In the last article we went over how to do the calculations for your federal payroll deductions both for the employee and the employer. In this article we’ll go over the deductions for the State of California and how to calculate them.
Table of Contents
What You’ll Need
You’ll need to grab a copy of the California Employer’s Guide (DE 44) publication so take a minute to grab that now. They publish a new one every year as they make changes so make sure you’re using the current one for the tax year you’re calculating.
The other item you need is a DE 4, which is the CA equivalent of the Federal W4. Prior to 2020 you could use your W4 to calculate your taxes, but since the W4 got simplified (and CA doesn’t like to simplify things) the DE 4 is now mandatory. It’s far more complicated than the W4 of course but we’ll go over it in the income tax section below.
What are the California Payroll Taxes?
Like the federal payroll taxes, California has a couple for the employee and a couple for the employer.
- Personal Income Tax (PIT)
- State Disability Insurance (SDI)
- Unemployment Insurance (UI)
- Employment Training Tax (ETT)
I’m tempted to tackle these out of order since the PIT tax calculations in CA are extremely complex, but I think for the flow of this article we should just buckle up and get through it. You’re probably going to want to give up after that, but stay with me for the other 3 taxes as well. I guarantee they’re easier.
Personal Income Tax Calculations
The first thing you’re going to need for your PIT is the DE 4 I mentioned. Here’s one below in case you haven’t seen one:
It looks pretty simple doesn’t it? The top part is easy, then in 1-4 you just jot down a few numbers, sign it and you’re done. You’ve done your federal W4 so how hard can it be? Wait… what are these Worksheets A-C?
This worksheet isn’t actually all that difficult. If you remember what the Federal W4 used to be like prior to 2020 it’s pretty similar. Basically you’re entering a number for each of the 5 questions and adding the total in line F.
I’m married with 3 kids under my roof so my answers in the image above are: 1, 1, 0, 0, 3, 5. I would then take the “5” from line F and enter that on line 1a of my DE 4.
This worksheet gets a little more complicated and is only needed if you itemize deductions on your 540 personal tax returns. Essentially the greater your deductions the more it lowers you PIT withholding in the form of an allowance on line 1b of the DE 4. I would recommend that if you don’t need it just skip this section lest you get a headache.
Just looking at this worksheet makes me groan. I could go through it line by line but I don’t think it’s necessary given that the instructions are pretty clear. I will tell you that it’s best if you have your previous year 540 and if you don’t this will be more difficult. Line 7 has one of those “if this do that otherwise go to line X” type instructions I find oh so enjoyable. Essentially line 8 goes on your DE 4 line 1b.
Worksheet C is another long questionnaire with lots of math to get at an additional withholding number you can use on line 2 of the DE 4. This is the opposite of Worksheet B where that one lowered your PIT. This worksheet strives to raise your PIT based on last years numbers so you don’t end up with a big tax bill at your next annual filing.
Again I’m not going to go line by line here because the instructions are pretty clear. I’m also not going to include the tables mentioned on line 8 either since they’ll just take up space – you can find them on the last page of the DE 4. Just know that Line 15 ends up on Line 2 of the DE 4.
My Recommendation on Worksheets B & C
Why did I show you Worksheets B & C if I’m not going to go through them? They are probably the most accurate way to figure out your deductions and extra withholdings and I would be doing you a disservice if I didn’t tell you that.
But I think there’s a much easier way: If you’re in your first year of business you probably don’t have any idea how much you’re going to make. Any deductions and extra withholding you write down will probably be wildly off. But that’s okay! In a worst case scenario you’ll have to pay some extra taxes and maybe a small penalty, and in a best case you’ll get a refund. Extra taxes and penalties on a small amount owed is fairly trivial and if you’re “close enough” there won’t be a penalty at all. You can always adjust your withholdings during the year and probably should if your salary is growing.
If you’re in your second year or later I think it’s much easier to look at your extra CA tax liability for the previous year (the extra portion you didn’t withhold), divide it by the number of pay periods and just write that number down on the DE 4, line 1c.
In other words if you’re withholding for the previous year fell short by $1,200 (for nice round numbers), then you’re going to want to withhold an additional $1,200 this year, or $50/paycheck for 24 pay periods. Not so tough is it? If you do it that way just enter your $50.00 on line 2 of the DE 4.
