Demystifying Payroll Deductions: What Gets Taken and Why

Far removed from the employee engagement engine HR has become known for, payroll and payroll deductions are just as important. Getting your most important asset paid isn’t as simple as cutting a check. Rather, it’s a complex and layered landscape of payroll deductions and overlapping jurisdictions, requirements, and personal elections. Here’s what to know. 

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An Overview of Payroll Deductions

Let’s start with the basics. Payroll deductions are the collective funds subtracted from an employee’s gross pay. What an employee receives after payroll deductions is their net pay, also known as take-home pay. Put another way:

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Deductions are a mix of voluntary and mandatory withdrawals that have different tax implications. For businesses operating in the US, deductions include federal and state income taxes, Federal Insurance Contributions Act (FICA) taxes (Social Security tax and Medicare tax), insurance premiums, retirement contributions, and more.

Deductions are governed by a patchwork of federal, state, and local regulations and informed by specific employee choices, like health insurance plan selections and the variables disclosed or selected on an employee’s Form W-4 (filing status, number of dependents, etc.).

Types of Payroll Deductions

Deductions can fall into several different categories. There are post-tax and pre-tax deductions, and there are mandatory and voluntary deductions, and some may exist in more than one category. For example, retirement contributions are voluntary but can either be pre-tax (like for a traditional 401(k)) or post-tax (like for a Payroll Deduction IRA).

Mandatory Deductions

These deductions are required by law. Some employee elections may influence the amount of money being withheld, but employees cannot opt out of them.

Payroll Taxes

Payroll taxes are paid by both the employer and the employee and are calculated based on employee wages. Social Security and Medicare (FICA) tax contributions are considered payroll taxes, as are unemployment taxes. Employers report payroll taxes to the IRS via Form 941.

While unemployment is a payroll tax, it is not considered a payroll deduction because unemployment taxes are paid by the employer, except in Alaska, New Jersey, and Pennsylvania, where employees are partially responsible. In every other US state, unemployment is not deducted from employee wages. Unemployment taxes are governed by the Federal Unemployment Tax Act (FUTA) and the State Unemployment Tax Act (SUTA).

Federal Income Taxes

US income tax is based on a progressive structure whereby tax increases alongside income. The salary bands that correspond to a specific tax rate are known as tax brackets, but tax bracket is only one of many factors affecting the federal income withholding. Other factors include filing status, number of dependents, other sources of income, and any additional requested withholding. 

Employers are also responsible for depositing withheld taxes according to Internal Revenue Service (IRS) schedules, which is known as remittance. Remittance schedules, whether monthly or semiweekly, are determined by the employment taxes you reported on Forms 941 or 944.

State Income Tax

An individual’s state income tax liability varies enormously based on where they live and where they work. As of 2025, eight states — including Alaska, Texas, and Washington — have no state income tax at all, while others — like California, Hawaii, and New York — have income tax rates above 10%.

It’s not just income tax rates and brackets that differ from state to state. Each state also has its own filing requirements, withholding forms (like a federal W-4, but for the state), and payment schedules.

Local Income Taxes

Some cities, towns, or counties may also levy taxes against personal or business income. 

Garnishments 

Another type of mandatory deduction is wage garnishment, a court-ordered requirement for employers to deduct wages from an employee’s paycheck. Garnishments are used to pay a debt or obligation, like child support payments, alimony, defaulted student loan debt, or unpaid taxes. They can come in various forms, like bank account garnishment or property or asset garnishment, but wage garnishments are the only relevant category for payroll deductions.

Federal law dictates that an employer cannot fire an employee if pay is garnished for only one debt. While some state laws protect against termination for more than one debt, federal law does not. Many states also allow employers to charge a processing fee for some types of wage garnishment. Find a complete chart of state-specific garnishment rules here.

Voluntary Payroll Deductions

Voluntary deductions are those that an employee opts to have withheld from their pay. These may be pre- or post-tax deductions, meaning they can be deducted from gross or net pay, respectively.

Health Insurance Premiums

How much an employee pays for their employer-sponsored health insurance plan depends on their marriage status, number of dependents, and the plan they select, among other factors. The employer and employee share the total cost of premiums. Once the employer has paid their portion, the remaining amount is deducted from the employee’s paycheck, usually on a pre-tax basis. Some employees elect to have them deducted after taxes are withheld in the hopes of generating a larger tax return.

Retirement Plan Contributions

When it comes to retirement savings, the best advice is that of any investment strategy: Time in the market beats trying to time the market. Employer-sponsored savings plans are especially attractive as they usually include some degree of employer contributions, or match. 

401(k)s are the most common retirement option offered by employers as part of their overall benefits package as they are tax-advantaged for both parties. Employees are able to contribute pre-tax wages, while employers can deduct the contributions they make on an employee’s behalf from their overall tax liability. 

