A:

Social Security and Medicare payroll withholding are collected as the Federal Insurance Contributions Act (FICA) tax. 12.4% of earned income up to an annual limit must be paid into Social Security, and an additional 2.9% must be paid into Medicare. If you are a waged or salaried employee, half of the payroll tax - 6.2% for Social Security and 1.45% for Medicare - is automatically withheld from each paycheck, and your employer contributes the other half. If you are self-employed, you are responsible for the entire amount (12.4% for Social Security plus 2.9% for Medicare), but you can generally deduct half of the FICA tax on your federal income tax return.

There is no income cap (or wage base limit) for the Medicare portion of the tax, meaning you continue to owe your half of the 2.9% tax on all wages earned for the year. The Social Security tax, however, has a wage base limit - the maximum wage that is subject to the tax for that year. For earnings in 2014, the wage base is $117,000. That means up to $7,254 can be withheld from your paycheck for Social Security taxes - but not more, regardless of how much you earned.

When President Roosevelt presented his plan for Social Security, it did not include an income cap. The original plan exempted high earners from Social Security altogether - including both taxes and benefits - and anyone who made more than $3,000 a year (about $52,000 in 2014 dollars) was supposed to be left out of the system completely. As FDR's plan worked its way through Congress, the exemption for high earners was eliminated, and the House Ways and Means Committee replaced it with a $3,000 cap. Historians on the subject have found no evidence supporting why the committee chose an earnings cap over an exemption, but it has been in place ever since. Since 1982, it has risen at the same rate as wages in the economy.

The cap on wages subject to the tax is the subject of controversy, in part because it means that while most workers pay the tax on every dollar of their income (because the vast majority of workers earn less than the wage base limit), the highest earners pay tax on only a part of their income. Proponents state that lifting the cap would result in a significant amount of revenue that could help cover the shortfall Social Security will soon face, while opponents claim it would result in one of the largest tax increases of all time.

RELATED FAQS
  1. How is Social Security tax calculated?

    The Old-Age, Survivors and Disability Insurance program, or OASDI, tax is calculated by taking a set percentage of your income ... Read Full Answer >>
  2. What are the Social Security tax caps?

    The Social Security tax cap limits the amount of annual wages or self-employment income that is eligible for Social Security ... Read Full Answer >>
  3. What's the difference between Social Security Disability Insurance (SSDI) and Supplemental ...

    Disabled persons can receive payments through two programs: Social Security Disability Insurance and Supplemental Security ... Read Full Answer >>
  4. Will I pay taxes on my Social Security payouts?

    Some people have to pay federal income taxes on the Social Security benefit they receive. Typically, this occurs only when ... Read Full Answer >>
  5. At what age will I be eligible for the maximum Social Security payout?

    On August 14, 1935, U.S. President Roosevelt signed into law the Social Security Act, a social insurance program designed ... Read Full Answer >>
  6. Why is Social Security running out of money?

    On August 14, 1935, U.S. President Roosevelt signed into law the Social Security Act. Originally implemented to assist older ... Read Full Answer >>
Related Articles
  1. Taxes

    What IRS Form 8949 Is For

    Selling a painting or that lake property? Disposing of your fossil fuel stocks? You need to know about this IRS form.
  2. Retirement

    The World's Most Luxurious Retirement Destinations

    If money is no object (or if you would just like to dream), these five spots are the crème de la crème.
  3. Professionals

    Social Security 'Start, Stop, Start' Explained

    The start, stop, start Social Security strategy is complicated. Here's what retirees considering it need to consider.
  4. Professionals

    Top Social Security Issues for Divorced Women

    What female divorcees need to know about the twists and turns of figuring out Social Security benefits.
  5. Retirement

    Maxing Out Your 401(k) Is Profitable: Here's Why

    It's shocking, but most American workers (73%) have no 401(k) retirement funds. Start saving now to anchor your retirement.
  6. Retirement

    How to Choose the Best Long-Term Care Insurance

    Here's how to find and select a policy that provides the best coverage for you.
  7. Retirement

    How to Choose the Best Medicare Advantage Plan

    Medicare Advantage offers an alternative to Medicare and Medigap. Here’s what you need to know to choose the best plan.
  8. Insurance

    Picking the Best Longevity Insurance

    What you need to know before buying a "reverse life" policy.
  9. Economics

    The Top 9 Things to Know About Hillary Clinton's Economic View

    Find out where former secretary of state and Democratic presidential candidate Hillary Clinton stands on the economy, jobs, trade and education.
  10. Retirement

    How do you calculate penalties on a 401(k) early withdrawal?

    Find out how to calculate the penalties on early withdrawals from your 401(k), including the impact of the additional 10% tax penalty, vesting and income tax.
RELATED TERMS
  1. Federal Insurance Contributions Act - FICA

    A U.S. law requiring a deduction from paychecks and income that ...
  2. Section 1231 Property

    A tax term relating to depreciable business property that has ...
  3. Duty Free

    Goods that international travelers can purchase without paying ...
  4. Qualified Longevity Annuity Contract

    A Qualified Longevity Annuity Contract (QLAC) is a deferred annuity ...
  5. Exchange-Traded Mutual Funds (ETMF)

    Investopedia explains the definition of exchange-traded mutual ...
  6. Guideline Premium And Corridor Test (GPT)

    A test used to determine whether an insurance product can be ...

You May Also Like

Trading Center
×

You are using adblocking software

Want access to all of Investopedia? Add us to your “whitelist”
so you'll never miss a feature!