The Old-Age, Survivors and Disability Insurance program (OASDI) tax – more commonly called the Social Security tax – is calculated by taking a set percentage of your income from each paycheck. This percentage is determined by law each year and applies to employees and employers. For 2018, both employees and employers must contribute 6.2% of employee compensation, for a total of 12.4%. Those who are self-employed are liable for the full 12.4%.
Social Security
The Social Security program provides benefits to retirees and those who are otherwise unable to work due to disease or disability. Social Security often provides the only source of consistent income for people who can no longer work – especially for those with modest earnings histories.
Because Social Security is a government program aimed at providing a safety net for working citizens, it is funded through a simple withholding tax that deducts a set percentage of pretax income from each paycheck. Workers who contribute for a minimum of 10 years are eligible to collect benefits based on their earnings history once they retire or suffer a disability.
Medicare
Medicare’s Hospital Insurance, or HI, program is another government program that provides for citizens in need and requires a mandatory withholding tax. Social Security and Medicare taxes are often combined and listed on paychecks as the FICA tax, which stands for the Federal Insurance Contributions Act.
Like the OASDI, the HI tax rate is set each year by law. For 2018, the HI tax rate is 1.45% for employees and employers. Those who are self-employed must pay both portions, for a total tax rate of 2.9%.
Maximum Taxable Earnings
Social Security benefits are capped at a maximum monthly benefit amount based on earnings history. To prevent workers from paying more in taxes then they can later receive in benefits, there is a limit on the amount of annual wages or earned income subject to taxation, called a tax cap. For 2018, the maximum amount of income subject to the OASDI tax is $128,400, capping the maximum annual employee contribution at $7,960.80. The amount is set by Congress and can change from year to year. However, no such limit applies to the Medicare HI tax; it is based on an individual’s total annual earnings.
The wage limit is inflation-indexed annually, and can be found in IRS Publication 15 for most employees, or Publication 51 for agricultural workers.
According to IRS Publication 15, wages subject to FICA include all income received for services performed, unless specifically excluded. The payment doesn’t have to be by cash or check. Wages include salaries, bonuses, commissions and paid vacation or sick time. Payments in-kind, in the form of goods, lodging, food, clothing or services are included too, unless the employee is a household or agricultural worker. Elective contributions to a qualified retirement plan are subject to FICA. Employer-paid accident or health insurance premiums for an employee, including the employee’s spouse and dependents, are not wages and are not included in FICA. Health savings account contributions made by the employer are also not wages.
For example, Jeff earns $20,000 per year. He elects to contribute $4,000 to his 401(k) plan, and his employer matches 25% or $1,000. His Social Security wages are $20,000: his elective deferral contribution is still subject to FICA, and the additional amount contributed by the employer is not. The Social Security tax withheld from his pay is $1,240.
If an individual earns more than the Social Security tax cap from more than one employer, he or she may actua…