Every pay period you get your paycheck, and your salary has been whittled away through various deductions. There is FICA (Medicare and Social Security), income taxes and many other deductions. They may include union dues, wage garnishments, retirement contributions, Flexible Spending Account (FSA) and more. Find why your net take home pay is often so much smaller than your gross wages. Here is a financial literacy guide to help you understand the numbers behind your paycheck.
Federal, state, and local government income taxes withheld
Your employer will withhold federal and state taxes (or even local taxes) based on the number of exemptions you included on your Form W-4 when you began employment as well as your salary. The amount withheld for state taxes will based on many factors, including your total income (and the state brackets if applicable) as well as the overall state tax rates, as some are higher than others. Taxes are a basic when it comes to understanding and improving your financial literacy.
The amount withheld is not necessarily the same as the amount you need to pay your state or federal government. Some people withhold too much and some withhold too little on their weekly paycheck. As your total tax obligation factors in other source of income (such as investments or savings accounts) as well as deductions and credits, such as Earned income Tax credit, mortgage deductions, student loans, and countless others.
If you are lucky enough to live in a state without an income tax (Alaska, Florida, Nevada, New Hampshire, South Dakota, Tennessee, Texas, Washington, and Wyoming), only Federal income taxes need be withheld with the possibility of local taxes. Note Tennessee and New Hampshire don’t tax wages from a job, but there are other state taxes such as on investment income.
If you live in a jurisdiction that has local taxes like New York City, Ohio, and Pennsylvania municipalities, these will also be withheld on your behalf. As some of the larger cities also tax wages. It helps with your financial future to live in a low tax state or municipality.
FICA stands for the Federal Insurance Contributions Act. There are two components to it. One is Social Security Taxes, which is for retirement and/or disability payments that the federal government makes. Social Security taxes (a part of FICA) are withheld from every employee’s paycheck. These taxes represent 6.2% of the wages earned up to a certain dollar amount that is adjusted each year. It is currently in the low to mid 100K range, but it is adjusted for inflation each year.
Medicare Taxes are also part of FICA. This is for health care for the low income as well as elderly. Medicare taxes which are also a part of FICA are levied at a rate of 1.45% of employee wages. There is no income limit for assessing the Medicare tax.
For taxpayers who earn more than $200,000 a year, you can be assessed an additional 0.9% for each dollar over the threshold amount, based on your filing status. This is for high earners and is meant to ensure the “wealthy” pay more. The thresholds are as follows:
- Single: $200,000
- Married Filing Jointly or Qualified Widow(er): $250,000
- Married Filing Separately: $125,000
- Head of Household: $200,000
Other pre-tax deductions from a paycheck
There are many other possible deductions from your paycheck. Of course these will depend on your situation whether you have them or not. But as part of improving your financial literacy, it is a great idea to know what they are and if they may apply. Find definitions of other common deductions you may be paying.
In addition, for definition purposes, and an after-tax deduction is subtracted from a taxpayer’s post tax (also called gross earnings) after federal government, state, and any local/city income taxes are withheld from your paycheck as well as FICA (Social Security and Medicare). The point being an after tax deduction costs you less money and the end of the day as you do get a deduction on your annual return.
401(k) contributions: If your employer provides a 401K retirement plan and you signed up for it, your voluntary contributions will be deducted pre-tax from your paycheck. If your employer has options for Roth contributions, these amounts will be made contributed on an after-tax basis. Any employment match for the 401K investment will also be noted. Note more companies are automatically signing up employees for 401Ks to help address the lack of retirement fund crisis.
Commuter Benefit Deductions: Millions of people live in the big cities and face costly commuting costs for their job. Some companies will pay additional wages for those commuting costs, and those will be reflected in your paycheck. The are pre-tax dollars and are deductible, but the commuter benefits can help offset transportation expenses.
Other Retirement Plan Contributions: While these other retirement plans will be less common, some companies still offer pensions or some other retirement plan to help you save for the future. Never depend on a pension though. Financial Literacy is about hoping for the best and preparing for the worst, and never count on any retirement plan (like a pension) meeting all of your retirement needs. Some of the names that they go by include defined benefit plan or a defined contribution plan, and the amount of the withdrawal is typically based on length of service and salary.
Health Insurance Premiums and/or Union Fringe deductions: Many companies offer health, dental, and/or vision insurance as a benefit to their employees. The employee portion paid for this benefit is deducted pre-tax from your paycheck. Any premium you pay for your family plan will also be on your paycheck. If you are in a union, there may be additional insurance payments deducted from your check.
Employer-sponsored life insurance: A basic life insurance policy is offered by some companies as a benefit to their employees. There are also companies that allow their workers to purchase additional coverage, pre-tax through company payroll deductions. This additional benefit can be used to cover you, your spouse and/or dependents.
Flexible Spending Accounts (FSA): Many companies now offer this pre-tax benefit. It allows employees to set aside pre-tax dollars that they can help pay for health care costs, medical bills, prescription, and medical needs. The benefit to using this is your paycheck deduction will be pre-tax, those putting your finances in better order.
Possible after tax deductions from your paycheck
The list below can vary widely. They are definitions of some other typical deductions you may or may not receive on your paycheck. The guidelines will help you understand how these pay stub deductions work. It depends on your job, employer and other factors.
Employee uniforms: Federal law allows for the deduction of the cost of uniforms (including the cost of cleaning and pressing) from your paycheck. This can be for a wide range of jobs, including nurses, mechanics, cashiers, and mostly serve type jobs.
