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This January, employers in California and New York will be paying a little extra to repay the states’ loans from COVID-era unemployment claims.

Both states have outstanding unemployment tax trust fund loans from the federal government. As a result, employers will be hit with a FUTA credit reduction, resulting in those employers paying extra in FUTA taxes come January 2024.

What is FUTA?

FUTA stands for the “Federal Unemployment Tax Act.” Under the Act, employers are responsible for paying into this trust fund, along with a state version as well, to provide for workers that have lost their jobs. When an employer terminates an employee and they “file for unemployment,” this fund is what pays for those claims.

The unemployment taxes are entirely the employer’s responsibility; unemployment taxes are not deducted from the employees paycheck, unlike FICA (Social Security and Medicare) and federal and state withholding.

COVID-era Unemployment Claims Skyrocketed

Remember back to the early days of COVID when a lot of companies laid a bunch of employees off? And the U.S. government also expanded eligibility to file claims to those that were self-employed. All of this meant that there were a ton of new, unexpected claims for unemployment compensation. It was yet another “unprecedented event” or at least repercussion of the unprecedented event that was the pandemic.

Many states were required to take loans from the federal government to keep their state funds solvent and have the cash to pay for the influx in unemployment claims. In total 22 states and U.S. jurisdictions took out loans – California, Colorado, Connecticut, Delaware, Georgia, Hawaii, Illinois, Indiana, Kentucky, Louisiana, Maryland, Massachusetts, Minnesota, New Jersey, New Mexico, New York, Ohio, Pennsylvania, Texas, Virginia, the Virgin Islands, and West Virginia.

Most of the states have since repaid the loans, often using surplus state stimulus money that wasn’t otherwise allocated to eligible programs.

Repaying the FUTA Loans

The federal government requires that states repay these trust fund loans. If they are unable to repay the amounts in full by certain deadlines, then the federal government will require employers to make payments directly to the federal government on the state’s behalf.

The federal government uses a mechanism called a “credit reduction” to pass along these costs to the employers.

FUTA Credit Reduction

The standard FUTA tax rate is 6.0% of the first $7,000 of wages that are subject to FUTA. Most employers receive a credit on their FUTA taxes of 5.4%, leaving 0.6% to file with the annual Form 940 return.

When a state has an outstanding trust fund loan for two consecutive years and the state hasn’t repaid the loan by November 10 of the second year, then the credit reduction is reduced, thereby raising the rates that employers pay as FUTA taxes.

The credit reduction is retroactive for the 2023 year, when states have not repaid by November 10. Thus, employers will file their annual 2023 FUTA reports by January 31, 2024 with the 2023 credit reduction applied.

See Also: Corporate Transparency Act: A New Reporting Requirement for Small Businesses in 2024

California and New York Haven’t Repaid COVID FUTA Loans

January 1, 2023 was the second or third consecutive year that states had these COVID-era loans outstanding. Many states repaid their loans by November 10, 2023, so that their employers no longer had to worry about repaying the loans.

However, California had a balance over $19 billion and New York had a balance over $6.8 billion after the November 10, 2023 deadline. So these credit reductions are being passed onto the employers to help pay down the balances.

I Have Employees in California or New York. How Much Will This Cost Me?

Remember, the FUTA tax is calculated on the first $7,000 of wages. So, a 0.3% reduction results in a $21 per employee in additional taxes.

It’s not a crazy amount if you have only a few employees. But larger employers are going to feel it.

Also, any employer that isn’t paying attention could file inaccurate Form 940s, resulting in penalties and interest, as well as time and money to correct those filings later on.

How Can I Make Sure I File Accurate Reports?

Little things like this are what makes payroll compliance so hard. Not to mention now that we have remote work as a popular option, you could be subject to these changes across multiple jurisdictions. It’s really hard to keep up with.

That’s why I recommend that you use a third-party payroll processor, who’s job it is to keep track of all these updates and make sure that you file timely and accurate payroll tax reports. My favorite and recommended payroll processor is Gusto.

Why Use Gusto

Gusto is easy and affordable for small businesses. They have an easy onboarding process and intuitive user experience to add new employees, run payroll, and do all your reporting. Gusto is really good about alerting you to upcoming changes, like this change in the FUTA tax for California and New York.

You can also use Gusto as an HRIS platform, to maintain information on employee benefits and other important documents relating to the employee experience (employee contracts, handbooks, termination documents, etc).

For your financial planning and compliance purposes, Gusto has a robust reporting section so you can run Excel or PDF reports. These reports are great when you are doing compensation reviews, workers compensation audits, and budgeting for the next year.

Virgin Islands Also Has Outstanding Loans to Repay

The U.S. Virgin Islands also has an outstanding loan to repay. But this particular loan goes back to 2011 and employers there are pretty used to the FUTA credit reduction. The current reduction is 4.5%, almost the entire credit.

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