Nearly every employer in the U.S. pays into federal and state unemployment insurance programs. At the federal level, unemployment insurance is the domain of the Federal Unemployment Tax Act (FUTA) of 1939. Unemployment insurance at the state level is the domain of state laws.
We often refer to the federal tax as FUTA despite the acronym referring to the law rather than the tax itself. Be that as it may, your company may have FUTA obligations depending on how it is structured and who it employs.
History of the Law
There was no such thing as unemployment insurance prior to the Great Depression. In the years immediately following the Depression, President Franklin Roosevelt and multiple members of Congress determined that American workers deserved some sort of safety net in the event of future economic downturns.
Roosevelt commissioned the Committee on Economic Security in 1935 to draft legislation that would achieve his administration's goals to protect workers. The Federal Unemployment Tax Act was a byproduct of that committee's work. The law gave Congress the authority to levy taxes that could then be used to help support people who had lost their jobs through no fault of their own.
Multiple Rate Increases
Since its inception, the tax rate associated with FUTA has increased several times. At the current time, the rate is 6% applied to the first $7,000 of annual pay. Any earnings above the $7,000 threshold do not count toward determining how much tax a company owes. That means the maximum amount per employee is capped at $420 per year. Also note that a company must pay the tax if it has paid at least $1,000 in wages during any quarter of the current or previous calendar year.
FUTA Tax Credit
To offset any state unemployment tax an employer must pay, the federal government allows for credit of up to 5.4%. The credit is based on the amount of state unemployment tax paid. An employer eligible for the maximum credit would pay only 0.6% instead of the full 6% on the first $7,000 of each employee's earnings.
Please note that FUTA differs from other payroll taxes in that there is no employee contribution here. Unlike Social Security and Medicare (FICA) contributions that are split evenly between employer and employee, the employer foots the total bill for FUTA.
Where the Money Goes
So where does the money go that companies pay into the FUTA program? It goes to fund unemployment insurance programs. The federal government does not administer unemployment insurance, so all federal FUTA taxes eventually wind up at the state level. Money is sent from Washington to the individual states so that it can be put toward their unemployment insurance programs.
If you were to lose your job due to no fault of your own, you could go down to your local state unemployment office and claim benefits. Any benefits you received will be paid through a combination of federal and state unemployment taxes. For the record, this is why the federal government does have some say in what benefits are paid to unemployed workers.
The FUTA was established following the Great Depression to provide emergency income for people who lost their jobs. In the more than 80 years since its passage, the law has provided billions of dollars to people in need. Whether that is good or bad is up to you to decide. But as an employer, know this: you are obligated to pay FUTA if you meet federal and state qualifications. Make sure you are complying with the law in every respect.