November 25, 2013

A Holiday Bonus Poem

It’s that time of year
When bosses spread cheer,
And that gift of extra pay,
Comes to make your day.

But don’t spend it all,
On your next trip to the mall,
Because on you is the onus
To pay the taxes on that bonus.

There’s nothing like a poem to remind you that it’s the giving season, both for friends and family, and the government. As the spirit of generosity is in the air, companies and employees need to know that holiday bonuses are considered supplemental wages and subject to taxes.

There are two ways to calculate the tax.

In most cases, a company would award the bonus through payroll, and apply the flat bonus tax of 25 percent. That means on a $10,000 bonus, the company would withhold $2,500 for taxes.

The other option is a little more complicated and involves adding the bonus to your regular income, and paying taxes on the combined amount. Either way, if too much was taken out, you can get a refund when you file your taxes the following year.

Avoiding Taxes?

Are there any ways to avoid paying tax on the bonus? No. And failing to report and pay taxes could lead to problems down the road. But there are ways to minimize or delay the impact. Here are three options:

Give a little more: Employers can estimate the taxes an employee would have to pay on the bonus, and add that to the total amount. That way, after taxes, the employee would get to keep the intended bonus amount. Obviously, this requires the employer to be more generous, which is not always possible.

Invest in the future: Another option – that would avoid both payroll and income taxes – is to put the bonus into the employee’s 401K retirement plan. While employees would not actually receive a check during the holidays, they would also not have to pay taxes on that money until they withdraw it.  In the meantime, that bonus could continue to grow.

Kick Off a Healthy New Year: Employers can decide to award holiday bonuses in January and offer the option of placing the money in a Flexible Spending Account for healthcare. None of that money would be taxed, but the employee would have to use it on qualifying health or dependent care expenses.

Plan For Less

If you’re an employee and your company will not offer any of the options above, then do your best to plan ahead and factor the taxes into your holiday budget. And if it makes you feel any better, giving is always better than receiving.

Photo: Wealthy On My Way