Many employers are required to file a federal unemployment tax return. The federal tax is in addition to any state unemployment tax. Employers in some states may be required to pay a higher federal tax rate if their state has not fully repaid certain federal loans related to unemployment claims.
The federal unemployment tax is paid entirely by the employer, so there is no withholding from employee wages. There is a threshold at which a return must be filed by an employer. A return is required if you pay wages of $1,500 or more during any quarter of the year. A return is also required if you pay an employee for work performed during any 20 different weeks of the year.
The federal unemployment tax is assessed only on the first $7,000 that is paid to each employee during the year. IRS Form 940 is filed annually to report the tax, but quarterly deposits are required if your unemployment tax exceeds $500 at the end of a quarter. If accumulated unemployment tax is $500 or less at the end of a quarter, the amount may be carried over to the next quarter of the year.
The federal unemployment tax rate is 6 percent of taxable wages. However, a substantial offsetting credit is available for your state unemployment taxes paid. A credit of up to 5.4 percent may be available if your state unemployment taxes are paid on time. The net federal rate is as low as 0.6 percent but may be higher in states that experienced high levels of unemployment in recent years.
Credit reduction states
Several states have unpaid federal loans that were received to help pay state unemployment claims. Because of the outstanding loans, some of the states are referred to as credit reduction states. The U.S. Department of Labor announces the credit reduction states annually, along with the credit reduction rate for each.
Instead of taking the typical 5.4 percent state credit, employers in credit reduction states must adjust their state unemployment credit. The credit is reduced by 0.3 percent for each year that the state has been listed as a credit reduction state.
If you pay employees in a credit reduction state, or in any two or more states, an additional IRS form titled Schedule A is required along with Form 940. Schedule A contains the credit reduction rates for all states, including the states with no credit reduction.
The federal unemployment tax requirements are different for household employees and farmworkers. Form 940 may be filed electronically. For more information, contact Blueback Accounting or a similar firm.