Payroll taxes levied on covered employers and their employees are the primary source of income to the Railroad Retirement Account.
The tax rate equivalent to that which would be paid under social security is commonly called the tier I tax. In 2015, the employee and employer tier I tax rate of 7.65 percent is divided into 6.20 percent for railroad retirement and 1.45 percent for Medicare hospital insurance.
Payroll taxes in excess of the tier I rate are called tier II taxes. In 2015, tier II taxes are 4.90 percent on employees and 13.10 percent on employers and employee representatives.
An additional 0.9 percent in Medicare hospital insurance taxes (2.35 percent in total) is withheld from employees on earnings above $200,000.
The Railroad Retirement and Survivors' Improvement Act of 2001 significantly revised the financing of the railroad retirement system through provisions for the investment of railroad retirement funds in nongovernmental assets, adjustments in the payroll tax rates paid by employers and employees, and the repeal of a supplemental annuity work-hour tax. Supplemental annuities continue to be payable and are funded by the National Railroad Retirement Investment Trust.
Tier II taxes on both employers and employees are based on an average account benefits ratio. Depending on the average account benefits ratio, the tier II tax rate for employers ranges between 8.20 percent and 22.10 percent, while the tier II tax rate for employees is between 0 percent and 4.90 percent.
The account benefits ratio is, with respect to any fiscal year, the amount determined by the RRB by dividing the fair market value of the assets in the Railroad Retirement Account and the National Railroad Retirement Investment Trust (and for years before 2002, the Social Security Equivalent Benefit Account) as of the close of such fiscal year by the total benefits and administrative expenses paid from the Railroad Retirement Account and the National Railroad Retirement Investment Trust during such fiscal year. If the ratio is not an exact multiple of 0.1, it is raised to the next highest multiple of 0.1.
Likewise, the term average account benefits ratio means, with respect to any calendar year, the average determined by the Secretary of the Treasury of the account benefits ratios for the 10 most recent fiscal years ending before such calendar year.
Tier I taxes are ultimately transferred to the social security and hospital insurance trust funds through the financial interchange. The tier II tax is used to finance tier II benefits, supplemental annuity benefits, and also the portion of tier I benefits not reimbursed through the financial interchange.
The taxable amounts of an employee's earnings are subject to tier I and tier II maximums, which are both indexed to annual increases in national wage levels. The tier I maximum is the same as the social security wage base. The tier II earnings limit is what the social security limit would be if the 1977 social security amendments had not been enacted.