At one of my first jobs, I got an annual bonus.
I don't remember the numbers.
What I do remember, however, is how surprised I was to see how much less I received than the number I was told at my end-of-year review. Thanks, taxes.
I know I'm not the only one mystified by the case of the missing bonus, so I reached out to Certified Public Accountant Lisa Greene-Lewis of TurboTax to ask: Is my bonus taxed higher than my regular pay?
$0 for Free Edition (~37% of filers qualify. Form 1040 and no schedules except for Earned Income Tax Credit, Child Tax Credit and Student Loan Interest), $39 to $69 for Deluxe, $89 to $129 for Premium
Pros
Cons
TurboTax is among the most expensive options for filing taxes online, but offers a high-quality user interface and access to experts. It's especially valuable for self-employed filers who use QuickBooks integration.
TurboTax Tax Software- Tell TurboTax about your life and it will guide you step by step. Jumpstart your taxes with last year’s info.
- Snap a photo of your W-2 or 1099-NEC and TurboTax will put your info in the right places.
- CompleteCheck™ scans your return so you can be confident it’s 100% accurate.
- You won’t pay for TurboTax until it’s time to file and you’re fully satisfied.
- TurboTax is committed to getting you your maximum refund, guaranteed.
Federal taxes on bonuses
Bonuses are taxed heavily because they're what's called "supplemental income." Although all of your earned dollars are equal at tax time, when bonuses are issued, they're considered supplemental income by the IRS and the process for withholding is different than for your regular wages.
For regular wages, your taxable income is annualized, the standard deduction according to your W4 is subtracted from that number, and then the year's worth of taxes is divided by the number of pay periods in the year. When you get a one-time bonus payment, your employer can't do that same math, so you see a bigger impact.
Employers take taxes from your check in one of two ways.
Percentage method
This is the method your employer will use if, like I did, you receive your bonus money in a check separate from your paycheck. Your company simply withholds tax at a flat 22% (if over $1 million, the highest rate of income tax for the year is used, currently at 37%), to keep things easy on their end.
This method also applies to other types of income that are considered supplemental, such as severance pay, commissions, over time, etc.
Aggregate method
This is the method your employer will use if your bonus is added to a regular paycheck. Your employer will withhold tax from your bonus plus your regular earnings according to what you shared with your employer on your W-4. Because you're receiving more money than usual, your employer will withhold more money than usual.
In fact, the IRS provides a handy calculator that figures out the tax withholding on your income, so you can brace yourself ahead of time. Greene-Lewis says that in some cases, depending on your income and tax rate, you might actually get some of this money back in the form of a tax refund.
State taxes on bonuses
Depending on where you live, your bonus may also be subject to state income tax. Nine states don't charge an income tax. Of those that do, 24 states use a supplemental income tax rate on bonuses rather than regular withholding.
Calculating your bonus tax
Find out whether your company uses the percentage method or the aggregate method.
Remember, the percentage method withholds 22% for taxes. If your taxable income for the year, including your bonus, is below $47,150 (the lower threshold for the 22% tax bracket), you may receive a refund for overpayment of taxes.
If the aggregate method is used, the tax you pay on your bonus will be combined with the tax you pay on the rest of your wages.
Factors affecting bonus taxation
Bonuses are considered income, just like regular wages. While your withholding may be at a higher tax rate, the income is taxed the same as your other ordinary income when you file a tax return each spring. That means the usual factors that affect how much you pay in taxes — your filing status, your tax deductions and credits, and your income level — apply to your bonus, too.
$0 for Free Edition (~37% of filers qualify. Form 1040 and no schedules except for Earned Income Tax Credit, Child Tax Credit and Student Loan Interest), $39 to $69 for Deluxe, $89 to $129 for Premium
Pros
Cons
TurboTax is among the most expensive options for filing taxes online, but offers a high-quality user interface and access to experts. It's especially valuable for self-employed filers who use QuickBooks integration.
TurboTax Tax Software- Tell TurboTax about your life and it will guide you step by step. Jumpstart your taxes with last year’s info.
- Snap a photo of your W-2 or 1099-NEC and TurboTax will put your info in the right places.
- CompleteCheck™ scans your return so you can be confident it’s 100% accurate.
- You won’t pay for TurboTax until it’s time to file and you’re fully satisfied.
- TurboTax is committed to getting you your maximum refund, guaranteed.
Tips for managing bonus taxes
If your bonus is only a few hundred bucks, there isn't much you can do about the taxes. If you'll receive a considerable amount of cash, though, you have a few options.
Take tax deductions
"Maybe you can increase your retirement savings," or, if you itemize, you can donate to your favorite charity and get a deduction, Greene-Lewis suggests.
"If you own a home," Greene-Lewis says, "you can maybe prepay your mortgage and get a bigger deduction, or prepay your property taxes," though that will be subject to the State and Local Tax (SALT) limitations.
While none of these options allow you to keep more money from your bonus, they do provide tax breaks that could offset the tax on your bonus.
Find out when you'll receive your bonus
While some people get their bonuses in January or February, others receive them around the holidays. "A lot of time employers like to pay holiday bonuses in December because they're able to write that off if their books close December 31," Greene-Lewis explains.
If that's the plan for you, and your bonus is big enough to push you into another tax bracket, you might want to anticipate how it will affect your financial planning and your taxes overall. This comes in handy if you expect your income to decrease in the new year, or if you expect your deductions to increase substantially enough to offset the taxes — for example, if you're planning to buy a house.
While you might think, logically, that employees could be better served tax-wise by gradual bonuses paid over a series of paychecks or by a simple raise that tacks on some extra money year-round, Greene-Lewis says that a company's ability to pay bonuses is determined between the time it finishes up its accounting for the year and when it officially closes its books.
In some cases, those bonuses have to be paid before that year is closed. Because a company doesn't know how much it can afford to pay until the last possible minute, employees end up getting lump sums.
FAQs on how bonuses are taxed
Are bonuses taxed differently than regular wages?
Yes, bonuses are taxed differently than regular wages. Your bonus may be taxed at a flat rate of 22% if your employer uses the flat rate withholding method. Or, they may use the aggregate method, which will add the bonus to your regular paycheck and withhold money for taxes at your usual rate.
Can I change my withholding for my bonus?
Yes, you can adjust your withholding for your bonus by filling out and submitting a new W-4 to your employer. But the new withholding amount will apply to all of your income and may lead to an underpayment of taxes.
What happens if I don't have enough taxes withheld from my bonus?
If you don't have enough taxes withheld from your bonus (the 22% flat rate percentage method isn't enough to cover your tax liability), you may owe at tax time.
