Do State Employees Pay Federal Taxes?

State employees, like most other workers, generally have federal tax obligations. Their earnings are subject to federal income tax, and in the majority of cases, they also contribute to federal payroll taxes, which include Social Security and Medicare. While there are some historical exceptions concerning Social Security for specific state and local government positions, the overall framework aligns closely with that for private sector employment.

Federal Income Tax Obligations

The earnings of state employees are considered taxable income by the federal government. Salaries, wages, and other compensation received by individuals working for state governments are subject to federal income tax under the Internal Revenue Code. Their income is taxed at the same federal income tax rates and rules that apply to private sector employees.

Taxpayers, including state employees, can reduce their taxable income by claiming either the standard deduction or by itemizing deductions. The standard deduction amount varies based on filing status, such as single, married filing jointly, or head of household. After deductions, the remaining taxable income is subject to progressive tax rates. There is no specific federal income tax exemption for state employees solely due to their state government employment.

Federal Payroll Tax Obligations

Most state employees are subject to federal payroll taxes, known as FICA taxes, which fund Social Security and Medicare programs. These taxes are typically split between the employee and employer, with each paying a portion. Specific rules apply to state and local government employees, particularly regarding Social Security coverage.

Virtually all state and local government employees hired after March 31, 1986, are subject to the Medicare tax. The employee portion of this tax is 1.45% of all covered wages, with no wage base limit. Additionally, an extra 0.9% Medicare tax is applied to an employee’s wages exceeding $200,000 in a calendar year, for which there is no employer match.

Social Security tax, also known as Old-Age, Survivors, and Disability Insurance (OASDI), generally applies to most state and local government employees through agreements with the Social Security Administration. These are called “Section 218 Agreements.” Under these agreements, employees pay 6.2% of their wages towards Social Security, up to an annual wage base limit, which is $176,100 for earnings in 2025.

Some state and local government employees may be exempt from Social Security taxes if they are covered by a qualifying public retirement system that was in place before a Section 218 agreement. This historical exemption primarily applies to employees hired before certain dates and continuously employed by the same entity. However, even these employees are typically still subject to the Medicare tax. These exemptions are less common for individuals hired more recently.

Tax Withholding and Reporting

The collection of federal income and payroll taxes from state employees primarily occurs through payroll withholding. State government agencies, as employers, must deduct estimated federal income tax and FICA taxes directly from employee paychecks. Employees influence the amount of federal income tax withheld by completing Form W-4, Employee’s Withholding Certificate, providing information like filing status and any additional amounts to withhold.

At the end of each calendar year, state employees receive a Form W-2, Wage and Tax Statement, from their employer. This document reports total wages paid during the year. The Form W-2 also details federal income tax, Social Security, and Medicare taxes withheld.

The information contained on the Form W-2 is crucial for employees when they prepare and file their annual federal income tax return, typically Form 1040. On this return, employees calculate their final tax liability, accounting for all income and withholdings, to determine if they are due a refund or if they owe additional tax.