Is Labor Income Taxable in California?
Understand how California taxes labor income. This guide clarifies state income tax implications for various types of workers and earnings.
Labor income in California is subject to taxation. The state imposes its own tax system on earnings from work, operating in conjunction with federal tax requirements. Understanding how labor income is taxed for different types of workers involves various regulations and deductions.
California Income Tax on Employee Wages
Wages, salaries, and other forms of compensation are subject to California’s income tax system. This system functions independently of federal income tax, meaning employees pay both federal and state taxes on their earnings. California utilizes a progressive tax rate structure, with higher income levels taxed at increased percentages.
Taxable employee compensation includes regular wages, overtime pay, bonuses, commissions, and tips. Certain non-cash compensation and payments for accumulated sick leave or severance are also taxable. Employers are responsible for withholding California income tax from paychecks based on forms like the W-4 and DE-4.
Employees can reduce their California taxable income through deductions and credits. Common examples include the standard deduction or itemized deductions, covering expenses like medical costs or job-related expenses. Personal exemptions and dependent credits also lower tax liability.
Other California Payroll Deductions for Employees
Beyond state income tax, California employees also experience other mandatory payroll deductions for social insurance purposes. A primary deduction is for State Disability Insurance (SDI). SDI provides partial wage replacement benefits to eligible workers unable to work due to a non-work-related illness, injury, pregnancy, or to care for a seriously ill family member or bond with a new child.
The SDI program is funded by employee payroll deductions. As of January 1, 2024, the SDI contribution rate is 1.1% of wages, and the wage cap for these contributions has been eliminated; all taxable wages are now subject to SDI tax. This deduction supports short-term disability and paid family leave benefits, separate from income tax.
California Unemployment Insurance (SUI) is another state payroll tax, primarily paid by employers. SUI funds temporary benefits for individuals who lose their jobs through no fault of their own. Though employees do not directly contribute to SUI in most cases, it is a significant payroll tax employers pay on their behalf.
Taxation of Self-Employment Income in California
Self-employed individuals, such as independent contractors, freelancers, and small business owners, also have labor income taxed in California, though the process differs from W-2 employees. Their net earnings are subject to California state income tax, similar to employee wages. Unlike employees with employer-withheld taxes, self-employed individuals calculate and pay their own.
Self-employment tax covers contributions to Social Security and Medicare. This federal tax combines employee and employer portions, totaling 15.3% of net earnings (12.4% for Social Security up to an annual limit and 2.9% for Medicare with no income limit). Self-employed individuals make estimated tax payments quarterly to the IRS for federal taxes and the California Franchise Tax Board (FTB) for state income tax, as no employer withholds these amounts.
Self-employed individuals can reduce their taxable income by deducting ordinary and necessary business expenses. Common deductions include costs for office supplies, travel, and home office expenses. They can also deduct one-half of their self-employment tax liability when calculating adjusted gross income.