You work hard for your money. But when payday comes, the amount hitting your bank account is less than you earned. It’s all about taxes and deductions taken from your payroll. There are different types of taxes withheld, including federal income tax. On top of that, you may have other amounts taken out for things you’ve signed up for, like retirement savings (401k) or health benefits (FSAs). The good news is that you have some say in how much is taken out for income tax through a form you fill out. Let’s learn how to calculate taxes from payroll, the simple way.
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Taxes Withheld from Your Paycheck
Your gross pay isn’t the money you actually take home. Some part of it is cut out for taxes, referred to collectively as payroll taxes. Let’s look at the main ones you’ll see deducted from your paycheck.
Federal Income Tax
This money goes to the IRS to fund federal programs and services. It’s based on your total income and your tax situation, largely determined by the information you provide on your W-4 form. Your employer calculates this specific amount of tax withholding for each pay period.
You can also use the official IRS Tax Withholding Estimator to estimate the federal income tax you want your employer to withhold from your paycheck.
FICA Taxes (Social Security and Medicare)
Next, you’ll see FICA taxes deducted. This stands for the Federal Insurance Contributions Act, and it’s made up of two parts: Social Security and Medicare taxes.
Social Security
This provides benefits for retirees, those with disabilities, and the family members of deceased workers. There’s a set percentage for this tax, and it only applies to your wages up to a certain income limit each year.
Medicare
This helps pay for health insurance for people 65 and older, and some younger individuals with disabilities. Like Social Security, this has a set flat rate percentage. Unlike Social Security, there’s generally no income limit for the regular Medicare tax. If you’re a higher earner, an additional Medicare tax is withheld, but this extra amount only comes out of your paycheck, not your employer’s portion.
State Income Tax
Most states also require you to pay a State Income Tax. Some states have high rates, some have low rates, and a few states have none. If your state has it, your employer will withhold this based on state rules, using information from your W-4 or a similar state tax form.
Other Potential Local Taxes
Finally, depending on where you live or work, you might see small amounts withheld for other potential local taxes. These are less common but can include city or county-level income taxes or other local expenditures.
Form W-4: Your Input on Tax Withholding
The main goal of the W-4 is to help your employer withhold the correct amount of federal income tax from your paycheck throughout the year. You fill this out when you start a new job, and you can update it whenever your financial or life situation changes (like getting married, having a child, or getting a second job).
Key Information on the W-4
- Your Filing Status: You’ll select your status, such as Single, Married Filing Jointly, Married Filing Separately, or Head of Household. Your filing status helps determine the tax brackets that apply to you and how much of your income is subject to withholding.
- Claiming Dependents: If you have dependents, like qualifying children under age 17 or other qualifying relatives, you can indicate this on your W-4. This step helps account for potential tax credits you might claim when you file your annual income tax return, which can reduce the amount of tax withholding from each paycheck.
- Adjustments for Other Income or Deductions: The form also allows you to account for other situations. For example, if you have income from other sources that doesn’t have tax withholding (like from a side job or investments), you can choose to have extra tax withholding taken from this job to cover the taxes on that other income. Similarly, if you plan to claim deductions other than the standard deduction when you file your taxes, you can adjust your withholding to reflect that.
- Extra Withholding: You can also simply choose to have an additional dollar amount withheld from each paycheck if you prefer to get a larger refund or want to be sure you don’t owe money at the end of the year.
Read our guide to know exactly how to fill out the W-4.
Gross Pay vs. Net Pay: Understanding All the Deductions
Looking closely at your paycheck, you might see other amounts listed under “deductions.” This brings us to a key concept: the difference between your gross pay and your net pay.
Gross pay is your rate of pay multiplied by the hours worked, or your annual salary divided by the number of pay periods. Net pay is your gross pay minus all the taxes and all the other deductions.
These are called payroll deductions. They can be for things you’ve chosen to contribute to or pay for. These deductions fall into two main categories:
Pre-Tax Deductions
The money for these deductions is taken out of your gross pay before many of your taxes (especially Federal Income Tax and often state income tax) are calculated. This lowers the amount of income that the IRS sees as “taxable,” so you end up paying less. Common examples of pre-tax deductions include:
- Contributions to a traditional 401k retirement plan.
- Premiums for certain health, dental, or vision insurance plans.
- Contributions to a Flexible Spending Account (FSA) for healthcare or dependent care.
By reducing your taxable income, these pre-tax deductions can actually increase your take-home pay compared to making the same payment with money after it’s been taxed.
After-Tax Deductions
As the name suggests, these deductions are taken out of your paycheck after all the applicable taxes have been calculated and withheld. Examples might include:
- Contributions to a Roth 401k (where you pay taxes on the money now, but qualified withdrawals in retirement are tax-free).
- Wage garnishments (legally mandated deductions for things like child support or debt).
- Union dues.
How To Figure Out Payroll Taxes
While your employer uses sophisticated payroll software or services to handle all the precise numbers, the process follows a simple series of steps.
Here’s the basic idea of how to arrive at your net pay:
- Start with Your Gross Pay: This is your total wages or salary earned before any deductions.