Payroll deductions for 401(k)s depend on the employee’s election, but individual contributions cannot exceed $23,500 for 2025. In 2025, the limit for combined contributions — from employer and employee — is $70,000 or the employee’s salary, whichever is less.

Companies can also establish a Payroll Deduction IRA, which deposits wages directly into a traditional or Roth IRA, even though these are not retirement vehicles sponsored by the company. 

Other Payroll Deductions 

Payroll deductions don’t end there. Other common deductions include union dues, Health Savings Accounts (HSAs), and Flexible Spending Accounts (FSAs). 

Some employers may also offer to deduct employee-sponsored benefits, like gym memberships, or charitable contributions. 

Employers: Here’s What You’re Responsible For 

Employers are responsible for accurately calculating the various payroll deductions, withholding the right amount from employee paychecks, and remitting the proper amounts to the correct jurisdictions. In today’s distributed work environment, this can get complicated fast. 

“[There’s] so much local nuance nowadays with taxes and the way our workforces operate. Say, you used to be in a New York City zip code, then you moved across to Jersey. That's a totally different tax scenario,” said Kelly Dearborn, lead consultant and CEO of People Operations Process Improvers, a consulting firm for small- to mid-sized startups.

[Payroll] systems are doing your calcs and sending your tax...The risk of getting it wrong is too costly to tackle it on your own.

When it comes to taxes, employers are required to submit taxes on behalf of the employee at regular intervals. These schedules are determined by how much the employer is withholding. Special rules are triggered in certain circumstances, like the $100,000 next-day deposit rule, which stipulates that “if you accumulate taxes of $100,000 or more on any day during a deposit period, you must deposit the taxes by the next business day.”

Dearborn said she recommends investing in a payroll system if for no reason other than for tax calculations and remittance. “In addition to being your system of record, those systems are doing your calcs and sending your tax. For example, [they’re] logging into the New York state system and saying: ‘Here are the quarterly wages and what was withheld,’” she explained. “It’s too complicated. It’s too much bureaucracy. And the risk of getting it wrong is too costly to tackle it on your own.”

How to Calculate Payroll Deductions

An employee’s pay before any taxes or deductions are withdrawn is known as their gross pay. The remaining amount is their net pay. 

To calculate deductions, follow these steps. 

1. Obtain a Form W-4 from employees. 
2. Calculate gross pay. 
3. Adjust gross pay for pre-tax deductions, like tax-deferred retirement contributions. 
4. Calculate federal income tax withholding amount. 
5. Determine FICA taxes and withhold. 
6. Withhold state income tax. 
7. Withhold other deductions, like for healthcare premiums. 

If you’re not using payroll software, consider using a payroll calculator to avoid having to do the math by hand. SmartAsset and Bankrate are two popular options. 

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Challenges of Managing Payroll Deductions

The cost of getting payroll deductions right is high. Miss something and you could be on the hook for non-compliance fines and IRS audits and see a huge hit to employee trust and satisfaction. Compensation is the contract made between employees and employers, and getting it wrong by miscalculating payroll deductions torpedoes the trust required for this contract to work. 

Correctly managing payroll deductions comes with a number of challenges. 

• Geographic variables: Most companies are spread out across multiple jurisdictions, requiring the correct tax calculations, withholding, and remittance across various states. 
• Proper compliance: Ensuring all the applicable remittance laws and contribution limits plus maintaining correct records for the proper amount of time in each jurisdiction is a lofty task. 
• Tracking changes: The government laws and regulations related to payroll deductions change regularly. Without a full-time payroll specialist or payroll software that applies new rules automatically, it’s easy to miss updates.

Compliance Best Practices for Employers

We’ve already established that employers are responsible for calculating, withholding, and remitting taxes, and correctly deducting voluntary withdrawals. Responsibilities don’t end there. It’s also up to the employer to maintain the correct records and stay up-to-date with changes in tax laws or regulations. 

To ensure they meet these responsibilities, employers should:

• Maintain meticulously detailed records for compliance and audits.
• Regularly review deductions to ensure accuracy.
• Opt for payroll software like Lattice Payroll for automation, accuracy, and efficiency.

How Lattice Payroll Simplifies Payroll Deductions

Lattice is on a mission to simplify life for HR, which is why we launched Lattice Payroll. We’re making it easy to ensure employees get paid correctly and on time.

Lattice Payroll:

• Automates deduction calculations and updates
• Ensures compliance with tax laws and benefit requirements
• Provides transparency for employees with detailed pay stub breakdowns
• Reduces errors and administrative workload for payroll teams

As part of our fully integrated platform, Lattice Payroll works seamlessly with our HRIS and Talent Suite, helping HR leaders ensure compensation aligns with performance for a pay-for-performance culture, from strategy to execution. 

Experience it for yourself. Schedule a demo of Lattice Payroll today. 

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