Doing the Calculations
Let’s say I’ve finished my DE 4 and lines 1-2 look like this:
|1a. Regular Allowances||5|
|1b. Estimated Allowances||0|
|1c. Total Allowances||5|
|2. Additional Withheld||50.00|
How do we calculate the CA income tax from that? If we refer to the CA Employer’s Guide we can see there are 2 main ways to calculate the income tax: one based on table lookups and one based on exact calculations. The table lookup method only works if you have a salary under $1 million, which even includes Bill Gates so it probably includes you too. However, I prefer to use the exact calculation method for all payroll anyway so that’s what we’re going to do here. There are fewer tables to peruse and we’re dreaming big right?
There are 5 steps in the exact calculation method:
Step 1 – Low Income Exemptions
You’ll need to refer to Table 1 in the DE 44 for Low Income Exemptions for this part. I’ve copied the table here with the relevant dollar amount highlighted:
In this table you scan down the left side until you get to your pay period, semi-monthly in our example, and then scan to the right until you reach the correct column that shows your marital status and allowances, married with “2” or more in our example. The number in that cell, $1,438, is the number you compare against the wages for this paycheck, $5,000 in our example.
If that number, $1,438, is higher than our gross paycheck, $5,000, then we can stop our calculations and we owe no CA PIT for this check. Unfortunately, that’s not the case for us so we need to move on to step 2.
Step 2 – Estimated Deductions
Are you declaring any estimated deductions on line 1b? If so you would look up your dollar amount on the Estimated Deduction Table and subtract that from your gross wages before moving to the next step. For example, if we’re declaring 5 estimated deductions our payroll period is twice a month our per paycheck deduction amount is $208 as per the table.
$5,000 – $208 = $4,792. We would proceed to the next step using $4,792 as our wage amount instead of $5,000. Since we aren’t declaring any estimated deductions we’ll proceed to the next step using $5,000.
Step 3 – Standard Deduction
The standard deduction works just like the estimated deduction in that your table lookup gives you a value that is subtracted from your wages, arriving at your taxable income. Unlike the estimated deduction everyone gets this by referencing the standard deduction table.
Following our example our pay period is twice a month and I’ve declared married with 5 allowances (line 1c of the DE 4). From the table below that gives us $434 off our wages of $5,000 to equal $4,566 as our taxable income.
Step 4 – Tax Rate
In these next two steps we have to look at table 5 and then table 4. I don’t know why the State has them backwards, but here goes.
To get your preliminary PIT, reference the many tables under the heading of Table 5 – Tax Rate Table. There are 24 different tables broken up by pay period and marital status/head of household. Find the one that’s right for you and cross reference your wage number, $4,566 in our case, to get the tax.
The columns in this table are confusing and I don’t like the way CA did it, but I’ll see if I can clarify it any better. The first 2 columns are the minimum and maximum you use to find which row your wages fall into. The 3rd column is the tax rate and the 4th column is a base wage amount that turns out to be identical to column 1. The last column is the minimum tax.
Our $4,566 falls between $4,372 and $5,524 so I’ve highlighted that row. Our tax rate is then 8.8% of everything over the base wages of $4,372 plus the minimum tax of $166.08. The calculation would look like this:
PIT = rate * (wages - base wages) + minimum tax PIT = 8.8% * (4566 - 4372) + 166.08 = 183.152
Our current PIT result is $183.15. That number will get passed on to the next two steps.
Step 5 – Exemption Allowances
The exemption allowance is another table lookup where the result comes right off your PIT. Here’s the table with our line highlighted again:
I know – Step 4 uses Table 5 and Step 5 uses Table 4. Just go with it.
For this table we use the allowances from line 1a of the DE 4 which is the regular allowances without the estimated deductions. For our example that’s 5 which gives us a number of $32.08 which comes right off our PIT:
PIT = 183.15 - 32.08 = 151.07
Step 6 – Wait… Step 6?
