A guide to common paycheck deductions and withholdings

You work hard for your money, and at the end of every week or two, it can be a bit disheartening to look at what you get paid compared to the amount you bring home. Why does your take-home pay shrink so much? And what do all those deductions mean? Here’s a brief guide to the common deductions and withholdings you see each payday.

Federal withholding

Federal withholding is the money the federal government takes to meet spending and interest payments. In case the funds aren’t available when taxes come due on April 15, the federal government requires pay-as-you-go withholding. Other typical types of federal withholding include FICA and OASDI: FICA stands for Federal Insurance Contributions Act and OASDI stands for Old Age, Survivors and Disability Insurance. These are payments into Social Security, a mandated retirement savings program for when workers retire. OASDI also provides benefits to survivors of workers and disabled workers. Your employer makes a matching payment.

Medicare withholding

Medicare withholding supports healthcare for retirees and might appear as FICA-HI on your paycheck. Employees and employers alike contribute 1.45% of pay.¹ Further, employees who have wages over $200,000 (single filers) and $250,000 (joint filers) need to pay an additional 0.9% Medicare tax on their wages that are above these thresholds.² There’s no employer share to this additional Medicare tax, but employers must withhold it from applicable employees’ paychecks.

State tax

There are only nine states that don’t tax wage income: Alaska, Florida, Nevada, New Hampshire, South Dakota, Tennessee, Texas, Washington, and Wyoming have no income taxes. New Hampshire, however, taxes interest and dividends, according to the Tax Foundation: It has passed legislation to begin phasing out that tax starting in 2024 and ending in 2027.³ Americans in other states may see withholdings for state income tax, which of course vary from state to state.

Local tax

Some working Americans are required to pay local income taxes in addition to federal and state income taxes. If you fall into this category, you may see a deduction for taxes levied by a local government. You may also see any number of other deductions or withholdings, many of which are voluntary, such as 401(k) contributions and employer health care insurance premiums.

401(k) contributions

While the previous deductions mentioned are mandatory, there is another optional deduction that can make a big difference to your future financial picture. A 401(k) is a qualified plan that allows you to contribute a portion of your paycheck before tax withholding.⁴ And in some cases, your employer may match what you contribute up to a certain percentage. Withdrawing money from the account before age 59 1/2 triggers penalties, but after that age the IRS allows withdrawals without penalty.⁵ Since 401(k) contributions are separate from your bank account, this can be an easier way to start building your retirement fund.

Even small businesses can enjoy the benefits of a 401(k) plan. If you’re a one-person business, you might want to consider opting into a Solo 401(k) Plan, which may provide opportunities to increase your tax-deductible retirement plan contributions.

The paycheck’s journey from “gross pay” to “net pay” may make it a little lighter, but when you consider the important places your deductions are going, the practice may seem a bit brighter.