds are:
The 0.9% surtax applies in addition to the regular Medicare tax under FICA. But the surtax is only imposed on the excess above the threshold. For instance, if an employee who files a single return in 2024 has wages of $300,000, the employee's extra Medicare tax is $900 (0.9% of $100,000 excess). Of course, the employee and the employer still have to pay the regular Medicare tax bill of $14,803 on $300,000 of wages ($10,453 in Social Security tax + $4,350 in Medicare tax).
Important: Comparable rules apply to self-employed individuals (including the surtax thresholds) responsible for self-employment tax.
Interestingly, the thresholds for employees aren't indexed for inflation and haven't, therefore, increased since the ACA was enacted. So as salaries rise each year, more employees are exposed to the Medicare surtax.
It's important to emphasize that employers don't have to pay the Medicare surtax. Nevertheless, your organization is responsible for withholding surtax for employees who earn more than $200,000 a year. Employers that fail to meet this withholding requirement can be held liable for the tax and become subject to penalties.
The ACA doesn't mandate that employers must notify employees about the Medicare surtax, but notification ordinarily is provided by employers for the benefit of employees. If you don't withhold enough from an employee's pay, it's your responsibility to make any necessary withholding adjustments before the end of the year. You can't agree to an employee's request to avoid withholding on the Medicare surtax. No waivers are allowed.
Also note that the withholding requirement applies to earnings exceeding the $200,000 threshold — even if an employee is a married, joint filer with a $250,000 threshold. In such a situation, an employee may need to wait until he or she files a tax return for the year in question before recouping any overpayment.
If you and your payroll department staffers are already well-versed in the Medicare surtax, great. If not, make sure everyone is informed about this obligation and is withholding the correct amounts from employee wages.
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