What Is Form 940?
IRS Form 940, officially titled "Employer's Annual Federal Unemployment (FUTA) Tax Return," is the annual form employers use to report and pay federal unemployment tax. Unlike most employment taxes that are shared between employer and employee, FUTA is exclusively an employer-paid tax — employees do not contribute to federal unemployment insurance and no amount is withheld from employee wages for this purpose. The tax funds the federal portion of the unemployment insurance system, which provides temporary income to workers who lose their jobs through no fault of their own. The federal government uses FUTA revenue to fund state workforce agencies, pay the federal share of extended unemployment benefits during periods of high unemployment, and maintain the loan fund from which states borrow when their unemployment trust funds are depleted.
The FUTA tax applies to the first $7,000 of wages paid to each employee during the calendar year — this threshold is known as the FUTA wage base and has remained unchanged since 1983. The gross FUTA tax rate is 6.0%, but employers in states that comply with federal unemployment insurance requirements receive a credit of up to 5.4%, reducing the effective rate to just 0.6%. At the full credit rate, the maximum FUTA tax per employee is $42 annually ($7,000 x 0.6%). However, employers in states that have outstanding federal unemployment loans face credit reductions that increase their effective FUTA rate, sometimes substantially. These credit reduction states are announced each November by the Department of Labor, and the additional tax obligation is calculated on Schedule A of Form 940.
Understanding Form 940 is particularly important for employers who operate in multiple states, because the state unemployment tax credit calculation varies by state and the credit reduction rules can create significantly different effective FUTA rates depending on where employees are located. Employers must also navigate the quarterly deposit rules: if the cumulative FUTA liability exceeds $500 at the end of any quarter, the employer must deposit the tax electronically through EFTPS by the last day of the month following the quarter. Failure to make timely deposits triggers penalties ranging from 2% to 15% of the unpaid tax, depending on how late the deposit is made.
Employer-Only Tax
FUTA is paid entirely by the employer — nothing is withheld from employee wages.
$7,000 Wage Base
Tax applies only to the first $7,000 of each employee's annual wages.
Annual Filing
Filed annually by January 31 with quarterly deposit obligations throughout the year.
Form 940 Preview
Form 940
Employer's Annual Federal Unemployment (FUTA) Tax Return
Part 1: Tell us about your return
Employer name: EIN:
Part 2: Determine your FUTA tax before adjustments
Total payments to all employees: $ Payments exempt from FUTA: $
Part 3: Determine your adjustments
Credit reduction amount from Schedule A: $
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Key Components
Form 940 is divided into seven parts, each addressing a specific aspect of your annual FUTA tax calculation and payment reconciliation:
| Component | Purpose | Key Details |
|---|---|---|
| Part 1 - Return Type | Identifies filing characteristics | State where wages paid, multi-state indicator, successor employer status, final return designation |
| Part 2 - FUTA Tax Before Adjustments | Calculates gross FUTA liability | Total wages, exempt payments, wages over $7,000 threshold, taxable wages multiplied by 0.006 |
| Part 3 - Adjustments | Accounts for state tax credit variations | State credit reductions from Schedule A, late state tax payments reducing available credit |
| Part 4 - Tax Due or Overpayment | Reconciles annual liability with deposits | Total FUTA after adjustments minus deposits made, balance due or overpayment election |
| Part 5 - Quarterly Liability | Reports liability by quarter | Q1-Q4 FUTA liability breakdown, total must match Part 4 total tax after adjustments |
| Schedule A | Multi-state and credit reduction reporting | State-by-state wage allocation, credit reduction state identification, additional tax calculation |
How to File Form 940
Gather Payroll Records
Compile total wages paid to all employees during the calendar year, broken down by quarter. Identify wages exempt from FUTA (fringe benefits, group life insurance, retirement contributions, dependent care) and wages exceeding the $7,000 per-employee threshold. If you operate in multiple states, organize wage data by state to complete Schedule A.
