Did You Just Get A 6.2% Raise?

Many people don’t understand how our payroll tax system works, which is understandable.  But this lack of knowledge about it may be working against you.

If you look at your pay stub, you may have seen a deduction for FICA and Medicare.  The Medicare part is pretty easy to figure out – it’s the premium you pay so you can collect your Medicare benefits when you turn 65.

But FICA is for some people an unknown.  It’s an acronym for Federal Insurance Contributions Act, and it’s simply the premium you pay that allows you to one day collect your Social Security benefits, whether they be Retirement, Disability or Survivor benefits.  Both you and your employer pay 6.2% of your salary as FICA, and another 1.45% for Medicare.  So the more you earn, the more you pay in both FICA and Medicare taxes.

But what you may not know is that while you pay the Medicare tax on an infinite amount of earnings, you stop paying the FICA tax at a certain level of income.  This year, that level is $132,900 of gross wages.  After that, the 6.2 percent FICA tax you’ve been paying goes away.

What does that mean?  Well, it means that you get, in effect, a 6.2 percent raise for the rest of the year starting once you reach that magical number.

Depending on your salary and what bonuses you may have earned, it could be that you already got the raise in your paycheck and you don’t even know it, because your HR department is REALLY unlikely to let you know that you’ve hit the FICA-tax maximum – they just stop collecting the tax from your paycheck.  For others, it will happen more toward the end of the year.

And since you’ve been able to make do without this extra money up until you reach that special income amount, it can be a great opportunity to save it and make it work for you this year.  Here are just a few ideas:

• Increase your 401(k) contribution if you aren’t on pace to max it out for the year.  Remember, you can save up to $19,000 this year in your retirement plan at work, and if you’re age 50 or older, the limit is $25,000.
• You could also max out your HSA plan, which may help lower your tax liability for 2019.
• Or create an emergency fund.  Having cash available for unforeseen needs can be really helpful
• How about paying off some debt?  High-interest credit cards or car loans could be a good place to start.
• If you’re saving for college, you may want to add it to a 529 plan.  Some states also give you a state income tax deduction for a 529 contribution.
• Or just set up a holiday cash fund.  That might help reduce some credit card debt going into the new year.

These are just a few ideas, and maybe you have a couple of your own.  But if you’re lucky enough to get a 6.2 percent FICA tax raise this year, this may be a great opportunity to do something good for yourself AND for your financial future.