How to Calculate Taxes With Retroactive Pay
- 1). Calculate the taxable earnings amount for each type of tax. If there is nothing affecting the gross that should be added or removed, such as a 401k withdrawal, then the taxable earnings will match the gross. For each type of tax, you will take the gross and subtract/add any amounts that would affect the taxable earnings. For example, for federal income tax, you would subtract 401k if it is coming out on the check.
- 2). Calculate the federal income tax. If retroactive pay is being paid on its own, the federal amount will be 25 percent of the taxable earnings. If the retroactive pay is being paid concurrently with regular earnings, the retroactive pay can be taxed at 25 percent and the regular pay taxed normally. Alternately, the two amounts can be added and taxed together using W-4 elections. Publication 15, also known as the Circular E, should be used to calculate the taxes if regular/W-4 taxation is used in any instance.
- 3). Calculate the Federal Insurance Contributions Act, or FICA, taxes. Social Security is usually 6.2 percent up to the taxable wage base limit. Verify the taxable wage limit and the correct rate before calculating. Medicare is usually a flat 1.45 percent of all taxable wages and there is no wage limit.
- 4). Calculate the state income tax amount. Some states have no income tax, some states with a tax have a specified way to handle retroactive earnings, while others with a tax do not. Consult relevant state guidelines before proceeding.
- 5). Calculate employee unemployment and/or disability amounts, if applicable. Most, but not all states, make these amounts payable by the employer.
- 6). Calculate any city, county, borough, or municipality taxes. Most of these taxes will be flat rates with no limits but this is not absolute.
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