Payroll Deductions:

Why Your Paycheck Isn’t as Big as You Hoped

We’ve likely all been there. A starry-eyed teen, receiving our first paycheck after spending 2 weeks stocking shoes at Sport’s Authority. The exhilaration, the anticipation, the…disappointment. What’s worse, this feeling doesn’t ever really go away, it just gets bigger. Expectations often differ from reality and payroll deductions can serve as a cold bucket of water, bringing us quickly back to reality.

But what exactly is a payroll deduction and why are they so disappointing?

As Rachel quickly discovered, before the money is printed on your check (do people still get checks?), it must first run through a gauntlet of line items that chip away at it until you see it in its final, battle-scarred form. The first culprit is Uncle Sam in the form of federal income taxes.

Uncle Sam is that relative at Thanksgiving dinner who always demands the biggest slice of pie. And the more pie you earn, the more generous you get to be with the pie slices that he eats. In all seriousness, federal income taxes go toward paying for a lot of necessary things in our country, and some not so necessary.

Rachel’s friend FICA is next. It stands for Federal Insurance Contributions Act and is made up of 2 parts: social security tax and Medicare tax. The first is like a long-term forced savings that currently benefits other people, but that you may one day benefit from as well. This is where social security income comes from. It’s almost like a time-traveling tax. Money taken away from you now to potentially benefit the older, wiser version of yourself. The second part is the Medicare tax, which, you guessed it, funds Medicare. Like, social security, this is money you give up now for a benefit in the future. In this case, it’s like pre-paying for a senior citizen health club. Your future self will enjoy going to the doctor knowing that you funded your visit 20 years ago. Taken together, they add up to 7.65% of your pay. Your employer chips in another 7.65%, for a total of 15.3%. If you are brave enough to run your own business or do contracting work, you get the privilege of paying both parts of that 15.3% in the form of self-employment taxes. Nerd tip: good tax planning can help to offset some of that under the right circumstances.

(Optional) State Income tax. Unless you are lucky enough to live in one of the 8 states without a state income tax, you will see this line item on your paycheck as well. This one is like the cover charge for living in your state. In this one, you are likely helping to fund your local schools, roads, and other state services. Think of it like supporting your community, one paycheck at a time.

The next culprit is the only one that benefits you, and only you (or the people you love). That is a qualified plan deduction. The 401k deduction is the most common version of this, but it could also look like a 403b, a 457, or a SIMPLE IRA, to name a few. This is money you send to a tropical island called a Target Date Fund, where it waits for you to one day retire and join it. Side note: There are a lot of different investment options for these funds, but most often, people will default to the Target Date Fund that aligns with the year they plan on ending their working careers. These deductions mean less money in your paycheck now, so that you can make work optional in the future.

Health insurance is the last of the large culprits that cause us so much frustration every time we see that paystub. It’s like your ticket to the healthcare lottery. You will pay the premiums each month, whether you use the coverage or not, so that if you ever need a doctor for something serious, you don’t have to sell your house to pay for it (you may have to do that anyway, depending on circumstances). Plus, with your health insurance coverage, you get the added thrill of navigating co-pays, doctor’s networks, and deductibles.

The last items you may see can include a long list of miscellaneous deductions, ranging from legal services to long-term disability coverage to union dues. Some are optional, some are required, but they all contribute to the excitement of decoding your paystub.

So, the next time you are staring at your paycheck or online paystub with disappointment, remember that all of these items that reduce what you get to keep in your pocket serve a purpose. Some are there to fund your future, some to support your community, some to make sure you don’t have to sell a kidney to see your doctor.