Form 940 soon due: Who’ll pay higher FUTA tax rate?

Some employers will owe more FUTA tax than expected when it’s time to send Form 940 to IRS and make tax deposits for the fourth quarter of 2022.

As always at year-end, it’ll be important to know the states where employees worked during the year. You’ll need that information to complete the Employer’s Annual Federal Unemployment (FUTA) Tax Return.

But this year-end, when you look closely at the return, including Schedule A, you’ll find that certain states are credit reduction states.

While the 6.0% FUTA tax rate isn’t changing, the 5.4% credit that IRS gives employers for state unemployment tax paid could be reduced, depending on the state.

So, heads up if your company has to pay unemployment tax in California, Colorado, Connecticut, Illinois or New York this year. Employers in those states will likely face a 0.3% reduction in the federal tax credit.

The bottom line: You could owe 0.9%, instead of 0.6%, for the federal tax.

That’s 6.0% – (5.4% – 0.3%) = 0.9%.

Reason for increased FUTA tax

Why are those five states in the spotlight? They’ve had outstanding loans with the Federal Unemployment Trust Fund for two consecutive years – that triggers the credit reduction and thereby the higher tax rate.

Granted, they have until November 10, 2022, to pay off the loans and avoid becoming credit reduction states.

For most of them, though, that’s not likely.

After all, as of October 24, 2022, here’s how much the states owe:

• California: $18,160,520,806.99
• Colorado: $33,089,860.58
• Connecticut: $110,538,585.47
• Illinois: $1,362,645,002.82
• New York: $8,039,249,678.93

Update: Colorado has paid off its loan and won’t be a credit reduction state for 2022.

Many states started incurring debt in 2020 when they needed funds to provide benefits to unemployed workers residing in their states. While most states have paid back their loans with the federal government, the remaining few have not.

Submitting Form 940 to IRS

As year-end approaches, bear in mind that IRS considers the increased liability resulting from credit reduction to be incurred in Q4 of the calendar year. That makes the payment due date January 31 – same IRS deadline as for the annual return.

Use Schedule A (Form 940) to calculate the credit reduction. Note: You should also fill out that schedule if you’re a multi-state employer.

Finally, remember that when it comes to FUTA tax, the wage base is $7,000 for 2022. In other words, for the calendar year, the tax applies to the first $7,000 of taxable wages an employer pays each of its employees.