What Does FUTA and SUTA Stand For?
Demystify the dual tax system funding worker unemployment benefits.
Payroll taxes support social programs, with unemployment benefit taxes forming a safety net for workers. The Federal Unemployment Tax Act (FUTA) and the State Unemployment Tax Act (SUTA) are central components, ensuring funds are available for individuals who experience job loss.
Federal Unemployment Tax Act (FUTA)
FUTA is a federal payroll tax funding unemployment compensation for eligible workers. Employers solely pay this tax, unlike Social Security and Medicare. Established in 1939 during the Great Depression, FUTA created a foundational element of the unemployment insurance system.
The FUTA tax rate is 6% on the first $7,000 of wages paid to each employee annually, meaning a maximum of $420 per employee before credits. FUTA funds administer state unemployment programs and pay the federal share of extended benefits during high unemployment. Employers typically report and pay FUTA taxes annually using IRS Form 940.
State Unemployment Tax Act (SUTA)
SUTA, or State Unemployment Insurance (SUI), is a state-level payroll tax funding state-specific unemployment benefit programs. Employers generally pay SUTA, though some states require employee contributions. Its purpose is to provide temporary financial assistance to individuals unemployed through no fault of their own.
SUTA tax rates and wage bases vary by state, reflecting economic conditions. States determine an employer’s SUTA rate based on an “experience rating,” which considers the employer’s history of unemployment claims. Businesses with fewer former employees collecting benefits typically receive lower rates. New employers often receive a standard rate until they establish an experience rating.
How FUTA and SUTA Interact
FUTA and SUTA taxes, though levied by different government levels, form a comprehensive unemployment insurance system. Their primary interaction occurs through the FUTA credit. Employers receive a credit against their federal FUTA tax liability for SUTA taxes paid to state unemployment funds.
This credit can reduce the effective FUTA tax rate from 6% to 0.6% on the first $7,000 of wages, provided state SUTA taxes are paid in full and on time. This translates to a maximum FUTA tax of $42 per employee annually for most employers. The FUTA credit encourages states to maintain their own unemployment programs, as employers benefit from a lower federal tax burden by contributing to state systems.
If a state has outstanding unemployment insurance loans from the federal government not repaid on time, it may become a “credit reduction state.” In such cases, the FUTA credit available to employers is reduced, resulting in a higher effective FUTA tax rate and increased federal tax liability. State programs serve as the primary providers of unemployment benefits, with the federal FUTA system offering administrative support and a financial backstop.