Verify State Unemployment Tax Compliance
Confirm that all state unemployment tax (SUTA) contributions were paid on time in every state where you have employees. Late SUTA payments reduce the available FUTA credit, increasing your federal tax liability. Check whether any of your states are designated as credit reduction states for the reporting year — this information is published by the Department of Labor each November.
Calculate FUTA Tax Before Adjustments
Complete Part 2 by entering total payments, subtracting exempt payments and wages over the $7,000 threshold for each employee, and multiplying the remaining taxable FUTA wages by 0.006 (the net rate after the standard 5.4% credit). This calculation assumes you qualify for the full state credit — adjustments for credit reductions are handled separately in Part 3.
Apply Credit Reduction Adjustments
If any of your employees work in credit reduction states, complete Schedule A to calculate the additional FUTA tax. List wages paid in each credit reduction state and apply the applicable reduction rate (0.3% for the first year, increasing by 0.3% annually). Transfer the total credit reduction amount to Part 3 of Form 940.
Reconcile Deposits and File
In Part 4, subtract your quarterly FUTA deposits from the total tax after adjustments. If you owe a balance, pay it when you file. If you overpaid, elect to apply the overpayment to next year's return or request a refund. Complete Part 5 with quarterly liability breakdowns, sign the return, and file by January 31. Electronic filing through IRS-approved software is available and recommended for employers with 10 or more employees.
State Credit Reduction
The FUTA credit reduction mechanism is one of the most consequential and frequently misunderstood aspects of Form 940 filing. When a state's unemployment trust fund is depleted and the state borrows from the Federal Unemployment Trust Fund to continue paying benefits, a clock starts running. If the state fails to repay the outstanding loan balance by November 10 of the second consecutive January 1 on which the loan is outstanding, the Department of Labor imposes an automatic credit reduction on employers in that state. The reduction starts at 0.3 percentage points and increases by 0.3 for each additional year the loan remains unpaid.
The practical impact of credit reductions is substantial. An employer in a state with a 1.2% credit reduction pays an effective FUTA rate of 1.8% instead of the standard 0.6% — tripling the per-employee cost from $42 to $126. During the aftermath of the 2008-2009 recession, several large states including California, New York, and Ohio carried credit reductions for multiple years, costing employers in those states hundreds of millions of dollars in additional federal unemployment tax. Employers planning workforce expansion or relocation should consider credit reduction status as a factor in their location analysis, since the additional per-employee cost can be significant for labor-intensive operations.
Credit Reduction Timing
Credit reduction states are announced each November, but the additional tax applies retroactively to all wages paid during the entire calendar year. This means employers cannot know their final FUTA liability until the November announcement, even though they have been making quarterly deposits throughout the year based on the standard 0.6% rate. The difference must be reconciled on Form 940 and any additional tax paid with the annual return.
Frequently Asked Questions
Official Resources
Authoritative IRS and Department of Labor resources for Form 940 and federal unemployment tax compliance.
IRS - About Form 940
Official IRS page for Form 940 including current form, instructions, and recent revisions to the employer's annual FUTA tax return.
IRS Publication 15 (Circular E)
Employer's Tax Guide covering FUTA tax rates, deposit schedules, wage base thresholds, and reporting obligations for all employment taxes.
DOL - Unemployment Insurance Budget
Department of Labor data on federal unemployment trust fund balances, state borrowing, and credit reduction determinations.
EFTPS - Electronic Federal Tax Payment System
Federal tax deposit system used for making quarterly FUTA deposits and other employment tax payments.
DOL - Unemployment Insurance Overview
Department of Labor resources on the federal-state unemployment insurance system, employer obligations, and benefit administration.
IRS - Depositing Employment Taxes
IRS guidance on deposit schedules, penalties for late deposits, and electronic filing requirements for employment tax returns.
File Your Form 940
Calculate your annual FUTA tax obligation with our guided Form 940 preparation covering wage base calculations, state credit reductions, and quarterly deposit reconciliation.
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