FUTA’s Tentative Credit and Credit Reduction

The Federal Unemployment Tax Act (FUTA) is an unemployment tax companies must pay on behalf of their employees. The bill was passed in 1939 and established a payroll tax of 6.0% for the first $7,000 each employee makes in a year. The employer is responsible for the entire sum of the tax, unlike similar payroll taxes.

The revenue generated by FUTA is intended to fund state unemployment funds, mainly when unemployment is high and states run out of money in their fund.

FUTA Tentative Credit

The State Unemployment Tax Act (SUTA) is another type of payroll tax that the states require employers to pay. SUTA was established to provide unemployment benefits to displaced workers. States use these funds to pay out state unemployment insurance (SUI) benefits to unemployed workers.

So if the funds generated from SUTA take care of the out-of-work employees, what is the purpose of FUTA? We’ll explain that in more detail later. But in the meantime, the fact that SUTA is responsible for unemployment payments means that employers get a tentative credit on their FUTA rate if they show that they’ve paid their state unemployment insurance on time and in full.

The FUTA tentative credit amount is 5.4%. When the credit amount is subtracted from the total 6.0% FUTA rate, the employer only pays 0.6% for FUTA.

How the FUTA Credit is Handled in the Symmetry Tax Engine

When setting up the FUTA tax in the Symmetry Tax Engine, you can set the specific rate to be used by adding different parameters. By setting the parameters, you can have complete control over which wages are subject to the FUTA tax. Clients can utilize our internal help guides for step-by-step directions or contact our Client Success team for additional support.

When to Deposit FUTA taxes

After calculating the FUTA amount, the next thing our clients would have to do is make sure this money gets to the IRS timely.

If the FUTA tax exceeds $500 in a quarter, the employer must deposit that tax by the last day of the month following the quarter. For FUTA taxes collected in the first quarter of the year, the due date would be April 30.

If the FUTA tax is $500 or less, then the employer will not make a deposit for that quarter but roll that amount to the following quarter until their cumulative year-to-date tax amount exceeds $500. Suppose an employer’s 4th quarter FUTA liability plus any undeposited FUTA tax from previous quarters is $500 or less. In that case, they have until January 31 to deposit the tax or pay it with their Form 940. If the total FUTA tax is more than $500 at any point throughout the year, the employer must make the deposits by electronic funds transfer.

Form 940

At the end of the year, employers must file Form 940 to the IRS. Form 940 reconciles the deposits that have been made throughout the years. It’s also where employers list the unemployment wages they reported to any states where they have employees. This form is how employers can show the IRS that they qualify to keep the tentative credit they’ve been taking all year.

The filing due date for Form 940 is January 31. If all deposits are made on time, the due date is extended to February 10. Employers can always find the most recent version of Form 940 on the IRS website.

One challenging part of payroll is keeping track of all of the deadlines. Let us help! Download our free Symmetry Payroll Calendar today.

Credit Reduction

Now that we’ve seen how FUTA ties into state unemployment let’s talk about another situation that comes up periodically for our clients. When a state has a high level of unemployment and is making many payments to displaced workers, it’s possible for the state fund to run out of money. At that point, they can use the federal funds for a loan. This process is how FUTA acts as a backup for state unemployment.

Suppose a state has outstanding loan balances on January 1 for two consecutive years and does not repay the total amount of its loans by November 10 of the second year. In that case, the FUTA credit rate for employers in that state will be reduced until the loan is repaid. The tentative credit we discussed earlier will be lower than 5.4% meaning the employer will have to pay more than 0.6%. Employers in the state will have to pay the additional FUTA at the end of the year when they file their Form 940.

The reduction schedule is 0.3% for the first year the state is a credit reduction state, another 0.3% for the second year, and an additional 0.3% for each year until the state has repaid its loan in full. Further credit reductions may apply to a state, possibly as soon as the third and fifth taxable years, if a loan balance is still outstanding and specific criteria are not met.

How do employers know if they’re in a credit reduction state and if so, how do they know what additional rate they’ll have to pay?

Each year in early November, the IRS issues Form 940 for that year with an attachment called a Schedule A. Schedule A is where the credit reduction is listed. The schedule should be filed by employers who are doing business in multiple states.

To learn more about FUTA, tentative credits, credit reductions and how the Symmetry Tax Engine handles these specific rates, contact us today to speak to our product and tax specialists.