The federal FUTA tax is a 6.0% employer-paid tax on the first $7,000 of each employee’s wages each calendar year, created by the Federal Unemployment Tax Act to fund the national unemployment insurance system. Employers who pay their state unemployment tax on time claim a credit of up to 5.4%, which brings the effective rate down to 0.6% — a maximum of $42 per employee for the year. You report and reconcile the tax on Form 940, due January 31 for the prior year.
Who Owes FUTA
Most private employers fall under the IRS general test. You owe FUTA if you paid $1,500 or more in wages during any calendar quarter in the current or prior year, or if you had at least one employee for any part of a day in 20 or more different weeks during either year. Those weeks don’t need to be consecutive, and the employees don’t need to be the same people.1Internal Revenue Service. Topic No. 759, Form 940 Filing and Deposit Requirements
Two categories use their own thresholds. Household employers (people who pay nannies, housekeepers, or similar domestic workers) owe FUTA once they pay $1,000 or more in cash wages in any calendar quarter. Agricultural employers become liable at $20,000 in cash wages in any quarter, or when they employ 10 or more farmworkers during at least 20 different calendar weeks.2Employment & Training Administration. Unemployment Insurance Tax Topic
The tax is entirely the employer’s. You cannot withhold any part of FUTA from an employee’s paycheck.
How the Tax Is Calculated
The statutory rate is 6.0%, applied to the first $7,000 you pay each employee during the calendar year.3Office of the Law Revision Counsel. 26 USC 3301 – Rate of Tax Once an employee’s cumulative wages for the year cross $7,000, you stop owing FUTA on any further pay to that person. The wage base resets each January.
Employers who pay their state unemployment taxes on time qualify for a credit of up to 5.4% against the federal rate, dropping the effective FUTA rate to 0.6%. That works out to a maximum of $42 per employee per year ($7,000 × 0.006). Most employers pay this reduced rate.1Internal Revenue Service. Topic No. 759, Form 940 Filing and Deposit Requirements
FUTA is separate from your state unemployment insurance (SUTA) obligation. States set their own rates and wage bases, and paying one does not satisfy the other. Timely SUTA payment is what unlocks the federal credit.
Credit Reduction States
Not every employer gets the full 5.4% credit. When a state borrows from the federal unemployment trust fund and doesn’t repay the loan within two years, employers in that state lose part of their FUTA credit. The reduction starts at 0.3 percentage points for each year the loan remains outstanding and grows with each additional consecutive year of unpaid balances.4Office of the Law Revision Counsel. 26 USC 3302 – Credits Against Tax
In a credit reduction state, your effective rate rises above 0.6%. A 0.3% reduction, for example, means paying 0.9% instead, or $63 per employee rather than $42. The Department of Labor publishes the list each fall, since the final determination depends on whether a state repays its loans by November 10 of the tax year.5Employment & Training Administration. FUTA Credit Reductions If you operate in an affected state, you report the additional tax on Schedule A of Form 940.
Wages That Don’t Count Toward FUTA
Not all compensation counts toward the $7,000 wage base. The Form 940 instructions list several exempt categories that reduce your taxable wages:
- Certain fringe benefits, including the value of some meals and lodging, employer contributions to accident or health plans (including HSA contributions), and benefits chosen under a Section 125 cafeteria plan.
- Employer-paid premiums for group-term life insurance.
- Employer contributions to qualified retirement plans, including SIMPLE accounts and 401(k) plans (other than elective salary reduction contributions).
- Dependent care payments up to $5,000 per employee, or $2,500 if married filing separately, that qualify for exclusion under Section 129.
- Payments made under a workers’ compensation law for a work-related injury or illness.
Family Employees
Wages you pay to certain family members are exempt: your spouse, your parent, and your child under age 21 who works for you.7Office of the Law Revision Counsel. 26 USC 3306 – Definitions The exemption applies to sole proprietorships and partnerships where every partner is a family member. It does not apply when the employer is a corporation, even if family members own all the stock.
501(c)(3) Nonprofits
Organizations described in Section 501(c)(3) that are exempt from income tax are also exempt from FUTA, covering most religious, charitable, and educational nonprofits.7Office of the Law Revision Counsel. 26 USC 3306 – Definitions These organizations still typically participate in their state unemployment systems.
Deposits and Filing Form 940
Form 940 is due January 31 for the preceding tax year. If you deposited all your FUTA tax on time throughout the year, the deadline extends to February 10.6Internal Revenue Service. Instructions for Form 940 The form asks you to report total wages, subtract exempt payments, identify the taxable wage base for each employee, and calculate the tax owed after credits.
Deposits work on a quarterly threshold. If your FUTA liability exceeds $500 during any quarter, you must deposit the tax by the last day of the month following that quarter’s end. First-quarter liability (January through March) is due by April 30, and so on. If your total FUTA tax for the year is $500 or less, you can skip quarterly deposits and pay the full amount when you file Form 940.1Internal Revenue Service. Topic No. 759, Form 940 Filing and Deposit Requirements
All FUTA deposits must be made electronically, typically through the Electronic Federal Tax Payment System (EFTPS). You can also use the electronic funds withdrawal option if you file Form 940 electronically. Paper checks are not accepted for deposit payments.6Internal Revenue Service. Instructions for Form 940
To complete the return you’ll need your Employer Identification Number (EIN), total compensation paid to all employees, documentation separating exempt payments from taxable wages, and records showing what you paid into your state unemployment fund. That state payment information, usually pulled from your quarterly state filings, is what supports the 5.4% credit.
Penalties for Late Deposits and Late Filing
The failure-to-deposit penalty is a percentage of the undeposited amount, and it steps up quickly:
- 1 to 5 days late: 2% of the undeposited tax.
- 6 to 15 days late: 5%.
- More than 15 days late: 10%.
- Still unpaid 10 days after the first IRS delinquency notice: 15%.
Filing Form 940 late triggers a separate penalty of 5% of the unpaid tax for each month or partial month the return is overdue, capped at 25%.9Internal Revenue Service. Failure to File Penalty If you also owe a failure-to-pay penalty (0.5% per month, also capped at 25%), the failure-to-file penalty for any month both apply is reduced by the amount of the failure-to-pay penalty.10Internal Revenue Service. Collection Procedural Questions
If you missed a deadline for reasons genuinely outside your control, you can request penalty abatement by showing reasonable cause. The IRS applies an “ordinary business care and prudence” standard, meaning you need to show you took reasonable steps to comply but couldn’t. Serious illness, natural disasters, or reliance on incorrect advice from a tax professional may qualify. You’ll need supporting documentation and either a written explanation or Form 843.
Recordkeeping
Keep all employment tax records, including Form 940 filings and deposit confirmations, for at least four years after filing the fourth-quarter return for the year.11Internal Revenue Service. Employment Tax Recordkeeping Your records should include total wages paid to each employee, the dates and amounts of all FUTA deposits, copies of filed returns, and documentation of any exempt payments you subtracted from the taxable wage base. Those records are what you rely on if the IRS questions a return or a penalty.