By M Katie Helle, CPA —
With technology at our fingertips, people rarely look at their pay stubs to understand how tax affects their earnings. It’s important to do a quick review to understand where your hard-earned money is going before it gets to you.
Your paycheck typically includes gross income, payroll deductions, and tax withholding resulting in the net pay which is your take-home pay.
Gross Income
Your gross income consists of the total amount you earned during the pay period. This is typically described as salary, wages, commissions, bonuses, and tips. Depending on the benefits your employer offers, you may even see vacation, sick, holiday, or other forms of compensation. It’s important to make sure your employer is paying you correctly based on how you earn income. For example, if you are paid hourly, you will want to double-check the number of hours included in your paycheck to ensure this is correct. Once you have checked the number of hours, you can multiply this number by your hourly rate to calculate the gross income.
Payroll Deductions
There are typically two types of payroll deductions you will see on your check stub: before-tax and after-tax deductions. These deductions are unique and affect your income differently.
Before-tax deductions are subtracted from your gross income before taxes are taken out. These deductions will reduce your taxable income, which ultimately means you will pay less tax. Some examples of before-tax deductions include retirement plan contributions, health and dental insurance premiums, vision plan premiums, and health savings account contributions. These deductions are typically seen when the employer offers benefits to their employees.
After-tax deductions include things that do not qualify for a before-tax deduction. These deductions will be subtracted from your paycheck after taxes are taken out. Some examples of these deductions include retirement plan loan payments, garnishments, and contributions to after-tax retirement plans.
Tax Withholding
The type of withholding you will see on your pay stub includes federal income tax, Social Security tax, Medicare tax, and state and local income tax.
Federal income tax withholding is determined by several factors including your income for the pay period, your year-to-date income, as well as your Form W4 Withholding Certificate selection.
Social Security tax, as well as Medicare tax, are straightforward tax calculations. Social Security tax is 6.2% of the first $147,000 in earned income for 2022. Medicare tax is 1.45% of all income earned, plus an additional 0.9% for earnings above $200,000 for single filers and $250,000 for married filing joint filers.
The state and local tax withholding vary greatly depending on where you live. Arizona law requires employers to withhold state income tax. An employee will complete a Form A-4 Employee’s Arizona Withholding Election to determine the amount of state withholding.
Understanding your pay stub is an important way to ensure you are receiving your hard-earned money, and you are paying the right amount of taxes. A best practice at the end of the year is to review your last pay stub with your Form W-2 to ensure all numbers reported on the W-2 match the last pay stub. It is also a good idea to reevaluate your federal and state tax withholdings annually to ensure you are having the proper amount withheld. Your goal should be to break even or have a small federal and state tax refund after filing your taxes.
Now that you understand the various aspects of your paycheck, does it all add up?
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Katie Helle has been in public accounting since 2009, with experience in individual and small business taxation, specializing in payroll and sales tax reporting and compliance and QuickBooks accounting software. She is an Arizona native and resides in Chandler, Arizona with her husband, young daughter, and two goldendoodles. Outside the office, she is actively involved with community outreach, enjoys fitness, and can be found with a power tool or two in her hand for her many crafts.