On the Record

Strengthening Unemployment Insurance – Promising Solutions to Systemic Problems: “Fixing the Payroll Tax and Improving State Unemployment Insurance Reserves”

Gary Burtless

Gary Burtless addressed the National Academy of Social Insurance at the National Press Club on January 27, 2011 at their conference Meeting Today’s Challenges in Social Security, Health Reform, and Unemployment Insurance.

I want to talk about an unusual feature of the U.S. financing system for
unemployment benefits … a uniquely bad feature: The extreme regressivity of the
unemployment insurance (UI) payroll tax. Most of you know that employers must
pay a statutory UI tax for each of their employees. They pay this tax on each
worker’s wages below an annual ceiling called the “taxable wage base”. Many of
you probably know, too, that the federal minimum wage is currently $7.25 / hour.
A simple calculation shows that a minimum-wage worker who works full time –
2,000 hours a year – earns $14,500 a year.

What you may not know is the relationship between the taxable wage base in unemployment insurance and the annual earnings of a minimum-wage worker. The earnings subject to taxes for unemployment insurance are usually below the annual earnings of a minimum-wage worker! How many states have a “taxable wage base” lower than minimum-wage earnings? If we count the District of Columbia as a state, the correct answer is: 33. In other words, in two-thirds of the states, employers pay exactly the same UI tax for a minimum-wage worker as they do for their Chief Executive Officer.

[See slide 2 in PDF] This chart shows states’ “taxable wage bases” in relation to the annual earnings of a minimum-wage worker. In three states, employers pay the maximum UI tax for minimum-wage workers who are on half time schedules. Employers in those states pay the maximum UI tax for a minimum-wage worker who is employed just 20 hours a week. In another 19 states, employers pay the maximum UI tax for minimum-wage workers who work between 20 and 30 hours a week, all of whom would be classified as part-time workers.

Interestingly, in some these states if the part-time minimum-wage workers have the misfortune to get laid off, they will not even qualify for UI benefits. (At least they would not qualify if they honestly told a UI in-take worker they’re looking for a part-time job.) These unlucky souls would not qualify for UI benefits, even though their previous employer paid the maximum UI tax on their wages. Note also that if a minimum-wage worker holds two part-time jobs with two different employers, each employer pays the maximum UI tax in his or her behalf. Thus, a minimum-wage worker holding down two part-time jobs may pay twice the UI tax paid on a CEO’s wages.

Let’s think about what this means for workers in a couple of states. [See slide 3 in PDF] Start with California, where the UI wage base is just $7,000. According to DOL, the minimum statutory UI tax in California is 1.5%; the maximum is 6.2%. This chart shows the tax employers pay on workers with three wage levels – ½ the minimum wage; exactly the minimum wage; and 4 times the minimum wage. The red bars show the UI tax liability of an employer facing the minimum statutory UI tax rate; the blue bars show the tax of a company facing the maximum rate. As it happens, the Californian minimum wage last year was $0.75 / hour higher than the federal minimum. But that makes no difference. Using either the federal minimum wage or the California minimum wage, employers paid exactly the same UI payroll tax for someone who earned one-half the minimum wage, exactly the minimum wage, or four times the minimum wage. For an employer facing the lowest statutory rate, that tax was $105 / year; for a company facing the maximum rate, the annual tax was $434, regardless of the worker’s wage.

California is one of the states with the lowest wage base. What about a state nearer the middle, like Massachusetts? [See slide 4 in PDF] The Massachusetts wage base is $14,000. The state has a minimum statutory tax rate of 1.26% and a maximum UI tax rate of 12.27%. In Massachusetts, an employer pays a higher UI tax for full-time minimum-wage workers than for half-time minimum-wage workers. Notice, however, that the tax is not twice as high, even though under my assumption the higher-paid worker earns twice as much. That’s because in Massachusetts and many other states, employers are liable to pay the maximum UI tax for minimum-wage workers who work just 35 hours a week. The employer pays the same UI tax for a 35-hour-a-week minimum-wage worker as it pays for workers earning the median wage … or earning 10 times the median wage, for that matter.

The state with the highest UI wage base is Washington state. Its wage base last year was $37,300. [See slide 5 in PDF] That’s a little more than twice the annual earnings of a minimum-wage worker in Washington who is employed on a full-time schedule. (Washington’s minimum wage is $8.67 / hour.) As you can see on the right side of this chart, employers pay higher UI taxes for workers earning four times the minimum wage compared with workers who only earn the minimum wage. Still, the UI tax rate is effectively higher as a percentage of earnings for workers earning the minimum wage compared with workers earning four times the minimum wage.

Some of you may think a tax that is the same for a minimum-wage worker as it is for a highly paid CEO is a regressive tax. I agree. More than a decade ago Patricia Anderson and Bruce Meyer wrote a paper estimating the regressivity of the UI tax. Let’s assume for a minute that the full burden of the UI payroll tax is effectively paid by workers, even though technically the check is signed and mailed by their employers. The idea that workers “bear the burden” of the UI tax conforms with the way most economists see the payroll tax. They think workers essentially pay the tax, because their employers would pay them higher gross wages if the UI tax did not exist.