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From the Experts at Credit.com

How to Read Your Paycheck: Understanding Your Pay Stub

by Lucy Lazarony

Understanding Your Pay Stub

Twice a month, you receive a pay stub chock-full of important financial and tax information. If you don’t know how to interpret the data on your paycheck, you might be accidentally losing money.

Here are our expert tips for reading your pay stub:

A pay stub lists your taxable earnings, the total amount of money that you earned that pay period, and your net pay, the amount of money that you get to take home with you. Your net pay matches the dollar amount listed on the paycheck that you’re so eager to cash.

What accounts for the difference between your taxable earnings and net pay? A whole lot of withholdings.

Every paycheck includes a withholding for federal taxes, state taxes, Social Security, and Medicare. It’s the American way!

Federal income taxes

The federal government gets a piece of your income, each and every paycheck.

The amount of money withheld for federal taxes depends on the amount of money that you earn and the information that you gave your employer when you filled out a W-4 form or Employee’s Withholding Allowance Certificate.

On a W-4 form, you may make allowances for yourself, your spouse, and your dependents. For 2008, each allowance that you take reduces the amount withheld from your paycheck for federal taxes by $3,500.

For every allowance that you take, less money gets withheld for federal taxes and more money gets added to your paycheck. Take fewer allowances and a bigger chunk of your income will be withheld for your federal taxes.

State taxes

Depending on where you live, you may or may not be required to pay a state income tax. As with federal taxes, money for state taxes is withheld with every paycheck.

Social Security

The federal government requires every working American to contribute a portion of their paycheck to Social Security, a system of supplemental retirement programs established in 1935. Every worker contributes 6.2 percent of their gross income directly into the Social Security fund, and every employer chips in an additional 6.2 percent for each employee. The Social Security fund provides benefits to current Social Security recipients.

Medicare

The federal government requires every working American to contribute to Medicare, a U.S. government insurance plan that provides hospital, medical, and surgical benefits for Americans age 65 and older and for people with certain disabilities. Every worker contributes 1.45 percent of their gross income to Medicare and every employer chips in an additional 1.45 percent on behalf of each employee.

These federal and state withholdings account for much of the difference between your gross income and net income (or take-home pay). But there may be other deductions as well, depending on the programs that you sign up for with your employer.

Insurance

If you signed up for medical, dental, or life insurance through your employer, your contributions to these plans will be deducted from your pay.

Retirement savings plans

Contributions to retirement savings plans such as a 401(k) plan will also be deducted from your pay. When you sign up for a 401(k) plan, you select a percentage of your pre-tax salary that you’d like to contribute to the retirement account. If you choose 5 percent, than 5 percent of your pre-tax pay will be contributed to your retirement account.

Flexible spending accounts

A flexible spending plan allows you to set aside pre-tax dollars for medical expenses including health insurance copayments and deductibles and prescription drugs. Contributions to a flexible spending account are deducted from your pre-tax income.

Health savings accounts

A health savings account is another way to put pre-tax dollars aside in a special account for medical expenses. To be eligible for a health savings account, you’ll need to select a high-deductible health insurance plan. Contributions to a health savings account are deducted from your pre-tax income.

Each pay stub includes year-to-date fields for each withholding so you can track how much money you’ve paid for taxes and Social Security and Medicare throughout the year. Many employees include a similar listing for contributions to retirement savings plans and health plans.

It’s important to stay on top of this information. Any errors are your responsibility to find and to report to your company’s human resources department. The last you thing you want is for an error to be repeated through several pay periods. If you have questions about any of the information listed on your pay stub, be sure to contact a human resources contact at your company.

A pay stub also lists gross and net income to-date. So you’re able to track just how much money you’re making (your gross pay) and how much money you’re actually taking home after taxes and other deductions (your net pay) throughout the year. You can use this information to build a spending plan, work on reducing your debts or start saving for the future.

The information on your last pay stub of the year should match the information on your W-2 form, which details your wages and taxes paid for the year. Be sure to check.

Some pay stubs include your Social Security number along with your name and address, so it’s important to find a safe place to keep them for your records. A locked drawer or filing cabinet works best.



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