Employers pay most unemployment insurance taxes, not workers

In most states, employers pay the full cost of unemployment insurance through payroll taxes. Workers do not have unemployment tax withheld from their paychecks the way they do for Social Security or income tax. The employer's tax rate depends on the state, the industry, and how many former employees have filed claims against that business.

A handful of states — Alaska, New Jersey, Pennsylvania, and Rhode Island — require workers to contribute a small amount as well. Even in those states, the employer still pays the larger share. The worker contribution is typically less than 1 percent of wages and appears as a line item on the pay stub.

The federal government also collects a small unemployment tax from employers to fund the administration of state programs and to cover extended benefits during recessions. This federal tax is separate from the state tax and is the same rate for all employers nationwide.

Key Takeaways

  • Employers in all states pay state unemployment insurance tax; workers in most states pay nothing toward unemployment.
  • Four states — Alaska, New Jersey, Pennsylvania, and Rhode Island — deduct a small worker contribution from paychecks, usually under 1 percent of wages.
  • An employer's tax rate varies by state and by how many claims have been filed against that business, ranging from less than 1 percent to over 5 percent of payroll.
  • The federal unemployment tax is paid by employers only and funds program administration and extended benefits during economic downturns.

How employer tax rates are set and what they cover

Each state sets its own unemployment tax rate structure. Most states use an experience rating system, which means an employer's rate goes up if workers laid off from that company file claims, and down if the company has few claims. A new business typically starts at a standard rate, often around 2 to 3 percent of payroll, and the rate adjusts based on claims history over the next few years.

The tax applies only to wages up to a certain annual limit, called the taxable wage base. In 2024, this limit ranges from about $7,000 to $42,000 per employee per year, depending on the state. Once an employee's wages exceed that limit in a calendar year, the employer stops paying unemployment tax on additional earnings for that worker.

The money collected goes into a state unemployment trust fund, which pays out benefits to workers who lose their jobs through no fault of their own. When a state's fund runs low during a recession, the federal government can loan money to the state, and the state may temporarily raise employer tax rates to repay the loan.

Why some states charge workers a small amount

Alaska, New Jersey, Pennsylvania, and Rhode Island each require workers to pay a portion of unemployment insurance costs. These worker contributions are typically between 0.5 and 1 percent of gross wages, though the exact rate varies by state and sometimes by employer or industry within that state.

These four states adopted worker contributions at different times and for different reasons — some to reduce the burden on employers, others to shore up depleted trust funds. The worker contribution does not reduce the employer's tax; both pay into the same fund. In these states, you will see the deduction listed separately on your pay stub under a label like "SUI" (State Unemployment Insurance) or "Unemployment."

Federal unemployment tax and what it funds

Employers also pay the Federal Unemployment Tax Act (FUTA) tax, which is 6 percent of the first $7,000 in wages per employee per year. However, employers receive a credit of up to 5.4 percent if they pay their state unemployment tax on time, which means the effective federal rate is usually 0.6 percent.

FUTA revenue funds the administrative costs of state unemployment programs — the staff who process claims, investigate fraud, and maintain the computer systems. It also funds the federal Extended Unemployment Compensation program, which provides additional weeks of benefits during periods of high unemployment, and the Unemployment Insurance Modernization Fund, which helps states update their systems.

Workers never see FUTA deducted from their paychecks. It is a direct employer expense and does not appear on pay stubs.

How tax rates change based on claims history

In states using experience rating, an employer's unemployment tax rate is recalculated annually, usually in the fall. The calculation looks at how many workers from that company filed claims in the past year or years (the lookback period varies by state, typically one to five years) and compares that to the employer's total payroll.

If many workers file claims, the employer's rate rises. If few or no workers file claims, the rate falls. This creates an incentive for employers to avoid layoffs and to contest fraudulent claims. Some employers also contest legitimate claims if they believe the worker was fired for misconduct rather than laid off, because a successful contest keeps the claim from counting against their rate.

New employers and nonprofits often pay a standard rate set by the state until they have enough claims history to move into the experience-rating system. Some states also cap how high an employer's rate can go, even with many claims.

Self-employed workers and unemployment tax

Self-employed people do not pay unemployment insurance tax and are not covered by unemployment insurance. This applies whether you are a sole proprietor, a partner in a partnership, or an owner of an S-corporation or LLC. If you become unemployed, you cannot file for unemployment benefits based on self-employment income.

The only exception is if you were also employed as a W-2 employee at some point during the past year or two (depending on your state's lookback period). In that case, you can file for benefits based on the W-2 wages, not the self-employment income.

Some self-employed workers purchase voluntary unemployment insurance through their state if the state offers it, but this is rare and not available in all states. Most self-employed people manage unemployment risk through savings or business interruption insurance instead.

What happens to unemployment tax money during recessions

During economic downturns, claims spike and state unemployment trust funds can be depleted faster than tax revenue comes in. When a state's fund runs low, the federal government can loan money to the state through the FUTA system. The state then must repay the loan, usually by raising employer tax rates temporarily or extending the taxable wage base.

If a state does not repay a federal loan within a certain timeframe, the federal FUTA credit available to employers in that state is reduced, which effectively raises the federal unemployment tax rate. This happened to several states after the 2008 recession and again after the COVID-19 pandemic, when unemployment claims were historically high.

During the pandemic, the federal government also provided temporary funding to states to cover the cost of expanded benefits, so states did not have to raise employer taxes as sharply as they otherwise would have.

Frequently Asked Questions

Do I pay unemployment tax if I work as a contractor or gig worker?

No. Contractors and gig workers are classified as self-employed and do not pay unemployment insurance tax. You are also not covered by unemployment insurance and cannot file for benefits based on that income. If you were also a W-2 employee elsewhere during the same period, you can file based on those W-2 wages only.

Can an employer deduct unemployment tax from my paycheck?

In most states, no — unemployment tax is the employer's responsibility and does not appear on your pay stub. In Alaska, New Jersey, Pennsylvania, and Rhode Island, workers do contribute a small amount (usually under 1 percent), and this will be deducted and labeled as unemployment or SUI on your pay stub.

What if my employer does not pay unemployment tax?

If an employer fails to pay unemployment taxes, the state labor department can investigate and assess penalties. This does not affect your right to file for benefits — if you lose your job, you can still file, and the state will pursue the employer for back taxes and penalties separately.

Does unemployment tax go up if I file a claim?

Not directly. Your individual claim affects your employer's experience rating, which may raise their tax rate in the next year if they have multiple claims. However, if you file a legitimate claim, that is the correct use of the system, and employers are expected to account for normal turnover and layoffs in their tax planning.

Are nonprofits required to pay unemployment tax?

Most nonprofits must pay unemployment tax like any other employer. Some states allow nonprofits to opt into a reimbursement system instead, where the nonprofit reimburses the state directly for claims filed by its former workers, rather than paying ongoing payroll tax. The nonprofit must choose this option when it registers with the state.