It’s the holiday season, and for fortunate employees, that means a holiday or end-of-year bonus! However, many employees are not sure how much they will actually take home and are disappointed when their bonus appears in their bank account – usually in a much lower amount that originally anticipated. We have put this quick guide together to help workers everywhere better prepare for receiving a bonus.
What is a bonus?
A bonus is considered supplemental income - separate from your regular salary or hourly rate, but still considered income. Vacation pay and moving expenses are other examples of supplemental income, and although they are sometimes classified as fringe benefits, they rest under both definitions.
How are bonuses taxed?
Bonuses can be taxed in two ways:
- Percentage Method. The percentage method taxes a bonus at a flat rate, normally 25%. If the bonus is in excess of $1 million, it is taxed at a rate of 39.6%. This means that if your bonus is $10,000, and you are taxed using the percentage method, $2,500 goes to the IRS. This method is easy to calculate for both employee and employer because the bonus is taxed at a flat rate. To compute your take home pay based on the Percentage Method, use this calculator.
- Aggregate Method. Using the Aggregate Method, your withholdings are calculated by adding your most recent paycheck and bonus together. Then, withholding amounts are computed by using the information you filled out on your W-4 form. To compute your take home pay based on the Aggregate Method, use this calculator.
Other bonus-related things you should know:
Now that you understand how the IRS taxes a bonus, it’s important to understand a few other aspects of bonus payments:
- The above information addresses Federal Tax only, each state, and in some cases, localities, can also withhold based on their tax regulations
- Social Security and Medicare taxes are also withheld from bonuses
Use the PaycheckCity Aggregate and Flat Rate Calculators to accurately determine your take-home pay this holiday season!
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Check out our update article on bonuses here!