No matter what method is used to withhold taxes from your bonus at payout, don’t panic. In short, if you dislike the eye-popping bonuses top executives receive, you can take comfort in knowing how large a bite the IRS takes! If you receive a bonus of more than $1 million, your employer must withhold 39.6% of the amount above $1 million, as well as the standard 25% of the amount below $1 million. What about high-end corporate bonuses, like those exceeding $1 million or more? These are singled out for higher taxes. The result: a higher overall tax obligation initially for the same amount of income.Īlso, if your bonus puts you in a higher tax bracket this year, and you expect to make less next year, see if your employer can defer your bonus to lower your tax bill this year. The problem with this approach is that instead of taxes being withheld at a flat 25%, and having that 25% rate applies only to the bonus amount, taxes are withheld at what is almost certainly a higher rate on the combined amount of your normal pay and the bonus. Then, they determine the normal withholding amount based on IRS withholding tables for the sum of both amounts, subtract what was already withheld from your last paycheck, and withhold the rest from the bonus amount. The Aggregate Method: Unlike the much simpler percentage method, the aggregate method is used when your employer pays your bonus (say, $5,000) with your most recent regular paycheck. The aggregate method (described below), in addition to being more time-consuming and laborious for employers, can take a bigger tax bite out of your bonus payments. Employers frequently choose the percentage method because it’s easier to tax the entire bonus at a uniform rate. In most cases, this is ideal from your standpoint as the bonus receiver and taxpayer, too. Using this approach, the amount of your bonus, whatever it is, is “singled out” from the rest of your income and taxed directly. If you receive a $5,000 bonus, under this rule, $1,250 (25% of $5,000) goes straight to the IRS. The Percentage Method: The IRS specifies a flat “supplemental rate” of 25%, meaning that any supplemental wages (including bonuses) should be taxed in that amount. Which method gets applied to your bonus? Let’s find out. There are two ways of withholding taxes from your bonus: the percentage method and the aggregate method. “The IRS defines supplemental wages as compensation paid in addition to the employee’s regular wages that includes, but is not limited to, severance or dismissal pay, vacation pay, back pay, bonuses, moving expenses, overtime, taxable fringe benefits, and commissions.”Īs such, bonuses (like other supplemental wages) are treated differently than ordinary wage or salary income when it comes to taxes withheld at payout. In the eyes of the IRS, bonuses are typically categorized as “ supplemental wages.” As a University of Minnesota summary explains: The IRS goes to great lengths to categorize different types of income and treat them differently, and bonuses are another example of this. Are bonuses considered “supplemental wages?” However, bonuses can also quickly change one’s tax return and the amount of taxes initially withheld depending on the payout.Īre bonuses treated as regular income or singled out for special tax treatment? Are some types of bonuses more favorable than others? And are there any ways to minimize the tax impact of getting a bonus? These questions are explored below. Bonuses are an excellent way to motivate employees and reward top performers.
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