If you’re following along in the DE 44 the PIT calculations end at Step 5, but the documentation fails to mention Line 2 of your DE 4 which is where you can define an additional amount you want withheld from every paycheck to go towards PIT. While your employer isn’t required to honor this request I’m writing this for you who are doing your own payroll, so I’m going to assume you want to honor it.
In our sample above remember my DE 4 Line 2 shows $50.00. That means I’ve requested that an additional $50.00 be withheld from every paycheck for CA PIT:
PIT = 151.07 + 50.00 = 201.07
Our final PIT number for CA is therefore $201.07.
That was a nightmare. Are you starting to see why people hire a payroll company? If you only have to do one or two employees it’s not too bad, but the time required for each just isn’t scalable. And that’s just PIT! Let’s move on to the other 3 taxes.
State Disability Insurance (SDI)
This program allows an employee to take time off work due to disability or family leave like the birth of a child and offers part of your income when you are unable to work. This tax is funded through employee payroll deductions and can change from year to year depending on how much is in the Disability Fund. For 2023 the tax rate is 0.9% of the first $153,164 of wages. For our $5,000 example in wages the calculation looks like this:
SDI = 5000 * 0.009 = 45.00.
Like PIT, this $45.00 SDI would be withheld from the employees pay.
For most employees this is mandatory, but since I’m writing for solopreneurs I’ll let you in on a little secret – if your company is incorporated and you are the sole shareholder you can actually opt out of SDI and this tax. If you’re interested in doing this the form you need to fill out is the DE 459 and you can find it on the EDD’s website (http://edd.ca.gov) or even better file electronically on EDD’s online portal at http://eddservices.edd.ca.gov.
If you do the math this insurance is actually pretty cheap and probably worth it unless you’re already insured elsewhere, but you can opt out if you want to.
Unemployment Insurance (UI)
Unemployment insurance is the first of two state taxes that are paid by the employer. The odd thing about UI is that it can be different for each company and is adjusted annually based on the number of claims against your company and other factors. The starting rate is typically 3.4% for the first 2-3 years and is calculated only on the first $7,000 in wages per employee, so you’ll need to keep track of all employees’ wages individually.
For our $5,000 paycheck example it would then be:
UI = 5000 * 0.034 = 170.00
This $170.00 would NOT be withheld from the employee’s paycheck – it would come straight out of your company’s bank account as a tax against your company directly.
Employment Training Tax (ETT)
This tax provides funds to train employees to improve the competitiveness of California businesses and is the second of two employer paid state taxes. The rate is set at 0.1% of the first $7,000 in wages per employee like the UI tax.
For our $5,000 paycheck it would be:
ETT = 5000 * 0.001 = 5.00
This $5.00 is taxed against the company directly like the UI tax and is NOT withheld from the employee’s wages.
Your UI and ETT rates are combined on the Notice of Contribution Rates and Statement of UI Reserve Account (DE 2088) that is mailed to you every December. You can also get a copy by logging in to e-Services for Business.
Did We Just Finish?
We did – sort of. We’ve completed all the calculations needed for our paycheck and if you’ve been following along with my series and have done the Federal section I outlined here, then our paycheck numbers look like this:
When you add in the employer specific taxes your actual payout on a $5,000 paycheck is:
- Net Pay to Employee: $4,166.39
- Taxes withheld from paycheck: $833.61
- Employer Medicare: $72.50
- Employer Social Security: $310.00
- Employer FUTA: $130.00
- Employer UI: $170.00
- Employer ETT: $5.00
When you add those up your first $5,000 paycheck actually costs the business $5,687.50. In my next article I’ll show you what you need to do with those employer withholdings to comply with the state and federal tax code so you can avoid penalties.
As you can see payroll taxes is an arduous and complicated process. There are a few good online payroll companies that can help you through this process at a monthly fee and it may be worth it for you to look into one of those. Personally I’m a nerd who enjoys doing it myself so I wrote my own software to do it. I’ve had a few of my colleagues ask if they could use my software and it’s never been in a state where it could handle more than one company due to the tracking requirements – until now.
I’m in the process of preparing my payroll application for the public and if you’d like to get in on that I’ll be offering it for free to the early adopters. Just sign up for my mailing list and I’ll send you the information when it’s available as well as notifications of future articles. Looking forward to seeing you in there!