Who Has to Pay Federal Income Taxes?

US citizens and permanent residents working in the United States earning more than a  certain amount must pay FIT. Additionally, all businesses (except partnerships) pay federal income taxes, as do trusts and other legal entities.

Who Is Exempt From Federal Income Tax?

The following individuals and entities are usually exempt from federal income tax withholding:

• Students
• The visually impaired
• Non-profit organizations
• US citizens working abroad
• Those older than 65 whose sole income is Social Security
• Those with dependent children who qualify for the Earned Income Tax Credit

When people file as “exempt,” they don’t make any FIT payments during the year. To qualify as exempt, a person must not have owed FIT in the prior tax year and not expect to owe FIT in the current year.

What Are the Federal Income Tax Brackets?

The income tax rate is dependent on taxable income earned. For 2023, there are seven income tax brackets:

How Does the US Government Spend Federal Income Taxes?

The US government uses federal income taxes to provide programs and services to taxpayers, such as:

• National defense
• Law enforcement
• Pensions and benefits for government workers
• Food and housing assistance programs
• Improvements in education, health, agriculture, and public transit
• Emergency disaster relief
• Interest on the national debt

State vs. Federal Income Taxes

State taxes pay for local services and programs, while FIT pays for national initiatives. State income tax rates also vary by state but are usually lower than FIT.

As of 2023, nine states have no income tax: Alaska, Florida, Nevada, New Hampshire, South Dakota, Tennessee, Texas, Washington, and Wyoming.

Federal Income Tax Withholding

Federal income tax withholding refers to federal income tax that is withheld from wages at the time of payment. It also refers to wages and benefits that are subject to federal income tax withholding.

How to Calculate Federal Income Tax Withholding

Employment Taxes

Employers are required by law to withhold employment taxes from their employees’ paychecks. Employment taxes include Social Security and Medicare contributions.

For 2024, the current tax rate for Social Security is 12.4%, which is paid half by the employee and half by the employer. The current tax rate for Medicare is 2.9%, which is also paid half by the employer and half by the employee. Self-employed individuals pay both the employee and employer portion of both taxes.

The wage base limit for Social Security (the maximum wage that’s subject to Social Security taxes in a year) is $168,600 for 2024. After they earn more than $168,600, stop withholding and contributing for that employee. But if an employee earns more than $200,000 in wages regardless of their filing status, employers are responsible for an additional 0.9% Medicare tax.

Other Income Tax Withholding Calculations

To calculate how much to withhold from an employee’s pay other than employment taxes:

• Adjust their wage amount to account for other earnings like investments and dividends, which you’ll see on step 4 of their W-4 form.
• Adjust for any deductions they’re claiming outside of the standard deduction, which you’ll also find on their W-4 form.
• Take the adjusted wage amount and use the wage bracket tables from Form 15-T to find their withholding amount.
• Account for any tax credits to adjust that withholding amount, particularly for dependent children, and any extra withholding the employee has requested in their W-4 form.
• Tally the final withholding amount and divide it by the number of pay periods in a year to get the final withholding amount for each paycheck.

Forms Used to Calculate Federal Tax Withholding

All employees should complete Form W-4, the employee withholding certificate, which tells employers what withholdings and deductions they will take for the year ahead.

Employers must pay their federal taxes for employees quarterly as well, using Form 941. This form reports income taxes, Social Security tax, and Medicare tax withheld from each employee's paychecks. It’s also how you will pay the employer portion of Social Security and Medicare taxes.

When Does an Employee Need to Check Their Federal Income Tax Withholding?

Employees should check their withholding whenever they go through a life change: getting married or divorced, having a child, buying a house, earning a promotion, and anything else that may affect their eligibility for deductions or how much they prefer to withhold.

Making Federal Income Tax Withholding Simpler: Tips and Best Practices for Companies

Make Yearly Updates Easy

Recommend that employees review and update their W-4 form at the end of every year to catch any changes or issues before the new year begins. Be sure to send them all the information they need in a single place, like the IRS Tax Withholding Calculator so they can accurately calculate their withholdings.

Use Payroll Software

Calculating and managing these withholdings and deductions manually is challenging – there’s a lot to keep straight. Using payroll software that takes care of the state and federal tax withholding calculations for you could save you hours every month while ensuring greater accuracy.