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How Is My End-of-the-Year Bonus Taxed?

Written by Eva Rosenberg on November 28, 2014 in Newsletter  |   1 comment

As the year comes to a close, you may be lucky enough to receive a bonus from your employer. While it’s a financial boon, a bonus also comes with many tax questions. Tax expert Eva Rosenberg answers some of the most common.

how-is-my-end-of-the-year-bonus-taxed-2My firm has worked with many taxpayers and companies over the years, and I have seen employees receive their bonuses in a variety of ways. So has the IRS. As a result, the IRS has standardized how employers must handle the process of paying bonuses to their employees. Bonuses must be reported as employee earnings and added to the employee’s W-2—not issued as a separate type of income reported on a 1099-MISC.

If the income is reported on a 1099-MISC, the employee could be responsible for both the employer and the employee’s share of FICA taxes, vs. just the employee portion.

Despite it being clear how bonuses should be taxed, employees still have questions about this subject. Here are a couple of the most common questions I receive from clients about their bonuses.

“I get my bonus in January. My employer adds my bonus directly to my regular paycheck. Is it taxed differently than it would be if I received a separate check?”

There are two different concepts here: your tax rate and the amount of your withholding. Your tax rate will be based on your overall income, not whether your bonus is separate or added to your paycheck. As your earnings grow, so does your tax bracket. A bonus of $5,000 might not change your tax rate, but a bonus of $25,000 could put some, or all, of that bonus into a higher bracket.

While your entire income won’t be taxed at the higher tax rate, some or all of your bonus could be. If your bonus bumps you into a higher tax bracket, only taxable income within that level is taxed at that rate.

As far as the amount of withholding is concerned, that depends on whether the bonus is added to your paycheck or paid separately. When the bonus is added to a regular paycheck, the payroll department will use the withholding rate from the Form W-4 you filled out early in the year. When your bonus comes in a separate check, however, payroll doesn’t use your regular withholding amount. Instead, because these are supplemental wages, the payroll department must withhold a flat rate of 25 percent. When the supplemental wages exceed $1 million, the flat rate soars to 39.6 percent.

“I get my bonus in January, but it’s already included in last year’s W-2. What can I do if I don’t want to pay tax on money I didn’t receive until the following year?”

If your bonus is included in last year’s W-2 before you receive that money, the doctrine of constructive receipt, which says that income is constructively received when an amount is credited to your account or made available to you without restriction, works in your favor. The amount must be included in your gross income the year you constructively receive it, not before.

In order to rectify the situation, prepare Form 4852, which is a substitute for a W-2 or 1099-R. Enter the correct amount of wages and withholding using your W-2, and subtract the income and withholding from the paycheck you received in January.

Include with Form 4852 a statement that you received the bonus check in January. If your check was mailed to you, save the envelope to prove when it was postmarked. If your check was deposited electronically, print out a statement as proof.

File the return on paper, not electronically, and remember to include the bonus check income and withholding in next year’s tax return. If you think you won’t remember, you may want to simply report the income despite receiving the bonus check in January. If your company does this annually, it will balance out in the long run.

Eva Rosenberg, EA is the publisher of TaxMama.com ®, where your tax questions are answered. She is the author of several books and ebooks, including Small Business Taxes Made Easy. Eva teaches a tax pro course at IRSExams.com and tax courses you might enjoy at http://www.cpelink.com/teamtaxmama.

The information contained in this blog post is designed to generally educate and inform visitors to the Equifax Finance Blog. The blog posts do not give, and should not be assumed to provide, personalized tax, investment, real estate, legal, retirement, credit, personal financial, or other professional advice. Before making any financial decision, you should always consult with the appropriate professionals who can explain your options, rights, and legal responsibilities, and advise you on any tax, legal, credit, or business implications that may result from those decisions. The views and opinions expressed by the authors of blog posts are their own views and may not be the views or opinions of Equifax, Inc. and/or its affiliates.

1 comment

  1. Maddy MoMo says:

    I received a bonus check. I work for a large company. My bonus check was $338,000. My net pay was $138,000. Wow! We live conservatively. Thought this bonus could help pay daughter’s tuition in private college and hoped to zero out a few balances on credit card, equity line, and to eat an unpaid family member loan. (Yes, our family hits us up for money!) Most importantly, we hoped that the balance of my bonus would go to our modest charitable family foundation.
    The usual taxes were withheld including fica(which is paid for the year)medicare,Obama care surcharge tax, and etc, etc, etc. And a retirement acct. contribution lowered my gross to around $325,000.

    I live in California. My employer took $125,000 for federal income tax which is 39% and $45,000 for California tax which is about 14%. I know that these amounts are incorrect. Fed should take 25% and California should take 6.6% for supplemental bonus check.

    Called my employer. Payroll Mgr. said that I was taxed by a method that combines my last paycheck with the bonus
    even though I was not paid this way. The bonus check was a separate check. I think I was taxed as if I had already made 1 million dollars for 2015. I do not make 1 million per year. I get 1 bonus supplemental check in Feb. each year. My salary is $150,000 per year. My 2015 estimated salary this year is $485,000.

    Payroll manager said that since I have direct deposit I could not get a correction(which my calculation shows about $80,000 owed to me). That means instead of a take home pay of just over $218,000(which means my total tax was $120,000), I take home $138,000. $80,000 is a lot of money to me. Remember, I live in Southern California and I am taxed, taxed, taxed, taxed. I want to always pay my fair share. I live in a great country and love and want to support to help others. But netting $138,000 from a bonus check of $338,000 is wrong.

    I do not want to fight about this with my company. I would like to have the $80,000 owed to me immediately, but again I do not want to complain for many reasons.

    My question, is it illegal for my company to make a mistake with federal and California state income tax? I had hoped that my company would fix their mistake. I am a modest person and I do not want to ruffle any feathers.

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