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by Bruce Brumberg
February 04, 2021
by Bruce Brumberg
February 04, 2021
The start of the year can be hectic, but don’t forget basic tax planning for 2021. At the start of each year, key numbers in many tax-law provisions are adjusted for inflation. Many of the adjustments are important for employees, their paychecks, and their basic tax planning for 2021. While the IRS and Social Security Administration announce these figures every fall, now is really when you need to pay attention to them.
Many tax-code sections are adjusted, and it can be hard to spot those that matter to you. Some are of interest only to super-wealthy executives and other individuals, such as the federal exemption for estate tax (in 2021, $11.7 million for single taxpayers and $23.4 million for married joint filers). Others are chiefly matters for corporate benefit-plan administrators. For example, the income definition of “highly compensated employee,” which affects eligibility for employee stock purchase plans (ESPPs) and 401(k) plan nondiscrimination testing, is $130,000 in 2021.
Below are the top three sets of tax figures that all employees should know. They relate to compensation from work: paycheck withholding, the potential need for estimated taxes, and your retirement savings.
Social Security tax (6.2%) applies to wages up to a maximum amount per year set annually by the Social Security Administration. Income above that threshold is not subject to Social Security tax (by contrast, Medicare tax is uncapped, with a rate of either 1.45% or 2.35%, depending on your income level).
In 2021, the Social Security wage cap is $142,800, up slightly from $137,700 in 2020. This means the maximum possible Social Security withholding in 2021 is $8,853.60. Once your income is over that amount, you’ll see 6.2% more in your paycheck!
The table below can help you understand how an additional amount of compensation would be taxed at your marginal tax rate (i.e. the percent of tax you pay for an additional dollar of income in your current tax bracket). This number tells you whether the taxes withheld according to your information on the revised Form W-4 will cover the total tax you will owe for 2021. To avoid “penalizing” additional income in your mind, be sure you know your effective or average tax rate.
Need to pay estimated taxes?
Additional compensation received, such as a cash bonus or income from a non-qualified stock option exercise or vesting of restricted stock units, is considered supplemental wage income. For federal income tax withholding, most companies do not use your W-4 rate. Instead, they apply the IRS flat rate of 22% for supplemental income (the rate is 37% for yearly supplemental income in excess of $1 million).
As shown by the table above, once you know your marginal tax-bracket rate, you may find the withholding rate of 22% may not cover all of the taxes that you will owe on supplemental wage income. In that case, you must either put extra money aside for the 2021 tax return you will file in 2022, pay estimated taxes during 2021, or adjust your W-4 for your salary withholding as soon as possible to cover the shortfall.
In 2021, you can elect to defer up to $19,500 from your paychecks into qualified retirement plans, such as your 401(k). The total ceiling for deferrals to defined contribution retirement plans, including any extra part contributed by your employer, rose to $58,000 in 2021, a $1,000 increase over last year’s amount. Both of these limits are $6,500 higher if you are 50 or older.
The amount of compensation income that can be considered in the calculation for qualified deferrals rose to $290,000 in 2021. Check with your company’s 401(k) plan administrator for the process of making changes in your compensation deferral election.