US FICA: the Flat American Payroll Tax With a Ceiling

American payroll deducts federal income tax, state income tax where applicable, and FICA. The last of these is the Federal Insurance Contributions Act tax, and it funds Social Security and Medicare.

Unlike income tax, it applies from the first dollar of wages with no standard deduction and no brackets.

The components

The employer half is not visible on a payslip and is a genuine cost of employing you. It is the American equivalent of the employer social contributions discussed in the part of your salary you never see, and at 7.65% it is low by European standards.

The wage base produces an odd marginal pattern

Social Security stops at the wage base. Above it, the FICA deduction falls from 7.65% to 1.45%, which is a six point reduction in the marginal deduction occurring at a point unrelated to any income tax bracket.

Then at 200,000 dollars the additional Medicare tax begins, taking the marginal FICA rate back up to 2.35%. The combined effect is a marginal deduction curve with a dip in the middle and a small rise after it, sitting underneath the income tax brackets.

1. Below the wage base: 7.65% FICA on every dollar.
2. Above the wage base: 1.45%.
3. Above the additional Medicare threshold: 2.35%.
4. The thresholds are not indexed in the same way, and the additional Medicare threshold has not moved since it was introduced.

The two jobs problem

Each employer applies the Social Security wage base separately, so someone with two employments each paying above the base will have Social Security withheld twice on the same income.

The excess is recoverable, claimed as a credit on the annual federal return. It is not refunded automatically and the employer will not correct it, because from the employer's perspective nothing went wrong. Anyone who changed jobs mid year on a high salary should check for this.

What it buys

Social Security pays retirement, disability and survivor benefits calculated from indexed lifetime earnings, with a progressive formula that replaces a higher proportion of income for lower earners. Forty quarters of coverage are required for retirement eligibility.

Medicare provides hospital insurance from age 65, with the medical insurance components funded by separate premiums rather than by the payroll tax.

For anyone leaving the United States, totalisation agreements with around thirty countries allow contribution periods to be combined for eligibility purposes and prevent double contributions during temporary assignments. They serve the same function as the A1 certificate within Europe, covered in the A1 certificate.

What FICA does not reach

Certain pre-tax deductions reduce FICA wages as well as income tax wages, and others do not. Contributions to a health savings account and to a section 125 cafeteria plan for health premiums reduce both. Traditional 401(k) contributions reduce income tax wages but not FICA wages.

This distinction matters when choosing between pre-tax options, and it is covered in the 401(k) and the HSA.