How to Calculate FUTA Tax & How It Works

When running a business, paying close attention to the long list of tax obligations is essential. One tax that should always be considered is the Federal Unemployment Tax Act (FUTA).

This tax legislation applies to any business with employees. So, whether you have 5 or 50 staff on the payroll, ensure that you clearly understand FUTA before tax season rolls around. This short guide will cover all the important aspects of the Federal Unemployment Tax Act, including how to calculate your amount and if you’re eligible for deductions.

Table of Contents

What is the Federal Unemployment Tax Act (FUTA)?

How FUTA Works

How to Calculate FUTA Tax

Payments Exempt From FUTA Tax

Key Takeaways

Frequently Asked Questions

What is the Federal Unemployment Tax Act (FUTA)?

FUTA stands for Federal Unemployment Tax Act. It’s a US federal payroll tax that applies to any business with employees.

FUTA was created to help fund unemployment payments and job service programs in every state. State unemployment insurance agencies use the revenue from FUTA to fund these benefits. For example, if an employee leaves their job involuntarily and is eligible to claim unemployment insurance, FUTA makes that possible. 

Employers obligated to pay FUTA must file Form 940 annually with the Internal Revenue Service (IRS). However, some employers may pay the tax throughout the year in installments.

How FUTA Works

Employers, even small businesses, must pay FUTA if they meet at least one of the following requirements:

• The business paid at least $1,500 in employee wages during a calendar quarter.
• The business had one or more employees for at least part of a day in 20 or more different weeks throughout the calendar year. This includes full-time, part-time, and temporary employees.

The FUTA tax rate as of 2024 is 6% of the first $7,000 of each employee’s wages during the calendar year. The tax only applies to this first $7,000. For any amount of wages exceeding $7,000, the FUTA tax doesn’t apply.

Furthermore, employers who pay state unemployment taxes will likely be eligible for a 5.4% federal tax credit. This credit can be applied to the FUTA tax, effectively reducing the FUTA tax rate to 0.6%.

The process of paying FUTA taxes depends on how much is owed. For example, for tax liabilities of $500 or less during a quarter, that amount is carried forward until it exceeds $500. If it remains $500 or less throughout the calendar year, the company should submit Form 940 with payment by January 31 of the following year.

FUTA tax liabilities above $500 require at least one quarterly payment. For instance, if a company’s FUTA tax liability is $700 for the first quarter ending in March, the quarterly payment should be submitted by the end of April. If the liability is $400 in the first quarter, it can be carried to the next quarter until it exceeds $500.

The above requirements generally apply to most businesses. However, household and agricultural employers are subject to different FUTA reporting requirements.

Household employers include people who hire a babysitter, nanny, maid, or other people to perform services within their private homes. They must pay FUTA taxes on issued wages if:

• $1,000 or more in cash wages were paid to a household employee in any quarter of the year
• The household employee carried out work in a private home or local college club or fraternity

Agricultural employers who employ farm workers must pay FUTA taxes if:

• $20,000 or more in cash wages were paid to farmworkers in any quarter of the year
• They employed 10 or more farm workers during some part of the day during any 20 or more weeks in a calendar year

How to Calculate FUTA Tax

It’s relatively uncomplicated to calculate a company’s FUTA tax liability. To recap, a company only pays FUTA taxes on the first $7,000 of an employee’s wages. This amount excludes any exemptions like fringe benefits or pension contributions. In addition, the company can deduct any tax credits granted after paying state unemployment taxes.

To calculate the total liability, follow this simple formula:

Let’s say a company employs five people who each earn an annual taxable income of $50,000. Remember, the FUTA tax only applies to each employee’s first $7,000 in wages. In this case, here’s how the formula would look.

Annual FUTA Liability = (5 x $7,000) x 0.06

Annual FUTA Liability = $2,100

If the company has already paid state unemployment taxes, it may be eligible for a tax credit of 5.4%. In this example, that amount would equal $1,890. After subtracting this from the original FUTA liability, the final FUTA taxes owed would amount to only $210.

Payments Exempt From FUTA Tax

Only some payments are included in the Federal Unemployment Tax Act. The exempted forms of payment include the following.

Fringe Benefits

This includes employer contributions to health plans and employee accident coverage. It also refers to employer reimbursements for qualified expenses like meals, lodging, or moving.

Group Term Life Insurance

Employer payments toward group term life insurance are exempted from inclusion in the FUTA tax.

Pension Contributions

Suppose an employer contributes to an employee’s qualified plan, such as the SIMPLE IRA or 401(k) plan. In that case, those contributions are exempted from the FUTA tax.

Dependent Care

Payments going to dependent care are exempt from the FUTA tax, up to $500 per employee. For married couples filing separately, the limit is $2,500.

Other Payments

In addition, various exempt payments include:

• Worker’s compensation payments due to sickness or work-related injuries
• Non-cash payments and some types of cash payments to H-2A Visa holders for agricultural labor
• Payments to a spouse, parent, or child under 21 years for business-related services
• Payments to non-employees if they are classified as your employees according to the state unemployment agency

Key Takeaways

The Federal Unemployment Tax Act (FUTA) is a federal payroll tax legislation that applies to any business with employees. FUTA is only paid by employers, not employees, and the revenue is used to fund unemployment benefits.

As of 2024, the FUTA tax rate is 6.0% of the first $7,000 paid to each employee as wages during the year. In addition, employers that also pay state unemployment insurance can receive a federal tax credit of up to 5.4%. This effectively reduces the FUTA tax rate to 0.6%. To take advantage of this tax credit, make sure to file your FUTA taxes on time. Depending on your tax burden, you may be required to file quarterly or annually. 

FAQs on FUTA Tax

What is the FUTA tax rate for 2024?

The FUTA tax rate for 2024 is 6.0%. This applies to the first $7,000 paid to each employee as wages during the year.

How often do you pay FUTA tax?

The FUTA tax covers a calendar year. However, if you owe more than $500 in FUTA tax for the calendar year, you’re required to deposit at least one quarterly payment. This means that you may have to deposit your FUTA tax before filing your return. If you owe less than $500 in a quarter, that amount can be rolled over into the next quarter until it reaches $500. Once it reaches $500, FUTA taxes must be remitted to the IRS by the end of that quarter.

Do self-employed individuals pay FUTA?

No, self-employed individuals do not need to pay FUTA. It only applies to employees on a company’s payroll. So, businesses are also not required to pay FUTA on compensation paid to independent contractors.

What tax documents are required to pay FUTA?

If you owe FUTA taxes, you must submit Form 940 to the IRS.

What’s the difference between FUTA and SUTA?

FUTA stands for Federal Unemployment Tax Act, while SUTA stands for State Unemployment Tax Act. SUTA tax liabilities depend on the state and can range from 2% to 5% of employee wages. When employers pay SUTA taxes, they become eligible for a tax credit of up to 5.4% that can be applied to FUTA taxes. This credit reduces the total amount that employers owe for unemployment taxes. However, some companies are exempt from SUTA taxes, so they don’t qualify for the FUTA credit.

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