What are the major federal payroll taxes, and how much money do they raise?
Payroll taxes are levied to finance Social Security, the hospital insurance portion (Part A) of Medicare, and the federal unemployment insurance program. Revenue totaled just over $1.1 trillion, or about 6.1 percent of gross domestic product, in fiscal year 2017.
Social Security, or more formally, Old-Age, Survivors, and Disability Insurance (OASDI), provides benefits to elderly and disabled workers, their spouses, and surviving spouses or dependents. It is one of the largest items in the federal budget, with outlays of $939 billion in 2017.
Benefits are mainly financed by a payroll tax on cash wages, up to an annual maximum indexed to average wage growth (table 1). In 2018, maximum taxable wages are $128,400. Employers and employees each contribute 6.2 percent of the workers’ wages for a combined 12.4 percent—usually 10.6 percent for the OASI trust fund (retirement and survivors) and 1.8 percent for the DI trust fund (disability).
The Bipartisan Budget Act of 2015 temporarily reallocated a portion of the OASI tax to the DI trust fund for 2016–18 to shore up the DI trust fund, which faced insolvency. For those years, the combined employer and employee rates are 10.03 percent for OASI and 2.37 percent for DI. Most economists believe that the employer portion of the tax, just like the employee portion, is borne by employees in the form of lower compensation.
Over time, Social Security taxes have become a major share of federal revenues. When the tax was first collected in 1937, the combined payroll tax rate was 2.0 percent; it raised $765 million (about $13.1 billion in 2017 dollars). In 2017, OASDI taxes totaled over $850 billion and represented 25.7 percent of total federal receipts (figure 1).
The hospital insurance (HI) program, or Part A of Medicare, covers inpatient hospital visits and other health care services for the elderly and some others suffering from specified maladies. Federal costs for other parts of Medicare, such as Part B, which covers doctors’ and other providers’ fees, are not covered by payroll taxes but mainly by general revenues.
The HI program is financed mainly through payroll taxes on workers. Employers and employees each contribute 1.45 percent of the worker’s wages toward the HI trust fund for a combined rate of 2.9 percent (table 1). The cap on wages subject to the HI tax was removed in 1994. Also, beginning in 2013, single households earning more than $200,000 and married households earning more than $250,000 contributed an additional 0.9 percent of earnings over those thresholds (there is no employer portion for this “surtax”).
In 1966, the first year of HI tax collections, the combined tax rate was 0.7 percent, and collections totaled $1.9 billion (about $14.3 billion in 2017 dollars). In 2017, HI taxes totaled $255.9 billion.
Unemployment insurance (UI) provides insured workers with benefits if they are involuntarily unemployed and meet eligibility requirements. UI programs are run by the states in partnership with the federal government. To finance benefits and program expenses, both the states and the federal government deposit payroll taxes into a federal trust fund.
The federal payroll tax rate is 6.0 percent on the first $7,000 of covered wages, but tax credits reduce the effective federal tax rate to 0.6 percent (table 1). State unemployment tax rates and wage bases vary but are usually below 4.0 percent and are on low wage bases.
In 2017, federal UI taxes totaled about $45.8 billion.
Other Retirement Programs
Payroll taxes fund a handful of other retirement programs. The Social Security Administration operates the largest of these, a retirement program for the railroad industry that functions similarly to Social Security. Retirement programs for federal employees absorb most of the rest of payroll tax receipts.
Office of Management and Budget. Budget of the United States Government, Fiscal Year 2019, Historical Tables. Table 2.1 “Receipts by Source: 1934–2023”; Table 2.4. “Composition of Social Insurance and Retirement Receipts and of Excise Taxes: 1940–2023”; and Table 10.1 “Gross Domestic Product and Deflators Used in the Historical Tables: 1940–2023.”
Social Security Administration. 2018a. “2018 Social Security Changes.” Fact sheet. Baltimore, MD: Social Security National Press Office.
———. 2018b. Annual Statistical Supplement to the Social Security Bulletin, 2018. Tables 4.A1–4.A6. Washington, DC: Social Security Administration.
US Department of Labor. 2015. “Unemployment Insurance Tax Topic.” Updated July 10, 2015.
Centers for Medicare and Medicaid Services. 2018. 2018 Medicare Trustees Report. Baltimore, MD: Centers for Medicare and Medicaid Services.
Congressional Budget Office. 2018. The Budget and Economic Outlook: 2018 to 2028. Washington, DC: Congressional Budget Office.
Harris, Edward W. 2005. “Payroll Tax, Federal.” In The Encyclopedia of Taxation and Tax Policy, 2nd ed., edited by Joseph J. Cordes, Robert D. Ebel, and Jane G. Gravelle, 293–95. Washington, DC: Urban Institute Press.
Joint Committee on Taxation. 2018. “Overview of the Federal Tax System as in Effect for 2018.” JCX-3-18. Washington, DC: Joint Committee on Taxation.