The Complete Employer's Guide to Payroll Tax Deductions

For the 2025 fiscal year, the US Government collected over $5.2 trillion in tax revenue. As employers or HR professionals, you’ll need to play your part by deducting a portion of your employees’ wages for a range of taxes, as well as insurance, benefits, and more. So, it’s important you understand how payroll tax deductions work.

In this guide, we’ll give you the 411 on 401(k)s, federal income tax, and all the other payroll deductions you need to know. Let’s dive in.

Key takeaways

• Payroll deductions are wages subtracted from gross pay for mandatory items like taxes and voluntary items like health benefits.
• Employers must legally withhold mandatory federal, state, and FICA taxes, as well as any applicable court-ordered payments or garnishments.
• Payroll deductions reduce take-home pay, while tax deductions are reported later to lower taxable income.

What are payroll deductions?

Payroll deductions are wages deducted from an employee’s paycheck to pay taxes, benefits, or garnishments. There are both mandatory deductions, such as taxes and court-ordered payments, and voluntary payroll deductions, like retirement, health insurance, and union dues. You’ll also need to distinguish pre-tax and post-tax deductions, and withdraw them accordingly.

Types of payroll deductions

Federal income tax

Federal income tax is applicable to salaries, cash gifts from employers, tips, gambling income, bonuses, and unemployment benefits. This tax is deducted from all US workers’ wages (unless you qualify for an exemption due to low income).

The amount of income tax deducted from an employee’s wages will vary depending on their income tax brackets. As of 2025, these are between 10% and 37%, with a host of variables to be aware of. The IRS breaks these down in full.

State and local income tax,

State and local income taxes depend on the state in which an employee receives their income—not the state in which the employer is headquartered. The following states do not have income tax payroll deductions as of 2025:

• Alaska
• Florida
• Nevada
• New Hampshire
• South Dakota
• Tennessee
• Texas
• Wyoming

Some states, including Arizona, Utah, Georgia, and Washington, have a flat income tax bracket. Others have a graduated rate. You can find a full list of these at the Tax Foundation.

State Unemployment Insurance

State unemployment insurance is a joint state-federal regulation and is available in every state in some form. However, employee contributions are only required in three states—Alaska, New Jersey, and Pennsylvania.

Court-ordered garnishments and payments to creditors

In some cases, a person’s earnings must be withheld by their employer. Importantly, employers may not terminate their employees for garnishment.

Garnishments and other court-ordered payments may include:

• Delinquent child support payments
• Unpaid federal or state taxes
• Defaulted student loans
• Alimony
• Various other monetary fines

Social Security and Medicare

These contributions are assessed as a percentage of an employee’s income. Social security tax is 6.2% of earnings and Medicare is 1.45%. This is matched by employers at the same rate.

Retirement savings plans

Another key deduction is retirement plans, such as 401(k) accounts. With a 401(k), employees contribute a certain percentage of their income to their retirement, which is matched by the employer.

Voluntary charitable donations

Some companies let employees donate to charities through monthly payroll deductions. Employees can often choose from a range of charities to donate to, and the amount they want to give each month. This will be deducted from their wages.

Which payroll deductions are mandatory?

Employers are required by law to withhold the following payroll deductions before issuing an employee’s paycheck:

• Court-ordered garnishments and payment to creditors
• Federal income tax (FIT)
• State and local income taxes
• Unemployment (where applicable—employers usually pay this)
• FICA, Social Security, and Medicare

Which payroll deductions are voluntary?

Voluntary employee payroll deductions are those that the employee has accepted in advance, usually during open enrollment.

These are considered employee benefits, and usually include:

• Retirement or 401(k) contributions, which are pre- or post-tax depending on the type
• Employee health, vision, or dental insurance
• Flexible Spending Accounts (FSA) and Health Savings Accounts (HSA), which have annual contribution limits
• Union dues

How do payroll deductions work?

Payroll deductions are normally processed each pay period. The amount deducted will vary based on the applicable tax laws, or any information provided by your employee in their Form W-4 Withholding Certificate, benefit selections, and state withholding certificates.

You can calculate payroll deductions manually, but most opt for service providers like Bamboo HR to do the heavy lifting and make the calculations and deductions automatically.

What additional deductions can be made from an employee’s paycheck?

An employer can legally dock an exempt employee’s wages as a disciplinary measure. However, the department of labor (DOL) specifically states that reducing pay should only be used for serious misconduct, such as safety violations.

What are tax deductions?

Tax deductions are claimed when individuals file their taxes. This separates them from payroll tax, which is taken from a paycheck.

What is considered tax deductible?

There is no quick and easy rule to determine what expenses are considered tax-deductible. The list can change from year to year, and some deductions phase out depending on the taxpayer’s income bracket.

What is an example of a tax deduction?

There are many ways an individual can use deductions to reduce their taxable income. Certain expenses incurred during the year can be tax-deductible.

Some common personal or employee deductions include:

• Home mortgage interest
• Property, state, and local income taxes
• Investment interest expense
• Medical expenses
• Charitable contributions
• Savings for education
• IRA contributions
• Childcare
• Work-related education expenses

Businesses also have expenses that are tax-deductible, for example:

• Salaries and wages
• Asset depreciation
• Professional services
• Freelance/independent contract labor
• Work opportunity tax credit
• Office supplies and expenses
• Client and employee entertainment
• Employee benefits
• Furniture and equipment
• Computer software
• Business location rent
• Utilities
• Business travel expenses
• Taxes
• Commissions
• Loan interest
• Equipment/machinery rental
• Employee education and childcare expenses
• Bank charges
• Insurance
• Disaster and theft losses
• Tools
• Education
• Advertising and marketing

Payroll deductions FAQs

You likely have more questions on payroll deductions—it’s a tricky subject! We’ve tried to answer any additional questions you may have here.

What is the difference between pre-tax deductions versus payroll deductions?

A pre-tax deduction is any money taken from an employee’s gross pay before payroll taxes are withheld from their paycheck. These deductions reduce the employee’s taxable income, meaning they'll owe less income tax. They may also owe less FICA tax as a result of increased deductions.

Pre-tax deductions might also lower employer-paid taxes, like Federal Unemployment Tax Act (FUTA), FICA, and state unemployment insurance (SUI).

How are tax deductions calculated?

Income tax deductions are calculated based on current tax regulations. All payroll deductions are based on gross pay—before taxes or withholdings. These typically include federal and state taxes, Social Security, Medicare, and optional benefits like health insurance.

Are payroll deductions the same as withholdings?

Payroll deductions include all amounts subtracted from an employee’s paycheck, such as taxes and benefits. Withholdings specifically refer to the taxes an employer must retain from employee earnings for federal, state, and local government.