Understanding the basics of pre-tax premium deduction- The complete guide

 The pre-tax premium deduction is the deduction applied to the gross income of an employee, thereby lowering their taxable income. When taxable income reduces, the amount employees owe to local, state and federal taxes lowers as well. One of the main goals of making certain pre-tax payments is to help employees plan ahead for various life events, such as retirement, medical expenses, etc. Usually, many of these benefits are employee and employer-sponsored. This means both parties contribute to whatever premium, account, or program the employee has. 

What are the different types of payroll deductions?

There are two types of payroll deductions:

1. Involuntary or mandatory deductions- This include taxes, wage garnishments and fines; and
2. Voluntary deductions- This includes the amounts that an employee has chosen to deduct from his or her gross pay that is often related to healthcare, childcare or retirement funds.

Pre-Tax Deduction List

The rules regarding pre-tax deductions may be changed by the federal government on an annual basis. Regulations and limits are also subject to change periodically. Therefore, ensure to check the updated information from the federal government regarding pre-tax deductions before making any changes to payroll. Below mentioned is a list of items that qualify for pre-tax deductions:

• Healthcare Insurance
• Health Savings Accounts
• Supplemental Insurance Coverage
• Short-Term Disability
• Long-Term Disability
• Dental Insurance
• Child Care Expenses
• Medical Expenses and Flexible Spending Accounts
• Life Insurance
• Commuter Benefits
• Retirement Funds
• Tax-Deferred Investments
• Vision Benefits
• Parking Permits

How do pre-tax deductions impact taxes?

As told earlier, pre-tax deductions reduce the taxable wages of the employees, thereby often enabling them to spend more money. 

So, which taxes are reduced by a pre-tax deduction? Pre-tax deductions reduce the federal, state, and local taxes of an employee, which include:

• Federal income tax 
• FICA tax (Social Security and Medicare taxes)
• State income tax (if applicable)
• Local income tax (if applicable)

Many people may not know this, but pre-tax payroll deductions also lower federal unemployment tax (FUTA tax), which is only paid by employers. Furthermore, these deductions can lower state unemployment tax, which is again paid by only employers (with some exceptions from the states). 

It may be noted that not all pre-tax deductions are completely free from tax, while some deductions can only be exempted from federal income tax, but not from FICA and FUTA taxes. 

Annual Rules and Limits Change

The rules, regulations, and allowable maximum limits to such taxes can change annually. Pre-tax deductions change each year. They are usually adjusted for inflation and costs of living by the federal government. This may affect how much taxable income is lowered from one year to the next. It is very challenging to process an individual’s taxes, especially without the correct information and the right experts who always monitor the ever-changing regulations. 

In order to stay compliant with all the changing rules and regulations, be sure to stay updated with the IRS policies. If you are using technology to manage your HR tasks, you can get alerts from some of those software products when an employee contributes pre-tax deductions over the maximum amount.

Bottom Line

If you’re looking for a reliable and trusted provider to help you manage the complexities of pretax premium deduction, look no further than Davidow Financial & Insurance Services, Inc. The company has over a decade of experience in providing world-class solutions to more than 15,000 organizations by keeping them informed and compliant with federal and state laws and regulations. To learn more, contact the team!