The federal government rule, however, stipulates that the additional cost may not reduce the employee’s earnings below minimum wage. Should this apply to your situation, your employer may not be allowed to deduct the cost of uniforms. You will want to consult your particular state laws for help, or talk to a free legal aid service or non-profit credit counselors, as some states have more stringent requirements for employers.
Additional Supplemental or Dependent Life Insurance: This is generally for employees who want additional coverage. As part of Financial Literacy, it is a good idea to have some form of decent coverage, especially if you have a family to care for such as kids or spouses who rely on your income. Your employer may also be able to negotiate better rates than you as an individual. Therefore, some pay people for additional life insurance coverage, and that too can be a deduction from your paycheck.
Cost of Tools and Equipment: The federal law for tools and equipment falls in line with those for uniforms. Once again, your gross income can’t go below minimum wage. State laws may differ in these circumstances. In addition to that, some states require the employer to provide all tools and equipment necessary to perform the job so the deduction will be illegal.
Cash Register Shortages: While federal law allows for the deduction of cash shortages from paychecks so long as the earning are not reduced below minimum wage, state rules differ. Many states have much stronger employee protections to help cut back on abuse. They also know the income for a cashier is low, so states want to protect their wages so an cashier can work towards financial stability from a decent wage. Some states require written employee consent or the ability to deduct the cost only if the employee admits culpability.
Lodging and Meals: The minimum wage rule does not apply in cases where employees reimburse the employer for housing or meals that the employer provides. The stipulation is that the benefit must be primarily for the employer’s benefit and customary for the industry the employee works. The employer is not allowed to charge the employee the market value of the item, but rather is limited to charging a reasonable cost.
While most states base their rules on the federal law as far as what deductions are allowed from paycheck, some provide additional protections to the employee such as requiring the written consent of the employee or limiting the amount that can be deducted.
Repayment of Debt: If you received a loan from your employer in the form of a salary advance or 401K withdrawal, you may be required to repay the loan over time through payroll deductions. It is important to note that such deductions do have the ability to reduce your wages below minimum wage. Note it is also never a good idea to use a payday or loan from your paycheck, and that is something that the basics of financial literacy will tell you to stay away from.
Again, state laws may provide additional restrictions. For example, some states eliminate or limit the ability of an employer to make deductions to satisfy the employee’s debt. In some cases, the written consent of the employee may be required to repay the loan through payroll deductions. To help accelerate and make this deduction go away, find financial literary programs for debt reduction.
Charitable Contributions: If you are in the giving mood, an employer may deduct the amount of your voluntary contributions from your paycheck. Note these will be after tax, but you will get a deduction on your state, federal, and local income taxes when you file.
Union Dues: If you belong to a union, the cost of your dues may be withheld from your paycheck. That being said, any assistance or benefits you get from joining a Union will not be reflected in your weekly pay. Thus, there are downsides as well as benefits.
Jury Duty: If you’re a salaried employee who serves jury duty, your employer may deduct the nominal fees associated with performing your civic duty. Though many companies will make up the difference and will not financially penalize someone from serving on a juror.
Deductions from weekly pay for Wage Garnishments
These can come in many types, but a court order or some other legal document needs to call for it. They may have to do with debts, unpaid financial issues, loans, unpaid child support, and more. Generally, your wages may be garnished in order to satisfy certain types of debt or financial literacy action items, including Student Loans; Hospital and Medical Bills; Child Support; IRS or other Tax Levies (even property). See more details on all these below.
If you have a wage garnishment for things like medical bills, or other court-ordered judgments, these may be deducted from your paycheck, but are limited to the lesser of 25% of your disposable earnings or the amount by which your disposable income exceeds 30 times the minimum wage. Check with your state or a local attorney on your exact financial obligation.
- Tax Levies: If you owe taxes to the federal, state, or local governments, the same rules that apply to disposable income for wage garnishments do not apply here. The IRS and state and local agencies use their own algorithms to determine the amount that may be withheld from your earnings. Talk to an attorney or non-profit credit counselor for advice on this paycheck deduction.
- Student Loans: If you owe federally funded student loans and are behind in payment, the amount owed for these may be deducted from your paycheck with some restrictions. Be sure to understand the financial literacy impact before borrowing for school. For loans issued by the department of education, employers may be required to withhold up to 15% of an employee’s wages. For loans guaranteed by state-funded agencies, the garnishment is limited to 10% of disposable income.
- Child Support Garnishment: Child support payments and payments for child support combined with alimony may be deducted from an employee’s earnings if the employee does not remit payment. Once a child support order is made, an automatic wage withholding order is created as required by the Family Support Act of 1988. This automatic withholding may be opted out of if there is an agreement between the employee and former spouse. This, however, may be overridden in cases where the employee does not make payment.
What may not be legally deducted from a paycheck
Employers are precluded from deducting items that are considered to be for the benefit of or at the convenience of the employer. For example, an employer may not deduct financial losses associated with a client not paying their invoice or they can’t deduct pay for say a mistake you made at work.
With the number of payroll deductions utilized by employers and employees, it is important to understand where your money is going when reviewing your paystub. It is also good to know how much you pay in tax each week and also understanding what after as well as pre-tax dollars are, as that knowledge can help you increase your financial literacy. If you have specific questions about a line item on your paystub or if your paycheck looks odd to you, you should reach out to your companies payroll department or human resources representative for more information.
By Jon McNamara