SDI Tax: What It Means for Employers

What it means in practice

What SDI tax is. "SDI" stands for state disability insurance. The programs behind it are usually called temporary disability insurance. The Department of Labor describes TDI as a program designed to complement unemployment insurance by replacing part of the wages of people who cannot work because of an illness or injury that did not occur in connection with work. SDI tax is the payroll contribution that pays for it, separate from workers' compensation, which covers work injuries, and from state unemployment tax, which funds unemployment benefits.

There is no federal SDI. The DOL states that federal law does not provide for a federal-state TDI system, although the Social Security Act and FUTA allow a state to pay TDI benefits from its unemployment fund, capped at the amount employees paid into that fund. Each program is created by state law, which decides which disabilities and workers are covered, who pays, whether employers may use private coverage, and how benefits are figured.

Which jurisdictions have it. The DOL lists six: California, Hawaii, New Jersey, New York, Puerto Rico and Rhode Island. Rhode Island passed the first TDI law in 1942, followed by California (1946), New Jersey (1948), New York (1949), Puerto Rico (1968) and Hawaii (1969). Some other states run paid family and medical leave programs, which are separate from TDI.

How the programs are funded. According to the DOL, all six jurisdictions require employees to contribute, but only four also require employer contributions; California and Rhode Island do not. Rhode Island pays all benefits from a pooled state fund. California, New Jersey and Puerto Rico let an employer substitute an approved private plan for the state fund. Hawaii and New York work like employer-liability laws: the employer must buy insurance or self-insure, and employees may contribute toward the cost.

Where states differ: New Jersey (example). The NJ Department of Labor says employers must participate in the state programs and deduct payroll taxes for employees working in New Jersey, or provide coverage through a private plan that meets state requirements; the federal government is exempt and TDI is optional for local governments. For 2026, workers pay 0.19% for TDI and 0.23% for Family Leave Insurance (FLI), both on the first $171,100 of covered wages, and employers pay a TDI rate of 0.10% to 0.75% on the first $44,800 per employee. FLI has no employer contribution. The department's rate table lists a new-employer TDI rate of 0.5%. For 2027 it lists worker rates of 0.24% for TDI and 0.24% for FLI on the first $177,100, with a $46,400 employer TDI base. Benefits are 85% of the claimant's average weekly wage, up to $1,119 a week in 2026. Under an approved private plan, neither the employer nor the workers contribute to the state TDI fund, and the worker's cost cannot exceed what the State Plan would charge.

Where states differ: New York (example). The Workers' Compensation Board says New York requires employers to provide disability benefits coverage for off-the-job injury or illness, bought from an authorized carrier or the State Insurance Fund, or through Board-approved self-insurance. Paid Family Leave coverage is typically a rider on the same policy. An employer may, but need not, collect employee contributions; the disability contribution is one-half of one percent of wages, no more than 60 cents a week. The DOL notes the employer pays the balance of the cost. Benefits are 50% of the average weekly wage for the last eight weeks worked, currently capped at $170 a week, for up to 26 weeks in any 52 consecutive weeks. An employee with two jobs paying more than $120 a week combined may ask each employer to prorate contributions so they total no more than 60 cents a week.

Where states differ: Hawaii (example). Hawaii's Disability Compensation Division says employers must provide TDI through an insured plan, an approved self-insured plan, or a collective bargaining agreement with sick leave at least as favorable. The employer may pay the whole cost or share it equally with eligible employees, but the employee's share cannot exceed 0.5% of weekly wages. For 2026, the maximum weekly wage base is $1,500.21, so the maximum weekly deduction is $7.50, and an employer may not deduct premium cost from an employee who does not meet the eligibility requirements. Statutory benefits are 58% of average weekly wages, up to $871 a week in 2026, from the eighth day of disability for up to 26 weeks.

Rhode Island and Puerto Rico. Rhode Island law (R.I. Gen. Laws 28-40-1) funds TDI through employee contributions on wages up to a taxable wage base recalculated every September 30, at a fund cost rate the state sets by November 15 for the next year. Check the Rhode Island Department of Labor and Training for the current rate and base. Puerto Rico's Act 139 of 1968 (section 8) sets employer and worker contributions of up to one-half of one percent each on the first $9,000 of a worker's yearly wages, bars deducting the employer share from wages, and authorizes the Secretary of Labor to reduce contributions; check the Puerto Rico Department of Labor for current rates.

California, briefly. California EDD lists the 2026 SDI withholding rate as 1.3% and says that since January 1, 2024, all wages are subject to SDI, with no wage limit or maximum withholding. The rate for 2027 is 1.4%. For California coverage, Paid Family Leave and filing details, see CASDI.

