Throughout the current economic crisis, record numbers of Americans have relied on unemployment compensation to provide for their families as they wait for the job market to rebound. Many states have already depleted their unemployment compensation reserves, and are only able to continue providing benefits through loans provided by the federal government.
Since March of 2009, states have borrowed more than $42 billion from the federal government to continue paying unemployment benefits. Until now, a provision in the American Recovery and Reinvestment Act of 2009 delayed interest from accruing on those loans, but that provision has now expired, and interest payments on the borrowed funds will come due next fall.
As state governments begin to plan their budgets for next year, they are struggling to find ways to repay the federal loans without raising taxes on employers at a time when they are trying to encourage new job creation. Luckily for them, the Obama administration is volunteering to raise taxes for them. As part of the administration’s budget proposal, the taxable wage base that employers use to calculate unemployment taxes will be more than doubled, from $7,000 to $15,000, while interest payments on the loans are postponed for two more years.
The unemployment compensation system in the United States is funded jointly by federal and state funds collected through payroll taxes. The following simplified example is how unemployment compensation taxes are levied in the Commonwealth of Pennsylvania:
Pennsylvania imposes a state unemployment compensation insurance tax (SUTA) on both employees and employers. For years 2008-2012, the employee tax is .08% of an employee’s total wages.
The standard employer rate in Pennsylvania is 5.4% for a zero or positive reserve account balance and 9.2% for a negative reserve account balance. The actual rate paid by employers varies based on a number of factors, including employment experience, interest contributions and trigger rates enacted as part of the 1988 amendments to the Pennsylvania Unemployment Compensation Law. The wage base for the employer portion of unemployment taxes in Pennsylvania is $8,000.00 per employee.
In addition to Pennsylvania unemployment taxes, employers are charged a federal unemployment tax (FUTA) of 6.2% on the first $7,000.00 of each employee’s wages. However, the employer receives a credit against state unemployment tax. The credit is 5.4%, and employers are eligible for it regardless of the state tax rate as long as they file and pay the tax in a timely manner. After the credit, the actual rate is reduced to 0.8%. Since only the first $7,000 of wages is taxed, the maximum amount paid for any single employee is $56 per year.
Under the Obama budget proposal unveiled this week, the wage base for FUTA would be increased from $7,000 to $15,000 beginning in 2014, effectively raising the per-employee FUTA tax from $56 to $120. The proposal is estimated to increase payroll taxes by $100 billion over 10 years if the FUTA rate remains the same.
The budget proposal, however, calls for a lower FUTA rate on the enlarged tax base, maintaining the current level of revenue currently produced by FUTA payroll tax withholdings. The catch is that states would have to raise the taxable wage base to at least $15,000 for purposes of state unemployment taxes (SUTA). In Pennsylvania, employers that currently pay around $432 per employee (5.4% standard employer rate x $8,000 = $432.00) would pay $810 per employee under the budget proposal (5.4% standard employer rate x $15,000 = $810.00). (Please note this is the correction referenced in the comments.)
In addition to the increased payroll taxes, employers will lose at least 0.3% from the federal (FUTA) credit for every year the loans from the federal government aren’t paid back. Some states, like Michigan, are already paying the higher FUTA rates because they are past due on their loan payments to the federal government.
Not all states are facing a crisis in their unemployment funds. Washington state, for example, has not had to borrow anything from the federal government during the current economic crisis. When economic times were good in the early 2000s, the Washington legislature agreed to fund its unemployment compensation fund (with higher taxes) to adequately provide for a future economic crisis. Now, states like Washington that prepared for the current “rainy day” by fully funding their unemployment compensation funds will also be required to raise their taxable wage base even though their funds are solvent.
Although the President’s proposal to increase the taxable wage base would not take effect until 2014, states may be forced to enact changes to their unemployment compensation systems in response to these measures long before then.
For further information, please contact Marty DiGiovine, Tax Advisory Services.
Interested in receiving more timely articles like this one with topics that are relevant to your business? Click here to sign up for our weekly newsletters.
Or, if you'd like more information on Schneider Downs Tax Advisory Group, visit our webpage.
Schneider Downs provides accounting, tax, wealth management, technology and business advisory services through innovative thought leaders who deliver the expertise to meet the individual needs of each client. Our offices are located in Pittsburgh, PA and Columbus, OH.
This advice is not intended or written to be used for, and it cannot be used for, the purpose of avoiding any federal tax penalties that may be imposed, or for promoting, marketing or recommending to another person, any tax-related matter.