How is an end of year bonus taxed?
Bonuses are characterized as a special type of income called "Supplemental Wages," which are defined by the IRS as follows:
Supplemental wages are wage payments to an employee that aren't treated like regular wages for withholding purposes. They include, but aren't limited to, bonuses, commissions, overtime pay, payments for accumulated sick leave, severance pay, awards, prizes, back pay, retroactive pay increases, and payments for nondeductible moving expenses. Other payments subject to the supplemental wage rules include taxable fringe benefits and expense allowances paid under a nonaccountable plan. How you withhold on supplemental wages depends on whether the supplemental payment is identified as a separate payment from regular wages.
Withholding for supplemental wages is at a flat rate of 25% for any bonus that is below $1,000,000. However, withholding for bonuses taxed at the highest marginal rate, currently 39.6%, for any amount exceeding $1,000,000 is at that same rate, 39.6%.
It's important to note that although the withholding rate is different for bonuses, the tax imposed on bonuses is the same as regular wages — they are ordinary income.
This brief overview of some important considerations associated with the federal taxation is by no means comprehensive. Always seek the advice of a competent professional when making important financial and legal decisions.
Steve Cook is a business attorney at Cook & Cook. Although his main office is located in Mesa, Arizona, he represents clients throughout the Phoenix, Arizona Metropolitan area including the following east valley cities: Scottsdale, Paradise Valley, Tempe, Chandler, & Gilbert.