How SDI interacts with paid family leave. Several TDI states also pay family leave benefits, with different funding. New Jersey finances FLI entirely through worker payroll deductions. New York funds Paid Family Leave through employee deductions at 0.432% of gross wages for 2026, up to $411.91 per employer; the Board says an employee cannot collect disability and Paid Family Leave benefits at the same time, and the two combined cannot exceed 26 weeks in any 52-week period. Rhode Island built temporary caregiver insurance into its state TDI program (R.I. Gen. Laws 28-41-34). New Jersey also says an employer that keeps its Earned Sick Leave separate from its PTO policy may require employees to use PTO before TDI benefits, but may not require them to use earned sick leave.

Federal tax treatment of contributions. Employee SDI withholding comes out of taxed pay. Revenue Ruling 2025-4 summarizes earlier IRS rulings for California, New Jersey, New York and Rhode Island: mandatory amounts withheld from an employee's wages are treated as the employee's payment of state income tax, deductible under section 164(a)(3), and mandatory employer contributions are state excise taxes the employer deducts as a business expense. The Schedule A instructions list mandatory contributions to the California, New Jersey or New York Nonoccupational Disability Benefit Fund and the Rhode Island Temporary Disability Benefit Fund, along with mandatory contributions to state family leave programs, as state income taxes. An employee can use that deduction only if they itemize, and it is subject to the overall state and local tax deduction limit.

Federal tax treatment of benefits. IRS Publication 525 says sick pay from a state sickness or disability fund is included in income. Revenue Ruling 2025-4 explains that, under earlier rulings for New York and Hawaii, benefits are taxable to the extent they come from employer contributions and excluded to the extent they come from the employee's own contributions. It also notes that payments under a state temporary disability insurance law are treated as remuneration for FICA purposes to the extent they are includible in income. New Jersey says only a portion of TDI benefits is federally taxable, the taxable part is third-party sick pay, Social Security and Medicare are withheld from state plan benefits, and New Jersey does not tax the benefits itself. Publication 15-A says FICA and FUTA do not apply to sick pay attributable to after-tax employee contributions.

Form W-2 reporting. SDI withholding has no dedicated W-2 box. The 2026 W-2 instructions split box 14 into 14a (Other) and 14b (tipped occupation codes) and list "state disability insurance taxes withheld" as an item an employer may show in box 14a, labeled. Because the IRS treats it as state income tax paid out of wages, it does not reduce box 1 wages. Box 12, code J, is for nontaxable third-party sick pay, and the instructions say not to include nontaxable disability payments made directly by a state. New Jersey tells employers that it does not issue W-2s to TDI recipients, that year-end statements are available to employers each January, and that the employer must report the taxable portion on the employee's Form W-2; the IRS instructions have an employer reporting sick pay paid by a third party check the "Third-party sick pay" box in box 13.

Paid family and medical leave rulings. Revenue Ruling 2025-4 (January 2025) applies similar rules to state paid family and medical leave programs: required employee contributions are included in wages and reported on Form W-2; family leave benefits are taxable income but not wages; and medical leave benefits from employer contributions are third-party sick pay. Notice 2026-6 extends the transition relief for medical leave benefits paid in 2026, so states and employers need not apply third-party sick pay withholding and reporting to the employer-funded portion that year. It does not extend relief for an employer's voluntary "pick-up" of the employee contribution, which the notice expects employers to treat as wages for 2026.

Step by step for an employer. (1) Check whether each employee works in a TDI jurisdiction. (2) Confirm how coverage is provided: the state fund, an approved private plan, or (in New York and Hawaii) an insurance policy or self-insurance. (3) Apply the current year's employee rate and wage base, and the employer rate where one applies. (4) Withhold from taxed wages, since SDI is not a pre-tax deduction. (5) Remit and report through the state's required returns. (6) At year end, show SDI withheld in box 14a if you choose to, and report any taxable third-party sick pay. (7) Reset wage bases each January 1.

Example 1 (illustration): New Jersey. An employee earns $180,000 in 2026 at an employer on the 0.5% new-employer TDI rate. The employee pays TDI of $171,100 x 0.19% = $325.09 and FLI of $171,100 x 0.23% = $393.53, a total of $718.62, with nothing withheld on wages above $171,100. The employer's TDI contribution is $44,800 x 0.5% = $224.00.

Example 2 (illustration): New York. An employee earns $1,000 a week in 2026 and the employer collects the maximum allowed. One-half of one percent would be $5.00, but the disability contribution is capped at $0.60 a week. The Paid Family Leave deduction is $1,000 x 0.432% = $4.32 a week.

Example 3 (illustration): Hawaii. An employee earns $2,000 a week in 2026. Since wages above the $1,500.21 weekly base are not counted, the most the employer may withhold is $7.50, and only if half of the premium cost is at least that much. At $1,000 a week, the cap is $5.00.

Question: Do I withhold SDI for a remote employee? It depends on each state's coverage rules. New Jersey says employees who work a significant amount of time outside the state are generally not covered.

Question: Can an employee opt out? Generally no. New York's Disability Benefits Law voids any agreement to waive benefits, but an employee receiving Social Security retirement benefits may file Form DB-130 to be exempt.

This entry summarizes official sources and does not decide coverage or tax treatment for any particular employee or payment.

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