- Subtract Pre-Tax Deductions: Money for items like traditional 401k or FSAs is taken out here. This lowers the income amount used for calculating certain taxes (taxable income).
- Calculate and Withhold Federal Income Tax: Based on your taxable income (from Step 2), your W-4 info, and IRS rules, the federal income tax withholding is calculated.
- Calculate and Withhold State Income Tax (If Applicable): If your state has income tax, that amount is calculated based on state rules and your income.
- Calculate and Withhold FICA Taxes: Social Security and Medicare taxes (FICA) are calculated based on your gross pay (up to the Social Security limit). These are set flat rate percentages.
- Subtract After-Tax Deductions: Any after-tax deductions (like Roth 401k) are taken out now.
- The Result is Your Net Pay
Example Calculation: From Gross to Net Pay
Let’s say your Gross Pay for this pay period is $2,000. This is the total amount you earned based on your hours or salary.
1. Subtract Pre-Tax Deductions: You contribute $100 to your 401k each paycheck, and $50 for health insurance premiums, both as pre-tax deductions.
a. $2,000 (Gross Pay) – $100 (401k) – $50 (Health Insurance) = $1,850
b. This $1,850 is your taxable income amount for calculating Federal Income Tax and often state income tax.
2. Calculate Federal Income Tax Withholding: For this example, let’s say based on your $1,850 taxable income and your W-4, your employer’s payroll software calculates your FITW as $180.
3. Calculate State Income Tax (Example): We’ll assume you live in a state with a simple 3% income tax rate applied to the $1,850 taxable income.
a. $1,850 (Taxable Income) * 3% (State Tax Rate) = $55.50 (State Income Tax)
4. Calculate FICA Taxes: These are based on your original Gross Pay of $2,000.
a. Social Security: $2,000 * 6.2% = $124
b. Medicare: $2,000 * 1.45% = $29
c. (Remember, your employer pays these same amounts too!)
5. Subtract After-Tax Deductions (Example): Let’s say you have $10 taken out for something like a gym membership deduction that is taken after taxes.
a. $10 (After-Tax Deduction)
Now, let’s put it all together to find your Net Pay:
- Start with Gross Pay: $2,000
- Minus Pre-Tax Deductions: -$150 ($100 + $50)
- Minus Federal Income Tax Withholding: -$180
- Minus State Income Tax: -$55.50
- Minus Social Security Tax: -$124
- Minus Medicare Tax: -$29
- Minus After-Tax Deductions: -$10
$2,000 – $150 – $180 – $55.50 – $124 – $29 – $10 = $1,451.50
So, in this example, your Net Pay that you receive is $1,451.50.
How to Calculate Payroll Taxes for Small Business
Apart from the taxes taken from your paycheck, your employer has their own payroll tax costs.
They match the Social Security and Medicare taxes (FICA) withheld from your pay.
Employers also pay unemployment insurance taxes (FUTA and SUTA). Employees do not pay these.
These employer-paid taxes are part of the total payroll cost and factor into how to calculate payroll taxes for small business and how much is payroll tax for employer overall.
FAQs
Review your Form W-4 and submit a new one to your employer if needed. Use the IRS Tax Withholding Estimator for help. If too much is withheld, you get a refund when you file your tax return. If too little, you may owe taxes and possibly penalties.
You can change your W-4 at any time by submitting a new form to your employer. The change usually takes effect by the start of the first full pay period after 30 days of submission.
Bonuses and overtime are subject to the same taxes (Federal Income Tax, FICA). However, tax withholding on supplemental wages like bonuses uses a 22% flat rate. Your final tax bill for the year is based on your total annual income, regardless of how it was earned.
Your employer sends the withheld taxes (Federal Income Tax, FICA, state, local) directly to the IRS and relevant state/local government agencies. This money funds government programs like Social Security and Medicare.
Even with the same gross pay, net pay can change due to variations in other deductions (like insurance costs or 401k based on hours), the number of pay periods in a month affecting monthly deductions, or minor rounding in tax calculations. Check your paycheck stub for details.
Get a Clear Picture of Your Finances, Everytime!
Learning ‘how do you calculate taxes from payroll’ helps you manage your money effectively under the system of federal taxation in the United States. While it seems complex, breaking down the different taxes withheld from your paycheck makes it understandable. Your W-4, income, and deductions are the key factors.
If you have complex questions about your tax withholding, deductions, or need personalized guidance on your tax situation, contact our experts at Legend Fusions, USA. Book a call with us now to get personalized tax advice.
Reviewed by:
Hira Asif
Hira Asif, Client Manager (US) at Legend Fusions, brings over 11 years of tax expertise, including 8 years with Ernst & Young. Her work focuses on tax advisory, compliance, and planning for individuals, partnerships, and private equity funds. With a deep knowledge of federal, state, and local tax regulations, Hira is skilled in identifying tax planning opportunities and reviewing corporate and partnership tax returns to optimize compliance and reduce exposures.
This provides benefits for retirees, those with disabilities, and the family members of deceased workers. There’s a set percentage for this tax, and it only applies to your wages up to a certain income limit each year.