Definition of Annual Wage Limit
Annual wage limit is a term in payroll accounting associated with the Social Security payroll tax. The annual wage limit is also known as the annual wage base, wage ceiling, taxable maximum, and maximum taxable earnings. The annual wage limit applies to only the Social Security payroll tax portion of the FICA payroll tax. (There is no annual wage limit for the Medicare payroll tax portion of FICA.)
The annual wage limit for the Social Security tax is adjusted each year. In 2020, the annual wage limit is $137,700. This means that in the year 2020, only the first $137,700 of an employee's (or self-employed's) gross wages, salaries, bonuses, etc. will be subject to the Social Security tax of 6.2%. In addition to the amounts withheld from its employees, the employer must match the amount of the Social Security taxes. (Self-employed individuals must pay both the employee and the employer portions of the payroll tax.)
Example of Annual Wage Limit
Assume that an employee has gross wages of $150,000 during the year 2020. Only $137,700 of the employee's wages are subject to the Social Security tax of 6.2%. As a result, the amount withheld from the employee's pay for the Social Security tax will be $8,537.40 ($137,700 X 0.062). In addition, the employer must match the amount withheld and must remit $17,074.80 ($8,537.40 + $8,537.40) to the U.S. Treasury.
No Annual Wage Limit for Medicare Tax
Unlike the Social Security tax, the Medicare tax does not have an annual wage limit. Therefore, every dollar of the employees' gross pay is subject to the Medicare tax of 1.45% and must be matched by the employer.