Payroll taxes in the United States are taxes imposed on wages and salaries to fund specific federal programs. These taxes are distinct from income taxes and are primarily used to finance Social Security and Medicare, two of the nation’s largest social insurance programs.

Both employees and employers are responsible for payroll taxes. For Social Security, the current tax rate is 6.2% of an employee’s wages, up to an annual limit ($168,600 in 2024). For Medicare, the rate is 1.45%, with no wage limit. Employers match these amounts, meaning they also contribute 6.2% for Social Security and 1.45% for Medicare. In total, payroll taxes amount to 15.3%, split equally between employee and employer.

High-income earners may owe an additional 0.9% Medicare tax on earnings above a certain threshold ($200,000 for individuals, $250,000 for married couples), but this extra amount is not matched by the employer.

For self-employed individuals, payroll taxes are paid in full (the combined 15.3%) because there is no employer to split the cost. However, they can deduct the “employer” portion (7.65%) when calculating their adjusted gross income for income tax purposes.

Payroll taxes are withheld automatically from employees’ paychecks and submitted to the IRS by employers. These taxes provide critical funding for Social Security, which offers retirement and disability benefits, and Medicare, which covers healthcare for individuals over 65 and certain disabled individuals.

Unlike income taxes, payroll taxes are regressive, meaning lower-income workers pay a higher percentage of their income into the system due to wage caps on Social Security taxes. Despite this, payroll taxes remain a key source of revenue for the federal government, second only to individual income taxes.

Understanding U.S. Payroll Taxes

Payroll taxes in the United States play a vital role in funding key government programs that provide social benefits to millions of Americans. Though often less discussed than federal income taxes, payroll taxes are equally important, representing a significant portion of federal revenue and directly supporting essential social safety net programs like Social Security and Medicare.

What Are Payroll Taxes?

Payroll taxes are taxes imposed on wages and salaries paid to employees. In the U.S., these taxes fund government programs including:

• Social Security (Old Age, Survivors, and Disability Insurance – OASDI)
• Medicare (Hospital Insurance – HI)

These taxes are deducted automatically from employees’ paychecks and matched by their employers. For self-employed individuals, payroll taxes are paid entirely by the individual, through what’s called Self-Employment Tax.

Payroll Tax vs. Income Tax

While both payroll and income taxes are based on earnings, they serve different purposes:

• Payroll taxes fund specific programs (Social Security and Medicare).
• Income taxes go into the general federal fund and are used for a broad range of government spending (defense, education, infrastructure, etc.).

Additionally, payroll taxes are flat-rate taxes, while income taxes are progressive, meaning higher income leads to a higher tax rate.

Breakdown of Payroll Tax Components

1. Social Security Tax

• Employee Rate: 6.2%
• Employer Rate: 6.2%
• Total: 12.4%
• Wage Base Limit: $168,600 (for 2024)

Only the first $168,600 in wages are subject to Social Security tax. Income above this amount is not taxed for Social Security.

Social Security taxes fund benefits for:

• Retirees (starting as early as age 62)
• Disabled individuals
• Survivors of deceased workers
• Dependents of eligible workers

2. Medicare Tax

• Employee Rate: 1.45%
• Employer Rate: 1.45%
• Total: 2.9%
• No wage cap

There is no wage base limit for Medicare; all earned income is subject to this tax.

Medicare payroll taxes support:

• Hospital insurance (Part A)
• Skilled nursing facilities
• Hospice care
• Some home health care

3. Additional Medicare Tax

• Rate: 0.9%
• Applies to earnings over:
  • $200,000 (individuals)
  • $250,000 (married filing jointly)
  • $125,000 (married filing separately)

This tax only applies to employees, not employers. It was introduced as part of the Affordable Care Act in 2013 to help fund Medicare expansion.

Self-Employment Tax

Self-employed individuals pay both the employer and employee portions of payroll taxes:

• Social Security: 12.4%
• Medicare: 2.9%
• Total: 15.3%

This is collectively known as self-employment tax. Although the full amount is owed, self-employed workers can deduct the employer-equivalent portion (7.65%) from their taxable income.

Form Schedule SE is used to calculate and report self-employment taxes when filing a tax return.

How Payroll Taxes Are Collected

Employers are required to:

1. Withhold Social Security and Medicare taxes from employee wages.
2. Match the withheld amount.
3. Deposit these taxes with the IRS (usually semi-weekly or monthly, depending on payroll size).
4. File quarterly payroll tax returns using Form 941.
5. Report total wages and taxes at year-end on Form W-2.

Self-employed individuals pay payroll taxes quarterly using estimated tax payments (Form 1040-ES).

Revenue Significance

Payroll taxes are the second-largest source of federal revenue, after individual income taxes. As of recent data:

• Social Security taxes provide about 36% of federal revenues for trust funds.
• Medicare taxes contribute approximately 15%.

Together, these taxes fund benefits for over 65 million Americans (retirees, disabled persons, and others).

Why Are Payroll Taxes Called “Regressive”?

Payroll taxes are considered regressive because:

• The Social Security tax applies only to wages up to a certain limit ($168,600 in 2024), so higher earners pay a smaller percentage of their total income.
• Everyone pays the same percentage regardless of income, unlike the progressive structure of income tax.

As a result, lower- and middle-income workers end up contributing a larger share of their income toward payroll taxes.

Historical Background

• Social Security was established in 1935 under President Franklin D. Roosevelt during the Great Depression.
• Medicare was added in 1965 under President Lyndon B. Johnson.
• The system was designed as a “pay-as-you-go” model: current workers fund current beneficiaries.

Over time, as demographics shift (e.g., aging population, fewer workers per retiree), concerns about the long-term solvency of these programs have grown.

Key Issues and Debates

1. Funding Shortfalls

Social Security and Medicare face funding gaps due to:

• Rising life expectancy (more years of benefits)
• Slower workforce growth
• Increasing healthcare costs

Trustees project that the Social Security Trust Fund could be depleted by the mid-2030s, prompting discussions about payroll tax increases, benefit cuts, or raising the wage cap.

2. Wage Base Cap Adjustments

Some policymakers argue for:

• Raising or eliminating the Social Security wage cap
• Implementing broader taxation to ensure wealthier individuals contribute more

3. Payroll Tax Holiday (Example: 2020)

During emergencies like the COVID-19 pandemic, temporary payroll tax relief (deferrals or holidays) has been proposed or enacted to provide workers with extra take-home pay. However, critics argue it undermines long-term funding for social programs.

Examples of Payroll Tax in Action

Example 1: Employee Earning $50,000 Annually

• Social Security: $50,000 × 6.2% = $3,100
• Medicare: $50,000 × 1.45% = $725
• Total withheld: $3,825 (matched by employer)

Example 2: Self-Employed Earning $100,000

• Social Security: $100,000 × 12.4% = $12,400
• Medicare: $100,000 × 2.9% = $2,900
• Total self-employment tax: $15,300
• Deduction available: $7,650 (half of SE tax)

Conclusion

Payroll taxes are a cornerstone of America’s social safety net, ensuring millions of people receive retirement income, disability support, and healthcare in later life. While they place a significant burden on workers and employers, especially the self-employed, they provide critical services that most Americans will eventually use.

As the U.S. population ages and economic conditions evolve, reforms to the payroll tax system will likely continue to be a major topic in fiscal and social policy debates. Understanding how these taxes function helps individuals make informed financial decisions and engage in the broader conversation about the future of Social Security and Medicare.