As California struggles to repay more than $21 billion in federal loans borrowed to maintain its unemployment insurance system, employers in the state are seeing their unemployment insurance (UI) payroll taxes double. Yearly increases to these taxes are scheduled for the next decade or until the debt is repaid—which isn’t likely to happen until 2029 or 2030.
Like many states, California’s UI trust was quickly emptied following an unprecedented surge in unemployment (and billions in fraud and overpayments) during the early months of the pandemic. To continue paying out benefits and keep its economy afloat, California in March 2020 became the first of twenty-two states to borrow billions in loans from the federal government, which started accruing interest in September 2021.
While most states used American Rescue Plan Act funds to repay their federal loans, California, New York, and the Virgin Islands have yet to settle up—a reality that, until resolved, will affect employers’ bottom lines.
What is the Unemployment Insurance Tax Rate in California?
California’s federal UI debt is causing payroll tax rate increases for its employers. In 2023, California employers paid a FUTA tax rate of 1.2%, double the standard rate.
UI benefits, which provide temporary partial income replacement to jobless workers, are funded by federal (FUTA) and state (SUTA) payroll taxes. In all states except Alaska, New Jersey, and Pennsylvania, FUTA is solely paid by employers.
The standard FUTA tax rate is 6% on the first $7,000 of each employee’s wages, but employers may generally receive a credit of 5.4% when they file their Form 940 FUTA Tax Return, bringing the typical net FUTA tax rate to 0.6% or about $42 per employee per year.
Because California has not yet repaid its federal debt, it is now designated as a FUTA Credit Reduction State. That distinction comes with a 0.6% credit reduction for each year the state remains in debt, for up to ten years, which is why California employers in 2023 paid $84 in FUTA taxes per employee.
Combining both state and federal UI taxes, the LA Times reports that a new employer in California will pay about $500 in UI taxes per employee this year.
California’s Unemployment Insurance Problem
The US’s federal-state unemployment insurance system has been long neglected by the federal government, but California’s system was in particularly bad shape even before the pandemic. In February 2020, the Department of Labor rated it as the least financially stable system of all 50 states. Much of the problem is due to poor financing.
“For decades policymakers haven’t been requiring businesses to pay enough into the [unemployment insurance] fund to support the benefits workers really need,” Amy Traub, senior researcher and policy analyst at the National Employment Law Project told the LA Times.
For context, California employers pay UI taxes on the smallest share of wages out of any state in the US. The state has not updated the taxable wage base for its UI program in 40 years, so employers are only taxed on the first $7,000 of wages paid per employee, the minimum amount required by federal law. In contrast, employers in Nevada and Oregon pay taxes on the first $40,600 and $50,900 of their employees’ wages, respectively, which enables the states to better build up their UI reserves and pay more generous benefits to jobless workers. Twenty-six jurisdictions have a flexible state wage base, meaning that the wage base can increase or decrease each year depending on average wages or trust fund balances.
Payroll Tax Increases Are Expected
Unfortunately, the load on California’s UI system doesn’t appear to be lightening anytime soon: the state’s jobless rate throughout 2024 has consistently surpassed the national average—a consequence of pandemic-era over-hiring and layoffs in tech, a slow-to-recover entertainment industry, and an unstable agricultural sector. Barring federal UI loan forgiveness, California employers should anticipate increasing payroll taxes in the coming years, up to $168 per employee per year.
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The information contained in this article is not a substitute for legal advice or counsel and has been pulled from multiple sources.
