The delight you feel when your employer hands you a bonus check might fade a bit when you realize how much of your bonus is headed for government coffers. In some instances, the Internal Revenue Service takes a larger percentage of bonus pay than it does your regular wages. The IRS has guidelines in place for employers to follow when determining the withholding on what it calls supplemental wages.
Any wages you receive beyond your regular wages are supplemental wages, according to the IRS. These wages include overtime pay, severance pay, back pay and nondeductible moving expenses. Monetary wages are not the only consideration. If you receive non-cash prizes or awards from your employer, the IRS considers them taxable as supplemental wages.
If you receive a separate bonus check, your employer can choose to withhold a flat 25 percent if your supplemental wages will total less than $1 million for the year. The IRS does not allow any other percentage. If your employer expects that your supplementary wages will total more than $1 million, they must withhold 35 percent of your bonus pay or use the highest tax bracket you fall into for the year to calculate your withholding.
This method taxes your bonus, plus your most current wages using the IRS tax tables. If your employer combines your bonus with your regular paycheck and does not distinguish between the amounts, the withholding comes out of the check's total. If you receive two separate checks or one check with designations for regular pay and bonus, the total tax is withheld from your regular wage amount. Withholding does not come from your bonus amount, unless your regular wages are less than your taxes.
Paying the Least Amount
While it might seem that you will pay less if your employer uses the aggregate method and computes the tax based on your W-4 information, that is not always the case. For example, if you are married and file jointly with your spouse, claim two allowances on your W-4 and make $52,000 per year paid in weekly installments, the federal taxes on a $5,000 bonus will be $1,348 using the aggregate method. If your employer used the flat-tax method, your federal taxes would be $1,250.
Your employer must also withhold state, local, Medicare and Social Security taxes from your bonus. Currently, the Social Security tax is 4.2 percent of your wages and Medicare withholding is 1.45 percent. However, Social Security withholding stops after you make $110,100. Your employer should be able to tell you what the state and local tax rates are if you do not know.
- Bonus money sack. image by Dariusz Kopestynski from Fotolia.com