The Tax Impacts of Holiday Bonuses

It’s the season for giving, and fortunately, about 80% of America’s employers share this sentiment by sharing the wealth with their employees during the holiday season. But no matter how generous your boss was with your holiday bonus, you might have gotten the unwanted gift of extra paperwork or having to share this present with the IRS and state tax authorities.

When Automated Payroll Goes Wrong

For most people who are paid on a weekly or biweekly basis, payroll is automated by a set salary or the hours you punched in. When that cycle gets disrupted by a one-time payment like a bonus, it usually doesn’t use the same tax withholding you already have on file with the payroll company or in-house system. You may have insufficient payroll taxes withheld or even none at all.

In a majority of cases, the IRS requires employers to withhold 25% of your bonus and other supplemental income and have your Social Security and Medicare taxes withheld as normal. Most payroll providers are not set up for this and will either withhold no additional taxes or use the same rates you have on your regular paychecks.

Depending on what income bracket you are in and whether you have other sources of income or not, there’s a strong chance most of the federal tax withholding will come back through your tax refund.The FICA cap is also $127,200 for 2017 so if your bonus pushes you past this threshold, you still have to pay 1.45% Medicare tax regardless of amount but any additional 6.2.% Social Security tax will be refunded to you at tax time.

However, you need to be careful with state and local taxes. They are frequently overlooked both in getting your standard withholding set up and when it comes to holiday bonuses. If you have no or insufficient state and local taxes withheld, you may have to make a generous and unwanted holiday gift to those authorities.

Was Your Bonus Reported on a 1099?

You might receive a 1099-MISC form for your holiday bonus instead of another paycheck. For freelancers and gig economy participants, you simply include this income with the rest of your earnings then pay your estimated taxes and deduct expenses as normal. But if you’re an employee and you got your bonus on a 1099, you need to file IRS Form 8919 to ensure that your share of the FICA taxes is paid and that your employer is also prompted to pay their share.

You shouldn’t have this problem if you get a separate W-2 that shows all taxes were properly withheld.

Whether you’re going to take that winter vacation you’ve been dreaming of all year or saving it for those January credit card bills, enjoy your holiday bonus and remember to put aside enough money for those unwanted gifts to the tax authorities.