A bonus is a payment you make over and above your salary that you are set to receive. Most bonus programs are created by companies that often reward managers, employees and executives based on the continuing success experienced by the company. Companies withhold taxes from such bonuses. Tax laws regarding bonuses change from state to state in the US. There are two primary options used in taxing bonuses and these include, the percentage method and the aggregate method.
The Percentage Method
This method creates a flat fee for taxing all bonuses earned as supplemental income. This type of income falls under a different income category than the normal salary earned. The IRS(Internal Revenue Service) has a flat withholding fee for such an income based on the total income. It often ranges between 25-28 percent of the bonus earned, this is what the employee will withhold as taxes in addition to the regular state-based withholding requirements.
The Aggregate Method
This method does not use a flat rate for the bonus earned.Instead it treats the bonus like a normal income. The employer in this case may add the bonus payment to the employee’s last check in order to be able to use the aggregate method. This is done by balancing tax withholding between the bonus paycheck and the latest salary paycheck. Some employers will treat the bonus as a separate payment but will withhold taxes using the standard withholding tables, treating it as an additional paycheck.
Tax Refunds
Employers may choose to withhold taxes for bonuses differently,basing on the legal options that they have chosen to use. This however does not mean that the income for bonuses will be taxed differently. In this case there is a difference between the amount of money withheld and the the amount paid in taxes. Based on the tax bracket that the employee falls under, their income tax will be calculated and collected accordingly. If the amount of money withheld from the bonus goes beyond the collected amount then it will be automatically returned as a tax refund.
Under withholding
When employees withhold too little from bonuses earned then they are under withholding. This usually occurs with the percentage method when calculating the tax taken out of a bonus. When an employee receives a bonus large enough and it pushes him into a higher tax bracket, then they will taxed according to the percentage the income tax they fall under at that time. In this case the employee will owe additional taxes on the bonus amount. For example if an employee is taxed for the bonus earned at 25 percent but actually falls into a 30 percent income tax bracket, then the employee will owe an additional 5 percent in taxes on the bonus earned.