Employers likely to see unemployment tax rate increases in 2021

Jun 11, 2020
State & local tax

Unemployment benefits are primarily financed through the quarterly assessment of taxes on employer’s taxable wages. An employer is initially assigned a new employer rate when it begins operations in a state. This new employer rate will apply to the employer until it qualifies for a merit rate as determine by the state’s unemployment statutes. The merit rate will vary each year based upon the amount of benefits charges assessed against to the employer’s unemployment account during a specific period as defined by the state’s unemployment statutes. Thus, the more benefit charges assessed against the employer’s account, the higher the unemployment tax rate.

According to U.S. Department of Labor data, more than 40 million people have filed for unemployment benefits since mid-March. The amount of state unemployment benefits to be paid out for the second quarter of 2020 is expected to be significant. Fortunately, the majority of states have elected not to charge employers directly for COVID-19 related claims. Although these benefits from COVID-19 claims will not be charged to specific employers, they will likely severely deplete the states’ unemployment trust fund balances. Faced with this prospect, state legislatures are likely to introduce legislation to address balance shortfalls. Some states may elect to enact additional solvency rates, increase minimum and maximum rates, raise taxable wage bases, or opt for any combination of these initiatives.

State trust fund balances play a significant role in determining unemployment rate assignments. As state unemployment trust funds are depleted, favorable rate schedules are replaced with less favorable schedules thus resulting in an escalation of tax rates. Should state funds become insolvent, state governors may be forced to borrow monies under Title XII of the Social Security Act to meet its benefit payment obligations. An employer who is in a state that required a Title XII advance in calendar year 2020 will likely see a Federal Unemployment Tax Act (FUTA) credit reduction in the year 2022 (assuming that loan balance is still outstanding as of Nov. 10, 2022). Employers in these states will be subject to a 0.30% increase in their FUTA tax rate, for all of 2022, increasing the rate from 0.60% to 0.90%. FUTA tax rates can increase further, in increments of 0.30% per year, should loans remain outstanding in subsequent years.

Most COVID-19 related staff reductions occurred in the second quarter of 2020 causing a significant spike in initial unemployment claim filings. These staff reductions are likely to result in reductions in taxable wages used in the calculation of state unemployment insurance (SUI) tax rates. Lower taxable wages also influence the amount of taxes collected, further reducing trust fund balances. Employers in states that utilize a benefit ratio method of calculating benefits, who are realizing decreases in taxable payroll, are also apt to experience a greater adverse impact on future rate assignments. The breadth of that impact depends largely on the state, its taxable wage base, and the computation date used for calculating rates.

Employers should take all of these consideration into account when budgeting for future unemployment tax burdens. RSM is available to assist in forecasting rates for employers interested in budgeting future UI Tax rates and taxes

RSM contributors

  • Tim Ellenwood
    Senior Director